HSBC 2009 Annual Report Download - page 277

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A certain number of these products have been
discontinued, including the US$553 million
immediate annuity portfolio in HSBC Finance
where, as highlighted in the above table, the current
portfolio yield is less than the guarantee. On
acquisition of this block of business by HSBC
Finance, a provision was established to mitigate the
shortfall in yields. There has been no further
deterioration in the shortfall since acquisition. There
are a limited number of additional contracts where
the current portfolio yield is less than the guarantee
implied by the contract.
The proceeds from insurance and investment
products with DPF are primarily invested in bonds
with a proportion allocated to equity securities in
order to provide customers with the potential for
enhanced returns. Subsidiaries with portfolios of
such products are exposed to the risk of falls in the
market price of equity securities when they cannot
be fully reflected in the discretionary bonuses. An
increase in market volatility could also result in
an increase in the value of the guarantee to the
policyholder.
Long-term insurance and investment products
typically permit the policyholder to surrender the
policy or let it lapse at any time. When the surrender
value is not linked to the value realised from the sale
of the associated supporting assets, the subsidiary
is exposed to market risk. In particular, when
customers seek to surrender their policies when asset
values are falling, assets may have to be sold at a
loss to fund redemptions.
A subsidiary holding a portfolio of long-term
insurance and investment products, especially with
DPF, may attempt to reduce exposure to its local
market by investing in assets in countries other
than that in which it is based. These assets may
be denominated in currencies other than the
subsidiary’s local currency. It is often not cost
effective for the subsidiary to hedge the foreign
exchange exposure associated with these assets, and
this exposes it to the risk that its local currency will
strengthen against the currency of the related assets.
For unit-linked contracts, market risk is
substantially borne by the policyholder, but HSBC
typically remains exposed to market risk as the
market value of the linked assets influences the fees
HSBC earns for managing them.
How the risks are managed
(Audited)
HSBC’s insurance manufacturing subsidiaries
manage market risk by using some or all of the
following techniques, depending on the nature of the
contracts they write:
• for products with DPF, adjusting bonus rates to
manage the liabilities to policyholders. Bonus
rates are managed by regularly evaluating their
sustainability. The effect is that a significant
portion of the market risk is borne by the
policyholder;
• as far as possible, matching assets to liabilities.
For example, for products with annual return or
capital guarantees, HSBC seeks to invest in
bonds which produce returns at least equal to
the investment returns implied by the guarantees
while remaining attentive to the overall portfolio
credit quality;
• using derivatives in a limited number of
instances;
• when designing new products with investment
guarantees, evaluating the cost of the guarantee
and considering this cost when determining the
level of premiums or the price structure;
• periodically reviewing products identified as
higher risk, which contain guarantees and
embedded optionality features linked to savings
and investment products. The scope of the
review would include pricing, risk management
and profitability (a control introduced during
2008). Guaranteed products which expose the
Group to risk beyond the levels deemed
acceptable in any of these categories are either
altered or are no longer offered to customers;
• including features designed to mitigate market
risk in new products, such as charging surrender
penalties to recoup losses incurred when
policyholders surrender their policies; and
• exiting, to the extent possible, investment
portfolios whose risk is considered unacceptable
– for example, by implementing asset
reallocation strategies in order to manage risk
exposures.
The product approval process includes the
identification and assessment of the risk
embedded in new products.
Group Insurance Head Office includes a Chief
Market and Liquidity Risk Officer reporting to the
Chief Risk Officer. Each regional insurance unit