HSBC 2010 Annual Report Download - page 92

HSBC HOLDINGS PLC
Report of the Directors: Operating and Financial Review (continued)
Risk > Challenges and uncertainties > Macro-prudential and regulatory
90
We have significant exposure to
counterparty risk within our portfolio
We have exposure to virtually all major industries
and counterparties, and we routinely execute
transactions with counterparties in financial services,
including brokers and dealers, commercial banks,
investment banks, mutual and hedge funds, and other
institutional clients. Many of these transactions
expose us to credit risk in the event of default by our
counterparty or client. Financial institutions are
necessarily interdependent because of trading,
clearing, counterparty or other relationships. As a
consequence, a default by, or decline in market
confidence in, individual institutions, or anxiety
about the financial services industry generally, can
lead to further individual and/or systemic losses. Our
credit risk may remain high if the collateral taken to
mitigate counterparty risk cannot be realised or has
to be liquidated at prices which are insufficient to
recover the full amount of our loan or derivative
exposure. For further information relating to the
major risk areas, see ‘Areas of Special Interest’ on
page 103.
Macro-prudential and regulatory
We face a number of challenges in
regulation and supervision
Financial services providers face increased
regulation and supervision, with more stringent and
costly requirements in the areas of capital and
liquidity management and of compliance relating to
conduct of business and the integrity of financial
services delivery. Increased government intervention
and control over financial institutions, together with
measures to reduce systemic risk, could significantly
alter the competitive landscape.
Recent regulatory and supervisory
developments have largely been shaped by the
leaders, Finance Ministers and Central Bank
Governors of the Group of Twenty nations (‘the
G20’), who delegated the development and issuance
of standards to the Basel Committee of Banking
Supervisors (‘the Basel Committee’). The G20 also
established the Financial Stability Board (‘FSB’) to
assess vulnerabilities affecting the financial system
as a whole, as well as to monitor and advise on
market developments and best practice in meeting
regulatory standards.
In looking to address the systemic failures that
caused the financial crisis of 2007-8, the authorities
asserted two primary objectives: to establish a
resilient system to reduce substantially the risks of
failure of financial institutions and, in case failure in
the end proved unavoidable, to have in place
measures to achieve orderly resolution without cost
to taxpayers. Governments and regulators have
embarked on significant change in the regulation of
the financial system, highlighting the following
priorities:
• a stronger international framework for
prudential regulation, ensuring significantly
increased liquidity and regulatory capital buffers
and enhanced quality of capital;
• convergence towards a single set of high-
quality, global, independent accounting
standards, with particular focus on accounting
for financial instruments and off-balance sheet
exposures;
• strengthening the regulation of hedge funds
and credit rating agencies, and improving the
infrastructure for derivative transactions,
including central counterparty clearing of over-
the-counter derivatives;
• design and implementation of a system which
will allow for the restructuring or resolution of
financial institutions, without taxpayers
ultimately bearing the burden;
• an increased role for colleges of supervisors to
coordinate oversight of systemically significant
institutions such as HSBC, and effective
coordination of resolution regimes for failed
banks;
• measures on financial sector compensation
arrangements to prevent excessive short-term
risk taking and mitigate systemic risk on a
globally consistent basis; and
• a fair and substantial contribution by the
financial sector towards paying for any burden
associated with government interventions,
where they occur, to repair and reduce risks
from the financial system or to fund the
resolution of problems.
Measures proposed by the Basel Committee to
increase resilience in the financial system
The Basel Committee, following consultation,
impact analyses and draft proposals during 2010,
issued final proposals in December 2010, known as
Basel III, on the twin areas of capital and liquidity,
the key aspects of which are set out below.
• Risk weightings: increased weightings for the
trading book and re-securitisations are planned
for implementation by the end of 2011. A
fundamental review of the trading book will
continue during 2011.