Bank of Montreal 2003 Annual Report Download - page 89

BMO Financial Group 186th Annual Report 2003 85
(Canadian $ in millions) 2003 2002
Replacement Credit risk Risk-weighted Replacement Credit risk Risk-weighted
cost equivalent balance cost equivalent balance
Interest Rate Contracts
Swaps $ 12,131 $ 15,685 $ 3,777 $ 15,195 $ 18,768 $ 4,675
Forward rate agreements 99 147 29 211 244 49
Purchased options 1,879 2,273 541 2,470 2,939 774
Total interest rate contracts 14,109 18,105 4,347 17,876 21,951 5,498
Foreign Exchange Contracts
Cross-currency swaps 517 1,136 383 287 1,324 461
Cross-currency interest rate swaps 2,560 4,650 860 817 2,845 551
Forward foreign exchange contracts 2,310 3,611 1,027 1,493 3,094 868
Purchased options 469 759 202 775 1,694 406
Total foreign exchange contracts 5,856 10,156 2,472 3,372 8,957 2,286
Commodity Contracts
Swaps 988 2,762 1,107 860 2,829 1,230
Purchased options 423 1,270 556 738 2,731 1,125
Total commodity contracts 1,411 4,032 1,663 1,598 5,560 2,355
Equity Contracts 248 1,542 607 277 1,021 425
Credit Contracts 32 500 104 6 126 26
Total derivatives 21,656 34,335 9,193 23,129 37,615 10,590
Impact of master netting agreements (11,512) (15,345) (3,690) (12,105) (17,714) (4,596)
Total $ 10,144 $ 18,990 $ 5,503 $ 11,024 $ 19,901 $ 5,994
Included in the total are unrealized gains on hedging derivatives which we include in the Consolidated Balance Sheet on an accrual rather than mark-to-market basis. The excess of market value over book value
for these items was $547 million as at October 31, 2003 and $774 million as at October 31, 2002.
Transactions are conducted with counterparties in various geographic locations and industries. Set out below is the replacement cost
of contracts (before the impact of master netting agreements) from customers located in the following countries, based on country of
ultimate risk:
(Canadian $ in millions, except as noted) 2003 2002
Canada $ 5,769 27% $ 4,362 19%
United States 8,922 41 10,789 47
Other countries 6,965 32 7,978 34
Total $ 21,656 100% $ 23,129 100%
Derivative-Related Credit Risk
Over-the-counter derivative instruments are subject to credit risk.
Credit risk arises from the possibility that counterparties may
default on their obligations to the Bank. The credit risk associated
with derivatives is normally a small fraction of the notional amount
of the derivative instrument. Derivative contracts generally expose
us to potential credit loss if changes in market rates affect a coun-
terparty’s position unfavourably and the counterparty defaults on
payment. Accordingly, the credit risk is represented by the positive
fair value of the derivative instrument. We strive to limit credit risk
by dealing with counterparties that we believe are creditworthy, and
we manage our credit risk for derivatives using the same credit risk
process that is applied to loans and other credit assets.
We also pursue opportunities to reduce our exposure to credit
losses on derivative instruments. These opportunities include
entering into master netting arrangements with counterparties.
The credit risk associated with favourable contracts is eliminated
by master netting arrangements, to the extent that unfavourable
contracts with the same counterparty cannot be settled before
favourable contracts.
Exchange-traded derivatives have no potential for credit exposure
as they are settled net with the exchange.
Terms used in the credit risk table below are as follows:
Replacement cost represents the cost of replacing all contracts that
have a positive fair value, using current market rates. It represents in
effect the unrealized gains on our derivative instruments. Replace-
ment costs disclosed below represent the net of the asset and liability
to a specific counterparty where we have a legally enforceable right
to offset the amount owed to us with the amount owed by us and we
intend either to settle on a net basis or to realize the asset and settle
the liability simultaneously.
Credit risk equivalent represents the total replacement cost plus an
amount representing the potential future credit exposure, as out-
lined in the Capital Adequacy Guideline of the Superintendent of
Financial Institutions Canada.
Risk-weighted balance represents the credit risk equivalent, weighted
based on the creditworthiness of the counterparty, as prescribed by
the Superintendent of Financial Institutions Canada.