Barclays 2004 Annual Report Download - page 71

69
Barclays PLC Annual Report 2004
Risk management
Disclosures about certain trading activities including
non-exchange traded contracts
The Group delivers a fully integrated service to clients for base metals,
precious metals, oil and oil-related products, power and gas and
other commodities.
The Group offers both over the counter (OTC) and exchange traded
derivatives in these commodities. The base and precious metals
business also enters into outright metal purchase and sale
transactions, while the power and gas business trades both physical
forwards and derivative contracts.
The Group does not maintain any physical exposures in oil or
oil-related products. The Group also develops and offers a range
of commodity-related structured products.
The Group’s commodity business continues to expand, as market
conditions allow, through the addition of new products and markets.
The Group’s principal commodity related derivative contracts are
swaps, options, forwards and futures, which are similar in nature
to such non-commodity related contracts. Commodity derivatives
contracts include commodity specification and delivery location
as well as forward date and notional value.
The fair values of commodity physical and derivative positions are
determined through a combination of recognised market observable
prices, exchange prices and established inter-commodity relationships.
In common with all derivatives, the fair value of OTC commodity
derivative contracts is either determined using a quoted market price
or by using valuation models. Where a valuation model is used, the fair
value is determined based on the expected cash flows under the terms
of each specific contract, discounted back to present value. The
expected cash flows for each contract are either determined using
market parameters such as commodity price curves, commodity
volatilities, commodity correlations, interest rate yield curves
and foreign exchange rates, or derived from historical or other
market prices.
Fair values generated by models are independently validated with
reference to market price quotes, or price sharing with other
institutions. However, where no observable market parameter is
available then instrument fair value will include a provision for the
uncertainty in that parameter based on sale price or subsequent
traded levels.
Discounting of expected cash flows back to present value is achieved
by constructing discount curves from the market price of observable
interest rate products, such as deposits, interest rate futures and
swaps. In addition, the Group maintains fair value adjustments
reflecting the cost of credit risk (where this is not embedded in the
fair value), and the cost of trading out of a position (all positions are
marked to mid-market and hence some bid/offer transaction cost
would be incurred).
The tables on page 70 analyse the overall fair value of the commodity
derivative contracts by movement over time and source of fair value.
Additionally, the positive fair value, adjusted for the impact of netting,
of such contracts is analysed by counterparty credit risk rating.