Barclays 2013 Annual Report Download - page 320

Note 18: Fair value of assets and liabilities continued
Loss Given Default (LGD)
Loss Given Default represents the expected loss upon liquidation of the collateral as a percentage of the balance outstanding.
In general a significant increase in the LGD in isolation will translate to lower recovery and lower projected cashflows to pay to the securitisation,
resulting in a movement in fair value that is unfavourable for the holder of the securitised product.
Net Asset Value
Net asset value represents the total value of a fund’s assets and liabilities.
In general a significant increase in net asset value in isolation will result in a movement in fair value that is favourable for a fund.
Volatility
Volatility is a key input in the valuation of derivative products containing optionality. Volatility is a measure of the variability or uncertainty in
returns for a given derivative underlying. It represents an estimate of how much a particular underlying instrument, parameter or index will change
in value over time. In general, volatilities will be implied from observed option prices. For unobservable options the implied volatility may reflect
additional assumptions about the nature of the underlying risk, as well as reflecting the given strike/maturity profile of a specific option contract.
In general a significant increase in volatility in isolation will result in a movement in fair value that is favourable for the holder of a simple option,
but the sensitivity is dependent on the specific terms of the instrument.
There may be interrelationships between unobservable volatilities and other unobservable inputs that can be implied from observation (e.g. when
equity prices fall, implied equity volatilities generally rise) but these are specific to individual markets and may vary over time.
Yield
The rate used to discount projected cashflows in a discounted future cashflow analysis.
In general a significant increase in yield in isolation will result in a movement in fair value that is unfavourable for the holder of a cash instrument.
Fair value adjustments
Key balance sheet valuation adjustments that may be of interest from a financial statement user perspective are quantified below:
2013
£m
2012
£m
Bid-offer valuation adjustments (406) (452)
Other exit adjustments (208) (294)
Uncollateralised derivative funding (67) (101)
Derivative credit valuation adjustments:
– Monolines (62) (235)
– Other derivative credit valuation adjustments (322) (693)
Derivative debit valuation adjustments 310 442
Bid-offer valuation adjustments
The Group uses mid-market pricing where it is a market-maker and has the ability to transact at, or better than, mid price (which is the case for
certain equity, bond and vanilla derivative markets). For other financial assets and liabilities, bid-offer adjustments are recorded to reflect the price
for the expected close out strategy. The methodology for determining the bid-offer adjustment for a derivative portfolio involves calculating the
net risk exposure by offsetting long and short positions by strike and term in accordance with the risk management and hedging strategy.
Bid-offer levels are derived from market sources, such as broker data. The bid offer adjustments have reduced by £46m to £406m during 2013
as a result of movements in market bid offer spreads.
Other exit adjustments
Market data input for exotic derivatives may not have a directly observable bid offer spread. In such instances, an exit adjustment is applied as a
proxy for the bid-offer adjustment. An example of this is correlation risk where an adjustment is required to reflect the possible range of values
that market participants apply. The uncertainty adjustment may be determined by calibrating to derivative prices, or by scenario analysis or
historical analysis. The other exit adjustments have reduced by £86m to £208m respectively as a result of movements in market bid offer spreads.
Discounting approaches for derivative instruments
Collateralised
In line with market practice, the methodology for discounting collateralised derivatives takes into account the nature and currency of the collateral
that can be posted within the relevant Credit Support Annex (CSA). The CSA-aware discounting approach recognises the ‘cheapest to deliver’
option that reflects the ability of the party posting collateral to change the currency of the collateral.
Uncollateralised
A fair value adjustment of £67m is applied to account for the impact of incorporating the cost of funding into the valuation of uncollateralised
derivatives accounted for at fair value across all asset classes and businesses within Barclays Corporate Banking and Investment Bank. This is
called the ‘funding fair value adjustment (FFVA).
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318 Barclays PLC Annual Report 2013
Notes to the financial statements
For the year ended 31 December 2013 continued