HSBC 2007 Annual Report Download - page 202

HSBC HOLDINGS PLC
Report of the Directors: The Management of Risk (continued)
Credit risk > Credit risk management
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Periodic risk-based audits of operating
companies’ credit processes and portfolios are
undertaken by HSBC’s Internal Audit function.
Audits include consideration of the adequacy and
clarity of credit policy/procedure manuals; an
in-depth analysis of a representative sample of
accounts; an overview of homogeneous portfolios
of similar assets to assess the quality of the loan
book and other exposures; consideration of any
oversight or review work performed by credit risk
management functions and the adequacy of
impairment calculations; a review of analytical
model governance and implementation; a review of
management objectives and a check that Group and
local standards and policies are adhered to in the
approval and management of credit facilities.
Individually significant accounts are reviewed
on a sample basis to ensure that risk ratings are
appropriate, that credit and collection procedures
have been properly followed and that, when an
account or portfolio evidences deterioration,
impairment allowances are raised in accordance with
the Group’s established processes. Internal Audit
discusses with management risk ratings it considers
to be inappropriate; after discussion, its final
recommendations for revised ratings must then
be adopted.
Collateral and other credit enhancements
(Audited)
Loans and advances
It is HSBC’s policy, when lending, to do so within
the customer’s capacity to repay, rather than rely
excessively on security. Depending on the
customer’s standing and the type of product,
facilities may be unsecured. Nevertheless, collateral
can be an important mitigant of credit risk.
Operating companies are required to implement
appropriate guidelines on the acceptability of
specific classes of collateral or credit risk mitigation,
and determine suitable valuation parameters. Such
parameters, structures and legal covenants are
required to be subject to regular review to ensure
that they are supported by empirical evidence and
continue to fulfil their intended purpose. The
principal collateral types are as follows:
• in the personal sector, mortgages over
residential properties;
• in the commercial and industrial sector, charges
over business assets such as premises, stock and
debtors;
• in the commercial real estate sector, charges
over the properties being financed; and
• in the financial sector, charges over financial
instruments such as debt securities and equities
in support of trading facilities.
In addition, credit derivatives, including credit
default swaps and structured credit notes, as well as
securitisation structures, are used to manage credit
risk in the Group’s loan portfolio.
HSBC does not disclose the fair value of
collateral held as security or other credit
enhancements on loans and advances past due but
not impaired, or on individually assessed impaired
loans and advances, as it is not practicable to do so.
Other financial assets
Collateral held as security for financial assets other
than loans and advances is determined by the nature
of the instrument. Debt securities, treasury and other
eligible bills are generally unsecured, with the
exception of asset-backed securities and similar
instruments, which are secured by pools of financial
assets.
The ISDA Master Agreement is HSBC’s
preferred agreement for documenting derivatives
activity. It provides the contractual framework
within which dealing activity across a full range of
over-the-counter products is conducted, and
contractually binds both parties to apply close-out
netting across all outstanding transactions covered
by an agreement if either party defaults or other
pre-agreed termination events occur. It is common,
and HSBC’s preferred, practice for the parties to
execute a Credit Support Annex (‘CSA’) in
conjunction with the ISDA Master Agreement.
Under a CSA, collateral is passed between the
parties to mitigate the market-contingent
counterparty risk inherent in the outstanding
positions.
Settlement risk arises in any situation where a
payment in cash, securities or equities is made in the
expectation of a corresponding receipt in cash,
securities or equities. Daily settlement limits are
established for each counterparty to cover the
aggregate of all settlement risk arising from HSBC’s
transactions with them, on any single day. Settlement
risk on many transactions, particularly those
involving securities and equities, is substantially
mitigated through being effected via assured
payment systems, or on a delivery-versus-payment
basis.