JP Morgan Chase 2010 Annual Report Download - page 128

Management’s discussion and analysis
128 JPMorgan Chase & Co./2010 Annual Report
Year ended December 31,
(in millions) 2010 2009 2008
Hedges of lending-related commitments
(a)
$ (279) $ (3,258) $ 2,216
CVA and hedges of CVA
(a)
(403) 1,920
(2,359)
)
Net gains/(losses) $ (682) $ (1,338)
$ (143)
)
(a) These hedges do not qualify for hedge accounting under U.S. GAAP.
Lending-related commitments
JPMorgan Chase uses lending-related financial instruments, such as
commitments and guarantees, to meet the financing needs of its
customers. The contractual amount of these financial instruments
represents the maximum possible credit risk should the counterpar-
ties draw down on these commitments or the Firm fulfills its obliga-
tion under these guarantees, and should the counterparties
subsequently fail to perform according to the terms of these con-
tracts.
Wholesale lending-related commitments were $346.1 billion at
December 31, 2010, compared with $347.2 billion at December
31, 2009. The decrease reflected the January 1, 2010, adoption of
accounting guidance related to VIEs. Excluding the effect of the
accounting guidance, lending-related commitments would have
increased by $16.6 billion.
In the Firm’s view, the total contractual amount of these wholesale
lending-related commitments is not representative of the Firm’s
actual credit risk exposure or funding requirements. In determining
the amount of credit risk exposure the Firm has to wholesale lend-
ing-related commitments, which is used as the basis for allocating
credit risk capital to these commitments, the Firm has established a
“loan-equivalent” amount for each commitment; this amount
represents the portion of the unused commitment or other contin-
gent exposure that is expected, based on average portfolio histori-
cal experience, to become drawn upon in an event of a default by
an obligor. The loan-equivalent amounts of the Firm’s lending-
related commitments were $189.9 billion and $179.8 billion as of
December 31, 2010 and 2009, respectively.
Country exposure
The Firm’s wholesale portfolio includes country risk exposures to
both developed and emerging markets. The Firm seeks to diversify
its country exposures, including its credit-related lending, trading
and investment activities, whether cross-border or locally funded.
Country exposure under the Firm’s internal risk management ap-
proach is reported based on the country where the assets of the
obligor, counterparty or guarantor are located. Exposure amounts,
including resale agreements, are adjusted for collateral and for
credit enhancements (e.g., guarantees and letters of credit) pro-
vided by third parties; outstandings supported by a guarantor
located outside the country or backed by collateral held outside the
country are assigned to the country of the enhancement provider.
In addition, the effect of credit derivative hedges and other short
credit or equity trading positions are taken into consideration. Total
exposure measures include activity with both government and
private-sector entities in a country.
The Firm also reports country exposure for regulatory purposes
following FFIEC guidelines, which are different from the Firm’s
internal risk management approach for measuring country expo-
sure. For additional information on the FFIEC exposures, see Cross-
border outstandings on page 314 of this Annual Report.
Several European countries, including Greece, Portugal, Spain, Italy
and Ireland, have been subject to credit deterioration due to weak-
nesses in their economic and fiscal situations. The Firm is closely
monitoring its exposures to these five countries. Aggregate net
exposures to these five countries as measured under the Firm’s
internal approach was less than $15.0 billion at December 31,
2010, with no country representing a majority of the exposure.
Sovereign exposure in all five countries represented less than half the
aggregate net exposure. The Firm currently believes its exposure to
these five countries is modest relative to the Firm’s overall risk expo-
sures and is manageable given the size and types of exposures to
each of the countries and the diversification of the aggregate expo-
sure. The Firm continues to conduct business and support client
activity in these countries and, therefore, the Firm’s aggregate net
exposures may vary over time. In addition, the net exposures may be
impacted by changes in market conditions, and the effects of interest
rates and credit spreads on market valuations.
As part of its ongoing country risk management process, the Firm
monitors exposure to emerging market countries, and utilizes
country stress tests to measure and manage the risk of extreme loss
associated with a sovereign crisis. There is no common definition of
emerging markets, but the Firm generally includes in its definition
those countries whose sovereign debt ratings are equivalent to
“A+” or lower. The table below presents the Firm’s exposure to its
top 10 emerging markets countries based on its internal measure-
ment approach. The selection of countries is based solely on the
Firm’s largest total exposures by country and does not represent its
view of any actual or potentially adverse credit conditions.