Morgan Stanley 2014 Annual Report Download - page 150

The Company’s obligor credit evaluation process may also identify indirect exposures whereby an obligor has
vulnerability or exposure to another country or jurisdiction. Examples of indirect exposures include mutual funds
that invest in a single country, offshore companies whose assets reside in another country to that of the offshore
jurisdiction and finance company subsidiaries of corporations. Indirect exposures identified through the credit
evaluation process may result in a reclassification of country risk.
The Company conducts periodic stress testing that seeks to measure the impact on the Company’s credit and
market exposures of shocks stemming from negative economic or political scenarios. When deemed appropriate
by the Company’s risk managers, the stress test scenarios include possible contagion effects. Second order risks
such as the impact for core European banks of their peripheral exposures may also be considered. This analysis,
and results of the stress tests, may result in the amendment of limits or exposure mitigation.
In addition to the Company’s country risk exposure, the Company discloses its cross-border risk exposure in
“Financial Statements and Supplementary Data—Financial Data Supplement (Unaudited)” in Item 8. It is based
on the Federal Financial Institutions Examination Council’s regulatory guidelines for reporting cross-border
information and represents the amounts that the Company may not be able to obtain from a foreign country due
to country-specific events, including unfavorable economic and political conditions, economic and social
instability, and changes in government policies.
There can be substantial differences between the Company’s country risk exposure and cross-border risk
exposure. For instance, unlike the cross-border risk exposure, the Company’s country risk exposure includes the
effect of certain risk mitigants. In addition, the basis for determining the domicile of the country risk exposure is
different from the basis for determining the cross-border risk exposure. Cross-border risk exposure is reported
based on the country of jurisdiction for the obligor or guarantor. Besides country of jurisdiction, the Company
considers factors such as physical location of operations or assets, location and source of cash flows/revenues
and location of collateral (if applicable) in order to determine the basis for country risk exposure. Furthermore,
cross-border risk exposure incorporates CDS only where protection is purchased while country risk exposure
incorporates CDS where protection is both purchased and sold.
The Company’s sovereign exposures consist of financial instruments entered into with sovereign and local
governments. Its non-sovereign exposures consist of exposures to primarily corporations and financial
institutions. The following table shows the Company’s ten largest non-U.S. country risk net exposures at
December 31, 2014. Index credit derivatives are included in the Company’s country risk exposure tables. Each
reference entity within an index is allocated to that reference entity’s country of risk. Index exposures are
allocated to the underlying reference entities in proportion to the notional weighting of each reference entity in
the index, adjusted for any fair value receivable/payable for that reference entity. Where credit risk crosses
multiple jurisdictions, for example, a CDS purchased from an issuer in a specific country that references bonds
issued by an entity in a different country, the fair value of the CDS is reflected in the Net Counterparty Exposure
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