TD Bank 2009 Annual Report Download - page 77

TD BANK FINANCIAL GROUP ANNUAL REPORT 2009 MANAGEMENT’S DISCUSSION AND ANALYSIS 73
HOW WE MANAGE MARKET RISK IN TRADING ACTIVITIES
Market risk plays a key part in the assessment of any trading business
strategy. We launch new trading initiatives or expand existing ones
only if the risk has been thoroughly assessed and is judged to be within
our risk tolerance and business expertise, and if the appropriate
infrastructure is in place to monitor, control and manage the risk.
Trading Limits
We set trading limits that are consistent with the approved business
plan for each business and our tolerance for the associated market
risk. In setting limits we take into account market volatility, market
liquidity, organizational experience and business strategy. Limits are
prescribed at the desk level, portfolio level, and business line level,
and in Wholesale Banking in aggregate.
The core market risk limits are based on the key risk drivers in the
business and include notional limits, credit spread limits, yield curve
shift limits, price and volatility shift limits.
Another primary measure of trading limits is Value-at-Risk (VaR),
which we use to monitor and control overall risk levels and to calculate
the regulatory capital required for market risk in trading activities.
VaR measures the adverse impact that potential changes in market
rates and prices could have on the value of a portfolio over a specified
period of time.
At the end of each day, risk positions are compared with risk limits,
and any excesses are reported in accordance with established market
risk policies and procedures.
Calculating VaR
The Bank estimates total VaR on a daily basis by combining the
General Market Risk (GMR) and Debt Specific Risk (DSR) exposure
associated with the Bank’s trading positions. GMR is determined
by creating a distribution of potential changes in the market value of
the current portfolio. We value the current portfolio using the market
price and rate changes (for equity, interest rate, foreign exchange,
credit and commodity products) of the most recent 259 trading days.
GMR is computed as the threshold level that portfolio losses are not
expected to exceed more than one out of every 100 trading days.
DSR measures the migration and default risk for credit products
in the trading portfolio. The DSR model is based on Monte Carlo
simulations of credit migrations and defaults using historical migration
and default probabilities. Similar to GMR, DSR is computed as the
threshold level that portfolio losses are not expected to exceed more
than one out of every 100 trading days.
Trading-related income is the total of trading income reported
in other income and the net interest income on trading positions
reported in net interest income. Trading related revenue in the graph
below excludes revenue related to changes in the fair value of loan
commitments. Similarly, the commitments are not included in the VaR
measure as they are not managed as trading positions. In the first
quarter of 2009, there was a significant recovery realized on the date
of the cancellation of a loan commitment due to specific circum-
stances related to the borrower. In the fourth quarter of 2009, there
were three days of trading losses, with zero breaches in VaR.
The graph below discloses daily VaR usage and trading-related
income within Wholesale Banking.
Nov 3/08
Nov 10/08 Nov 17/08 Nov 24/08
Dec 1/08
Dec 8/08
Dec 15/08
Dec 22/08
Dec 29/08
Jan 5/09
Jan 12/09 Jan 26/09
Feb 2/09 Feb 9/09
Feb 16/09 Feb 23/09
Mar 2/09 Mar 9/09
Mar 16/09 Mar 23/09 Mar 30/09
Apr 6/09
Apr 13/09 Apr 20/09 Apr 27/09
May 4/09
May 11/09 May 18/09
May 25/09
Jun 1/09 Jun 8/09
Jun 15/09 Jun 22/09 Jun 29/09
Jul 6/09
Jul 13/09 Jul 20/09 Jul 27/09
Aug 3/09
Aug 10/09 Aug 17/09 Aug 24/09 Aug 31/09
Sep 7/09
Sep 14/09 Sep 21/09 Sep 28/09
Oct 5/09
Oct 12/09 Oct 19/09 Oct 26/09 Oct 30/09
TOTAL VALUE-AT-RISK AND TRADING-RELATED INCOME
(millions of Canadian dollars)
40
(40)
0
60
20
(20)
(60)
(80)
(100)
Trading-related Income
Total Value-at-Risk
(millions of Canadian dollars) 2009 2008
As at Average High Low As at Average High Low
Interest rate and credit spread risk $ 15.8 $ 21.5 $ 46.3 $ 8.3 $ 48.6 $ 24.9 $ 70.2 $ 12.1
Equity risk 8.8 9.2 17.1 4.6 10.2 9.9 18.7 3.3
Foreign exchange risk 4.0 4.4 9.7 1.2 7.2 3.5 15.0 1.0
Commodity risk 1.0 0.9 2.4 0.5 0.8 1.3 3.0 0.4
Debt specific risk 16.8 31.7 67.4 11.9 49.3 33.2 80.3 13.8
Diversification effect1(23.1) (29.3) n/m2n/m2(50.1) (29.9) n/m2n/m2
Total Value-at-Risk $ 23.3 $ 38.4 $ 78.7 $ 16.9 $ 66.0 $ 42.9 $ 104.8 $ 17.9
VALUE-AT-RISK USAGE
TABLE 40
1The aggregate VaR is less than the sum of the VaR of the different risk types due
to risk offsets resulting from portfolio diversification.
2Not meaningful. It is not meaningful to compute a diversification effect because
the high and low may occur on different days for different risk types.