TD Bank 2011 Annual Report Download - page 67

TD BANK GROUP ANNUAL REPORT 2011 MANAGEMENT’S DISCUSSION AND ANALYSIS 65
Our Commercial Banking and Wholesale Banking businesses use
credit risk models and policies to establish borrower and facility risk
ratings, quantify and monitor the level of risk, and facilitate its manage-
ment. The businesses also use risk ratings to determine the amount of
credit exposure we are willing to extend to a particular borrower.
Our retail businesses use approved scoring techniques and standards
in extending, monitoring, and reporting personal credit in our retail
businesses. Management processes are used to monitor country,
industry, and counterparty risk ratings, which include daily, monthly,
quarterly and annual review requirements for credit exposures.
The key parameters used in our credit risk models are monitored
on an ongoing basis.
Unanticipated economic or political changes in a foreign country
could affect cross-border payments for goods and services, loans, divi-
dends, trade-related finance, as well as repatriation of TD’s capital in
that country. TD currently has credit exposure in a number of coun-
tries, with the majority of the exposure in North America. We measure
country risk using approved risk rating models and qualitative factors
that are also used to establish country exposure guidelines covering all
aspects of credit exposure across all businesses. Country risk ratings
are managed on an ongoing basis and are subject to a detailed review
at least annually.
As part of our credit risk strategy, we set limits on the amount of
credit we are prepared to extend to specific industry sectors. We moni-
tor our concentration to any given industry to ensure that our loan
portfolio is diversified. We limit our risk using guidelines based on an
internal risk rating score that combines our industry risk rating model
and detailed industry analysis.
If several industry segments are affected by common risk factors, we
assign a single exposure guideline to those segments. In addition, for
each material industry, Risk Management assigns a maximum exposure
limit or a concentration limit which is a percentage of our total whole-
sale and commercial exposure. We regularly review industry risk ratings
to ensure that those ratings properly reflect the risk of the industry.
We also set limits on the amount of credit we are prepared to
extend to a particular entity or group of entities (also referred to as
“entity risk”). All entity risk is approved by the appropriate decision-
making authority using guidelines based on the entity’s borrower risk
rating, the facility risk rating(s) and the risk rating of the industry in
which the entity operates. This exposure is monitored on a regular
basis. As at October 31, 2011, entity exposures are in compliance with
approved policies and TD does not have material entity exposure to
any entity considered higher risk as defined by our credit policies and
management’s internal monitoring process.
From time-to-time, we may use credit derivatives to mitigate industry
concentration and borrower-specific exposure as part of our portfolio
risk management techniques.
Exceptions to policy/limit guidelines are permitted subject to
approval via established procedures.
Credit Risk and the Basel II Framework
We received approval from OSFI to use the Basel II Advanced Internal
Ratings Based (AIRB) Approach for credit risk, effective November 1,
2007. We use the AIRB Approach for all material portfolios, except in
the following areas:
• We have approved exemptions to use the Standardized Approach
for some small credit exposures in North America. Risk Management
reconfirms annually that this approach remains appropriate.
• We have received temporary waivers to use the Standardized
Approach for our margin trading book, some small credit portfolios
and the majority of our U.S. credit portfolios. Plans are in place to
transition these portfolios to the AIRB Approach.
To continue to qualify to use the AIRB Approach for credit risk, TD
must meet the ongoing conditions and requirements established by
OSFI and the Basel II Framework. We regularly assess our compliance
with the Basel II requirements and we have sufficient resources to
implement the remaining Basel II work.
The shaded areas of this MD&A represent a discussion on risk manage-
ment policies and procedures relating to credit, market, and liquidity
risks as required under the Canadian Institute of Chartered Accountants
(CICA) Handbook Section 3862, Financial Instruments – Disclosures,
which permits these specific disclosures to be included in the MD&A.
Therefore, the shaded areas which include Credit Risk, Market Risk,
and Liquidity Risk, form an integral part of the audited Consolidated
Financial Statements for the years ended October 31, 2010 and 2011.
Credit Risk
Credit risk is the risk of loss if a borrower or counterparty in a transaction
fails to meet its agreed payment obligations.
Credit risk is one of the most significant and pervasive risks in
banking. Every loan, extension of credit or transaction that involves
the transfer of payments between TD and other parties or financial
institutions exposes TD to some degree of credit risk.
Our primary objective is to be methodical in our credit risk assessment
so that we can better understand, select, and manage our exposures to
reduce significant fluctuations in earnings.
Our strategy is to ensure central oversight of credit risk in each busi-
ness, reinforcing a culture of transparency, accountability, independence,
and balance.
WHO MANAGES CREDIT RISK
The responsibility for credit risk management is enterprise-wide. To
reinforce ownership of credit risk, credit risk control functions are
integrated into each business but report to Risk Management to
ensure objectivity and accountability.
Each business segment’s credit risk control unit is primarily respon-
sible for credit decisions and must comply with established policies,
exposure guidelines and credit approval limits, and policy/limit excep-
tion procedures. It must also adhere to established standards of credit
assessment and obtain Risk Management’s approval for material
credit decisions.
Risk Management provides independent oversight of credit risk by
developing centralized policies that govern and control portfolio risks
and product-specific policies as required.
The Risk Committee ultimately oversees the management of credit
risk and annually approves all major credit risk policies.
HOW WE MANAGE CREDIT RISK
Credit Risk is managed through a centralized infrastructure:
Risk Management centrally approves all credit risk policies, including
exception management guidelines, as well as the discretionary limits
of officers throughout TD for extending lines of credit.
Guidelines are established to monitor and limit country risk, industry
risk, and group exposure in the portfolios in accordance with enter-
prise-wide policies approved by the Risk Committee.
The Basel II Framework
The objective of the Basel II Framework is to improve the consistency
of capital requirements internationally and make required regulatory
capital more risk-sensitive. Basel II sets out several options which repre-
sent increasingly more risk-sensitive approaches to calculating credit,
market and operational risk and risk-weighted assets (RWA). RWA are
a key determinant of our regulatory capital requirements.