eTrade 2003 Annual Report Download - page 48

Table of Contents
Index to Financial Statements
When the U.S. dollar strengthens against these currencies, the U.S. dollar value of non-U.S. dollar-based revenues decreases. Accordingly,
changes in exchange rates may adversely affect our consolidated operating margins as expressed in U.S. dollars.
To mitigate the short-term effect of changes in currency exchange rates on our non-U.S. dollar-based revenues and operating expenses,
we evaluate the costs and benefits to hedging our material net non-U.S. dollar-based exposures by entering into foreign exchange forward
contracts. Currently, hedges of transactions are immaterial. Given the short-term nature of our foreign exchange forward contracts, our
exposure to risk associated with currency market movement on the instruments is not material.
Financial Instruments
For our working capital and reserves, which are required to be segregated under Federal or other regulations, we primarily invest in
money market funds, resale agreements, certificates of deposit and commercial paper. Money market funds do not have maturity dates and do
not present a material market risk. The other financial instruments are fixed-
rate investments with short maturities and do not present a material
interest rate risk.
Equity Security Price Risk
We currently hold an investment in SBI which is a Japanese yen denominated publicly traded equity security with unrealized gains of
$178.4 million as of December 31, 2003. As the security’s market price and yen fluctuates, we are exposed to a loss of some of the unrealized
gains. We also held security positions related to our market-making business of $11.4 million and $4.8 million as of December 31, 2003 and
2002, respectively. If market prices fluctuate, we are exposed to a loss on some of these balances.
BANKING OPERATIONS
Our banking operations acquire and manage interest-bearing assets and liabilities in the normal course of business. Interest-bearing
instruments include investment securities, loans, deposits, borrowings and derivative financial instruments. These instruments are subject to
changes in market value as interest rates change.
Interest Rate Risk
The acquisition, maintenance and disposition of assets and liabilities are critical elements of the Bank’s operations. Throughout the
process, these instruments are subject to interest rate risk, which is the potential for adverse declines in market values. Numerous factors may
influence the speed and direction of market value changes including, but not limited to, liquidity, absolute interest rate levels, shape of the yield
curve and implied volatility of future interest rate movements. The net market values of bank instruments may directly or indirectly impact the
Bank’s current or future earnings and are subject to certain regulatory constraints.
Market risk management oversight is the responsibility of the Bank’s Asset Liability Management Committee (“ALCO”). The ALCO is
responsible for measuring, managing and reporting the Bank’s aggregate market risk within established policy guidelines and limits, which are
reviewed periodically. The Bank maintains a Risk Management Group, independent of the Bank’
s portfolio management functions, to assist the
ALCO in measuring and managing market risk.
The Bank’s exposure to market risk is dependent upon the distribution of all interest-sensitive assets, liabilities and derivatives. These
items have differing risk characteristics that, if properly managed, can mitigate the Bank’s exposure to fluctuations in interest rates. At
December 31, 2003, approximately 52.3% of the market value of the Bank’s total assets was comprised of residential mortgages and mortgage-
backed securities. The values of these assets are sensitive to changes in interest rates, as well as expected prepayment levels. The Bank’s
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