Annual Financial Report - 21 of 41

RNS Number : 8297D

HSBC Holdings PLC

30 March 2011

Risk

	Page
Risk profile¹ .........................................................	86
Managing risk¹ .....................................................	87
Capital and liquidity ........................................	87
Risk governance¹ .................................................	87
Scenario stress testing .......................................	88
Challenges and uncertainties¹ ...............................	88
Business operations, governance and control ...	88
Macro-economic and geopolitical ....................	89
Macro-prudential and regulatory .....................	90
Credit risk ............................................................	93
Credit risk management² ..................................	93
Credit exposure³ ...............................................	95
Areas of special interest¹ ...................................	103
Credit quality of financial instruments² .............	114
Impairment charge¹..........................................	124
HSBC Holdings² ...............................................	127
Securitisation exposures and other structured products³ ......................................................	128
Liquidity and funding²...........................................	140
Policies and procedures ...................................	140
Primary sources of funding ..............................	141
The management of liquidity risk......................	142
Contingent liquidity risk ...................................	143
HSBC Holdings ................................................	144
Market risk ..........................................................	145
Monitoring and limiting market risk exposure² .	145
Sensitivity analysis³ ..........................................	145
Trading and non-trading portfolios³ ................	146
Structural foreign exchange exposures¹ ............	149
Sensitivity of net interest income¹ ......................	149
Defined benefit pension schemes²......................	151
HSBC Holdings³ ...............................................	152
Operational risk¹ ..................................................	154
Legal risk .........................................................	154
Compliance risk ...............................................	155
Group security and fraud risk ...........................	155
Risk management of insurance operations² ..........	155
Overview of insurance products ........................	156
Nature and extent of risks .................................	156
Insurance risk ...................................................	157
Financial risks ..................................................	161
Present value of in-force long-term insurance business ........................................................	170
Economic assumptions .....................................	170
Non-economic assumptions ..............................	171
Other material risks¹ ............................................	172
Reputational risk ..............................................	172
Pension risk ......................................................	172
Sustainability risk .............................................	173
Residual value risk ...........................................	174

1 Unaudited 2 Audited 3 Audited where indicated

Risk Profile

(Unaudited)

Managing our risk profile

· A strong balance sheet remains core to our philosophy.

· We have reduced our exposure to higher risk asset classes while achieving controlled balance sheet growth.

· We have ensured that our portfolio remains diversified across regions, client sectors and risk types.

Maintaining capital strength and strong liquidity position

· Our tier 1 capital ratio remains strong at 12.1%.

· We have sustained our strong liquidity position throughout 2010.

· The ratio of customer advances to deposits remains below 80%.

Strong governance

· Our Global Risk function is independent of our commercial and operational functions.

· Robust risk governance and accountability is embedded across the Group.

· The Board, advised by the Group Risk Committee, approves our risk appetite.

· A global risk operating model provides consistent and effective oversight across all six regions and our customer groups and global businesses.

Our top and emerging risks

· Challenges to our business operations.

· Challenges to our governance and internal control systems.

· Macro-economic and geopolitical risk.

· Macro-prudential and regulatory risks to our business model.

Managing risk

(Unaudited)

The continued growth in our business in 2010 was achieved while ensuring risks were assumed in a measured manner and in line with our appetite for such risks. This approach is encapsulated within our risk appetite framework. It is approved by the Group Risk Committee and the Board.

The framework is maintained at Group, regional, global business and customer group levels, operating through governance bodies, processes and metrics designed to assist in risk management. Risk appetite statements define, at various levels of the business, the qualitative and quantitative expressions of the risks which HSBC is prepared to embrace in alignment with its strategy and business plans. Quantitative metrics are assigned to five key categories: earnings, capital and liquidity, impairments and expected losses, risk category and diversification and scenario stress testing. Measurement against the metrics serves to:

· guide underlying business activity, ensuring it is aligned to risk appetite statements;

· determine risk-adjusted remuneration;

· enable the key underlying assumptions to be monitored and, where necessary, adjusted through subsequent business planning cycles; and

· promptly identify business decisions needed to mitigate risk.

Report of the Group Risk Committee

Further commentary on risk appetite, risk governance and stress testing can be found within the Report of the Group Risk Committee, on pages 197 to 201 of the Governance section.

The diversification of our lending portfolio across our regions, together with our broad range of customer groups and products, ensure that we are not dependent on a few countries or markets to generate income and growth. Our geographical diversification also provides impetus to our strategies for growth in faster-growing markets and those with international connectivity.

During 2010, the financial markets were dominated by concerns over sovereign debt. In addition, the perception that the world economic recovery remained fragile created volatility in certain financial markets. Further quantitative easing from the US temporarily boosted market confidence, but inflationary pressures remained an issue, especially in the UK and some emerging markets.

With an ever-changing economic and financial environment, we pro-actively review our risk profile and, where appropriate, introduce new risk measures. Stress testing will continue to evolve to ensure that it considers prevailing concerns.

Our insurance operations are managed with regard to the effects on financial markets of prevailing economic conditions such as the low yields available on fixed-interest investments and continuing high unemployment rates, particularly in the US and Europe.

Capital and liquidity

We maintained a strong balance sheet during 2010 while reducing the overall risk in our portfolio. Our balance sheet assets grew by 4% during the year while our credit risk-weighted assets fell by 1.4%. This was achieved, in part, by concentrating on our growth in core portfolios and running off those that were not core to our business.

In addition, we reduced our loan impairment charges and other credit risk provisions from US$26.5bn in 2009 to US$14.0bn in 2010, reflecting the general improvement in the credit quality of our portfolio.

Preserving our strong capital position has long been, and will remain, a key priority for HSBC. We are equipped to respond to the capital requirements imposed by Basel III, which are discussed further on pages 181 and 182, and to sustain future growth. We have adopted a holistic approach to testing the sensitivities of our capital plans against a number of scenarios; our approach to scenario stress testing analysis is discussed below.

We continue to maintain a strong liquidity position and are well positioned for the new regulatory landscape. The run-off of the HSBC Finance portfolio and the continuing moderation of market conditions in 2010 contributed to our strong liquidity position.

Risk governance

(Unaudited)

Our strong risk governance reflects the importance placed by the Board on shaping the Group's risk strategy and managing risks effectively. It is supported by a clear policy framework of risk ownership, by the cascading from the GMB of balanced scorecards that align business and risk objectives, and by the accountability of all officers for identifying, assessing and managing risks within the scope of their assigned responsibilities. This personal accountability, reinforced by the governance structure, experience and mandatory learning, helps to foster throughout HSBC a disciplined and constructive culture of risk management and control.

Scenario stress testing

We conduct a range of Group stress testing scenarios including, but not limited to, severe global economic downturn, country, sector and counterparty failures, and a variety of projected major operational risk events. The outcomes of the stress scenarios are used to assess the potential impact on demand for regulatory capital against its supply. We also participate, where appropriate, in scenario analyses requested by regulatory bodies.

In addition to the suite of risk scenarios considered for the Group, each major HSBC subsidiary conducts regular macro-economic and event-driven scenario analyses specific to its region.

Stress testing is also used by the market risk discipline to evaluate the potential impact on portfolio values of events or movements in a set of financial variables.

Challenges and uncertainties

(Unaudited)

The top and emerging risks identified through our risk management processes and outlined in the Report of the Group Risk Committee on page 199, present challenges and uncertainties as we carry out our activities. These are considered in further detail below.

Business operations, governance and control

Operational risks are inherent in our business

We are exposed to many types of operational risk, including fraudulent and other criminal activities (both internal and external), breakdowns in processes or procedures, or systems failure or unavailability. We are also subject to the risk of disruption to our business arising from events that are wholly or partially beyond our control (for example: natural disasters, acts of terrorism, epidemics and transport or utility failures) which may give rise to losses in service to customers and/or economic loss to HSBC. All of these risks are also applicable where we rely on external suppliers or vendors to provide services to us and our customers.

The reliability and security of our information and technology infrastructure and its customer databases, for example to combat internet fraud, are crucial to maintaining our banking applications and processes and to protecting the HSBC brand. Critical system failure, any prolonged loss of service availability or any material breach of data security, particularly involving confidential customer data, could cause serious damage to our ability to serve our clients, could breach regulations under which we operate and could cause long-term damage to our business and brand. Information security and the management of increasing operational complexity are two of the key emerging operational risks that we face.

We are subject to legal and compliance risks, which could have an adverse effect on the Group

Legal and compliance risks arise from a variety of sources with the potential to cause harm to HSBC and our ability to operate. These issues require us to deal appropriately with potential conflicts of interest; regulatory requirements; ethical issues; anti-money laundering laws and regulations; privacy laws; information security policies; sales and trading practices; and the conduct of companies with which we are associated. Failure to address these issues appropriately may give rise to additional legal and compliance risk to HSBC, with an increase in the number of litigation claims and the amount of damages asserted against us, or subject us to regulatory enforcement actions, fines or penalties or reputational damage.

We are subject to tax-related risks in the countries in which we operate

We are subject to the substance and interpretation of tax laws in all countries in which we operate. Failure to respond to changes in tax rates and comply with procedures required by tax authorities could lead to increased tax charges, including financial or operating penalties.

Liquidity and funding risks are inherent in our business

HSBC's business model is founded upon having ready access to financial resources whenever required to meet our obligations and grow our business. To this end, our entities seek to maintain a diversified and stable funding base comprising core retail and corporate customer deposits and institutional balances, and certain entities augment this with amounts of long-term wholesale funding. In addition, we hold portfolios of highly liquid assets to enable us to respond to unusual liquidity requirements. We continue to maintain a strong liquidity position, moving into the new regulatory landscape.

Where markets become illiquid, the value at which financial instruments can be realised is highly uncertain, and capital resources may shrink as valuations decline. Rating agency downgrades of

instruments to which we have exposure, or threats of downgrades, can exacerbate the effect. The liquidity of those HSBC entities that utilise long-term wholesale markets could be constrained by an inability to access them due to a variety of unforeseen market dislocations or interruptions.

The market conditions that the financial services industry experienced during the recent financial crisis highlighted the significant benefits of a diversified core deposit base, leading to increased competition for such deposits and the greater risk of deposit migration between competitors.

Our GB&M business operates in many markets affected by illiquidity and is subject to the threat of extreme price volatility, either directly or indirectly, through exposures to securities, loans, derivatives and other commitments. Although market conditions continued to moderate in 2010, it is difficult to predict if this trend will continue and, if conditions worsen, which of our markets, products and other businesses will be affected. Any repeat of these factors could have an adverse effect on our results.

Macro-economic and geopolitical

Prevailing economic and market conditions may adversely affect our results

Our earnings are affected by global and local economic and market conditions. Following the problems experienced in financial markets in 2007‑8, concerted government action in 2009 paved the way for a general improvement in the economic environment in 2010, though recovery was variable between regions. The eurozone economies came under greater pressure, the dominant concern being over sovereign debt. The financial services industry continued to face an unusually high degree of uncertainty.

With unemployment remaining high, consumer confidence weak in developed markets and amid signs of emerging inflationary pressures, economic conditions remain fragile and volatile. Some countries may recover only slowly to past levels of growth, with the possibility of a return to recessionary conditions in more sluggish economies, while others which are growing rapidly may need to undertake major adjustments to counter the formation of asset bubbles. This could have an adverse effect on our operating results. In particular, we may face the following challenges in connection with these events to our operations and operating model:

· the demand for borrowing from creditworthy customers may diminish if economic activity slows;

· trade and capital flows may contract as a result of protectionist measures being introduced in certain markets, or on the emergence of geopolitical risks;

· a prolonged period of low interest rates will constrain, for example through margin compression and low returns on assets, net interest income we earn on our excess deposits;

· our ability to borrow from other financial institutions or to engage in funding transactions could be adversely affected by market disruption, for example in the event of contagion from stress in the eurozone sovereign and financial sectors;

· market developments may depress consumer and business confidence, for example if growth in the US or the UK were to be poor, adversely affecting both asset prices and payment patterns and leading to increases in delinquencies and default rates, write-offs and loan impairment charges beyond our expectations. The effect of such conditions in 2010 and previous years on our North American retail business is described on page 110.

We are subject to political and economic risks in the countries in which we operate

We responded effectively to the financial crisis and, more recently, the sovereign debt problems within the eurozone, where we continued during 2010 to support our operations and carry out wider market functions.

As an organisation which operates in 87 countries and territories, however, our results are subject to the risk of loss from unfavourable political developments, currency fluctuations, social instability and changes in government policies on such matters as expropriation, authorisations, international ownership, interest-rate caps, foreign exchange transferability and tax in the jurisdictions in which we operate.

The ability of HSBC's subsidiaries and affiliates to pay dividends could be restricted by changes in official banking measures, exchange controls and other requirements. We prepare our accounts in US dollars, but because a substantial portion of our assets, liabilities, funds under management, revenues and expenses are denominated in other currencies, changes in foreign exchange rates have an effect on our reported income, cash flows and shareholders' equity.

We have significant exposure to counterparty risk within our portfolio

We have exposure to virtually all major industries and counterparties, and we routinely execute transactions with counterparties in financial services, including brokers and dealers, commercial banks, investment banks, mutual and hedge funds, and other institutional clients. Many of these transactions expose us to credit risk in the event of default by our counterparty or client. Financial institutions are necessarily interdependent because of trading, clearing, counterparty or other relationships. As a consequence, a default by, or decline in market confidence in, individual institutions, or anxiety about the financial services industry generally, can lead to further individual and/or systemic losses. Our credit risk may remain high if the collateral taken to mitigate counterparty risk cannot be realised or has to be liquidated at prices which are insufficient to recover the full amount of our loan or derivative exposure. For further information relating to the major risk areas, see 'Areas of Special Interest' on page 103.

Macro-prudential and regulatory

We face a number of challenges in regulation and supervision

Financial services providers face increased regulation and supervision, with more stringent and costly requirements in the areas of capital and liquidity management and of compliance relating to conduct of business and the integrity of financial services delivery. Increased government intervention and control over financial institutions, together with measures to reduce systemic risk, could significantly alter the competitive landscape.

Recent regulatory and supervisory developments have largely been shaped by the leaders, Finance Ministers and Central Bank Governors of the Group of Twenty nations ('the G20'), who delegated the development and issuance of standards to the Basel Committee of Banking Supervisors ('the Basel Committee'). The G20 also established the Financial Stability Board ('FSB') to assess vulnerabilities affecting the financial system as a whole, as well as to monitor and advise on market developments and best practice in meeting regulatory standards.

In looking to address the systemic failures that caused the financial crisis of 2007-8, the authorities asserted two primary objectives: to establish a resilient system to reduce substantially the risks of failure of financial institutions and, in case failure in the end proved unavoidable, to have in place measures to achieve orderly resolution without cost to taxpayers. Governments and regulators have embarked on significant change in the regulation of the financial system, highlighting the following priorities:

· a stronger international framework for prudential regulation, ensuring significantly increased liquidity and regulatory capital buffers and enhanced quality of capital;

· convergence towards a single set of high-quality, global, independent accounting standards, with particular focus on accounting for financial instruments and off-balance sheet exposures;

· strengthening the regulation of hedge funds and credit rating agencies, and improving the infrastructure for derivative transactions, including central counterparty clearing of over-the-counter derivatives;

· design and implementation of a system which will allow for the restructuring or resolution of financial institutions, without taxpayers ultimately bearing the burden;

· an increased role for colleges of supervisors to coordinate oversight of systemically significant institutions such as HSBC, and effective coordination of resolution regimes for failed banks;

· measures on financial sector compensation arrangements to prevent excessive short-term risk taking and mitigate systemic risk on a globally consistent basis; and

· a fair and substantial contribution by the financial sector towards paying for any burden associated with government interventions, where they occur, to repair and reduce risks from the financial system or to fund the resolution of problems.

Measures proposed by the Basel Committee to increase resilience in the financial system

The Basel Committee, following consultation, impact analyses and draft proposals during 2010, issued final proposals in December 2010, known as Basel III, on the twin areas of capital and liquidity, the key aspects of which are set out below.

· Risk weightings: increased weightings for the trading book and re-securitisations are planned for implementation by the end of 2011. A fundamental review of the trading book will continue during 2011.

· Quality of capital: there is renewed emphasis on common equity as the principal component of tier 1 capital, with increased deductions from shareholders' equity (calculated on an accounting basis) to determine the level of regulatory capital. The phasing-in periods for these new deductions will start in 2014, to be fully implemented by 2018.

· Minimum ratios: a new minimum common equity requirement of 4.5% is to be implemented in full by 1 January 2015. An additional capital conservation buffer of 2.5% in common equity effectively acts as a trigger for restrictions on management actions (such as the payment of dividends or bonuses) so that the capital structure can be rebuilt. This will be phased in between 1 January 2016 and 1 January 2019. In addition to these core tier 1 levels, additional requirements from the Basel Committee for tier 1 capital of 1.5% and tier 2 capital of 2.0%, by 2019, will lift the minimum total capital requirement for banks to around 10.5%.

· Countercyclical capital buffer:the Basel Committee has finalised its proposals for a countercyclical capital buffer of 2.5% in common equity, to be built up in periods of excess credit growth compared with GDP growth. It is not clear how these may operate in practice and there is doubt that either supervisors or the market would support release of a buffer again as the economic cycle turned.

· Total leverage: the Committee has proposed a leverage ratio of 3% of total assets to constrain aggregate size relative to the capital base. It is intended that an observation period of parallel running from 2013 to 2017 should enable a minimum standard to become mandatory in 2018.

· Liquidity and funding: a new minimum standard, the Liquidity Coverage Ratio, has been developed to promote the short-term resilience of a bank's liquidity risk profile. A Net Stable Funding Ratio has also been introduced to provide a sustainable maturity structure of assets and liabilities. As it is not yet clear what unintended consequences these measures may have, they will be phased in after observation periods in 2015 and 2018, respectively.

· The Basel Committee is also developing an approach, due by the end of 2011, to defining Global Systemically Important Financial Institutions ('G-SIFI's) to introduce more rigorous oversight and co-ordinated assessment of their risks through international supervisory colleges, provide for higher levels of capital and liquidity resilience, and require mandatory recovery and resolution plans with institution-specific crisis cooperation agreements between cross-border crisis management groups.

A strong capital position has long been, and will remain, a key priority for HSBC. We are equipped to respond to the capital requirement standards of Basel III, as discussed further on pages 181 and 182, and to sustain future growth.

Other measures

· Remuneration: the FSB has issued principles on remuneration designed to guide regional and national authorities in establishing appropriate regimes to align remuneration in a risk-based manner with the long-term interests of stakeholders. The EU has implemented rule changes in the Capital Requirements Directive which impact the balance between fixed and variable remuneration, establishing limits on the percentage of bonus which can be paid in cash. Approaches to the issue remain divergent globally, however.

· Bank levies: a number of levies are being raised on banks, notably by the UK, Germany and France. There is a renewed US proposal to raise a financial crisis responsibility fee on certain financial companies with assets over US$50bn. The European levies are calculated with reference to measures of stability of funding, in order to encourage more stable structures. In the UK, for example, the levy is to be charged at a rate of 0.075% on all liabilities excluding insured deposits and certain other elements, but with a lower rate for longer-term liabilities and uninsured deposits. Germany will hypothecate levy income to create resolution funds to support failing banks, while in other jurisdictions it will accrue to general tax revenues. Under the draft legislation, the UK levy is not tax deductible and does not meet the definition of an income tax for income statement purposes. For indicative purposes only, the UK levy that would be payable based on the closing 2010 balance sheet, after taking into account announced changes to deposit protection schemes in 2011, is estimated at US$0.6bn.

· Other taxes: other areas of financial sector taxation being considered by the authorities are a Financial Activities Tax ('FAT'), a tax on profit and remuneration, and a Financial Transaction Tax ('FTT') applied to a specified range of financial transactions. An IMF report for the G20 in 2010 saw merit in an FAT but did not recommend an FTT as it was felt not to address the key issues within the G20 mandate and might have unintended economic and regulatory consequences. In its Seoul 2010 communique the G20 did not promote any one approach for adoption. Both the European Commission and the UK Government are considering an FAT, which the former believes can work at EU level. The EU also sees merit in an FTT but, recognising the dependency on an international consensus, will continue to work within the G20 for its adoption.

· The 'Volcker Rule': under the Dodd-Frank Act, banking organisations with operations in the US face limits on their ability to sponsor or invest in private equity or hedge funds and are prohibited from engaging in certain types of 'proprietary trading' in the US, subject to a number of exceptions allowing an entity significant leeway to engage in client-serving trading, such as market-making and underwriting, and risk-mitigating hedging activities. The ultimate impact of these restrictions will depend on how US regulators implement them in rulemaking.

· Derivatives and central counterparties regulation: as agreed by the G20, the authorities are seeking to reduce systemic risk and volatility relating to derivatives trading. In the US, the Dodd-Frank Act provides for an extensive regulatory framework for over the counter ('OTC') derivatives. In addition to the mandatory clearing, exchange trading and reporting of certain swaps and security-based swaps, it also requires the registration of swap dealers and major swap participants, making them subject to capital, margin, business conduct and record-keeping regulations. In September 2010, the EU Commission presented proposals, currently in negotiation, for all standardised OTC derivatives to be reported to trade repositories and centrally cleared by the end of 2012. The proposal disincentivises derivative contracts which are not eligible for central clearing by proposing higher capital requirements. Exemptions for foreign exchange swaps and forwards are currently being considered.

· Markets in financial instruments: the European Commission is conducting a major Review of the Markets in Financial Instruments Directive, potentially to extend its scope beyond equities to other asset classes including bonds, exchange-traded funds and other equity-like and non-equity instruments, and to promote their trading on exchanges and other markets that will be subject to regulation. It also proposes giving additional power to regulators to ban trading in products that are eligible to be cleared but for which no clearing solution is currently available.

· The UK Independent Commission on Banking: this Commission was established to examine issues of banking activity and competition, including the potential impact on financial markets of a number of options to separate the retail and wholesale activities of universal banks. Responses to the opening consultation have been published and the Commission intends to publish an interim report in April 2011, with further consultation prior to a final report in September 2011. The UK Government is not bound to adopt the Commission's recommendations.

· Recovery and resolution plans: such plans are considered a key element in improving the ability of regulators to rescue (or 'resolve') firms when they get into difficulties without putting taxpayer monies at risk. Studies and pilots have been initiated by various official bodies on the resolution of financial firms and the international coordination of such exercises; the UK authorities have been at the forefront of work to develop approaches to this subject. The EU has consulted on a new framework for crisis management, including so‑called 'bail‑in' creditor write‑down resolution. Legislative proposals are expected mid‑2011. In the US, the Dodd-Frank Act established the Orderly Liquidation Authority which will ultimately provide a bank-like receivership process for large financial companies; resolution plans will be required of large financial institutions and rules for 'early remediation' will be forthcoming. There is currently no consistent approach and a number of key areas need to be addressed, including an international legal framework for addressing competing creditor claims and the application of collateral.

Restructuring of regulatory bodies

In addition to the significant volume of new regulation emanating from the Basel Committee and others, the landscape of financial sector regulation itself in a number of major Western countries is undergoing significant change, presenting its own challenges to the industry and its implementation of proposed reforms.

· In the EU, new authorities for segments of the financial services sector took up their powers with effect from 1 January 2011: the European Banking Authority, the European Securities Markets Authority and the European Insurance and Occupational Pension Authority. In addition, a European Systemic Risk Board will consider emerging macro-prudential risks.

· In the UK, the Financial Services Authority's ('FSA') prudential supervisory responsibilities will be transferred in 2012 to a Bank of England agency, the Prudential Regulatory Authority, while the Financial Conduct Authority will act as a single regulator of conduct of business for both retail and wholesale firms.

· In the US, the Dodd-Frank Act re-assigns responsibilities of existing agencies, demising the Office of Thrift Supervision and creating others, including a Financial Stability Oversight Council to address systemic matters and a Bureau of Consumer Protection.

Implementation risks

The extensive programme of regulatory change carries significant implementation risks for authorities and industry participants alike, including:

· Disparities in implementation: many official measures are proposals in development and negotiation, and have yet to be enacted into regional and national legislation. These processes could result in differing, fragmented and overlapping implementation around the world, leading to risks of regulatory arbitrage, a far from level competitive playing-field and increased compliance costs, especially for large, global financial institutions such as HSBC.

· Timetable and market expectations: while the Basel Committee has announced the timetable for its core proposals in Basel III, it remains uncertain how these and other measures will play out in practice, for instance with regard to differences in approach between Basel III and the Dodd-Frank Act in the US. Meanwhile, market expectations will exert pressure on institutions to assess and effect compliance well in advance of official timetables.

· Wider economic impact and unforeseen consequences: while the conclusions of official and industry studies have diverged, the measures proposed will clearly impact on financial and economic activity in ways that cannot yet be clearly foreseen. For example, higher capital requirements may seriously constrain the availability of funds for lending to support economic recovery.

Credit Risk

Credit risk management

(Audited)

Credit risk is the risk of financial loss if a customer or counterparty fails to meet a payment obligation under a contract. It arises principally from direct lending, trade finance and leasing business, but also from off-balance sheet products such as counterparty risk guarantees and credit derivatives, and from our holdings of debt securities. Of the risks in which we engage, credit risk generates the largest regulatory capital requirement.

Principal objectives of our credit risk management

· to maintain across HSBC a strong culture of responsible lending and a robust risk policy and control framework;

· to both partner and challenge our businesses in defining, implementing and continually re-evaluating our risk appetite under actual and scenario conditions; and

· to ensure there is independent, expert scrutiny of credit risks, their costs and their mitigation.

The Credit Risk department fulfils the role of an independent credit control unit as part of the Global Risk function in our Group Management Office ('GMO'). Credit approval authorities are delegated by the Board to the most senior Chief Executive Officers, who receive commensurate authorities from their own boards. In each major subsidiary, a Chief Risk Officer reports to the local Chief Executive Officer on credit-related issues, while maintaining a direct functional reporting line to the Group Chief Risk Officer in GMO.

Credit quality

(Audited)

Our credit risk rating systems and processes differentiate exposures in order to highlight those with greater risk factors and higher potential severity of loss. In the case of individually significant accounts, riskratings are reviewed regularly and any amendments are implemented promptly. Within our retail businesses, risk is assessed and managed using a wide range of risk and pricing models to generate portfolio data.

Our risk rating system facilitates the internal ratings-based ('IRB') approach under Basel II adopted by the Group to support calculation of our minimum credit regulatory capital requirement. For further details, see 'Credit quality of financial instruments' on page 114.

Special attention is paid to problem exposures in order to accelerate remedial action. Where appropriate, our operating companies use specialist units to provide customers with support in order to help them avoid default wherever possible.

The high-level oversight and management of credit risk provided globally by the Credit Risk function within GMO

· to formulate Group credit policy. Compliance, subject to approved dispensations, is mandatory for all operating companies which must develop local credit policies consistent with Group policies;

· to guide operating companies on our appetite for credit risk exposure to specified market sectors, activities and banking products and controlling exposures to certain higher-risk sectors;

· to undertake an independent review and objective assessment of risk. Global Risk assesses all commercial non-bank credit facilities and exposures over designated limits, prior to the facilities being committed to customers or transactions being undertaken;

· to monitor the performance and management of portfolios across the Group;

· to control exposure to sovereign entities, banks and other financial institutions, as well as debt securities which are not held solely for the purpose of trading;

· to set our policy on large credit exposures, ensuring that concentrations of exposure by counterparty, sector or geography do not become excessive in relation to our capital base, and remain within internal and regulatory limits;

· to control our cross-border exposures (see page 102);

· to maintain and develop our risk rating framework and systems. The Group Chief Risk Officer chairs the Credit Risk Analytics Oversight Committee, which reports to the Risk Management Meeting and oversees risk rating model governance for both wholesale and retail business;

· to report on retail portfolio performance, high risk portfolios, risk concentrations, country limits and cross-border exposures, large impaired accounts, impairment allowances and stress testing results and recommendations to the Risk Management Meeting, the Group Risk Committee and the Board; and

· to act on behalf of HSBC Holdings as the primary interface, for credit-related issues, with the Bank of England, the FSA, local regulators, rating agencies, analysts and counterparts in major banks and non-bank financial institutions.

Group and regional Credit Review and Risk Identification teams regularly review exposures and processes in order to provide an independent, rigorous assessment of credit risk across the HSBC Group, reinforce secondary risk management controls and share best practice. Internal audit, as a tertiary control function, focuses on risks with a global perspective and on the design and effectiveness of primary and secondary controls, carrying out oversight audits via sampling of global/regional control frameworks, themed audits of key or emerging risks and project audits to assess major change initiatives.

Impairment assessment

(Audited)

It is HSBC's policy that each operating company creates allowances for impaired loans promptly and consistently.

Impairment allowances may be assessed and created either for individually significant accounts or, on a collective basis, for groups of individually significant accounts for which no evidence of impairment has been individually identified or for high-volume groups of homogeneous loans that are not considered individually significant.

When impairment losses occur, we reduce the carrying amount of loans and advances through the use of an allowance account. When impairment of available-for-sale financial assets and held-to-maturity financial investments occurs, we reduce the carrying amount of the asset directly. For further details, see 'Critical accounting policies' on page 33.

Write-off of loans and advances

Loans are normally written off, either partially or in full, when there is no realistic prospect of further recovery. For secured loans, write-off generally occurs after receipt of any proceeds from the realisation of security. Write-off may occur earlier when the net realisable value of any collateral has been determined and there is no reasonable expectation of further recovery.

In HSBC Finance, the carrying amounts of residential mortgage and second lien loans in excess of net realisable value are written off at or before the time foreclosure is completed or settlement is reached with the borrower. If there is no reasonable expectation of recovery, and foreclosure is pursued, the loan is normally written off no later than the end of the month in which the loan becomes 180 days contractually past due.

Unsecured personal facilities, including credit cards, are generally written off at between 150 and 210 days past due, the standard period being the end of the month in which the account becomes 180 days contractually delinquent. Write-off periods may be extended, generally to no more than 360 days past due but in very exceptional circumstances exceeding that figure, in a few countries where local regulation or legislation constrain earlier write-off, or where the realisation of collateral for secured real estate lending extends to this time.

In the event of bankruptcy or analogous proceedings, write-off may occur earlier than at the

periods stated above. Collections procedures may continue after write-off.

Cross-border exposures

We assess the vulnerability of countries to foreign currency payment restrictions, including economic and political factors, when considering impairment allowances on cross-border exposures. Impairment allowances are assessed in respect of all qualifying exposures within vulnerable countries unless these exposures and the inherent risks are:

· performing, trade-related and of less than one year's maturity;

· mitigated by acceptable security cover which is, other than in exceptional cases, held outside the country concerned;

· in the form of securities held for trading purposes for which a liquid and active market exists, and which are measured at fair value daily; and

· performing facilities with a principal (excluding security) of US$1m or below and/or with maturity dates shorter than three months.

Credit exposure

Maximum exposure to credit risk

(Audited)

Our credit exposure is spread across a broad range of asset classes, including derivatives, trading assets, loans and advances to customers, loans and advances to banks and financial investments. In 2010, exposure to credit risk remained diversified across classes. However, the balance changed compared with the end of 2009, reflecting growth in loans and advances to both customers and banks, and a reduction in trading assets due to the deconsolidation of the Constant Net Asset Value funds.

Residential mortgage lending continued to represent a significant portion of our overall credit exposure. In 2010, the credit quality of our mortgage portfolios generally improved, reflecting economic conditions and a stabilisation of unemployment and house prices in most of our key markets. Despite some improvement, economic and housing market conditions remain difficult across the US and we remain focused on running off the residual balances in our Consumer Lending and Mortgage Services portfolio. In the UK, we grew our residential mortgage lending exposure as a result of successful promotional campaigns and competitive pricing. The consistent application of conservative underwriting criteria ensured the credit quality of our residential mortgage exposure in the UK remained satisfactory and well secured. Our exposure to the Hong Kong residential mortgage market also grew during 2010; we continued to lend conservatively with an average loan-to-value ratio of 55% on new mortgage sales. For further commentary on personal lending, see 'Areas of special interest - Personal Lending' on page 106.

Loss experience: percentage of total loan impairment charges and other credit risk provisions

(Unaudited)

2010

US$14,039m

2009

US$26,488m

The following table presents the maximum exposure to credit risk from balance sheet and off‑balance sheet financial instruments, before taking account of any collateral held or other credit enhancements (unless such credit enhancements meet accounting offsetting requirements). For financial assets recognised on the balance sheet, the maximum exposure to credit risk equals their carrying amount; for financial guarantees and similar contracts granted, it is the maximum amount that we would have to pay if the guarantees were called upon. For loan commitments and other credit-related commitments that are irrevocable over the life of the respective facilities, it is generally the full amount of the committed facilities.

Maximum exposure to credit risk

(Audited)

	At 31 December 2010			At 31 December 2009
	Maximum exposure	Offset	Exposure to credit risk (net)	Maximum exposure	Offset	Exposure to credit risk (net)
	US$m	US$m	US$m	US$m	US$m	US$m

Cash and balances at central banks ...............	57,383	-	57,383	60,655	-	60,655
Items in the course of collection from other banks .......................................................	6,072	-	6,072	6,395	-	6,395
Hong Kong Government certificates of indebtedness .............................................	19,057	-	19,057	17,463	-	17,463

Trading assets ..............................................	343,966	(4,189)	339,777	386,070	(8,496)	377,574
Treasury and other eligible bills ................	25,620	-	25,620	22,346	-	22,346
Debt securities .........................................	168,268	-	168,268	201,598	-	201,598
Loans and advances to banks ...................	70,456	-	70,456	78,126	-	78,126
Loans and advances to customers .............	79,622	(4,189)	75,433	84,000	(8,496)	75,504

Financial assets designated at fair value ........	19,593	-	19,593	22,198	-	22,198
Treasury and other eligible bills ................	159	-	159	223	-	223
Debt securities .........................................	18,248	-	18,248	20,718	-	20,718
Loans and advances to banks ...................	315	-	315	354	-	354
Loans and advances to customers .............	871	-	871	903	-	903

Derivatives ..................................................	260,757	(197,501)	63,256	250,886	(189,606)	61,280

Loans and advances held at amortised cost ..	1,166,637	(91,966)	1,074,671	1,076,012	(91,127)	984,885
- to banks ................................................	208,271	(3,099)	205,172	179,781	(116)	179,665
- to customers .........................................	958,366	(88,867)	869,499	896,231	(91,011)	805,220

Financial investments ..................................	392,772	-	392,772	360,034	-	360,034
Treasury and other similar bills ................	57,129	-	57,129	58,434	-	58,434
Debt securities .........................................	335,643	-	335,643	301,600	-	301,600

Other assets .................................................	30,371	(29)	30,342	36,373	(4)	36,369
Endorsements and acceptances ................	10,116	(29)	10,087	9,311	(4)	9,307
Other .......................................................	20,255	-	20,255	27,062	-	27,062

Financial guarantees and similar contracts ...	49,436	-	49,436	53,251	-	53,251
Loan and other credit-related commitments¹	602,513	-	602,513	558,050	-	558,050

	2,948,557	(293,685)	2,654,872	2,827,387	(289,233)	2,538,154

For footnote, see page 174.

Collateral and other credit enhancements

(Audited)

Collateral held against financial instruments presented in the above table is described in more detail below.

Loans and advances

Although collateral can be an important mitigant of credit risk, it is our policy to lend on the basis of the customer's capacity to repay rather than to rely on the value of security offered. Depending on the customer's standing and the type of product, facilities may be provided unsecured.

We employ the following principal collateral types:

· in the personal sector, mortgages over residential properties;

· in the commercial and industrial sector, charges over business assets such as premises, stock and debtors;

· in the commercial real estate sector, charges over the properties being financed; and

· in the financial sector, charges over financial instruments such as cash, debt securities and equities in support of trading facilities.

In addition, credit derivatives and securitisation structures are used to hedge or transfer credit risk within our loan portfolio.

The loans and advances offset adjustment in the table above primarily relates to customer loans and deposits, and balances arising from repo and reverse repo transactions. The offset relates to balances where there is a legally enforceable right of offset in the event of counterparty default, and where, as a result, there is a net exposure for credit risk management purposes. However, as there is no intention to settle these balances on a net basis under normal circumstances, they do not qualify for net presentation for accounting purposes.

We do not disclose the fair value of collateral held as security or other credit enhancements on loans and advances past due but not impaired, or on individually assessed impaired loans and advances, as it is not practicable to do so.

Derivatives

The International Swaps and Derivatives Association ('ISDA') Master Agreement is our preferred agreement for documenting derivatives activity. It provides the contractual framework within which dealing activity across a full range of OTC products is conducted, and contractually binds both parties to apply close-out netting across all outstanding transactions covered by an agreement if either party defaults or another pre-agreed termination event occurs. It is common, and our preferred practice, for the parties to execute a Credit Support Annex ('CSA') in conjunction with the ISDA Master Agreement. Under a CSA, collateral is passed between the parties to mitigate the counterparty risk inherent in outstanding positions. The majority of our CSAs are with financial institutional clients.

The derivative offset amount in the above table relates to exposures where the counterparty has an offsetting derivative exposure with HSBC, a master netting arrangement is in place and the credit risk exposure is managed on a net basis, or the position is specifically collateralised, normally in the form of cash. At 31 December 2010, the total amount of such offsets was US$197.5bn (2009: US$189.6bn), of which US$178.3bn (2009: US$168.5bn) were offsets under a master netting arrangement, US$19.0bn (2009: US$21.0bn) were collateral received in cash and US$0.2bn (2009: US$0.1bn) were other collateral. These amounts do not qualify for net presentation for accounting purposes, as settlement may not actually be made on a net basis.

Treasury, other eligible bills and debt securities

Debt securities, treasury and other eligible bills are generally unsecured except for asset-backed securities ('ABS') and similar instruments, which are secured by pools of financial assets.

Items in the course of collection from other banks

Settlement risk arises in any situation where a payment in cash, securities or equities is made in the expectation of a corresponding receipt of cash, securities or equities. Daily settlement limits are established for counterparties to cover the aggregate of our transactions with each one on any single day.

We substantially mitigate settlement risk on many transactions, particularly those involving securities and equities, by settling through assured payment systems or on a delivery-versus-payment basis.

Concentration of exposure

(Audited)

Concentrations of credit risk arise when a number of counterparties or exposures have comparable economic characteristics, or such counterparties are engaged in similar activities or operate in the same geographical areas or industry sectors, so that their collective ability to meet contractual obligations is uniformly affected by changes in economic, political or other conditions. We use a number of controls and measures to minimise undue concentration of exposure in our portfolios across industry, country and customer groups. These include portfolio and counterparty limits, approval and review controls, and stress testing.

Wrong-way risk is an aggravated form of concentration risk and arises when there is a strong correlation between the counterparty's probability of default and the mark-to-market value of the underlying transaction. We use a range of procedures to monitor and control wrong-way risk, including requiring entities to obtain prior approval before undertaking wrong-way risk transactions outside pre-agreed guidelines.

Securities held for trading

(Unaudited)

A detailed analysis of securities held for trading is set out in Note 15 on the Financial Statements and an analysis of credit quality is provided on page 114.

Debt securities, treasury and other eligible bills

(Unaudited)

HSBC's holdings of corporate debt, ABS and other securities were spread across a wide range of issuers and geographical regions, with 25% invested in securities issued by banks and other financial institutions. A more detailed analysis of financial investments is set out in Note 21 on the Financial Statements and an analysis by credit quality is provided on page 114.

At 31 December 2010, our insurance businesses held diversified portfolios of debt and equity securities designated at fair value (2010: US$28bn; 2009: US$25bn) and debt securities classified as financial investments (2010: US$38bn; 2009: US$35bn). A more detailed analysis of securities held by the insurance businesses is set out on page 162.

Derivatives

(Unaudited)

Derivative assets at 31 December 2010 were US$261bn, a rise of 4% from 31 December 2009. Our single largest exposure was to interest rate derivatives, and this balance increased in 2010 reflecting downward shifts in yield curves, partly offset by higher netting from increased trading with clearing houses. The notional value of outstanding contracts also rose, reflecting an increase in the number of open transactions compared with 2009. In addition our exposure to exchange rate derivatives rose as a result of increased volatility.

Loans and advances

(Unaudited)

On a reported basis, gross loans and advances to customers (excluding the financial sector) at 31 December 2010 increased by US$52bn or 6% from 31 December 2009. On a constant currency basis the increase was 7%. The rise was primarily due to growth in Asia, mainly in trade-related lending and, to a lesser extent, our commercial real estate and personal lending portfolios, as the region prospered.

Summary of gross loans and advances to customers

(Unaudited)

The following commentary is on a constant currency basis:

Personal lending was US$425bn, a decline of 2% compared with the end of 2009 as growth in residential mortgage lending was more than offset by lower other personal lending balances. Personal lending represented 43% of our total lending to customers. At US$269bn, residential mortgage lending constituted the Group's largest concentration in a single exposure type. In 2010, residential mortgage lending increased by 4%, reflecting strong growth in new mortgage sales in Hong Kong and the UK. This was partly offset by a 12% decline in the US, mainly due to the continued run-off of our Consumer Lending and Mortgage Services portfolios.

Corporate and commercial lending was 46% of gross lending to customers at 31 December 2010, comprising our largest lending category. Commercial, industrial and international trade represented the largest portion of this category and this increased by 23% in the year, reflecting the growth in trade activity, particularly in Asia. Commercial real estate lending, which represented 7% of total gross lending to customers, increased by 5% due to strong growth in Hong Kong.

In the financial category, our largest exposure was to non-bank financial institutions; this largely comprised secured lending on trading accounts, mainly repo facilities.

Loans and advances to banks were widely distributed across major institutions in 2010 and increased by 16% as placements with central and commercial banks in Europe, Asia and Latin America rose.

The following tables analyse loans by industry sector and by the location of the principal operations of the lending subsidiary or, in the case of the operations of The Hongkong and Shanghai Banking Corporation, HSBC Bank, HSBC Bank Middle East and HSBC Bank USA, by the location of the lending branch.

Gross loans and advances by industry sector

(Audited)

	2010	Currency effect	Move- ment	2009	2008	2007	2006
	US$m	US$m	US$m	US$m	US$m	US$m	US$m

Personal² ..................................................	425,320	(2,026)	(6,860)	434,206	440,227	500,834	476,146
Residential mortgages^2,3 ........................	268,681	(1,707)	9,719	260,669	243,337	269,068	265,337
Other personal²^,4 ...................................	156,639	(319)	(16,579)	173,537	196,890	231,766	210,809

Corporate and commercial ........................	445,512	(5,297)	67,719	383,090	407,474	400,771	343,107
Commercial, industrial and international trade .................................................	237,694	(2,948)	44,514	196,128	209,840	202,038	162,109
Commercial real estate ..........................	71,880	(773)	3,264	69,389	70,969	72,345	60,366
Other property-related ..........................	34,838	222	4,096	30,520	30,739	33,907	27,165
Government ..........................................	8,594	(14)	1,919	6,689	6,544	5,708	8,990
Other commercial⁵ ................................	92,506	(1,784)	13,926	80,364	89,382	86,773	84,477

Financial ...................................................	101,725	(3,540)	8,615	96,650	101,085	99,148	62,458
Non-bank financial institutions .............	100,163	(3,544)	8,470	95,237	99,536	96,781	59,204
Settlement accounts ..............................	1,562	4	145	1,413	1,549	2,367	3,254

Asset-backed securities reclassified ............	5,892	(319)	(1,616)	7,827	7,991	-	-

Total gross loans and advances to customers ('TGLAC')⁶ ..........................................	978,449	(11,182)	67,858	921,773	956,777	1,000,753	881,711

Gross loans and advances to banks ............	208,429	(8)	28,549	179,888	153,829	237,373	185,212

Total gross loans and advances .................	1,186,878	(11,190)	96,407	1,101,661	1,110,606	1,238,126	1,066,923

Impaired loans and advances to customers	28,091	(254)	(2,261)	30,606	25,352	19,582	15,071
- as a percentage of TGLAC ................	2.9%			3.3%	2.6%	2.0%	1.7%

Impairment allowances on loans and advances to customers ...........................	20,083	(75)	(5,384)	25,542	23,909	19,205	13,578
- as a percentage of TGLAC ................	2.1%			2.8%	2.5%	1.9%	1.5%

Charge for impairment losses ....................	13,548	321	(11,715)	24,942	24,131	17,177	10,547
New allowances net of allowance releases ..........................................................	14,568	353	(11,617)	25,832	24,965	18,182	11,326
Recoveries ............................................	(1,020)	(32)	(98)	(890)	(834)	(1,005)	(779)

For footnotes, see page 174.

Gross loans and advances to customers by industry sector and by geographical region

(Audited)

	Gross loans and advances to customers
	Europe	Hong Kong	Rest of Asia- Pacific	Middle East	North America	Latin America	Total	As a % of total gross loans
	US$m	US$m	US$m	US$m	US$m	US$m	US$m		%
At 31 December 2010
Personal .......................................	161,717	57,308	40,184	5,371	139,117	21,623	425,320		43.4
Residential mortgages³ ..............	111,618	42,488	28,724	1,751	78,842	5,258	268,681		27.4
Other personal⁴ ........................	50,099	14,820	11,460	3,620	60,275	16,365	156,639		16.0

Corporate and commercial ...........	203,804	80,823	67,247	19,560	38,707	35,371	445,512		45.6
Commercial, industrial and international trade ................	111,980	33,451	41,274	11,173	16,737	23,079	237,694		24.3
Commercial real estate .............	30,629	19,678	8,732	1,085	8,768	2,988	71,880		7.3
Other property-related .............	6,401	15,232	5,426	1,785	5,109	885	34,838		3.6
Government .............................	2,289	2,339	415	1,345	89	2,117	8,594		0.9
Other commercial⁵ ....................	52,505	10,123	11,400	4,172	8,004	6,302	92,506		9.5

Financial ......................................	70,725	3,189	2,259	1,347	21,202	3,003	101,725		10.4
Non-bank financial institutions .	70,019	2,824	2,058	1,335	21,109	2,818	100,163		10.2
Settlement accounts ..................	706	365	201	12	93	185	1,562		0.2

Asset-backed securities reclassified	5,216	-	-	-	676	-	5,892		0.6

TGLAC⁶ .......................................	441,462	141,320	109,690	26,278	199,702	59,997	978,449		100.0

Percentage of TGLAC by geographical region ...................	45.2%	14.4%	11.2%	2.7%	20.4%	6.1%	100.0%

Impaired loans ..............................	10,557	660	1,324	2,433	10,727	2,390	28,091
- as a percentage of TGLAC ....	2.4%	0.5%	1.2%	9.3%	5.4%	4.0%	2.9%

Total impairment allowances .......	5,663	629	959	1,652	9,170	2,010	20,083
- as a percentage of TGLAC ....	1.3%	0.4%	0.9%	6.3%	4.6%	3.4%	2.1%

At 31 December 2009
Personal .......................................	162,562	47,946	32,514	6,405	163,934	20,845	434,206		47.2
Residential mortgages³ ..............	109,872	35,292	21,983	1,898	86,591	5,033	260,669		28.3
Other personal⁴ ........................	52,690	12,654	10,531	4,507	77,343	15,812	173,537		18.9

Corporate and commercial⁷ ..........	202,919	49,340	46,175	16,604	40,902	27,150	383,090		41.5
Commercial, industrial and international trade ................	112,374	17,728	28,228	9,336	11,528	16,934	196,128		21.3
Commercial real estate .............	33,853	13,782	6,475	1,309	11,527	2,443	69,389		7.5
Other property-related .............	6,231	10,062	3,863	1,357	8,452	555	30,520		3.3
Government .............................	2,216	441	595	1,356	208	1,873	6,689		0.7
Other commercial⁵ ....................	48,245	7,327	7,014	3,246	9,187	5,345	80,364		8.7

Financial ......................................	73,851	2,899	2,350	1,213	14,150	2,187	96,650		10.5
Non-bank financial institutions .	73,225	2,462	2,246	1,206	13,963	2,135	95,237		10.3
Settlement accounts ..................	626	437	104	7	187	52	1,413		0.2

Asset-backed securities reclassified	6,284	-	-	-	1,543	-	7,827		0.8

TGLAC⁶ .......................................	445,616	100,185	81,039	24,222	220,529	50,182	921,773		100.0

Percentage of TGLAC by geographical region ...................	48.3%	10.9%	8.8%	2.6%	23.9%	5.5%	100.0%

Impaired loans ..............................	10,722	841	1,200	1,646	13,246	2,951	30,606
- as a percentage of TGLAC ....	2.4%	0.8%	1.5%	6.8%	6.0%	5.9%	3.3%

Total impairment allowances .......	6,135	804	996	1,378	13,676	2,553	25,542
- as a percentage of TGLAC ....	1.4%	0.8%	1.2%	5.7%	6.2%	5.1%	2.8%

For footnotes, see page 174.

Loans and advances to banks by geographical region

(Audited)

	Europe	Hong Kong	Rest of Asia- Pacific	Middle East	North America	Latin America	Loans and advances to banks	Impair- ment allowances
	US$m	US$m	US$m	US$m	US$m	US$m	US$m	US$m

At 31 December 2010⁸ .......	78,239	33,585	40,437	9,335	19,479	27,354	208,429	(158)
At 31 December 2009 ..........	65,614	36,197	35,648	8,435	15,386	18,608	179,888	(107)
At 31 December 2008 ..........	62,012	29,646	28,665	7,476	11,458	14,572	153,829	(63)
At 31 December 2007 ..........	104,534	63,737	32,373	7,488	16,566	12,675	237,373	(7)
At 31 December 2006 ..........	76,837	50,359	19,716	7,801	17,865	12,634	185,212	(7)

Gross loans and advances to customers by country

(Audited)

	Residential mortgages US$m	Other personal US$m	Property- related US$m	Commercial, international trade and other US$m	Total US$m
At 31 December 2010
Europe ....................................................	111,618	50,099	37,030	242,715	441,462
UK ..........................................................	103,037	25,636	26,002	165,283	319,958
France .....................................................	3,749	9,550	8,737	56,613	78,649
Germany ..................................................	11	356	79	4,015	4,461
Malta .......................................................	1,656	599	563	1,643	4,461
Switzerland ..............................................	1,358	10,708	114	1,837	14,017
Turkey ....................................................	809	2,817	210	2,783	6,619
Other .......................................................	998	433	1,325	10,541	13,297

Hong Kong ............................................	42,488	14,820	34,910	49,102	141,320

Rest of Asia-Pacific ..............................	28,724	11,460	14,158	55,348	109,690
Australia ..................................................	8,405	1,267	2,346	4,867	16,885
India ........................................................	920	526	680	4,583	6,709
Indonesia .................................................	74	531	115	3,374	4,094
Japan .......................................................	226	199	1,214	2,503	4,142
Mainland China .......................................	2,046	310	3,836	12,932	19,124
Malaysia ..................................................	3,833	2,053	1,361	4,845	12,092
Singapore .................................................	6,571	3,661	3,262	7,846	21,340
South Korea .............................................	2,295	248	58	2,494	5,095
Taiwan ....................................................	3,002	527	135	2,832	6,496
Vietnam ...................................................	35	162	59	1,255	1,511
Other .......................................................	1,317	1,976	1,092	7,817	12,202

Middle East (excluding Saudi Arabia).......	1,751	3,620	2,870	18,037	26,278
Egypt ......................................................	3	396	111	2,484	2,994
Qatar .......................................................	8	491	404	918	1,821
United Arab Emirates ..............................	1,477	2,099	1,359	11,043	15,978
Other .......................................................	263	634	996	3,592	5,485

North America ......................................	78,842	60,275	13,877	46,708	199,702
US ...........................................................	57,630	51,686	8,269	31,496	149,081
Canada .....................................................	19,505	8,070	5,079	14,711	47,365
Bermuda ..................................................	1,707	519	529	501	3,256

Latin America .......................................	5,258	16,365	3,873	34,501	59,997
Argentina ................................................	30	918	103	2,172	3,223
Brazil .......................................................	1,111	10,979	1,816	17,093	30,999
Mexico ....................................................	2,097	2,365	1,146	8,622	14,230
Panama ...................................................	1,155	982	489	3,794	6,420
Other .......................................................	865	1,121	319	2,820	5,125


Total .......................................................	268,681	156,639	106,718	446,411	978,449

Gross loans and advances to customers by country (continued)

	Residential mortgages US$m	Other personal US$m	Property- related US$m	Commercial, international trade and other US$m	Total US$m

At 31 December 2009
Europe .....................................................	109,872	52,690	40,084	242,970	445,616
UK ..........................................................	100,667	29,018	28,339	175,513	333,537
France .....................................................	4,326	10,224	9,429	48,570	72,549
Germany ..................................................	10	404	90	3,689	4,193
Malta .......................................................	1,730	612	660	1,689	4,691
Switzerland ..............................................	1,301	9,197	175	1,413	12,086
Turkey ....................................................	843	2,778	150	2,490	6,261
Other .......................................................	995	457	1,241	9,606	12,299

Hong Kong ..............................................	35,292	12,654	23,844	28,395	100,185

Rest of Asia-Pacific .................................	21,983	10,531	10,338	38,187	81,039
Australia ..................................................	5,919	993	1,785	3,496	12,193
India ........................................................	883	864	458	3,002	5,207
Indonesia .................................................	59	571	71	2,114	2,815
Japan .......................................................	109	149	796	1,444	2,498
Mainland China .......................................	1,503	319	2,633	8,915	13,370
Malaysia ..................................................	2,925	1,717	1,085	3,548	9,275
Singapore .................................................	5,149	3,041	2,407	4,251	14,848
South Korea .............................................	2,093	407	30	1,932	4,462
Taiwan ....................................................	2,205	503	53	1,578	4,339
Vietnam ...................................................	23	132	51	1,042	1,248
Other .......................................................	1,115	1,835	969	6,865	10,784

Middle East (excluding Saudi Arabia) ........	1,898	4,507	2,666	15,151	24,222
Egypt ......................................................	4	326	126	2,132	2,588
Qatar .......................................................	9	624	416	841	1,890
United Arab Emirates ..............................	1,650	2,881	1,395	8,848	14,774
Other .......................................................	235	676	729	3,330	4,970

North America ........................................	86,591	77,343	19,979	36,616	220,529
US ...........................................................	65,784	69,275	8,922	25,747	169,728
Canada .....................................................	19,228	7,526	10,641	10,339	47,734
Bermuda ..................................................	1,579	542	416	530	3,067

Latin America .........................................	5,033	15,812	2,998	26,339	50,182
Argentina ................................................	31	628	49	1,689	2,397
Brazil .......................................................	717	10,494	1,076	12,111	24,398
Mexico ....................................................	2,259	2,702	995	6,762	12,718
Panama ...................................................	1,151	973	475	3,464	6,063
Other .......................................................	875	1,015	403	2,313	4,606


Total .......................................................	260,669	173,537	99,909	387,658	921,773

Country distribution of outstandings and cross-border exposures

(Unaudited)

We control the risk associated with cross-border lending through a centralised structure of internal country limits. Exposures to individual countries and cross-border exposure in the aggregate are kept under continual review.

The following table summarises the aggregate of in-country foreign currency and cross-border outstandings by type of borrower to countries which individually represent in excess of 0.75% of our total assets. The classification is based on the country of residence of the borrower but also recognises the transfer of country risk in respect of third-party guarantees, eligible collateral held and residence of the head office when the borrower is a branch. In accordance with the Bank of England Country Exposure Report (Form CE) guidelines, outstandings comprise loans and advances (excluding settlement accounts), amounts receivable under finance leases, acceptances, commercial bills, certificates of deposit ('CD's) and debt and equity securities (net of short positions), and exclude accrued interest and intra‑HSBC exposures.

In-country foreign currency and cross-border amounts outstanding

(Unaudited)

	Banks	Government and official institutions	Other	Total
	US$bn	US$bn	US$bn	US$bn
At 31 December 2010
UK .....................................................................................	27.6	6.3	51.6	85.5
US ......................................................................................	13.6	37.6	17.6	68.8
France ................................................................................	23.8	11.1	11.2	46.1
Hong Kong ........................................................................	15.4	1.6	17.2	34.2
Mainland China ..................................................................	21.5	1.2	9.1	31.8
Japan .................................................................................	14.0	16.2	1.3	31.5
Germany ............................................................................	17.8	4.2	9.4	31.4

At 31 December 2009
UK .....................................................................................	37.5	7.0	38.0	82.5
US ......................................................................................	10.7	29.3	25.7	65.7
France ................................................................................	27.0	10.7	7.7	45.4
Germany ............................................................................	21.9	15.0	4.5	41.4
The Netherlands⁹ ...............................................................	10.3	1.7	7.6	19.6

At 31 December 2008
UK .....................................................................................	38.4	7.1	33.8	79.3
US ......................................................................................	13.6	26.4	34.1	74.1
France ................................................................................	19.9	12.1	7.9	39.9
Germany ............................................................................	18.9	8.0	6.7	33.6
The Netherlands ................................................................	14.1	1.9	10.3	26.3
Japan⁹ ................................................................................	2.6	19.4	2.3	24.3

For footnote, see page 174.

Areas of special interest

Wholesale lending

(Unaudited)

Wholesale lending covers the range of credit facilities granted to sovereign borrowers, banks, non‑bank financial institutions and corporate entities. Our wholesale portfolios are well diversified across geographical and industry sectors, with certain exposures subject to specific portfolio controls. Overall credit quality improved during 2010, as economies generally demonstrated signs of recovery.

Exposures to countries in the eurozone

(Unaudited)

Intervention by governments to stabilise and re‑capitalise banks and other financial intermediaries during the financial crisis helped to reduce the possibility of a systemic threat to financial markets by transferring risk from the private sector to sovereign bodies. In 2010, this contributed to the creation of large fiscal imbalances in some industrialised economies and as a result, market concerns about sovereign credit risk in these countries intensified. Credit spreads for the affected sovereign and bank credit markets remained volatile during most of 2010. Risk aversion resurfaced, and the assumption of higher sovereign credit risk premia in private securities prices triggered portfolio reallocation to safer assets and a tightening of market liquidity. Initial concerns over liquidity and funding spread to doubts about solvency in a number of cases. The table below summarises our exposures to governments and central banks of selected eurozone countries, and near/quasi government agencies and banks domiciled in those countries. An analysis of loans and advances to customers by significant countries is provided on page 101.

Our exposure to eurozone countries under pressure in 2010 was US$25.4bn.

Sovereign debt

As a result of the disruption in global financial markets, the eurozone experienced a severe recession, followed by a sovereign debt crisis in some member countries, where the high level of government deficits, banking system problems, fiscal imbalances and low or declining GDP growth increased their perceived vulnerability to a future downturn. Various financial and political stresses forced Greece and Ireland to seek a bailout by the ECB and the International Monetary Fund ('IMF') in May and November 2010, respectively, and contagion risk to peripheral countries, notably Italy, Portugal and Spain persisted. Belgium was also

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