Annual Financial Report - 21 of 44

RNS Number : 1464A
HSBC Holdings PLC
27 March 2012
 



Risk

Risk profile1 ..........................................................

98

Managing risk1 ......................................................

98

Top and emerging risks1 ........................................

99

Credit risk3 ............................................................

104

Liquidity and funding2 ............................................

157

Market risk3 ..........................................................

163

Operational risk1 ...................................................

170

Risk management of insurance operations2 ............

171

Other material risks1 .............................................

183

Appendix to Risk ..................................................

188

1  Unaudited.    Audited.    Audited where indicated.

Risk profile

(Unaudited)

Managing our risk profile

·      A strong balance sheet is core to our philosophy.

·      We ensured that our portfolios remain aligned to our risk appetite and strategy.

·      We actively managed our risks, supported by strong forward looking risk identification.

Maintaining capital strength and strong liquidity position

·      Our core tier 1 capital ratio remains strong at 10.1%.

·      We have sustained our strong liquidity position throughout 2011.

·      The ratio of customer advances to deposits remains below 90%.

Strong governance

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

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

·      A new global operating model has been implemented across the global Risk function.

Our top and emerging risks

·      Macro-economic and geopolitical risk.

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

·      Risks related to our business operations, governance and internal control systems.


For details of HSBC's policies and practices regarding risk management and governance
see the Appendix to Risk on page 188.


Managing risk

(Unaudited)

The continued growth in our business in 2011 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.

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 page 233 of the Corporate Governance section.

The diversification of our lending portfolio across the regions, together with our broad range of global businesses and products, ensured that we were not overly dependent on a few countries or markets to generate income and growth in 2011. Our geographical diversification also supported our strategies for growth in faster-growing markets and those with international connectivity.

During 2011 financial markets were dominated by concerns over sovereign debt default risk within the peripheral eurozone countries and the potential for contagion across core European countries. Middle East turmoil and the perception that the world economic recovery remained fragile continued to cause concerns. Within the challenging economic and financial environment, we maintained our conservative risk profile by reducing exposure to the most likely areas of stress. Our top and emerging risk framework supports our approach to forward‑looking risk identification and assists in providing focus on appropriate stress tests required to evaluate the potential impact of emerging scenarios. Where applicable and necessary, we have adjusted our risk appetite.

We continued to selectively manage our exposure to sovereign debt, with the overall quality of the portfolio remaining strong. We regularly updated our assessment of higher risk countries and adjusted our risk appetite and exposures to reflect the updates.

During 2011, credit quality improved in general terms and loan impairment charges and other credit risk provisions declined, most notably in the US reflecting lower lending balances in our consumer finance portfolios, partly offset by increases in new collectively assessed loan impairment allowances in both Latin America and Hong Kong on the back of strong lending growth. On a constant currency basis, our loan impairment charges and other credit risk provisions in 2011 were US$12.1bn, 15% lower than in 2010.


Capital and liquidity

Preserving our strong capital position has long been, and will remain, a key priority for HSBC. We are well equipped to respond to the capital requirements imposed by Basel III, which are discussed further on page 212, and to sustain future growth. We utilise an enterprise-wide approach to testing the sensitivities of our capital plans against a number of scenarios; our approach to scenario stress testing analysis is discussed on page 188.

We continue to maintain a very strong liquidity position and are well positioned for the emerging new regulatory landscape.

Top and emerging risks

(Unaudited)

Details of the top and emerging risks identified through our risk management processes are set out below:

Macro-economic and geopolitical risk

·      Eurozone - risk of sovereign default

·      Eurozone member departing from the currency union

·      Increased geopolitical risk in certain regions

Eurozone - risk of sovereign and counterparty defaults

Exposures to the eurozone have received increasing focus given the continued instability in the area and the potential for contagion from the peripheral to core eurozone countries.

There is an increasing risk of sovereign defaults by the peripheral eurozone countries which would place further pressure on banks within the core European countries that are exposed to these sovereigns. Although our exposure to the peripheral eurozone countries is relatively limited, we are exposed to counterparties in the core European countries which could be affected by any sovereign crisis. Our eurozone exposures are described in more detail on pages 113 to 118.

Potential impact on HSBC

·      Our exposures to European banks may come under stress, heightening the potential for credit and market risk losses, if the sovereign debt crisis in the region increases the need to recapitalise parts of the sector.

·     
Trade and capital flows may contract as a result of banks deleveraging, protectionist measures being introduced in certain markets or the emergence of geopolitical risks, which in turn might curtail profitability.

·      A prolonged period of low interest rates due to policy actions taken to address the eurozone crisis will constrain, through spread compression and low returns on assets, the interest income we earn from investing our excess deposits.

·      In the event of contagion from stress in the peripheral eurozone sovereign and financial sectors, our ability to borrow from other financial institutions or to engage in funding transactions may be adversely affected by market dislocation and tightening liquidity.

·      We have actively managed the risk of sovereign defaults during 2011 by reducing exposures and other measures.

Eurozone member departing from the currency union

The risk of a eurozone member departing from the currency union is a plausible scenario. Should it materialise it would have a significant impact on the entire financial sector and the wider economy. It would crystallise sovereign risks and those to the bank and corporate sectors, and the disruption caused would affect consumer activity.

Potential impact on HSBC

·      We could incur significant losses stemming from the exit of one or more countries from the eurozone and the return to their local currencies.

·      In addition, should such an event happen in a disorderly manner, it could trigger banking defaults in companies with which we do business and have a knock-on effect on the global banking system.

·      In seeking to manage and mitigate this risk, we have prepared and tested detailed operational contingency plans to deal with such a scenario. We are keeping these plans under close review as events develop.

·     


Increased geopolitical risk in certain regions

We are subject to geopolitical risks in the countries in which we operate. During 2011, these were particularly heightened in the Middle East and in certain parts of Asia.

In the Middle East, the 'Arab Spring' has spread across the region, leading to political instability in a number of countries. In Asia, tensions persist in certain areas following leadership and regime changes which pose a threat of instability and potential conflict.

Potential impact on HSBC

·      Our results are subject to the risk of loss from unfavourable political developments, currency fluctuations, social instability and changes in government policies on matters such as expropriation, authorisations, international ownership, interest-rate caps, foreign exchange transferability and tax in the jurisdictions in which we operate. Actual conflict could bring about loss of life amongst our staff and physical damage to our assets.

·      We have increased our monitoring of the geopolitical and macro-economic outlook, in particular in countries where we have material exposures and a physical presence. Our internal credit risk rating of sovereign counterparties takes these factors into account and drives our appetite for conducting business in those countries. Where necessary, we adjust our country limits and exposures to reflect our appetite and mitigate these risks as appropriate.

Macro-prudential, regulatory and legal risks to our business model

·      Regulatory developments affecting our business model and Group profitability

·      Regulatory investigations and requirements relating to conduct of business and financial crime negatively affecting our results and brand

·      Dispute risk

Financial service providers face increasingly stringent and costly regulatory and supervisory requirements, particularly in the areas of capital and liquidity management, conduct of business, operational structures and the integrity of financial services delivery. Increased government intervention and control over financial institutions, together with measures to reduce systemic risk, may significantly alter the competitive landscape. These measures may be introduced as formal requirements in a supra-equivalent manner and to differing timetables across regulatory regimes.

Regulatory developments affecting our business model and Group profitability

There are several key regulatory changes which are likely to have an effect on our activities. These are set out below:

Basel III/CRD IV

Derivatives and central counterparty clearing: measures have been introduced to give effect to the G20 commitments designed to reduce systemic risk and volatility relating to derivatives trading. The G20 agreed that all standardised over-the-counter ('OTC') derivatives were to be exchange traded where appropriate, reported to trade repositories and centrally cleared by the end of 2012. Higher capital requirements under Basel III will be imposed for bilateral (uncleared) transactions to incentivise the use of clearing.

 Quality of capital: The Capital Requirement Directive ('CRD IV') requires a further strengthening and harmonisation of the criteria for eligibility of capital instruments with an emphasis on common equity as the principal component of tier 1 capital.

Capital buffers: CRD IV proposals comprise a capital conservation buffer of 2.5% of RWAs to be built up during periods of economic growth, aimed at ensuring the capacity to absorb losses in stressed periods that may span a number of years, and a countercyclical capital buffer of up to an additional 2.5% to be built up in periods in which credit growth exceeds GDP growth.

Counterparty credit risk: requirements for managing and capitalising counterparty credit risk are to be strengthened. In particular, an additional capital charge for potential losses associated with the deterioration in the creditworthiness of individual counterparties, the capital valuation adjustment, will be introduced.

 Liquidity and funding: a new minimum standard, the liquidity coverage ratio, designed to improve the short-term resilience of a bank's liquidity risk profile, will be introduced after an observation and review period in 2015. To promote resilience by creating incentives for banks to fund their activities with more stable sources of funding, the European Commission will consider proposing a net stable funding


ratio after an observation and review period in 2018.

In addition, the Basel Committee on Banking Supervision will monitor a leverage ratio based on a minimum 3% tier 1 capital ratio over the period beginning in 2013.

UK Independent Commission on Banking: the forthcoming legislation in relation to the report of the Independent Commission on Banking ('ICB') is likely to require us to make major changes to our corporate structure and the business activities we conduct in the UK through our major banking subsidiary, HSBC Bank, arising from:

the likelihood that the retail banking activities currentlycarried out within that entity may have to be spun-off into a ring-fenced retail bank. These changes would take an extended period to implement with a significant effect on costs to both implement the changes and run the ongoing operations as restructured;

the call for banks to hold a specified level of primary loss-absorbing capital ('PLAC') up to 20% of their respective risk-weighted loans and investment assets. Many of the areas which could affect our business are precisely those areas where changes to the proposals appear likely or where consultation is being undertaken by the UK government. The government has indicated that it may modify the recommendations in the report and is proposing to undertake extensive consultation in two stages during 2012;

 introduction of a non-risk based leverage ratio, not as a binding prudential requirement but as an instrument for supervisory review (pillar 2).

Bank levy:legislation in respect of the UK bank levy was enacted on 19 July 2011. A charge of US$570m for the UK bank levy has been recognised in operating expenses in 2011. The UK levy is based on the consolidated balance sheet at the year-end. Bank levies have also been introduced, most notably in France, Germany and South Korea. The overall cost in 2011 was US$587m.

The 'Volcker Rule': while we do not have segregated proprietary trading desks, the so called Volcker Rule proposed under the Dodd-Frank Wall Street Reform & Consumer Protection Act (the 'Dodd-Frank Act') could affect HSBC in North America and across the Group. On 11 October 2011, a proposed rule was published which generated extensive public comment. A number of foreign governments and other bodies have made public submissions to the US authorities on, inter alia, the overall scope and extra-territorial effects of the proposed rule. However, rulemaking to implement the provisions of the Volcker Rule has not been completed.

G-SIBs: the capital impact of being designated a Global systemically important bank ('G‑SIB') is discussed on page 213.

Potential impact on HSBC

·     The proposals relating to capital and liquidity will affect the capital adequacy and liquidity frameworks under which financial institutions operate and result in increased capital and liquidity requirements, although the nature, timing and effect of many of the changes remain unclear. Increases in capital and liquidity requirements could have a material effect on our future financial condition or the results of our operations. There is also the risk of second and third order impacts of regulation which could constrain the flow of credit within the economy.

·     The proposed leverage ratio could cause HSBC, as an institution with a relatively low‑risk portfolio overall, to constrain business activity in areas which are well collateralised or possess sufficient risk mitigants.

·     For a further description of the possible effects of the new Basel III/CRD IV rules on HSBC see page 213. If either the quality or amount of the Group's capital were to fall outside the proposed regulations, we could be required to raise more capital or reduce our level of RWAs to meet the requirements. Such actions and any resulting transactions may not be within our operating plans and may not be conducted on the most favourable terms. This could lead to lower returns on equity and cause some business activities and products to be less profitable and, in some instances, to fail to cover their cost of equity.

·     The proposed changes relating to remuneration, bank levies and other taxes could increase the Group's cost of doing business in the regulatory regimes in which these changes are implemented, reducing future profitability. Proposed changes in regulations such as the rules relating to derivatives and central counterparties regulation, the UK ICB ring-fencing proposals, recovery and resolution plans and the Volcker Rule may affect the manner in which we conduct our activities and structure ourselves, with the potential to both increase the costs of doing business and curtail the types of business we can carry out, with the risk of decreased profitability as a result. Due to the stage of development and implementation of these various regulations, it is not possible to estimate the effect, if any, on our operations.

·     We are closely engaged with the governments and regulators in the countries in which we operate to help ensure that the new requirements are properly thought through and understood so that they can be implemented in an effective manner. We are also ensuring that our capital and liquidity plans take into account the potential effects of the changes. Capital allocation and liquidity management disciplines have been expanded to incorporate future increased capital and liquidity requirements and drive appropriate risk management and mitigating actions.

Regulatory investigations and requirements relating to conduct of business and financial crime negatively affecting our results and brand

Financial service providers are at risk of regulatory sanctions or fines related to conduct of business and financial crime. The incidence of regulatory proceedings and other adversarial proceedings against financial service firms is increasing.

Potential impact on HSBC

·     We are subject to a number of regulatory actions and investigations. See Note 44 on the Financial Statements. It is inherently difficult to predict the outcome of the regulatory proceedings involving our businesses. An unfavourable outcome could have a material adverse effect on our results and brand.

·     In response to this risk, we are progressing a number of initiatives which seek to address the issues identified and enhance our governance and oversight.

Dispute risk

The current economic environment has increased our exposure to actual and potential litigation against the Group. Further details are discussed in Note 44 on the Financial Statements.

Potential impact on HSBC

Dispute risk gives rise to potential financial loss and significant reputational damage which could adversely affect customer and investor confidence.


Risks related to our business operations, governance and internal control systems

·      Challenges to achieving our strategy in a downturn

·      Internet crime and fraud

·      Social media risk

·      Level of change creating operational complexity and heightened operational risk

·      Information security risk

Challenges to achieving our strategy in a downturn

The external environment remains challenging and the structural changes which the financial sector is going through are creating obstacles to the achievement of strategic objectives. This, combined with the prolonged global macroeconomic slowdown, could affect the achievement of our strategic targets for the Group as a whole and our global businesses.

Potential impact on HSBC

·     The downturn may put pressure on our ability to earn returns on equity in excess of our cost of equity while operating within the overall parameters of our risk appetite.

·     Through our strategic initiatives, which have heightened the focus on capital allocation and cost efficiency, we are actively seeking to manage and mitigate this risk.

Internet crime and fraud

We are exposed to potentially fraudulent and criminal activities, in particular from a growing threat from internet crime which could result in the loss of customer data and sensitive information. The threat of external fraud may increase during adverse economic conditions, especially in retail and commercial banking.

We also face breakdowns in processes or procedures and systems failure or unavailability and are subject to the risk of disruption to our business arising from events that are wholly or partially beyond our control, such as internet crime and acts of terrorism.


Potential impact on HSBC

·     Internet crime and fraud may give rise to losses in service to customers and/or economic loss to HSBC. These risks equally apply when we rely on external suppliers or vendors to provide services to us and our customers.

·     We have increased our monitoring and have implemented additional controls such as two-factor authentication to mitigate the possibility of losses from these risks.

Social media risk

The scale and profile of social media networks ('SMN's) have grown both in terms of customer demographic and geographical reach to represent a significant potential reputational risk to our organisation, given that these networks can be used as powerful broadcasting tools with the capability to reach large numbers of people in a very short time frame.

Potential impact on HSBC

·     SMNs can be used to exacerbate the effect of customer complaints and service failures, and provide a means for employees to publicise confidential information. SMNs present significant risks to our reputation and brand.

·     In order to reduce our exposure to these risks, an HSBC presence has been created in several of the larger SMNs in order to provide an official point of contact for our customers and stakeholders. Monitoring has also been implemented in some entities to protect our brand and identity and to understand general sentiment towards us and, in some cases, our specific products and initiatives.

Level of change creating operational complexity and heightened operational risk

There are many drivers of change across HSBC and the banking industry including change driven by new banking regulation, the increased globalisation of the economy and business needs, new products and delivery channels, and organisational change.

Operational complexity has the potential to heighten all types of operational risk across our activities. This includes the risk of process errors, systems failures and fraud. It can also increase operational costs.

The implementation of our strategy, based on the application of our five filters methodology (see page 11), may involve the withdrawal from certain markets, which presents disposal risks which must be carefully managed.

Potential impact on HSBC

·     Critical systems failure and a prolonged loss of service availability could cause serious damage to our ability to serve our clients, breach regulations under which we operate and cause long-term damage to our business, reputation and brand. We seek to ensure that our critical systems infrastructure is constantly monitored and properly resourced to mitigate against systems failures.

·      The potential effects of disposal risks include regulatory breaches, industrial action, loss of key personnel and interruption to systems and processes during business transformation, and they can have both financial and reputational implications. Management actions to manage these risks proactively include a close dialogue with regulators and customers and the involvement of HR, legal, compliance and other functional experts.

Information security risk

The reliability and security of our information and technology infrastructure and customer databases and their ability to combat internet fraud are crucial to maintaining our banking applications and processes and to protecting the HSBC brand.

Potential impact on HSBC

·     These risks give rise to potential financial loss and reputational damage which could adversely affect customer and investor confidence. Loss of customer data would also result in regulatory breaches which would result in fines and penalties being incurred.

·     We have invested significantly in addressing this risk through increased training to raise staff awareness of the requirements, enhanced controls around data access and heightened monitoring of information flows.



Credit risk

Credit risk in 2011 ................................................

104

Credit exposure .....................................................

105

Areas of special interest ........................................

112

Wholesale lending ..............................................

112

Personal lending ...............................................

119

US personal lending ..........................................

124

Credit quality of financial instruments ...................

126

Past due but not impaired gross financial
instruments
....................................................

128

Renegotiated loans and forbearance .................

129

Impaired loans disclosure ..................................

133

Impairment of loans and advances .........................

134

Collateral ..............................................................

144

Securitisation exposures and other structured products .............................................................

149

 

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 guarantees and derivatives, and from the Group's holdings of debt and other securities. Credit risk generates the largest regulatory capital requirement of the risks we incur.

 

·      Total gross loans and advances decreased by 2% to US$1,139bn reflecting the reclassification of assets to held for sale.

·      Balance sheet exposure to the sovereign and agency debt of Greece, Ireland, Italy, Portugal and Spain was US$4.7bn at 31 December 2011.

 

We have amended our presentation of impaired loans as described on page 133. Other than that, there were no material changes to our policies and practices for the management of credit risk in 2011.

 


A summary of our current policies and practices regarding credit risk is provided in the Appendix to Risk on page 188.

 


Credit risk in 2011

(Unaudited)

Exposure, impairment allowances and charges

(Audited)


        2011


        2010


    US$bn


      US$bn

At 31 December




Total gross loans and advances (A) .........................................

1,139.1


   1,186.9

Impairment allowances ..............

17.6


        20.2

- as a percentage of A ............

1.55%


     1.70%





Year ended 31 December




Impairment charges1 ..................

11.5


13.5

For footnote, see page 185.

Loan impairment charges and other credit risk provisions

(Audited)


        2011


        2010


     US$m


      US$m





At 31 December ........................

12,127


     14,039






            %


             %

Personal ....................................

77


80

Corporate and commercial .........

17


16

Financial ....................................

1


1

Impairment of available-for-sale debt securities .........................

5


3

of which: Greek Government..

2


-










100


100

In 2011, loans and advances to customers continued to represent the Group's most significant exposure to credit risk. At 31 December 2011, total gross loans and advances were US$1,139bn, a decrease of 2% on a constant currency basis compared with 31 December 2010. The decline reflected the reclassification to assets held for sale of balances relating to the pending sale of our US Card and Retail Services business and 195 branches in upstate New York. For further detail on assets held for sale see page 105.

During 2011, we reduced our exposure to sovereigns and banks in the peripheral European countries. We also reduced our exposure to risk from sovereign and financial institution counterparty positions across the broader eurozone and from specific financial institutions in other countries. At 31 December 2011, our on-balance sheet exposure to the sovereign and agency debt of Greece, Ireland, Italy, Portugal and Spain was US$4.7bn. In 2011, we recognised an impairment charge of US$212m in respect of Greek sovereign and agency exposures classified as available for sale. Our sovereign exposures to Ireland, Italy, Portugal, and Spain are not considered to be impaired at 31 December 2011.


On a constant currency basis, our personal lending book was US$394bn, 6% lower than at 31 December 2010 following the reclassification referred to above. Excluding the reclassification, total personal lending grew, primarily in the UK due to growth in mortgage balances, driven by successful marketing campaigns, and also in Hong Kong, as we continued to provide competitive mortgage products for our customers, partly offset by the continued run-off of the CML portfolio in the US.

At US$279bn, residential mortgage lending continued to comprise the Group's largest concentration in a single exposure type at 31 December 2011. The Group's most significant exposure to mortgage lending was in the UK, the US and Hong Kong. Our UK mortgage portfolio remained of high quality with an average loan to value ('LTV') ratio for new business of 53%, while in Hong Kong the average LTV ratio on new mortgage originations was 49%. The average LTV ratio of our mortgage books in the UK and Hong Kong remained low at 52% and 37%, respectively.

The Group's exposure to personal lending in the US remained significant. At 31 December 2011, total personal lending balances were US$67bn, a decline of 39% compared with 31 December 2010, largely due to the reclassification of certain lending balances to held for sale. In 2011, we continued to make progress in running off the CML portfolio as balances declined by 15% to US$49.5bn. The rate at which balances declined during 2011 was slowed by the industry-wide examination of foreclosure practices.

In dollar terms, lending balances that were two months or more delinquent in the CML portfolio decreased modestly in 2011 reflecting the continued run-off, partly offset by the temporary suspension of foreclosure activities. In our held-for-sale Card and Retail Services portfolio, two months or more delinquency rates improved as the credit quality of the overall portfolio improved.

In 2011, we conducted a review of loan portfolios with significant levels of forbearance. The review resulted in no significant change in our loan impairment allowances, though we amended our presentation of impaired loans to provide more relevant information on the effects of forbearance on the credit risk of loans and advances (see page 133). Our balance of impaired loans increased significantly under the revised presentation, reducing the ratio of total impairment allowances to impaired loans. On a restated basis, this ratio was 42.3% (2010: 43% instead of 71.6% under the previous presentation).

Reclassification to assets held for sale

During 2011, the decline in gross loans and advances was partly due to a reclassification of certain lending balances to assets held for sale. Disclosures relating to assets held for sale are provided in certain credit risk management tables, primarily where the disclosure is relevant to the measurement of these financial assets, as follows:

·     Maximum exposure to credit risk (page 107);

·     Distribution of financial instruments by credit quality (page 127); and

·     Ageing analysis of days past due but not impaired gross financial instruments (page 129).

Although gross loans and advances and related impairment allowances are reclassified from 'Loans and advances to customers' and 'Loans and advances to banks' in the balance sheet, there is no equivalent income statement reclassification. As a result, charges for loan impairment losses shown in the credit risk disclosures include loan impairment charges relating to financial assets classified as assets held for sale.

The table below presents 'Loans and advances to customers' and 'Loans and advances to banks' as reported, and those classified as held for sale:

Reported and held-for-sale loans


At 31 December 2011


Total gross    loans and     advances


Impairment

  allowances

     on loans and

    advances


US$m


US$m





As reported .........................

1,139,052


17,636

Assets held for sale ..............

37,273


1,614





Total reported and held
for sale ............................

1,176,325


19,250

2010 comparative data have not been separately presented for the credit risk management disclosures as the amounts are insignificant.

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 2011, our exposure to credit risk remained well diversified across asset classes. During the year, we reduced our exposure to the peripheral eurozone countries and to countries across the broader European economic area, in particular by transferring our excess liquidity away from sovereign and bank-issued debt securities and from money market placements with banks to placements with central banks in the most highly-rated countries. Despite this, we increased our overall exposure to credit risk in 2011.

'Maximum exposure to credit risk' table (page 107)

The table presents our 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 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.

Loans and advances to customers represent our largest exposure to credit risk; however, this balance reduced at the end of 2011, compared with the end of 2010 as certain lending balances were reclassified as 'Assets held for sale'. We were able to successfully grow our residential mortgage portfolios in many other markets, notably in Hong Kong and the UK where credit quality remained high and LTV ratios were low.

Our exposure to loans and advances to banks decreased in 2011, mainly in Europe as funds from maturing term loans and reverse repo balances were redeployed to 'Cash and balances at central banks'. This was offset in part by higher central bank lending in Rest of Asia-Pacific, reflecting strong deposit growth in the region. Our net exposure to loans and advances to banks also decreased.

The loans and advances offset adjustment 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 increased our exposure to cash and balances at central banks in 2011, as discussed above, reflecting the placement of excess liquidity with central banks in Europe and North America.

Our exposure to derivatives increased in 2011, mainly in Europe reflecting an increase in the fair value of interest rate contracts. This was compounded by an increase in the notional value of outstanding contracts, partly offset by higher netting which rose in line with the increase in fair values. Despite the increase in maximum exposure, our net exposure to derivatives in 2011 decreased due to a rise in the derivative offset.

The derivative offset amount in the table on page 107 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 2011, the total amount of such offsets was US$306bn (2010: US$198bn), of which US$272bn (2010: US$178bn) were offsets under a master netting arrangement, US$33.0bn (2010: US$19.1bn) were collateral received in cash and US$0.7bn (2010: US$0.2bn) 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.

During 2011, we decreased our exposure to trading assets. This reflected a reduction in our holdings of government and highly-rated corporate debt securities and equity positions, notably in Europe. In addition, our reverse repo exposure declined in North America as we did not replace maturities.

In 2011, our loss experience continued to be dominated by the personal lending portfolios, with some 77% of our loan impairment charges related to this lending category of which 56% was related to US personal lending. This compared with 80% in 2010, of which 57% was related to US personal lending.

While not considered as offset in the table below, other arrangements including short positions in securities and financial assets held as part of linked insurance/investment contracts where the risk is predominately borne by the policyholder, reduce our maximum exposure to credit risk. In addition, we hold collateral in respect of individual loans and advances (see page 144).



(Audited)


At 31 December 2011


At 31 December 2010


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 ...............

129,902


-


129,902


57,383


-


57,383

Items in the course of collection from other
banks .......................................................

8,208


-


8,208


6,072


-


6,072

Hong Kong Government certificates of indebtedness .............................................

20,922


-


20,922


19,057


-


19,057











Trading assets ..............................................

309,449


(4,656)


304,793


343,966


(4,189)


339,777

Treasury and other eligible bills ................

34,309


-


34,309


25,620


-


25,620

Debt securities .........................................

130,487


-


130,487


168,268


-


168,268

Loans and advances to banks ...................

75,525


-


75,525


70,456


-


70,456

Loans and advances to customers .............

69,128


(4,656)


64,472


79,622


(4,189)


75,433











Financial assets designated at fair value ........

12,926


-


12,926


19,593


-


19,593

Treasury and other eligible bills ................

123


-


123


159


-


159

Debt securities .........................................

11,834


-


11,834


18,248


-


18,248

Loans and advances to banks ...................

119


-


119


315


-


315

Loans and advances to customers .............

850


-


850


871


-


871











Derivatives ..................................................

346,379


(305,616)


40,763


260,757


(197,501)


63,256











Loans and advances held at amortised cost ..

1,121,416


(87,978)


1,033,438


1,166,637


(91,966)


1,074,671

- to banks ................................................

180,987


(3,066)


177,921


208,271


(3,099)


205,172

- to customers .........................................

940,429


(84,912)


855,517


958,366


(88,867)


869,499











Financial investments ..................................

392,834


-


392,834


392,772


-


392,772

Treasury and other similar bills ................

65,223


-


65,223


57,129


-


57,129

Debt securities .........................................

327,611


-


327,611


335,643


-


335,643











Assets held for sale2 .....................................

37,808


(204)


37,604


-


-


-

- disposal groups ......................................

37,746


(204)


37,542


-


-


-

- non-current assets held for sale .............

62


-


62


-


-


-













Other assets .................................................

32,992


-


32,992


30,371


(29)


30,342

Endorsements and acceptances ................

11,010


-


11,010


10,116


(29)


10,087

Other .......................................................

21,982


-


21,982


20,255


-


20,255











Financial guarantees and similar contracts ...

39,324


-


39,324


49,436


-


49,436

Loan and other credit-related commitments3

654,904


-


654,904


602,513


-


602,513












3,107,064


(398,454)


2,708,610


2,948,557


(293,685)


2,654,872

For footnotes, see page 185.



Concentration of exposure


Concentrations of credit risk are described in the Appendix to Risk on page 188.

Securities held for trading

(Unaudited)

Total securities held for trading within trading assets were US$186bn at 31 December 2011 (2010: US$235bn). The largest concentration of these assets was to government and government agency debt securities. A detailed analysis of securities held for trading is provided in Note 15 on the Financial Statements and an analysis of credit quality on page 127.

Debt securities, treasury and other eligible bills

(Unaudited)

Our holdings of corporate debt, ABSs and other securities were spread across a wide range of issuers and geographical regions, with 17% invested in securities issued by banks and other financial institutions. A detailed analysis of financial investments is provided in Note 21 on the Financial Statements and an analysis by credit quality on page 127.

At 31 December 2011, our insurance businesses held diversified portfolios of debt and equity securities designated at fair value of US$28.9bn (2010: US$28.3bn) and debt securities classified as financial investments of US$40.1bn (2010: US$38.5bn). For an analysis of securities held by the insurance businesses, see page 178.

Derivatives

(Unaudited)

Derivative assets were US$346bn at 31 December 2011 (2010: US$261bn), of which the largest concentrations were interest rate and foreign exchange derivatives. For an analysis of derivatives, see Note 20 on the Financial Statements.

Loans and advances

(Unaudited)

On a reported basis, gross loans and advances to customers (excluding the financial sector) at 31 December 2011 were US$872bn, a decrease of US$5.0bn or 1% from 31 December 2010.

Summary of gross loans and advances to customers

(Unaudited)

 

The following commentary is on a constant currency basis:

Personal lending balances of US$394bn in 2011 were 6% lower than at 31 December 2010 following the reclassification of balances to held for sale, and the continued run-off of the CML portfolio, partly offset by growth in residential mortgage lending in the UK and Hong Kong. For more information on Personal lending, see 'Areas of special interest - personal lending' on page 119.

Corporate and commercial lending was 49% of gross lending to customers at 31 December 2011, representing our largest lending category. International trade and services was the biggest portion of this category, increasing by 6% compared with 31 December 2010 following economic growth, particularly in Asia. Commercial real estate lending, which represented 8% of total gross lending to customers, increased by 4% in 2011, as the demand for funds in property investment and development remained strong in Hong Kong and certain countries in the Rest of Asia-Pacific region.

In the financial category, our largest exposure was to non-bank financial institutions which decreased by 13% to US$85.3bn; this was mainly in North America and related to lower reverse repos as we increased our placements of excess liquidity with central banks.

Loans and advances to banks were widely distributed across many countries in 2011 and decreased by 11% as funds from maturing term loans and reverse repo balances were redeployed into central banks, mainly in Europe.

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)


2011


Currency        effect


       Move-
        ment


2010


2009


2008


2007


US$m


US$m


US$m


US$m


US$m


US$m


US$m















Personal .........................................

393,625


(4,735)


(26,960)


425,320


434,206


440,227


500,834

Residential mortgages4 ................

278,963


(1,825)


12,107


268,681


260,669


243,337


269,068

Other personal5 ...........................

114,662


(2,910)


(39,067)


156,639


173,537


196,890


231,766















Corporate and commercial ..............

472,816


(6,329)


33,633


445,512


383,090


407,474


400,771

Manufacturing6 ...........................

96,054


(1,765)


6,698


91,121


80,487


81,103


72,895

International trade and services6 .

152,709


(2,074)


8,210


146,573


115,641


128,737


129,143

Commercial real estate ................

73,941


(598)


2,659


71,880


69,389


70,969


72,345

Other property-related ................

39,539


(245)


4,946


34,838


30,520


30,739


33,907

Government ................................

11,079


(258)


2,743


8,594


6,689


6,544


5,708

Other commercial7 ......................

99,494


(1,389)


8,377


92,506


80,364


89,382


86,773















Financial .........................................

86,219


(1,874)


(13,632)


101,725


96,650


101,085


99,148

Non-bank financial institutions ...

85,275


(1,818)


(13,070)


100,163


95,237


99,536


96,781

Settlement accounts ....................

944


(56)


(562)


1,562


1,413


1,549


2,367















Asset-backed securities reclassified ..

5,280


(14)


(598)


5,892


7,827


7,991


-















Total gross loans and advances to customers ('TGLAC') .................

957,940


(12,952)


(7,557)


978,449


921,773


956,777


1,000,753















Gross loans and advances to banks ..

181,112


(5,669)


(21,648)


208,429


179,888


153,829


237,373















Total gross loans and advances .......

1,139,052


(18,621)


(29,205)


1,186,878


1,101,661


1,110,606


1,238,126















Impaired loans and advances to customers8...............................

41,584


(575)


(4,712)


46,871


30,606


25,352


19,582

- as a percentage of TGLAC ......

        4.3%






         4.8%


         3.3%


         2.6%


         2.0%















Impairment allowances on loans and
advances to customers .................

17,511


(396)


(2,176)


20,083


25,542


23,909


19,205

- as a percentage of TGLAC ......

        1.8%






         2.1%


         2.8%


         2.5%


         1.9%















Charge for impairment losses ..........

11,505


185


(2,228)


13,548


24,942


24,131


17,177

New allowances net of allowance releases ...................................

12,931


210


(1,847)


14,568


25,832


24,965


18,182

Recoveries ..................................

(1,426)


(25)


(381)


(1,020)


(890)


(834)


(1,005)

For footnotes, see page 185.


Movements in the above table attributed to the reclassification of certain loans and advances to held for sale were: US$33.2bn of other personal lending, US$1.3bn of residential mortgages, US$1.3bn of


manufacturing international trade and services, and US$0.4bn of commercial real estate, US$0.5bn of loans and advances to banks and US$0.6bn related to other industry sectors.


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

(Audited)


  Europe


     Hong

     Kong


  Rest of
     Asia-

   Pacific


    MENA


    North America


     Latin America


       Total

       As a %

      of total

         gross


    US$m


    US$m


    US$m


    US$m


    US$m


    US$m


US$m


        loans

At 31 December 2011
















Personal .......................................

166,147


63,181


43,580


5,269


95,336


20,112


393,625


          41.1

Residential mortgages4...............

119,902


46,817


32,136


1,837


73,278


4,993


278,963


          29.1

Other personal5 ........................

46,245


16,364


11,444


3,432


22,058


15,119


114,662


          12.0

















Corporate and commercial ...........

204,984


91,592


77,887


21,152


41,271


35,930


472,816


          49.3

Manufacturing6 .........................

45,632


9,004


16,909


3,517


7,888


13,104


96,054


          10.0

International trade and services6 ..............................................

64,604


29,066


29,605


8,664


10,710


10,060


152,709


          15.9

Commercial real estate .............

32,099


20,828


9,537


1,002


7,069


3,406


73,941


            7.7

Other property-related .............

7,595


17,367


6,396


1,770


5,729


682


39,539


            4.1

Government .............................

3,143


2,918


962


1,563


656


1,837


11,079


            1.2

Other commercial7 ...................

51,911


12,409


14,478


4,636


9,219


6,841


99,494


          10.4

















Financial ......................................

63,671


3,473


3,183


1,168


12,817


1,907


86,219


            9.0

Non-bank financial institutions .

63,313


3,192


2,937


1,162


12,817


1,854


85,275


            8.9

Settlement accounts ..................

358


281


246


6


-


53


944


            0.1

















Asset-backed securities reclassified

4,776


-


-


-


504


-


5,280


            0.6

















TGLAC ........................................

439,578


158,246


124,650


27,589


149,928


57,949


957,940


        100.0

















Percentage of TGLAC by
geographical region ...................

    45.9%


    16.5%


    13.0%


      2.9%


    15.7%


      6.0%


   100.0%



















Impaired loans8 ............................

11,751


604


1,069


2,425


22,696


3,039


41,584



- as a percentage of TGLAC ....

      2.7%


      0.4%


      0.9%


      8.8%


    15.1%


      5.2%


       4.3%



















Total impairment allowances .......

5,242


581


782


1,714


7,181


2,011


17,511



- as a percentage of TGLAC ....

      1.2%


      0.4%


      0.6%


      6.2%


      4.8%


      3.5%


       1.8%



















At 31 December 2010
















Personal .......................................

161,717


57,308


40,184


5,371


139,117


21,623


425,320


          43.4

Residential mortgages4 ..............

111,618


42,488


28,724


1,751


78,842


5,258


268,681


          27.4

Other personal5 ........................

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

Manufacturing6 .........................

46,890


8,171


15,050


3,074


5,748


12,188


91,121


            9.3

International trade and services6 ..............................................

65,090


25,280


26,224


8,099


10,989


10,891


146,573


          15.0

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 commercial7 ...................

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

















TGLAC ........................................

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 loans8 ............................

11,394


660


1,324


2,529


27,840


3,124


46,871



- as a percentage of TGLAC ....

      2.6%


      0.5%


      1.2%


      9.6%


    13.9%


      5.2%


        4.8%



















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%



For footnotes, see page 185.


Loans and advances to banks by geographical region

(Audited)


  Europe


     Hong

     Kong


  Rest of
     Asia-

   Pacific


    MENA


    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 20119 ......

54,406


35,159


47,309


8,571


14,831


20,836


181,112


(125)

At 31 December 201010 ......

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)

For footnote, see page 185.

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 2011










Europe ....................................................

119,902


46,245


39,694


233,737


439,578

UK ..........................................................

111,224


22,218


29,191


160,236


322,869

France .....................................................

3,353


9,305


8,160


49,572


70,390

Germany ..................................................

10


343


112


4,518


4,983

Malta .......................................................

1,708


567


520


1,591


4,386

Switzerland ..............................................

1,803


10,684


156


1,918


14,561

Turkey ....................................................

767


2,797


255


3,652


7,471

Other .......................................................

1,037


331


1,300


12,250


14,918











Hong Kong ............................................

46,817

 

16,364


38,195


56,870


158,246











Rest of Asia-Pacific ..............................

32,136


11,444


15,933


65,137


124,650

Australia ..................................................

9,251

 

1,327


2,357


6,073


19,008

India ........................................................

830


461


809


3,914


6,014

Indonesia .................................................

81


463


97


4,577


5,218

Mainland China .......................................

2,769


317


5,078


15,665


23,829

Malaysia ..................................................

4,329


2,166


1,351


5,898


13,744

Singapore .................................................

7,919


4,108


3,690


9,433


25,150

Taiwan ....................................................

3,062


550


139


4,555


8,306

Vietnam ...................................................

42


184


42


1,397


1,665

Other .......................................................

3,853


1,868


2,370


13,625


21,716











Middle East and North Africa
(excluding Saudi Arabia) .......................

1,837


3,432


2,772


19,548


27,589

Egypt ......................................................

2


441


100


2,775


3,318

Qatar .......................................................

9


445


354


1,098


1,906

UAE ........................................................

1,520


1,882


1,464


12,070


16,936

Other .......................................................

306


664


854


3,605


5,429











North America ......................................

73,278


22,058


12,798


41,794


149,928

US ...........................................................

52,484


14,087


7,850


27,307


101,728

Canada .....................................................

19,045


7,518


4,391


13,600


44,554

Bermuda ..................................................

1,749


453


557


887


3,646











Latin America .......................................

4,993


15,119


4,088


33,749

 

57,949

Argentina ................................................

32


1,379


114


2,331

 

3,856

Brazil .......................................................

1,657


9,802

 

1,660


18,638

 

31,757

Mexico ....................................................

1,847


2,261

 

1,284


8,210

 

13,602

Panama ...................................................

1,240


1,014


923


2,537


5,714

Other .......................................................

217


663


107


2,033


3,020





















Total .......................................................

278,963


114,662


113,480


450,835


957,940

 


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 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

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

Taiwan ....................................................

3,002


527


135


2,832


6,496

Vietnam ...................................................

35


162


59


1,255


1,511

Other .......................................................

3,838


2,423


2,364


12,814


21,439











Middle East and North Africa
(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

UAE ........................................................

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

 


Areas of special interest

Wholesale lending

(Unaudited)

Wholesale lending covers the range of credit facilities granted to sovereign borrowers, banks, non‑bank financial institutions, corporate entities and commercial borrowers. Our wholesale portfolios are well diversified across geographical and industry sectors, with certain exposures subject to specific portfolio controls.

During the year, we continued to reduce our sovereign and financial institution counterparty credit risk positions in peripheral eurozone countries. We also reduced our exposure to risk from financial institution counterparty positions across the broader eurozone and from specific financial institutions in other countries. This process was particularly focused on our surplus liquidity, which resulted in significant placements directly with central banks in the most highly rated countries.

We actively sought to identify those counterparties domiciled in core European countries that had exposures to sovereigns and/or banks in peripheral eurozone countries of sufficient size to threaten their on-going viability in the event of an unfavourable conclusion to the current crisis.

This was undertaken through the analysis of publicly available information, reviews of external analyst reports and meetings with the counterparties'


This information is provided by RNS
The company news service from the London Stock Exchange
 
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