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HSBC UK Bank PLC (32BG)

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Tuesday 23 February, 2021

HSBC UK Bank PLC

Pillar 3 Disclosures

RNS Number : 0266Q
HSBC UK Bank PLC
23 February 2021
 

 

HSBC UK Bank plc

Pillar 3 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


 

Contents


Page

Introduction


Key metrics

4

Pillar 3 disclosures

5

Regulatory developments

6

Risk management

7

Linkage to the Annual Report and Accounts 2020

9

Capital and Leverage

11

Capital management

11

Overview of regulatory capital framework

11

Leverage ratio

15

Pillar 1

16

Pillar 2 and ICAAP

17

Credit risk

17

Counterparty credit risk

49

Securitisation

52

Market risk

55

Non-financial risk

55

Other risks

55

Remuneration

56

 

Appendices




Page

I

Abbreviations

58

II

Countercyclical capital buffer

59

 

 


 

Presentation of information

This document comprises the 2020 Pillar 3 disclosures for HSBC UK Bank plc ('the bank') and its subsidiaries (together 'HSBC UK' or 'the group'). 'We', 'us' and 'our' refer to HSBC UK Bank plc together with its subsidiaries. References to 'HSBC Group' or 'the Group' within this document mean HSBC Holdings plc together with its subsidiaries.

When used in the terms 'shareholders' equity' and 'total shareholders' equity', 'shareholders' means holders of HSBC UK ordinary shares and capital securities issued by HSBC UK classified as equity.

The abbreviations '£m' and '£bn' represent millions and billions (thousands of millions) of GB pounds respectively.

 

 

 



 

Tables



Ref

Page

1

Key metrics (KM1/IFRS9-FL)

a


2

Reconciliation of capital with and without IFRS 9 transitional arrangements applied


5

3

Pillar 1 overview

b

5

4

RWAs by global business

b

5

5

Reconciliation of balance sheets - financial accounting to regulatory scope of consolidation


10

6

Outline of the differences in the scopes of consolidation (entity by entity) (LI3)

 


11

7

Own funds disclosure


14

8

Summary reconciliation of accounting assets and leverage ratio exposures (LRSum)

b

15

9

Leverage ratio common disclosure (LRCom)

b

15

10

Leverage ratio - Split of on-balance sheet exposures (excluding derivatives, SFTs and exempted exposures) (LRSpl)

b

16

11

UK Leverage ratio


16

12

Overview of RWAs (OV1)

b

18

13

Credit risk exposure - summary (CRB-B)

a

18

14

Credit quality of exposures by exposure classes and instruments (CR1-A)


19

15

Credit quality of exposures by industry or counterparty types (CR1-B)


18

16

Credit quality of exposures by geography (CR1-C)


21

17

Amount of past due, impaired exposures and related allowances by industry sector and by geographical region


21

18

Movement in specific credit risk adjustments by industry sector and by geographical region


21

19

IRB expected loss and CRA - by exposure class and by region

b

22

20

Changes in stock of general and specific credit risk adjustments (CR2-A)


23

21

Changes in stock of defaulted loans and debt securities (CR2-B)


23

22

Standardised approach - credit conversion factor ('CCF') and credit risk mitigation ('CRM') effects (CR4)

b

25

23

Credit risk mitigation techniques - IRB and Standardised (CR3)

b

26

24

Asset encumbrance A - Assets¹


25 


25

Asset encumbrance B - Collateral received¹


25 


26

Asset encumbrance C - Encumbered assets/collateral received and associated liabilities¹


28

27

Credit quality of forborne exposures


28

28

Credit quality of performing and non-performing exposures by past due days


29

29

Collateral obtained by taking possession and execution processes


28 


30

Performing and non-performing exposures and related provisions


29

31

Geographical breakdown of exposures (CRB-C)


32

32

Concentration of exposures by industry or counterparty types (CRB-D)


33

33

Maturity of on-balance sheet exposures


35

34

Wholesale IRB credit risk models


38

35

IRB models - estimated and actual values (wholesale)


38

36

Wholesale IRB exposure - by obligor grade


39

37

PD, LGD, RWA and exposure by country/territory


37

38

IRB Advanced - Credit risk exposures by portfolio and PD range (CR6)


41

39

IRB Foundation - Credit risk exposures by portfolio and PD range (CR6)


43

40

Specialised lending on slotting approach (CR10)


43

41

Standardised exposure - by credit quality step

b

44

42

Material retail IRB risk rating systems


42 


43

IRB models - estimated and actual values (retail)


46

44

Retail IRB exposure - by internal PD band


44 


45

IRB - Credit risk exposures by portfolio and PD range (CR6)


49

46

Counterparty credit risk - RWAs by exposure class and product


50

47

Impact of netting and collateral held on exposure values (CCR5-A)


50

48

Securitisation exposure - movement in the year


53

49

Securitisation - asset values and impairments


53

50

Securitisation exposures in the non-trading book (SEC1)


53

51

Securitisation exposures in the non-trading book and associated capital requirements - bank acting as originator (under the new framework) (SEC3)


50 


52

Securitisation exposures in the non-trading book and associated capital requirements - bank acting as investor (under the pre-existing framework) (SEC4)¹


50 


53

Market risk under standardised approach (MR1)

 


55

54

Operational risk RWAs and capital required


55

55

Senior management remuneration - fixed and variable amounts (REM1)


56

56

Senior management guaranteed bonus, sign-on and severance payments (REM2)


56

57

Senior management deferred remuneration (REM3)


53 


58

Material risk takers' remuneration by band


53 


 

HSBC UK has adopted the European Union's ('EU') regulatory transitional arrangements for International Financial Reporting Standard ('IFRS') 9 Financial instruments. A number of the tables in this document report under this arrangement, as follows:

a.  Some figures, indicated with ^, have been prepared on an IFRS 9 transitional basis.

b.  All figures within this table have been prepared on an IFRS 9 transitional basis.

All other tables report on the basis of full adoption of IFRS 9.


 


 

Highlights

 


Common equity tier 1 ('CET1') ratio further strengthened during 2020 to 15.2% driven by an increase in capital due to the add-back of loan loss allowances recognised on the non-credit-impaired book as per IFRS9 transitional rules, a decrease in excess expected loss deduction and changes to the capital treatment of software assets.

 


Common equity tier 1: £13.0bn and 15.2%

 


CET1 (£bn)

____

CET1%

 

 

Risk-weighted assets % by global business £85.5bn

 


Commercial Banking


Corporate Centre


Global Banking and Markets


Wealth and Personal Banking


Common equity tier 1 ratio movement, %

 



 

Key metrics

Table 1: Key metrics (KM1/IFRS9-FL)




At 31 December



Footnotes

2020

2019

Ref*

Available capital (£m)

1



1

Common equity tier 1 capital

^

12,963 


11,202 


2

CET1 capital as if IFRS 9 transitional arrangements had not been applied


11,856 


11,186 


3

Tier 1 capital

^

15,197 


13,453 


4

Tier 1 capital as if IFRS 9 transitional arrangements had not been applied


14,091 


13,437 


5

Total regulatory capital

^

18,171 


16,462 


6

Total capital as if IFRS 9 transitional arrangements had not been applied


17,505 


16,446 



Risk-weighted assets ('RWAs') (£m)




7

Total RWAs

^

85,477 


85,881 


8

Total RWAs as if IFRS 9 transitional arrangements had not been applied


85,530 


85,866 



Capital ratios (%)

1



9

CET1

^

15.2

13.0

10

CET1 as if IFRS 9 transitional arrangements had not been applied


13.9

13.0

11

Total Tier 1

^

17.8

15.7

12

Tier 1 as if IFRS 9 transitional arrangements had not been applied


16.5

15.6

13

Total capital

^

21.3

19.2

14

Total capital as if IFRS 9 transitional arrangements had not been applied


20.5

19.1


Additional CET1 buffer requirements as a percentage of RWA (%)

 

 





Capital conservation buffer requirement


2.50 


2.50 



Countercyclical buffer requirement


0.00 


0.97 



Other Systemically Important Institutions ('O-SII') buffer requirement

1

1.00 


1.00 



Total of bank CET1 specific buffer requirements


3.50 


4.47 



Total capital requirement (%)

2




Total capital requirement (Pillar 1 + Pillar 2A)


12.5

12.2


CET1 available after meeting the bank's minimum capital requirements


8.1

6.2


Leverage ratio

3



15

Total leverage ratio exposure measure (£m)


317,196

268,271

16

Leverage ratio (%)

^

4.8

5.0

17

Leverage ratio as if IFRS 9 transitional arrangements had not been applied (%)


4.5

5.0

*  The references in this and subsequent tables identify the lines prescribed in the European Banking Authority ('EBA') templates where applicable and where there is a value.

^  Figures have been prepared on an IFRS 9 transitional basis.

1  The PRA re-designated ring-fenced banks buffers from Systemic Risk Buffer ('SyRB') into Other Systemically Important Institutions ('O-SII')  buffer in December 2020 .

Total capital requirement is defined as the sum of Pillar 1 and Pillar 2A capital requirements set by the Prudential Regulation Authority ('PRA'). Our Pillar 2A requirement at 31 December 2020, as per the PRA's Individual Capital Guidance based on a point in time assessment, was 4.51% of RWAs, of which 2.53% was met by CET1.

3  The leverage ratio is calculated using the Revised Capital Requirements Regulation and Directive as implemented ('CRR II') end point basis for capital.


We have adopted the regulatory transitional arrangements for IFRS 9 'Financial Instruments', including paragraph four within Article 473a of the Capital Requirements Regulation, published by the EU on 27 December 2017. These transitional arrangements permit banks to add back to their capital base a proportion of the impact that IFRS 9 has upon their loan loss allowances during the first five years of use. The impact of IFRS 9 on loan loss allowances is defined as:

the increase in loan loss allowances on day one of IFRS 9 adoption; and

any subsequent increase in expected credit losses ('ECL') in the non-credit-impaired book thereafter.

Any add-back must be tax affected and accompanied by a recalculation of capital deduction thresholds, exposure and RWAs. The impact is calculated separately for portfolios using the standardised ('STD') and internal-ratings based ('IRB') approaches.

For IRB portfolios, there is no add-back to capital unless loan loss allowances exceed regulatory 12-month expected losses.

The EU's CRR 'Quick Fix' relief package enacted in June 2020 increased from 70% to 100% the relief that banks may take for loan loss allowances recognised since 1 January 2020 on the
non-credit-impaired book. This relief will reduce to 75% in 2022, 50% in 2023, and 25% in 2024.

In the current period (31 December 2020), the add-back to the capital base amounted to £1,074m under the IRB approach and £32m under the STD approach.

At 31 December 2019, the add-back to the capital base was nil under the IRB approach and £16m under the STD approach.

Where applicable, our reporting throughout this document also reflects government relief schemes intended to mitigate the impact of the Covid-19 outbreak.


Table 2: Reconciliation of capital with and without IFRS 9 transitional arrangements applied


CET1

T1

Total
own funds


£m

£m

£m

Reported balance using IFRS 9 transitional arrangements

12,963 


15,197 


18,171 


ECL reversed under transitional arrangements for IFRS 9

1,106 


1,106 


666 


-  Standardised approach

32 


32 


18 


-  IRB approach

1,074 


1,074 


648 


Reported balance excluding IFRS 9 transitional arrangements at 31 December 2020

11,857 


14,091 


17,505 






Reported balance using IFRS 9 transitional arrangements

11,202 


13,453 


16,462 


ECL reversed under transitional arrangements for IFRS 9

16 


16 


16 


-  Standardised approach

16 


16 


16 


-  IRB approach




Reported balance excluding IFRS 9 transitional arrangements at 31 December 2019

11,186 


13,437 


16,446 


 

Table 3: Pillar 1 overview


At 31 December 2020

At 31 December 2019


RWAs

Capital

required1

RWAs

Capital

required1


£m

£m

£m

£m

Credit risk 

74,690 


5,975 


75,353 


6,028 


Counterparty credit risk 

122 


10 


198 


16 


Market risk 

156 


12 


27 



Operational risk 

10,509 


841 


10,303 


824 


Total

85,477 


6,838 


85,881 


6,870 


1  'Capital required', here and in all tables where the term is used, represents the minimum total capital charge set at 8% of RWAs by article 92 of the Capital Requirements Regulation.

Table 4: RWAs by global business1


At 31 December 2020

At 31 December 2019


RWAs

Capital
required

RWAs

Capital
required


£m

£m

£m

£m

Wealth and Personal Banking ('WPB')

25,061 


2,005 


23,860 


1,909 


Commercial Banking ('CMB')

58,362 


4,669 


59,677 


4,774 


Global Banking and Markets ('GBM')

600 


48 


365 


29 


Corporate Centre

1,454 


116 


1,979 


158 


Total

85,477 


6,838 


85,881 


6,870 


1  Please refer to page 6 of our Annual Report and Accounts 2020 for a description of the activities of our global businesses.



Pillar 3 disclosures

Regulatory framework for disclosures

We are supervised on a consolidated basis in the UK by the PRA.

We have calculated capital for prudential regulatory reporting purposes using the Basel III framework of the Basel Committee on Banking Supervision ('Basel') as implemented by the EU in CRR II.

The Basel framework is structured around three 'pillars': the Pillar 1 minimum capital requirements and Pillar 2 supervisory review process are complemented by Pillar 3 market discipline. The aim of Pillar 3 is to produce disclosures that allow market participants to assess the scope of application by banks of the Basel framework and the rules in their jurisdiction, their capital condition, risk exposures and risk management processes, and hence their capital adequacy.

Following the end of the transitional period, any reference to EU regulation (including technical standards) should be read as a reference to the UK's version of that regulation as modified by Parliament, Her Majesty's Treasury ('HMT'), or the relevant regulators.

Our Pillar 3 Disclosures at 31 December 2020 comprises both quantitative and qualitative information required under Pillar 3. They are made in accordance with Part Eight of CRR II and the EBA guidelines on disclosure requirements.

These disclosures are supplemented by specific additional requirements of the PRA and discretionary disclosures on our part.

 


Comparatives

To give insight into movements during the year, we provide comparative figures for the previous year or period. The references in tables identify the lines prescribed in the relevant EBA template where applicable and where there is a value.

Where disclosures have been enhanced, or are new, we do not generally restate nor provide prior year comparatives. Wherever specific rows and columns in the tables prescribed by the EBA or Basel are not applicable or are immaterial to our activities, we omit them and follow the same approach for comparative disclosures.

Frequency and location

We publish comprehensive Pillar 3 disclosures annually on the Group website www.hsbc.com, concurrently with the release of our Annual Report and Accounts, and summarised Pillar 3 disclosures at the half year in the HSBC UK Bank plc Interim Report.

Pillar 3 requirements may be met by inclusion in other disclosure media. Where we adopt this approach, references are provided to the relevant pages of our Annual Report and Accounts 2020 or other locations. We continue to engage in the work of the UK authorities and industry associations to improve the transparency and comparability of our disclosures.

Material risks

Pillar 3 requires all material risks to be disclosed to provide a comprehensive view of a bank's risk profile. In addition to the disclosure in this document, other information on material risks can be found in our Annual Report and Accounts 2020.

Capital buffers

The geographical breakdown and institution specific countercyclical buffer disclosure is provided in Appendix II. The HSBC Group G-SIB indicators disclosure is published annually on the HSBC website www.hsbc.com.



Regulatory developments

The UK's withdrawal from the EU

At 11pm on 31 December 2020, the UK ceased to be subject to the EU's legal and regulatory framework. In preparation for this, HMT, the Prudential Regulation Authority ('PRA') and the Financial Conduct Authority undertook an exercise of converting all of the EU's existing legislation into UK law, regulatory rules and guidance. Broadly, these entered into force on 31 December 2020.

Only those parts of the EU's framework that were published and in force on 31 December 2020 have been imported into the UK's framework. This includes any rules contained in EU Directives, Regulations, Regulatory Technical Standards and Implementing Technical Standards. In some circumstances, the EU's framework has been amended, principally to make the legislation operable in the UK, but also to reflect the EU's new status as a 'third country' under UK law. Any legislation that was published but not in force on or before the 31 December 2020 has not been incorporated into UK law.

In November 2020, the UK made a series of equivalence decisions in relation to the EU, which applied from 31 December 2020. The decisions serve to negate potential RWA uplifts in relation to risk weights for exposures to financial institutions in the EU.

In December 2020, the Bank of England and the PRA published changes to their rules and technical standards in preparation for the UK ceasing to be subject to EU law. As part of this, the PRA exercised temporary transitional powers to delay the implementation of any rule changes arising from the UK's withdrawal from the EU. The transitional provisions are wide reaching, with limited exemptions, and expire on 31 March 2022.

Covid-19

The Covid-19 pandemic has created an unprecedented challenge to the global economy. Governments, central banks and regulatory authorities have responded to this challenge with a number of customer support and operational capacity measures, and amendments to the RWA, capital and liquidity frameworks.

In the EU, the measures included a package known as the 'CRR Quick Fixes' that was enacted in June 2020. This implemented some of the beneficial elements of the amendments to the Capital Requirements Regulation ('CRR II'), which were originally scheduled for June 2021, together with other amendments to mitigate any undue volatility in capital ratios arising from the pandemic. This included the amended transitional provisions on the regulatory capital treatment of IFRS 9, the revised small- and medium-sized enterprise ('SME') and infrastructure supporting factors, and changes to the capital treatment of software assets.  In large part, the package came into effect in 2020 and therefore has been transposed into UK law, following the UK's withdrawal from the EU.

While the PRA confirmed in December 2020 that the revised treatment of software assets had been onshored into UK law, it issued a consultation in February 2021 on the CRR II, which includes a proposal to reverse the EU's changes on software assets. In the meantime, it has recommended that firms not base their distribution decisions on any capital increase from applying the EU's changes.

The Basel III Reforms

The Basel Committee on Banking Supervision ('Basel') completed the Basel III Reforms in July 2020 when it published the final revisions to the credit valuation adjustment ('CVA') framework. The package is scheduled to be implemented on 1 January 2023, with a five-year transitional provision for the output floor. This floor ensures that, at the end of the transitional period, banks' total RWAs will be no lower than 72.5% of those generated by the standardised approaches. The final standards will need to be transposed into the relevant local law before coming into effect.

In June 2019, the EU enacted the CRR II. This implemented changes to the own funds regime and to the Financial Stability Board's ('FSB') requirements for total loss-absorbing capacity ('TLAC'), known in the EU as the minimum requirements for own funds and eligible liabilities ('MREL'). It also included the first tranche of changes to the EU's legislation to reflect the Basel III Reforms, including the changes to market risk rules under the Fundamental Review of the Trading Book, revisions to the standardised approach for measuring counterparty risk, changes to the equity investments in funds rules, amendments to the large exposures rules, the new leverage ratio rules and the implementation of the net stable funding ratio.

Given that many of the CRR II changes do not enter into force until June 2021, these were not transposed into UK law on
31 December 2020 and therefore will be implemented separately in the UK. In February 2021, the PRA issued a consultation on the implementation of the CRR II, which covers all of the key elements with the exception of the changes relating to the leverage ratio. Final rules are expected to be published by the end of June 2021, with a target implementation date of 1 January 2022.

The PRA has confirmed that its proposed changes to the leverage ratio will be published once a review by the Financial Policy Committee and Prudential Regulation Committee has been completed in the summer of 2021.

The remaining elements of the Basel III Reforms will be implemented separately in the UK; however, the PRA has yet to consult on these. There remains a significant degree of uncertainty in the impact of the Basel III Reforms due to the number of national discretions and the need for further supporting technical standards to be developed. The UK's implementation of the remaining elements of the Basel III Reforms is expected to be on
1 January 2023, consistent with Basel's timeline.

 

The Fifth Capital Requirements Directive ('CRD V') and the Second Bank Recovery and Resolution Directive ('BRRD II')

The CRD V and BRRD II were implemented in the EU on
28 December 2020. The UK's approach was to enact only those elements that came into force before it ceased to be subject to EU law. For CRD V, this includes the changes to the structure of capital buffers that apply to ring-fenced banks and the regulation of financial holding companies.

In support of this, the PRA published its final CRD V rules in December 2020. This included the implementation of Basel's standards on interest rate risk in the banking book ('IRRBB'); changes to the calculation of the maximum distributable amount ('MDA'); the introduction of regulation for bank holding companies; and the re-designation of ring-fenced banks' buffers from Systemic Risk Buffers ('SyRB') into Other Systemically Important Institutions ('O-SII') buffers. The changes are subject to a phased implementation.

Although the UK implemented the changes in BRRD II, a sunset clause was built into the legislation, so that some of the requirements were revoked when the UK ceased to be subject to EU law on 31 December 2020. This included the restrictions on dividends as a result of a breach of the combined buffer requirement, pre-resolution moratorium powers and the contractual recognition of bail-in. The restrictions on selling of subordinated eligible liabilities to retail clients were retained in UK law.

Credit Risk

To address concerns about the variability and comparability of the capital requirements under the IRB Approach to credit risk, the EU has undertaken a review of the requirements and proposed a series of changes to the framework. This includes changes to the definition of default and to the methodologies for risk parameter estimation. Broadly, these changes are being implemented in the UK and will take effect from 1 January 2022.

In September 2020, the PRA published a consultation to introduce risk-weight floors for UK mortgages subject to the IRB approach. The PRA has proposed that each individual mortgage should be subject to a 7% risk-weight floor. In addition, there will an exposure-weighted average portfolio risk-weight of at least 10% for all IRB UK residential mortgage exposures. The PRA is also proposing to implement the changes from 1 January 2022.

Capital Buffers

In its December 2020 Financial Stability Report, the Financial Policy Committee updated its guidance on the path for the UK Countercyclical Capital Buffer ('CCyB') rate. It now expects this rate to remain at 0% until at least the last quarter of 2021 meaning that any subsequent increase is not expected to take effect until the last quarter of 2022 at the earliest given the 12-month implementation lag.

In December 2020, the PRA announced its decision to maintain ring-fenced banks SyRB rates at the level set in December 2019 for a further year, in response to the ongoing economic shock from Covid-19. The SyRB was converted to an O-SII buffer in December, in line with the CRD V. The PRA will next reassess firms' rates in December 2022, based on balance sheet positions at 31 December 2021. Any decision taken at that time will take effect from January 2024.

Other Developments

In October 2020, HMT published a consultation launching the second phase of its Future Regulatory Framework review of how the UK's regulatory framework needs to adapt long term. This proposes a framework where detailed prudential rules are designed and implemented by the PRA, based upon high-level principles set by the UK's Parliament and government. Furthermore, there will be improvements to the accountability of the PRA to Parliament, HMT and the industry.

In December 2020, the PRA published a Dear CEO letter setting out its six 2021 supervisory priorities; namely, financial and operational resilience, credit and operational risk, transition from Libor and financial risks arising from climate change. The PRA also stressed that the submission of complete, timely and accurate regulatory returns continues to be the foundation of effective supervision and that the pilot project it has been running to assess the standard of regulatory returns will continue into 2021.

In parallel with similar developments in Europe, it is anticipated that the PRA will review the requirements for the capitalisation of structural FX risk to align to a Pillar 1 approach.

 



Risk management

Our risk management framework

We use an enterprise-wide risk management framework across the organisation and across all risk types.

The framework fosters continuous monitoring of the risk environment, and promotes risk awareness and sound operational and strategic decision making. It also ensures we have a consistent approach to monitoring, managing and mitigating the risks we accept and incur in our activities.

Further information on our risk management framework, and the management and mitigation is set out from page 19 of our Annual Report and Accounts 2020.

Risk culture

We recognise the importance of a strong risk culture, the fostering of which is a key responsibility of senior executives. Our risk culture is reinforced by our values and the Global Standards programme. It is instrumental in aligning the behaviours of individuals with our attitude to assuming and managing risk, which helps to ensure that our risk profile remains in line with our risk appetite.

Our risk culture is further reinforced by our approach to remuneration. Individual awards, including those for senior executives, are based on compliance with the Group Values and the achievement of financial and non-financial objectives that are aligned to our risk appetite and strategy.

Risk governance

Our Board has ultimate responsibility for the effective management of risk and approves HSBC UK's risk appetite. It is advised on risk-related matters by the Risk Committee. The Risk Committee met formally eight times during 2020.

Executive accountability for the ongoing monitoring, assessment and management of the risk environment, and the effectiveness of the risk management framework resides with HSBC UK's Chief Risk Officer ('CRO'). He is supported by the Risk Management Meeting ('RMM') of HSBC UK's Executive Committee. The HSBC UK RMM is chaired by the HSBC UK CRO and membership includes the Chief Executive Officer ('CEO'), the Business heads of CMB, WPB, GMB and senior executives from Risk, Finance, Audit and Regulatory Compliance.

Regular Financial Crime Risk Management meetings of the Executive Committee, chaired by the CEO, are held to ensure effective enterprise wide management of financial crime risk within HSBC UK and to support the CEO in discharging these financial crime responsibilities.

Day-to-day responsibility for risk management is delegated to senior managers with individual accountability for decision making. These senior managers are supported by global functions. All employees have a role to play in risk management. These roles are defined using the three lines of defence model, which delineates management accountabilities and responsibilities for risk management and the control environment.

Our executive risk governance structures ensure appropriate oversight and accountability for risk, which facilitates the reporting and escalation to the RMM.

The activities of the Risk Committee are set out from page 64 of our Annual Report and Accounts 2020.

Risk appetite

Risk appetite is a key component of our management of risk. It describes the type and quantum of risk that HSBC UK is willing to accept in achieving its medium and long-term strategic goals. In HSBC UK, risk appetite is managed through a risk appetite framework and articulated in a risk appetite statement ('RAS'), which is approved annually by the Board on the advice of the Risk Committee.

HSBC UK's risk appetite informs our strategic and financial planning process, defining our desired forward-looking risk profile. It is also integrated within other risk management tools, such as the top and emerging risks report and stress testing, to ensure consistency in risk management.

Further information about our risk appetite is set out on page 19 of our Annual Report and Accounts 2020.

Stress testing

HSBC UK operates a wide-ranging stress testing programme that supports our risk management and capital and liquidity planning. It includes execution of stress tests mandated by our regulators. Our stress testing is supported by dedicated teams and infrastructure.

Our testing programme assesses our capital strength, ability to maintain adequate liquidity resources and our resilience to external shocks. It also helps us understand and mitigate risks, and informs our decision about capital levels and contingency funding plans. As well as taking part in regulatory driven stress tests, we conduct our own internal stress tests.

Our stress testing programme is overseen by the Risk Committee, and results are reported, where appropriate, to the RMM and Risk Committee.

Further information about stress testing and details of HSBC UK's regulatory stress test results are set out from page 20 of our Annual Report and Accounts 2020.

HSBC UK Risk function

We have a dedicated Risk function, headed by the CRO, which is responsible for our risk management framework. This includes establishing policy, monitoring risk profiles, and forward-looking risk identification and management. HSBC UK Risk is structured to ensure appropriate coverage across our operations. It is independent from the global businesses, including sales and trading functions, helping to ensure balance in risk/ return decisions. Our Risk function operates in line with the three lines of defence model.

Risk management and internal control systems

The Board of Directors are responsible for providing entrepreneurial leadership of the bank within a framework of prudent and effective controls which enables risks to be assessed and managed. This includes providing ongoing assurance that the risk management systems put in place within HSBC UK are appropriate to match its risk profile and strategy. On behalf of the Board, the Audit Committee has responsibility for oversight of  internal controls over financial reporting, and the Risk Committee has responsibility for oversight of risk management and internal controls other than for financial reporting.

Further information on our key risk management and internal control procedures is set out on page 64 of our Annual Report and Accounts 2020, where the Report of the Directors on the effectiveness of internal controls can also be found.

Risk measurement and reporting systems

The risk measurement and reporting systems used within HSBC UK are designed to help ensure that risks are comprehensively captured with all the attributes necessary to support well-founded decisions, that those attributes are accurately assessed, and that information is delivered in a timely manner for those risks to be successfully managed and mitigated.

Risk measurement and reporting systems used within HSBC UK are also subject to a governance framework designed to ensure that their build and implementation are fit for purpose and functioning appropriately.

Risk information systems development is a key responsibility of the Group's Global Risk function, while the development and operation of risk rating and management systems and processes are ultimately subject to the oversight of the Group's Board.

The Group continues to invest significant resources in IT systems and processes in order to maintain and improve its risk management capabilities. A number of key initiatives and projects to enhance consistent data aggregation, reporting and management, and work towards meeting the Group's Basel Committee data obligations are in progress. Group standards govern the procurement and operation of systems used in its subsidiaries including HSBC UK, to process risk information within business lines and risk functions.

Risk measurement and reporting structures deployed at Group level are applied throughout global businesses and major operating subsidiaries including HSBC UK, through a common operating model for integrated risk management and control. This model sets out the respective responsibilities of Group, global business, region and entity level risk functions in respect of risk governance and oversight, compliance risks, approval authorities and lending guidelines, global and local scorecards, management information and reporting, and relations with third parties such as regulators, rating agencies and auditors.

Risk analytics and model governance

HSBC UK Risk, in conjunction with HSBC Global Risk, manages a number of analytics disciplines supporting the development and management of models, including those for risk rating, scoring, economic capital and stress testing covering different risk types and business segments. The analytics functions formulate technical responses to industry developments and regulatory policy in the field of risk analytics, develop risk models, and oversee model development and use toward our implementation targets for IRB approaches.

HSBC UK's Chief Risk Officer formally advises the Risk Committee on any material model related issues, which are discussed in the HSBC UK Risk Management Meeting before being advised to the Risk Committee. HSBC UK's Chief Risk Officer chairs a quarterly Model Risk Committee where the Model Risk owners attend as well as the model development areas, to review, challenge and escalate model related issues within HSBC UK.

Models are also subject to an independent validation process and governance oversight by the Model Risk Management team within Risk. The team provides robust challenge to the modelling approaches used. It also ensures that the performance of those models is transparent and that their limitations are visible to key stakeholders.

 


Linkage to the Annual Report and Accounts 2020

Structure of the regulatory group

Participating interests in banking associates / joint ventures are proportionally consolidated for regulatory purposes by including our share of assets, liabilities, profit and loss, and RWAs in accordance with the PRA's application of EU legislation.


Table 5: Reconciliation of balance sheets - financial accounting to regulatory scope of consolidation



Accounting
balance
sheet

Deconsolidation
of securitisation
entities

Consolidation
of banking
associates / joint
ventures

Regulatory
balance
sheet


Ref †

£m

£m

£m

£m

Assets






Cash and balances at central banks


76,429 



84 


76,513 


Items in the course of collection from other banks


253 




253 


Financial assets designated and otherwise mandatorily measured at fair value through profit or loss


26 




26 


Derivatives


155 




155 


Loans and advances to banks


1,514 




1,514 


Loans and advances to customers


191,233 




191,233 


-  of which: expected credit losses on IRB portfolios

f

(3,142)




(3,142)


Reverse repurchase agreements - non-trading


2,485 




2,485 


Financial investments


19,309 




19,309 


Capital invested in insurance and other entities






Prepayments, accrued income and other assets


9,310 



21 


9,331 


-  of which: retirement benefit assets

g

6,957 




6,957 


Current tax assets


49 




49 


Interests in joint ventures




(8)



Goodwill and intangible assets

d

4,093 




4,093 


Total assets at 31 Dec 2020


304,864 



97 


304,961 


Liabilities and equity






Liabilities






Deposits by banks


540 



84 


624 


Customer accounts


259,341 


225 



259,566 


Repurchase agreements - non-trading


6,150 




6,150 


Items in the course of transmission to other banks


132 




132 


Derivatives


365 




365 


Debt securities in issue


866 


(225)



641 


Accruals, deferred income and other liabilities


1,941 



13 


1,954 


Current tax liabilities






Provisions


979 




979 


-  of which: credit-related contingent liabilities and contractual commitments on IRB portfolios

f

223 




223 


Deferred tax liabilities


1,677 




1,677 


Subordinated liabilities


10,015 




10,015 


-  of which: included in Tier 2

j

2,967 




2,967 


Total liabilities at 31 Dec 2020


282,006 



97 


282,103 


Equity






Share premium account

a

9,015 




9,015 


Other equity instruments

h

2,196 




2,196 


Other reserves

b, c, e

7,838 




7,838 


Retained earnings

b, c

3,749 




3,749 


Total shareholders' equity


22,798 




22,798 


Non-controlling interests

i

60 




60 


Total equity at 31 Dec 2020


22,858 




22,858 


Total liabilities and equity at 31 Dec 2020


304,864 



97 


304,961 


† The references (a) - (j) identify balance sheet components that are used in the calculation of regulatory capital in table 7.


Measurement of regulatory exposures

This section sets out the main reasons why the measurement of regulatory exposures is not directly comparable with the financial information presented in our Annual Report and Accounts 2020.

The Pillar 3 Disclosures at 31 December 2020 are prepared in accordance with regulatory capital adequacy concepts and rules, while the Annual Report and Accounts 2020 are prepared in accordance with International Financial Reporting Standards ('IFRSs'). The purpose of the regulatory balance sheet is to provide a point-in-time ('PIT') value of all on-balance sheet assets.

The regulatory exposure value includes an estimation of risk, and is expressed as the amount expected to be outstanding if or when the counterparty defaults.

Moreover, regulatory exposure classes are based on different criteria from accounting asset types and are therefore not comparable on a line by line basis.

Table 6 shows the difference between the accounting and regulatory scope of consolidation.

The regulatory consolidation also excludes special purpose entities ('SPEs') where significant risk has been transferred to third parties. Exposures to these SPEs are risk-weighted as securitisation positions for regulatory purposes.

Participating interests in banking associates / joint ventures are proportionally consolidated for regulatory purposes by including our share of assets, liabilities, profit and loss, and RWAs in accordance with the PRA's application of EU legislation.

A full list of entities included in the scope of consolidation is set out on page 126 of our Annual Report and Accounts 2020.


Table 6: Outline of the differences in the scopes of consolidation (entity by entity) (LI3)



At 31 December 2020


Principal activities

Method of
accounting
consolidation

Method of regulatory consolidation


Fully
consolidated

Proportional
consolidation

Neither
consolidated
nor deducted

Deducted from
capital subject
to thresholds

Associates







Vaultex UK Limited

Cash management services

Equity


l



SPEs excluded from the regulatory consolidation







Neon Portfolio Distribution DAC

Securitisation

 Fully consolidated



l


 


 

Capital and Leverage

 



Capital management

Approach and policy

HSBC UK's objective in managing capital is to maintain appropriate levels of capital to support our business strategy and meet regulatory and stress testing related requirements.

HSBC UK manages its capital to ensure that it exceeds current and expected future requirements. Throughout 2020, the group complied with the PRA's regulatory capital adequacy requirements, including those relating to stress testing.

The policy on capital management is underpinned by the capital management framework and the internal capital adequacy assessment process ('ICAAP'), which enable the group to manage its capital in a consistent manner. The framework incorporates a number of different capital measures that govern the management and allocation of capital within HSBC Group. These capital measures are defined as follows:

invested capital is the equity capital provided to the group by HSBC Group;

economic capital is the internally calculated capital requirement that is deemed necessary by the group to support the risks to which it is exposed; and

regulatory capital is the minimum level of capital that the group is required to hold in accordance with the rules established by the PRA.

The following risks managed through the capital management framework have been identified as material: credit, market, operational, interest rate risk in the banking book, pensions and residual risks.

Stress testing

Stress testing is incorporated into the capital management framework, and is an important component of understanding the sensitivity of the core assumptions in the group's capital plans to the adverse effect of extreme, but plausible, events. Stress testing allows senior management to formulate its response, including risk mitigating actions, in advance of conditions starting to reflect the stress scenarios identified.

Actual market stresses in the past and prevailing economic and political risks have been used to inform the capital planning process and further develop the scenarios employed by the group in its internal stress tests.

Other stress tests are also carried out, both at the request of regulators and by the regulators themselves, using their prescribed assumptions. The group takes into account the results of all such regulatory stress testing when assessing its internal capital requirements.

During the three quarters to September 2020, in light of the Covid-19 outbreak, we carried out additional internal testing on a baseline and stressed scenario. The results of these stress tests were considered in determining capital actions to manage the group's position.

 

 

Additionally, further stress testing was carried out to include scenarios relating to the impact of the UK's withdrawal from the EU without a trade agreement.

Risks to capital

Outside the stress testing framework, a list of principal risks is regularly evaluated for their effect on our capital ratios. In addition, other risks may be identified that have the potential to affect our RWAs and/or capital position. The downside or upside scenarios are assessed against our capital management objectives and mitigating actions are assigned as necessary.

The group's approach to managing its capital position has been to ensure the bank, its regulated subsidiaries and the group exceed current regulatory requirements, and that it is well placed to meet expected future capital requirements.

Risk-weighted asset targets

We establish RWA targets for our business lines through our annual planning process in accordance with HSBC Group's strategic direction and risk appetite. As these targets are deployed to lower levels of management, action plans for implementation are developed. These may include growth strategies, active portfolio management, restructuring, business and/or customer-level reviews, RWA accuracy and allocation initiatives and risk mitigation.

Business performance against RWA targets is monitored through regular reporting to the Asset and Liability Committee ('ALCO').

Capital generation

HSBC UK Holdings Limited, a 100% subsidiary of HSBC Holdings plc, is the sole primary provider of equity capital to the group and provides non-equity capital where necessary. Capital generated in excess of planned requirements is returned to the shareholder in the form of dividends.


 

Overview of regulatory capital framework

Main features of CET1, AT1 and T2 instruments issued by HSBC UK

All capital securities included in the regulatory capital base of the group have been issued as fully compliant CRD IV securities under the Fourth Capital Requirements Regulation and Directive ('CRD IV'). For regulatory purposes, the group's capital base is divided into three main categories, namely Common Equity Tier 1, Additional Tier 1 and Tier 2, depending on the degree of permanence and loss absorbency exhibited. The main features of capital securities issued by the group are described below.

Tier 1 capital ('T1')

Tier 1 capital comprises shareholders' equity, related non-controlling interests (subject to limits) and qualifying capital instruments, after certain regulatory adjustments.

Common Equity Tier 1 ('CET1')

Called up ordinary shares issued by the bank to its parent are fully paid up and the proceeds of issuance are immediately and fully available. There is no obligation to pay a coupon or dividend to the shareholder arising from this type of capital. The share capital is available for unrestricted and immediate use to cover any risks and losses.

Additional Tier 1 capital ('AT1')

Qualifying AT1 instruments are perpetual securities on which there is no obligation to apply a coupon and, if not paid, the coupon is not cumulative. Such securities do not carry voting rights but rank higher than ordinary shares for coupon payments and in the event of a winding up. Fully compliant CRD IV AT1 instruments issued by the group include a provision whereby the instrument will be written down in whole in the event that either the bank's or group's CET1 ratio falls below 7.00%.

These instruments are accounted for as equity. Further details of qualifying CRR II AT1 instruments can be found in Note 23 - Called up share capital and other equity instruments of the Notes on the Financial Statements on page 120 of our Annual Report and Accounts 2020.

Tier 2 capital ('T2')

Tier 2 capital comprises eligible capital securities and other qualifying Tier 2 capital securities subject to limits.

Perpetual and term subordinated debt

Tier 2 capital securities are either perpetual subordinated securities or dated securities on which there is an obligation to pay coupons.

These instruments or subordinated loans comprise dated loan capital repayable at par on maturity and must have an original maturity of at least five years. Some subordinated loan capital may be called and redeemed by the issuer subject to prior consent from the PRA. If not redeemed, interest coupons payable may step up or become floating rate related to interbank offered rates. For regulatory purposes, it is a requirement that Tier 2 instruments are amortised on a straight-line basis in their final five years to maturity, thus reducing the amount of capital that is recognised for regulatory purposes.

Further details of these instruments can be found in Note 20 - Subordinated Liabilities of the Notes on the Financial Statements on page 114 of our Annual Report and Accounts 2020.  

A list of the main features of our capital instruments in accordance with Annex III of the Commission Implementing Regulation 1423/2013 is published on the HSBC Group website, www.hsbc.com with reference to our balance sheet on
31 December 2020.


Table 7: Own funds disclosure





At 31 December




2020

2019

Ref*


Ref †

£m

£m


Common equity tier 1 ('CET1') capital: instruments and reserves




1

Capital instruments and the related share premium accounts


9,015

9,015


-  ordinary shares

a

9,015

9,015

2

Retained earnings

b

12,040

10,978

3

Accumulated other comprehensive income (and other reserves)

c

700

(211)

5a

Independently reviewed interim net profits net of any foreseeable charge or dividend

b

(46)

161

6

Common equity tier 1 capital before regulatory adjustments


21,709

19,943


Common equity tier 1 capital: regulatory adjustments




7

Additional value adjustments1


(4)

(5)

8

Intangible assets (net of related deferred tax liability)

d

(3,662)

(3,972)

11

Fair value reserves related to gains or losses on cash flow hedges

e

(1)

14

12

Negative amounts resulting from the calculation of expected loss amounts

f

0

(401)

15

Defined benefit pension fund assets (net of related deferred tax liability)

g

(5,079)

(4,377)

28

Total regulatory adjustments to common equity tier 1


(8,746)

(8,741)

29

Common equity tier 1 capital


12,963

11,202


Additional tier 1 ('AT1') capital: instruments




30

Capital instruments and the related share premium accounts


2,196

2,196

31

-  classified as equity under IFRSs

h

2,196

2,196

34

Qualifying tier 1 capital included in consolidated AT1 capital (including minority interests not included in CET1) issued by subsidiaries and held by third parties

i

38

55

36

Additional tier 1 capital before regulatory adjustments


2,234

2,251

44

Additional tier 1 capital


2,234

2,251

45

Tier 1 capital (T1 = CET1 + AT1)


15,197

13,453


Tier 2 capital: instruments and provisions




46

Capital instruments and the related share premium accounts


2,915

2,935

48

Qualifying own funds instruments included in consolidated T2 capital (including minority interests and AT1 instruments not included in CET1 or AT1) issued by subsidiaries and held by third parties


52

74

51

Tier 2 capital before regulatory adjustments

j

2,967

3,009

57

Total regulatory adjustments to tier 2 capital


7

-

58

Tier 2 capital


2,974

3,009

59

Total capital (TC = T1 + T2)


18,171

16,462

60

Total risk-weighted assets


85,477

85,881


Capital ratios and buffers




61

Common equity tier 1


15.2 

%

13.0 

%

62

Tier 1


17.8 

%

15.7 

%

63

Total capital


21.3 

%

19.2 

%

64

Institution specific buffer requirement


3.50 

%

4.47 

%

65

-  Capital conservation buffer requirement


2.50 

%

2.50 

%

66

-  Countercyclical buffer requirement


%

0.97 

%

67

-  Other Systemically Important Institutions ('O-SII') buffer requirement


1.00 

%

1.00 

%

68

Common equity tier 1 available to meet buffers


10.7 

%

8.5 

%


Amounts below the threshold for deduction (before risk weighting)




75

Deferred tax assets arising from temporary differences (amount below 10% threshold, net of related tax liability)


200

231


Applicable caps on the inclusion of provisions in tier 2




77

Cap on inclusion of credit risk adjustments in T2 under standardised approach 


25

25

79

Cap for inclusion of credit risk adjustments in T2 under internal ratings-based approach


422

430

*  The references identify the lines prescribed in the EBA template that are applicable and where there is a value.

† The references (a) - (j) identify balance sheet components in table 5 that are used in the calculation of regulatory capital.

Additional value adjustments are calculated on all assets measured at fair value and subsequently deducted from CET1.



Leverage ratio

The leverage ratio was introduced into the Basel III framework as a non-risk-based limit, to supplement risk-based capital requirements. It aims to constrain the build-up of excess leverage in the banking sector, introducing additional safeguards against model risk and measurement errors. This ratio has been implemented in the EU for reporting and disclosure purposes but, at this stage, has not been set as a binding requirement.

The PRA's leverage ratio requirement applies to UK ring-fenced banks.

The risk of excess leverage is managed as part of the global risk appetite framework and monitored using a leverage ratio metric within the RAS. The RAS articulates the aggregate level and types of risk that HSBC UK is willing to accept in its business activities in order to achieve its strategic business objectives. The RAS is monitored via the risk appetite profile report, which includes comparisons of actual performance against the risk appetite and tolerance thresholds assigned to each metric, to ensure that any excessive risk is highlighted, assessed and mitigated

appropriately. The risk appetite profile report is presented monthly to the RMM.

Our leverage ratio calculated in accordance with the Capital Requirements Regulation was 4.8% at 31 December 2020, down from 5.0% at 31 December 2019. The decrease was largely due to growth in the balance sheet. The change in the treatment of software assets benefited our leverage ratio by 0.1%.

At 31 December 2020, our leverage ratio measured under the PRA's UK leverage framework was 6.5%. This measure excludes qualifying central bank balances and loans under the UK Bounce Back Loan scheme from the calculation of exposure.

At 31 December 2020, our UK minimum leverage ratio requirement of 3.25% under the PRA's UK leverage framework was supplemented by an additional leverage ratio buffer of 0.4% and a countercyclical leverage ratio buffer of 0%. These additional buffers translated into capital values of £824m. We exceeded these leverage requirements.


 

Table 8: Summary reconciliation of accounting assets and leverage ratio exposures (LRSum)




At 31 December



2020

2019

Ref*


£m

£m

1

Total assets as per published financial statements

304,864 


257,102 



Adjustments for:



2

-  consolidation of banking associates/joint ventures

97 


78 


4

-  derivative financial instruments

107 


81 


5

-  securities financing transactions ('SFT')

395 


383 


6

-  off-balance sheet items (i.e. conversion to credit equivalent amounts of off-balance sheet exposures)

18,407 


18,003 


7

-  other

(6,674)


(7,376)


8

Total leverage ratio exposure

317,196 


268,271 


*  The references identify the lines prescribed in the EBA template. Lines represented in this table are those lines which are applicable and where there is a value.

Table 9: Leverage ratio common disclosure (LRCom)




At 31 December



2020

2019

Ref*


£m

£m


On-balance sheet exposures (excluding derivatives and SFTs)



1

On-balance sheet items (excluding derivatives, SFTs and fiduciary assets, but including collateral) 

303,282 


255,420 


2

(Asset amounts deducted in determining Tier 1 capital)

(7,635)


(8,751)


3

Total on-balance sheet exposures (excluding derivatives, SFTs and fiduciary assets)

295,647 


246,669 



Derivative exposures



4

Replacement cost associated with all derivatives transactions (i.e. net of eligible cash variation margin)

49 


38 


5

Add-on amounts for potential future exposure associated with all derivatives transactions (mark-to-market method)

213 


164 


6

Gross-up for derivatives collateral provided where deducted from the balance sheet assets pursuant to IFRSs

300 


168 


7

(Deductions of receivables assets for cash variation margin provided in derivatives transactions)

(300)


(168)


11

Total derivative exposures

262 


202 



Securities financing transaction exposures



12

Gross SFT assets (with no recognition of netting), after adjusting for sales accounting transactions

2,620 


3,697 


13

(Netted amounts of cash payables and cash receivables of gross SFT assets)

(135)


(683)


14

Counterparty credit risk exposure for SFT assets

395 


383 


16

Total securities financing transaction exposures

2,880 


3,397 



Other off-balance sheet exposures



17

Off-balance sheet exposures at gross notional amount

75,860 


71,815 


18

(Adjustments for conversion to credit equivalent amounts)

(57,453)


(53,812)


19

Total off-balance sheet exposures

18,407 


18,003 



Capital and total exposures



20

Tier 1 capital

15,197 


13,454 


21

Total leverage ratio exposure

317,196 


268,271 


22

Leverage ratio (%)

4.8 


5.0 


EU-23

Choice of transitional arrangements for the definition of the capital measure

Fully phased-in

 Fully phased-in

*  The references identify the lines prescribed in the EBA template. Lines represented in this table are those lines which are applicable and where there is a value.

Table 10: Leverage ratio - Split of on-balance sheet exposures (excluding derivatives, SFTs and exempted exposures) (LRSpl)



At 31 December



2020

2019

Ref*


£m

£m

EU-1

Total on-balance sheet exposures (excluding derivatives, SFTs and exempted exposures)

302,983 


255,252 


EU-2

Trading book exposures



EU-3

Banking book exposures

302,983 


255,252 



- of which:



EU-5

exposures treated as sovereigns

97,596 


56,171 


EU-7

institutions

1,841 


1,660 


EU-8

secured by mortgage of immovable property

110,420 


102,265 


EU-9

retail exposures

20,548 


16,688 


EU-10

corporate

54,569 


60,908 


EU-11

exposures in default

2,523 


2,188 


EU-12

other exposures (e.g. equity, securitisations and other non-credit obligation assets)

15,486 


15,372 


*  The references identify the lines prescribed in the EBA template. Lines represented in this table are those lines which are applicable and where there is a value.

Table 11: UK Leverage ratio


For the period ending


31 December

30 September

31 December


2020

2020

2019


£m

£m

£m

UK leverage ratio exposure - quarterly average

236,674 


239,531 


230,376 



%

%

%

UK leverage ratio - quarterly average

6.2 


6.0 


5.8 


UK leverage ratio - quarter end

6.5 


6.0 


5.8 


 


Pillar 1

Pillar 1 covers the capital resources requirements for credit risk, market risk and operational risk. Credit risk includes Counterparty credit risk ('CCR') and securitisation requirements. These requirements are expressed in terms of RWAs. The table provides information on the scope of permissible approaches and our adopted approach by risk type.

Credit risk

The Basel framework applies three approaches of increasing sophistication to the calculation of Pillar 1 credit risk capital requirements. The most basic level, the standardised approach, requires banks to use external credit ratings to determine the risk weightings applied to rated counterparties. Other counterparties are grouped into broad categories and standardised risk weightings are applied to these categories. The next level, the foundation IRB ('FIRB') approach, allows banks to calculate their credit risk capital requirements on the basis of their internal assessment of a counterparty's Probability of default ('PD'), but subjects their quantified estimates of exposure at default ('EAD') and Loss given default ('LGD')  to standard supervisory parameters. Finally, the advanced IRB ('AIRB') approach allows banks to use their own internal assessment in both determining PD and quantifying EAD and LGD.

HSBC UK has adopted the IRB approach for the majority of its business. For Retail advanced IRB is primarily used, with foundation used for most of the wholesale portfolio.

Some portfolios remain on the standardised approach:

pending the issuance of local regulations or model approval;

following the supervisory prescription of a non-IRB approach; or

under exemptions from IRB treatment.

On 1 January 2020, exposures subject to the UK corporate loss-given-default model moved from the advanced to the foundation approach.

Counterparty credit risk

Four approaches to calculating CCR and determining exposure values are defined by the Basel framework: mark-to-market, original exposure, standardised and Internal Model Method. These exposure values are used to determine capital requirements under one of the credit risk approaches: standardised, FIRB or AIRB.

HSBC UK uses the mark-to-market approach for CCR.

Equity

For the non-trading book, equity exposures can be assessed under standardised or IRB approaches.

For HSBC UK, all equity exposures are assessed under the standardised approach.

Securitisation

The Basel Framework specifies two methods for calculating credit risk requirements for securitisation positions in the non-trading book: the standardised approach and the IRB approach, which incorporates the Ratings Based Method, the Internal Assessment Approach and the Supervisory Formula Method. Securitisation positions in the trading book are treated within market risk, using the CRD IV standard rules.

For the positions in the securitisation non-trading book, HSBC UK uses the IRB approach, and within this the Ratings Based Method.

Market risk

Market risk capital requirements can be determined under either the standard rules or the Internal Models Approach. The latter involves the use of internal Value at Risk models to measure market risks and determine the appropriate capital requirement.

 

 

For HSBC UK, the market risk capital requirement is measured using the standardised rules.

Operational risk

The Basel framework allows firms to calculate their operational risk capital requirement under the basic indicator approach, the standardised approach or the advanced measurement approach.

HSBC UK uses the standardised approach in determining operational risk capital requirement.

 



Pillar 2 and ICAAP

Pillar 2

We conduct an ICAAP to determine a forward-looking assessment of our capital requirements given our business strategy, risk profile, risk appetite and capital plan. This process incorporates the group's risk management processes and governance framework. Our base capital plan undergoes stress testing. This, coupled with our economic capital framework and other risk management practices, is used to assess our internal capital adequacy requirements and inform our view of our internal capital planning buffer. The ICAAP is formally approved by the HSBC UK Board of Directors ('Board'), which has the ultimate responsibility for the effective management of risk and approval of our risk appetite.

The ICAAP is reviewed by the PRA as part of its supervisory review and evaluation process, which occurs periodically to enable the regulator to define the total capital requirement ('TCR') or minimum capital requirements for the group, and to define the PRA buffer, where required. Under the PRA's revised Pillar 2 regime, the capital planning buffer has been replaced with a PRA buffer. This is not intended to duplicate the CRD IV buffers and, where necessary will be set according to the vulnerability of a bank in a stress scenario, as assessed through the annual PRA stress testing exercise.

The processes of internal capital adequacy assessment and supervisory review lead to a final determination by the PRA of TCR and any PRA buffer that may be required.

Within Pillar 2, Pillar 2A considers, in addition to the minimum capital requirements for Pillar 1 risks described above, any supplementary requirements for those risks and any requirements for risk categories not captured by Pillar 1. The risk categories to be covered under Pillar 2A depend on the specific circumstances of a firm and the nature and scale of its business.

Pillar 2B consists of guidance from the PRA on the capital buffer a firm would require in order to remain above its TCR in adverse circumstances that may be largely outside the firm's normal and direct control, for example during a period of severe but plausible downturn stress, when asset values and the firm's capital surplus may become strained. This is quantified via any PRA buffer requirement the PRA may consider necessary. The assessment of this is informed by stress tests and a rounded judgement of a firm's business model, also taking into account the PRA's view of a firm's options and capacity to protect its capital position under stress, for instance through capital generation. Where the PRA assesses a firm's risk management and governance to be significantly weak, it may also increase the PRA buffer to cover the risks posed by those weaknesses until they are addressed. The PRA buffer is intended to be drawn upon in times of stress, and its use is not of itself a breach of capital requirements that would trigger automatic restrictions on distributions. In specific circumstances, the PRA should agree a plan with a firm for its restoration over an agreed timescale.

Internal capital adequacy assessment

The Board approves the group ICAAP, and together with RMM, it examines the group's risk profile from both regulatory and economic capital viewpoints, aiming to ensure that capital resources:

remain sufficient to support our risk profile and outstanding commitments;

exceed current regulatory requirements, and that the group is well placed to meet those expected in the future;

allow the group to remain adequately capitalised in the event of a severe economic downturn stress scenario; and

remain consistent with our strategic and operational goals, and our shareholder and investor expectations.

The minimum regulatory capital that we are required to hold is determined by the rules and guidance established by the PRA. These capital requirements are a primary influence shaping the business planning process, in which RWA targets are established for the global businesses in accordance with the group's strategic direction and risk appetite.

The economic capital assessment is a more risk-sensitive measure than the regulatory minimum, as it covers a wide range of risks accruing from our operations. Both the regulatory and the economic capital assessments rely upon the use of models that are integrated into our management of risk. Our economic capital models are calibrated to quantify the level of capital that is sufficient to absorb potential losses over a one-year time horizon to a 99.95% level of confidence for our banking and trading activities, and to a 99.5% level of confidence for our pension risks.

The ICAAP and its constituent economic capital calculations are examined by the PRA as part of its supervisory review and evaluation process. This examination informs the regulator's view of our Pillar 2 capital requirements.

Preserving our strong capital position remains a priority, and the level of integration of our risk and capital management helps to optimise our response to business demand for regulatory and economic capital. Risks that are explicitly assessed through economic capital are credit risk, including CCR, market and operational risk, non-trading book interest rate risk, pension risk, residual risk and structural foreign exchange risk.


 

Credit risk

 



Overview

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 commitments, and from the group's holdings of debt and other securities.

The tables below set out details of the credit risk exposures by exposure class and approach.

Further explanation of the group's approach to managing credit risk (including details of past due and impaired exposures, and its approach to credit risk impairment) can be found from page 28 of our Annual Report and Accounts 2020;


Table 12: Overview of RWAs (OV1)







At 31 December 2020

At 31 December 2019



RWAs

Capital required

RWAs

Capital required



£m

£m

£m

£m

1

Credit risk (excluding counterparty credit risk)

73,287 


5,863 


74,220 


5,937 


2

-  standardised approach

1,461 


117 


1,376 


110 


3

-  foundation IRB approach

43,389 


3,471 


5,665 


453 


4

-  advanced IRB approach

28,437 


2,275 


67,179 


5,374 


6

Counterparty credit risk

122 


10 


198 


16 


7

-  mark-to-market

70 



60 



8

-  original exposure

11 



84 



11

-  risk exposure amount for contributions to the default fund of a central counterparty

21 



31 



12

-  credit valuation adjustment

20 



23 



14

Securitisation exposures in the non-trading book 1

904 


72 


596 


48 


15

- Internal Rating Based Approach (Sec-IRBA)

699 


56 


520 


42 


18

- Standardised Approach (Sec-IAA)

205 


16 




14a

- exposures subject to old securitisation framework



76 



19

Market risk

156 


12 


27 



20

-  standardised approach

156 


12 


27 



23

Operational risk

10,509 


841 


10,303 


824 


25

-  standardised approach

10,509 


841 


10,303 


824 


27

Amounts below the thresholds for deduction (subject to 250% risk weight)

499 


40 


537 


43 



Total

85,477 


6,838 


85,881 


6,870 


1   On 1 January 2019, a new securitisation framework came into force in the EU for new transactions. Existing positions were subject to 'grandfathering' provisions and were reported under the old approach at 31 December 2019. These exposures were transferred to the new framework on 1 January 2020.

Further information on the movement in RWAs can be found on page 57 of our Annual Report and Accounts 2020.

 

Table 13: Credit risk exposure - summary (CRB-B)



At 31 December 2020

At 31 December 2019



Net
carrying
value

Average
net
carrying
values

RWAs^

Capital
required^

RWA
Density

Net
carrying
value

Average
net
carrying
values

RWAs^

Capital
required^

RWA
Density


Footnotes

£m

£m

£m

£m

%

£m

£m

£m

£m

%

IRB advanced approach


193,138 


188,769 


26,887 


2,151 


15

245,612 


240,215 


65,900 


5,272 


30

Central governments and central banks


7,348 


7,328 


807 


65 


11

6,596 


6,817 


683 


55 


10

Institutions


1,387 


1,264 


220 


17 


17

1,007 


981 


134 


11 


14

Corporates

1

12,071 


24,608 


6,237 


499 


56

78,988 


80,236 


45,008 


3,600 


68

Total retail


172,332 


155,569 


19,623 


1,570 


12

159,021 


152,181 


20,075 


1,606 


13

Secured by mortgages on immovable property - small- and medium sized enterprises ('SME')


56 


376 


58 



97

1,714 


1,673 


830 


66 


54

Secured by mortgages on immovable property non-SME


118,164 


106,071 


6,740 


540 


6

107,495 


101,543 


5,404 


433 


5

Qualifying revolving retail


38,767 


36,621 


5,430 


434 


20

38,625 


38,313 


5,708 


457 


22

Other SME


8,967 


6,125 


2,202 


176 


105

4,055 


3,985 


2,905 


232 


96

Other non-SME


6,378 


6,376 


5,193 


415 


79

7,132 


6,667 


5,228 


418 


71

IRB securitisation positions


2,277 


2,328 


699 


56 


31

3,177 


1,398 


596 


48 


19

IRB non-credit obligation assets


2,280 


1,952 


1,550 


124 


68

2,011 


2,025 


1,279 


102 


64

IRB foundation approach


76,469 


59,992 


43,389 


3,471 


72

11,415 


10,105 


5,665 


453 


61

Corporates


76,469 


59,992 


43,389 


3,471 


72

11,415 


10,105 


5,665 


453 


61

Standardised approach


92,908 


69,126 


2,165 


173 


2

53,212 


45,000 


1,913 


153 


4

Central governments and central banks


86,869 


63,070 


498 


39 


1

48,245 


40,463 


537 


43 


1

Regional government or local authorities


226 


237 





256 


210 




-

Public sector entities


663 


885 





1,023 


1,051 




-

International organisations


28 


16 









-

Institutions


667 


693 


182 


15 


27

776 


739 


163 


13 


21

Corporates


444 


427 


183 


15 


61

476 


510 


294 


24 


78

Retail


1,994 


2,012 


827 


66 


64

865 


837 


340 


27 


70

Secured by mortgages on immovable property


329 


568 


124 


10 


38

977 


447 


353 


28 


37

Exposures in default


50 


75 


72 



141

72 


64 


101 



142

Items associated with particularly high risk




14 



150



12 



150

Securitisation positions


1,367 


815 


205 


16 


15





-

Other items


262 


320 


60 



23

514 


671 


113 



22

Total


367,072 


322,167 


74,690 


5,975 


22

315,427 


298,743 


75,353 


6,028 


26

1  Corporates includes specialised lending exposures which are reported in more detail in Table 40.


Credit quality

The following tables present information on the credit quality of exposures by exposure class and by industry.

Table 14: Credit quality of exposures by exposure classes and instruments¹ (CR1-A)



Gross carrying values of

Specific
credit risk
adjustments


Write-offs in
the year

Credit risk
adjustment
charges of the
period

Net carrying
values



Defaulted
exposures

Non-defaulted
exposures



£m

£m

£m

£m

£m

£m

1

Central governments and central banks


7,349 





7,348 


2

Institutions


1,395 





1,388 


3

Corporates

2,574 


87,575 


1,609 


341 


1,096 


88,540 


4

-  of which: specialised lending

503 


10,088 


190 



34 


10,401 


6

-  of which: Others

2,071 


77,487 


1,419 


341 


1,062 


78,139 


7

Retail

1,264 


172,843 


1,775 


167 


1,002 


172,332 


8

-  Secured by real estate property - SME

13 


44 




(9)


57 


9

-  Secured by real estate property - Non-SME

693 


117,641 


171 



73 


118,163 


10

-  Qualifying revolving retail

264 


39,259 


756 


97 


424 


38,767 


11

-  Other retail

294 


15,899 


848 


68 


514 


15,345 


12

- of which SME

142 


9,166 


341 


14 


179 


8,967 


13

- of which Non-SME

152 


6,733 


507 


54 


335 


6,378 


15

Total IRB approach

3,838 


269,162 


3,392 


508 


2,105 


269,608 


16

Central governments and central banks


86,870 





86,869 


17

Regional governments or local authorities


226 





226 


18

Public sector entities


663 





663 


20

International organisations


28 





28 


21

Institutions


667 





667 


22

Corporates


445 




(7)


444 


24

Retail


2,017 


23 



13 


1,994 


25

-  of which: SMEs


1,147 


10 




1,137 


26

Secured by mortgages on immovable property


329 





329 


28

Exposures in default

58 






50 


29

Items associated with particularly high risk







34

Other exposures


262 





262 


35

Total standardised approach

58 


91,516 


33 



10 


91,541 


36

Total at 31 December 2020

3,896 


360,678 


3,425 


510 


2,115 


361,149 



-  of which: loans

3,558 


267,048 


3,209 


510 


2,000 


267,397 



-  of which: debt securities


19,120 





19,114 



-  of which: off-balance sheet exposures

337 


74,049 


210 



111 


74,176 










1

Central governments and central banks


6,596 





6,596 


2

Institutions


1,008 





1,007 


3

Corporates

1,961 


89,292 


850 


190 


216 


90,403 


4

-  of which: specialised lending

581 


11,327 


194 



26 


11,714 


5

- of which: SME







6

- of which: Others

1,380 


77,954 


656 


190 


190 


78,678 


7

Retail

1,194 


158,715 


888 


278 


458 


159,021 


8

-  Secured by real estate property - SME

35 


1,691 


12 



(6)


1,714 


9

-  Secured by real estate property - Non-SME

733 


106,874 


112 




107,495 


10

-  Qualifying revolving retail

219 


38,814 


408 


126 


226 


38,625 


11

-  Other retail

207 


11,336 


356 


150 


231 


11,187 


12

-  of which SME

122 


4,088 


155 


85 


113 


4,055 


13

-  of which Non-SME

85 


7,248 


201 


65 


118 


7,132 


15

Total IRB approach

3,155 


255,611 


1,739 


468 


675 


257,027 


16

Central governments and central banks


48,245 





48,245 


17

Regional governments or local authorities


256 





256 


18

Public sector entities


1,023 





1,023 


21

Institutions


776 





776 


22

Corporates


486 


10 




476 


24

Retail


868 




(1)


865 


25

-  of which: SMEs


157 





157 


26

Secured by mortgages on immovable property


977 





977 


28

Exposures in default

72 






72 


29

Items associated with particularly high risk







34

Other exposures


514 





514 


35

Total standardised approach

80 


53,148 


16 



11 


53,212 


36

Total at 31 December 2019

3,235 


308,759 


1,755 


472 


686 


310,239 



-  of which: loans

2,960 


218,866 


1,696 


472 


696 


220,130 



-  of which: debt securities


19,445 





19,444 



-  of which: off-balance sheet exposures

275 


69,672 


58 



(10)


69,889 


1  Securitisation positions and non-credit obligation assets are not included in this table.

Table 15: Credit quality of exposures by industry or counterparty types¹ (CR1-B)



Gross carrying values of



Credit risk
adjustment
charges of the
period




Defaulted
exposures

Non-defaulted
exposures

Specific
credit risk
adjustments


Write-offs in
the year

Net carrying
values



£m

£m

£m

£m

£m

£m

1

Agriculture

134 


4,511 


32 



(4)


4,613 


2

Mining & oil extraction

114 


1,157 


32 



19 


1,239 


3

Manufacturing

233 


13,770 


496 


230 


423 


13,507 


4

Utilities


807 




(9)


806 


5

Water supply


405 





405 


6

Construction

81 


4,568 


69 



(68)


4,580 


7

Wholesale & retail trade

416 


19,454 


193 



58 


19,677 


8

Transportation & storage

99 


2,922 


63 



20 


2,958 


9

Accommodation & food services

314 


9,175 


212 



167 


9,277 


10

Information & communication

14 


587 


13 




588 


11

Financial & insurance

14 


84,038 


19 



10 


84,033 


12

Real estate

635 


16,612 


241 



124 


17,006 


13

Professional activities

98 


5,684 


86 



58 


5,696 


14

Administrative service

344 


9,204 


358 



262 


9,190 


15

Public admin & defence


14,787 




(32)


14,785 


16

Education

18 


1,321 


21 



11 


1,318 


17

Human health & social work

75 


2,525 


36 




2,564 


18

Arts & entertainment

155 


1,926 


88 


57 


167 


1,993 


19

Other services

14 


1,432 


15 




1,431 


20

Personal

1,134 


164,690 


1,444 


212 


894 


164,380 


21

Extraterritorial bodies