Credit risk exposure – the Company
31 December 2014
|Lending, 0 percent risk weight 77 (77) %||77|
|Liquidity reserve, 0 percent risk weight 14 (13) %||14|
|Liquidity reserve, 10 and 20 percent risk weight 8 (10) %||8|
|Liquidity reserve, 50 percent risk weight 0 (–) %||0|
|Derivatives 1 (0) %||1|
Credit concentration, distribution of lending – the Company
31 December 2014
|10 largest lending counterparties 22 (22) %||22|
|Other lending counterparties 78 (78) %||78|
Credit risk refers to the risk of a loss being incurred as a consequence of a counterparty’s incapacity to meet its obligations on time. Credit risk is divided into risk in credit provision, issuer risk and counterparty risk.
On 31 December 2014, 77 percent (77) of Kommuninvest’s credit risk exposure was towards Swedish municipalities and county councils/regions in the form of loans; 22 percent (23) of the exposure was towards states and other issuers of securities in the form of investments; and 1 percent (0) of the exposure was towards derivatives counterparties. The total credit risk exposure, gross and net, is detailed in Note 3.
Risk in credit provision
Kommuninvest may only provide credit to members and approved companies over whom one or more members have a decisive influence through majority ownership. Lending to municipal companies, foundations and associations must be supported by a guarantee from one or several members. Members and approved companies are followed up continuously and assessed from a holistic perspective at the corporation level. Risk in credit provision refers to the risk that a credit counterparty is unable to meet its obligations.
The municipalities and county councils/regions and the companies they own respectively are analysed when processing membership applications and on an ongoing basis during their membership. To obtain an overall view of a member’s financial situation, a quantitative risk value analysis is performed. The analysis includes the income statement, balance sheet, demographics and risks in municipal operations. Once a quantitative analysis has been made, it is, if necessary, followed by a qualitative analysis. This scrutinises and analyses the local government corporation and its financial conditions in more detail. Lending can be limited on the basis of the combined analysis.
Since all of the Company’s lending is to, or guaranteed by, municipalities and county councils/regions, which, from a capital adequacy perspective, have a risk weight of 0 percent, the risks in the Company’s lending activities are low. The Company has never suffered a credit loss in its lending.
In 2014, the ten largest borrowers accounted for 22 (22) percent of lending, while the combined population of these borrowers was equivalent to 12 (12) percent of the total population of the Society’s members. These borrowers are characterised by being relatively large and growing municipalities, with significant operations in a company form.
Kommuninvest’s liquidity reserve shall consist of securities issued by governments and financial institutions. Issuer risk refers to the risk that an issuer fails to repay its full undertaking on maturity.
The Company’s Board of Directors sets the maximum gross exposure towards individual issuers. The maturity of securities in the liquidity reserve shall not exceed the period during which the financial capacity of the counterparty can be assessed. Investments may only be made in counterparties with a credit rating of at least A2 from Moody’s and/or A from Standard & Poor’s. The maximum maturity for investments is 5.5 years.
The Kingdom of Sweden (the Swedish state) is approved as counterparty without further decisions being required. For counterparties outside Sweden, the permitted exposure is subject to a country-based limit.
To limit the market risks that arise when contractual borrowing and lending terms do not match, the Company uses risk management instruments in the form of derivative contracts. This gives rise to counterparty risk, that is, the risk that a counterparty to a financial agreement fails to meet its commitments in accordance with the agreement.
The Company limits counterparty risks by a) requiring agreements to be set out in accordance with the financial industry standard (ISDA agreements) and b) by signing collateral agreements with counterparties (CSA agreements), see below.
Risk taking towards derivatives counterparties is also limited by the Company ensuring a right to transfer a derivatives agreement to a new counterparty if the credit rating of an existing counterparty falls below Baa1 (Moody’s) or BBB+ (Standard & Poor’s). The counterparty’s credit rating is also decisive in what the Company is prepared to accept when it comes to the contracts’ maturity period, structure and permitted risk exposure. In cases where the credit rating is lower than Aa3/AA– and where there is no CSA agreement with that counterparty, the Company is only permitted to enter interest and currency swap agreements. In the event that a counterparty is downgraded so that its rating falls below A2/A, no new contracts may be entered into before an in-depth analysis has been performed by Risk and Control and a decision has been taken by the President.
Membership of ISDA
The Company is a member of the International Swaps and Derivatives Association (ISDA), and before entering derivative contracts it stipulates the right to early redemption of such contracts if the counterparty’s credit rating deteriorates below a pre-determined level.
The risk exposure comprises the cost of entering an equivalent contract in the market. Such cost is calculated for each contract and is considered a risk on the contract counterparty. ISDA agreements are to be established with all derivatives counterparties. The Company is also a member of the International Capital Markets Association (ICMA), which is responsible for, among other things, the established market standard for repo agreements.
To limit the risks arising because of value changes to derivatives and repo transactions, the Company enters collateral agreements with its counterparties – CSAs (Credit Support Annexes) for derivatives contracts and GMRAs (Global Master Repurchase Agreements) for repo transactions. These give the Company the right, under certain conditions, to require collateral but also an obligation to provide collateral under certain other conditions.
The determinants of when and how much extra collateral is to be pledged are whether the value change in contracts entered exceeds the pre-determined contracted exposure or if the creditworthiness of any of the counterparties deteriorates. The Company accepts collateral only in the form of government securities, which have zero risk-weighting from a capital adequacy perspective. Collateral agreements are intended to mitigate the credit and counterparty risk associated with receivables.
Counterparty exposure in 2014
The Company’s gross replacement cost for derivatives contracts – contracts with a fair value entailing that Kommuninvest has a claim on the counterparty – amounted to SEK 23,848 (6,236) million. The net replacement cost, after netting of exposures by counterparty, amounted to SEK 14,238 (907) million. For these net exposures, the Company had received collateral amounting to SEK 11,711 (791) million. The counterparty risk, after netting and deduction of collateral, amounted to SEK 2,526 (115) million.
In terms of nominal amounts, 32 (32) percent of derivative contracts were with counterparties with a minimum credit rating of Aa3/AA- from one of the recognised ratings institutes. 97 (95) percent of the counterparty exposures, in terms of nominal amounts, were covered by CSA agreements.
Concentration risk refers to a) major exposures to a customer or groups of customers that are mutually connected and b) major exposures to groups of counterparties where the likelihood of default is associated with factors such as the type of sector, geographical area, etc.
The Company only provides credit to members and approved companies over whom one or more members have a decisive influence through majority ownership. Lending to municipal companies, foundations and associations must be supported by a guarantee from one or several members. The characteristics of the operations mean there are concentrations in lending.
Exposures to issuers primarily entail governments and financial institutions with high creditworthiness from a selection of OECD countries approved by the Board of Directors and include holdings in the liquidity portfolio and collateral received. These exposures are subject to country-based limits. There are concentrations towards groups of issuers.
Exposures towards counterparties entail financial institutions from a selection of OECD countries approved by the Board of Directors. For counterparties in derivative contracts, the exposure is reduced through collateral agreements in which approved collateral consists of instruments issued by governments. There are concentrations towards groups of counterparties.
Events in 2014
Over the year, the company’s liquidity reserve was mainly invested in bonds issued by sovereign states, institutions and supranationals with a superior credit rating, exceeding the AA level. Specific maturity limits are imposed for individual counterparties and countries to limit price risks.
The tendency in the market is towards increased use of CSA agreements where the level of reconciliation is high and whereby both parties pledge collateral in accordance with low thresholds. Over the year, several of the company’s CSA agreements have been renegotiated in this direction.
The Company cooperates with its sister organisations in Denmark and Finland and exchanges information on counterparty and credit-related risks within the framework of what is permitted by confidentiality.
Market risk is defined as the risk that the net value (combined value) of the Company’s assets and liabilities will decrease due to changes in risk factors in the financial market. The Company’s market risks are divided into interest rate risk, foreign exchange risk, credit market risk, basis swap risk, other price risks and liquidation risk.
Market risk mainly arises in the funding operations and in the investment of the funds included in the Company’s liquidity reserve. For funding to be stable and efficient, the Company needs to be active in several different funding markets. Consequently, the Company is exposed to risk such as foreign exchange, interest rate and other price risks. As far as possible, the Company hedges market risk through derivative contracts. A limited exposure is permitted in order to make the operations more efficient.
Interest rate risk
Interest rate risk refers to the risk that a change in the interest rate environment will decrease the net value of the Company’s assets and liabilities. Interest rate risk arises because of mismatches in duration between assets and liabilities.
For the Company’s assignment to be conducted efficiently with regard to the conservative view on risk, risk is managed through portfolio matching. This means that small, temporary differences in interest rate periods are permitted for assets and liabilities. The interest rate risk appetite applies only to the currencies in which the Company has investments or lending.
According to the limit set by the Board of Directors, the risk (exposure) in the portfolio may never exceed SEK 10 million from a one (1) percentage point parallel shift in the yield curve. However, interest risk is permitted to correspond to an exposure of at most SEK 15 million over a period of at most three consecutive business days. When calculating the interest rate risk for contracts with no pre-agreed maturity, assumptions are made regarding the expected duration.
On 31 December 2014 the risk in the entire portfolio was SEK -8.5 (-4.7) million in a one (1) percentage point parallel shift in the yield curve. At the same time, the interest rate risk per currency was: SEK 1.4 (-1.6), EUR 0.3 (0.7) and USD -10.5 (-3.9) million. A negative exposure (negative value) entails a loss if interest rates rise and a profit if interest rates fall. A positive exposure (positive value) entails a positive effect on earnings if interest rates rise and a negative effect on earnings if interest rates fall.
Liquidity reserve distributed by risk weighting
31 December 2014
|0 percent risk weight 62 (57) %||62|
|10 percent risk weight 30 (31) %||30|
|20 percent risk weight 7 (12) %||7|
|50 percent risk weight 1 (–) %||1|
Foreign exchange risk
Foreign exchange risk refers to the risk that a change in exchange rates will affect the net value (combined value) of the Company’s assets and liabilities.
Foreign exchange risk arises if assets and liabilities denominated in a specific currency in the balance sheet are mismatched in terms of size. The Company hedges all known future flows by means of derivatives. However, foreign exchange risk arises on an ongoing basis through the net interest income generated on returns on foreign currency investments. This risk is limited by continuously converting such returns into SEK. The Company’s foreign exchange exposure is detailed in Note 3. The exposure means that a 10-percent strengthening of the SEK would cause the Company’s profit to decrease by SEK 0.4 (0.4) million.
Liquidity Coverage Ratio (LCR)
Credit market risk
Credit market risk refers to the risk that a change in a basis or credit market spread in the market would reduce the net value (combined value) of the Company’s assets and liabilities. Credit market risk arises primarily as a consequence of imbalances in maturities between assets and liabilities. The business model means that the Company is permitted to have longer maturities on liabilities than on the corresponding assets. Maturity risk as a consequence of an inverse imbalance, that is, maturities on assets being longer than on liabilities, shall not occur. The imbalances that arise in maturities between borrowing and lending shall, to the extent possible, taking other types of risks into account, be offset by maturities on investments. Credit market risk is further divided into credit spread risk on assets, credit spread risk on derivatives, credit spread risk on proprietary debt and basis swap risk. Credit spread risk on assets and derivatives respectively refers to the risk that a change in the counterparty’s credit spread will reduce the value of the Company’s asset or derivative (credit spread risk on derivatives corresponds to the risk sometimes referred to as credit valuation adjustment risk). Credit spread risk on proprietary debt refers to the risk that a change in the company’s credit spread will increase the value of the company’s liabilities. Basis swap risk refers to the risk that a change in the basis swap spread between two currencies will affect the market value of currency related derivatives contracts negatively. The Company’s credit market risk on 31 December 2014 entails that an upward parallel shift of one (1) basis point in the market’s basis and credit market spreads, would change the Company’s income, reported according to IFRS, by SEK -1.1 (-2.2) million.
Other price risks
Other price risks refers to the risk that a change in the pricing situation of underlying assets, such as shares, share indexes or raw materials indexes, will affect the net value (combined value) of the Company’s assets and liabilities. The Company uses derivatives to hedge price risks with regard to underlying assets and indexes. This means that no other price risks remain.
Liquidation risk refers to the risk that a counterparty to a transaction in interest-bearing instruments or foreign currency is unable to meet its obligations and that the Company incurs increased costs to enter a replacement transaction. The Company’s process for managing counterparty risks (see “Counterparty risk” above) also includes management of liquidation risks. The Company is to work proactively to avoid losses as a consequence of liquidation risks.
Liquidity risk refers to the risk that it will not be possible to meet payment obligations on maturity without the cost of obtaining payment funds increasing considerably. The Company’s liquidity risk management is pervaded by a highly restrictive attitude towards liquidity risk. The Company has diversified funding, with access to several different capital markets. This ensures that funding activities provides the necessary conditions to cover new lending, renewals and maturing borrowings even under worsening market conditions. Strategic funding is conducted within the Company’s Swedish Benchmark Programme, benchmark funding in USD within the EMTN (Euro Medium Term Note) programme, the ECP (Euro Commercial Paper) programme, as well as in funding in the Japanese market. The Company maintains a continuous market presence in strategic funding programs. Over the year, Kommuninvest has had good access to liquidity, in both long-term and short-term borrowing. Kommuninvest has completed several issues within the Swedish Benchmark Programme, as well as two major benchmark transactions in USD. The Company continuously monitors the effect on the amount of collateral the company would have to pledge in relation to CSA agreements, were its credit rating to deteriorate three notches. At the end of the year, this amounted to SEK 928 (1,896) million. The Company’s structural liquidity situation is stable with longer maturities on liabilities than on assets. Short-term liquidity risk are capped through limits on the amount of negative net outflows the Company may be permitted in certain time buckets. Short-term liquidity risk is further limited by the Company being a full member of the Riksbank’s (Swedish central bank) RIX payment system, through which the Company can, among other things, raise loans against collateral. In order to meet liquidity needs even during periods when financing opportunities on the capital markets are limited or too costly, the Board of Directors has decided to maintain a liquidity reserve whose nominal value may not be less than 20 percent or more than 40 percent of the total lending volume. In addition, at least 40 percent of the liquidity reserve is to be held in SEK. The liquidity reserve contains securities of good credit and liquidity quality and that largely qualify as collateral at central banks. As of 31 December 2014, the Company’s liquidity reserve consisted to 69 (82) percent of assets eligible as collateral with the Riksbank or the ECB. The favourable quality of the Company’s liquidity reserve is reflected by the fact that the liquidity coverage ratio (LCR) exceeds by a good margin the statutory requirement of a quota of one (1), imposed in Sweden since 1 January 2013. On 31 December 2014, the Company’s total LCR was 3.21 (5.11), and 26.03 (468.67) in EUR and 7.81 (15.44) in USD. Liquidity risks are monitored and analysed continuously to ensure that excessive liquidity outflows do not arise. The Company also reviews liquidity by continuously calculating a “survival period”. This denotes the period during which the Company can manage without access to new financing. On 31 December 2014, the estimated period during which the company could survive, maintaining normal operations but without access to new financing, was 8.7 (9.7) months. During the year, the Company conducted stress tests on both the short and long-term liquidity to assess the size and composition of the liquidity reserve. The results also form the basis for any revisions of the Company’s strategies, guidelines and positions. The results of the stress tests were satisfactory by a good margin. The Company’s liquidity exposure with regard to remaining durations on assets and liabilities is shown in Note 3. The cash flow analysis also illustrates the Company’s liquidity situation.
Events in 2014
As in previous years, the Company’s liquidity situation was very good in 2014. Among other measures, the Company has carried out several issues within the framework of the Swedish Benchmark Programme, as well as two major benchmark transactions in USD. Over the year, the Company evaluated the effects of EU-wide liquidity coverage ratio requirements as of 2015 and prepared to adapt to these. Preparations were also made for the introduction of the new regulations on long-term liquidity, the Net Stable Funding Ratio, to be introduced as of 2018 and with reporting requirements effective from 2014.
Kommuninvest’s balance sheet structure 31 Dec. 2014
A. Kommuninvest’s liquidity reserve includes a large proportion of assets which can be converted into cash rapidly. At year-end, the liquidity reserve exceeded cancellable and short-term funding by SEK 31.7 billion.
B. Kommuninvest’s long-term funding exceeded long-term lending by SEK 64.7 billion at the end of 2014.
Operational risk refers to the risk of losses resulting from inadequate or failed internal processes or routines, human error, incorrect systems or external events, including legal risks. Operational risks exist in all business operations and can never be avoided. The gross risk is considerable in a financial business that manages large amounts and long-term transactions. Through good governance and control, operational risk is kept to a controlled and acceptable level. Risks are identified continuously over the year in connection with each major change in the Company’s operations, as well as in connection with important events that affect the Company directly or that occur externally. A risk assessment is performed for each risk that is identified. The method also includes planning measures to manage the risks that are identified. Procedures and systems support are in place to enable reporting and follow-up of undesired events. The Company divides operational risks into the risk areas: process risk, personnel risk, IT and systems risk and external risk.
This risk arises when internal processes and procedures are faulty or inadequate. Process risk is mitigated by means of internal instructions, process descriptions and steering documents with checkpoints that are quality assured on a regular basis.
This risk arises as a consequence of shortcomings attributable to human error. Personnel risk is mitigated by it not being permitted for any individual to singlehandedly manage a transaction throughout the administration chain and by ensuring that the person assigned to each post has the necessary competence and experience.
IT and systems risk
This risk arises as a consequence of faulty systems. IT and systems risk is mitigated by means of a clear strategy based on IT industry standards (Information Technology Infrastructure Library, ITIL), a well-functioning back-up environment and internal regulations.
This risk arises as a consequence of external events. External risk is mitigated by Compliance following up on adherence to regulations and providing advice on adjustments to new and amended regulations; agreements entered being correctly formulated, and operations including processes and procedures that, among other things, enable the Company to prevent external crime and detect supplier errors at an early stage.
Reputation risk is the risk that income from potential and existing customers declines if they lose confidence in the Company due to negative publicity or rumours about the Company or the local government sector in general. Reputation risk is also the risk of increased borrowing costs if potential or existing investors lose confidence in the Company due to negative publicity or rumours about the Company or the local government sector in general. The Company works preventively with media monitoring and has employees with in-depth knowledge in the area to pre-empt and counter possible rumours about the Company.
Business risk is the risk of reduced revenues or increased costs as a consequence of factors in the external business environment (including market conditions, customer behaviours and technological developments) having a negative impact on volumes and margins. All departments within the Company work continuously with external monitoring in their respective fields. A process is also in place to conduct in-depth media monitoring each year ahead of strategy discussions.
Strategic risk is the long-term risk of losses due to erroneous or misguided strategic choices and business decisions, incorrect implementation of decisions or inadequate sensitivity to changes in society, regulatory systems or the financial sector and/or local government sector. The Company has an established procedure for processing strategic targets set by the Board of Directors. The risk appetite for strategic risks is limited by strategic decisions being made on the basis of well-founded analyses and decisions of a strategic nature often being made by the Board of Directors.
Residual risk is the risk that established techniques for risk assessment and risk reduction applied by the Company prove to be less effective than expected. The Company deliberately applies relatively simple methods and techniques for measuring risk, capital requirements and risk appetite to reduce the risk of error. The Company conducts both forward-looking and historical analyses of all risk types. The internal capital adequacy assessment process, ICAAP (see below), addresses negative scenarios to ensure that the impact on the Company is not greater than expected.
To provide cost-efficient financing without exceeding the Company’s risk appetite, risk management in operations is to be characterised by preventive measures that serve to prevent and/or limit both risks and their damaging effects. The Company’s Risk Manager bears the overall responsibility for the Company’s risk framework. Each department manager is responsible for the management and control of risks within his/her area of operations. Forward-looking and historical analyses are used to ensure that the Company identifies, assesses and measures risks correctly. The Risk and Control department, the Company’s function for risk control, is responsible for continuously checking and implementing ongoing follow-up and analysis of financial risks limit control and reports daily to the President and monthly to the Board of Directors. Risk and Control consists of nine employees of whom four work with credit and counterparty risks, three with liquidity and market risks and one with operational risks. The department is headed by the Chief Risk Officer, who reports to the President and is a member of the Executive Management Team. Beyond what has been mentioned above, the department is also responsible for following up that risks are reported correctly and in accordance with applicable external and internal regulations; regularly performing stress tests; ensuring that Kommuninvest’s business models are appropriate and secure; as well as leading and coordinating efforts related to operational risks. The Credit Committee functions as a preparatory body in the assessment of new counterparties, new financial instruments and other credit issues requiring decisions by the Board or the President. The company’s Asset Liability Committee (ALCO) is responsible for preparing matters concerning market risk and liquidity that require a decision by the Board of Directors or the President. Representatives from Risk and Control act as secretaries in the above mentioned groups. The diagram above illustrates the Company’s risk management in relation to the credit risks in its lending operations.
Kommuninvest’s capital planning is intended to ensure that the operations are fully capitalised to meet both the risks in the operations, as well as future regulatory requirements. In relation to the risks inherent in its operations, Kommuninvest is well capitalised. The principal priority of capital planning is ensuring that Kommuninvest meets the new leverage ratio requirement planned to be introduced within the EU from 2018 (see also the section New regulations on pages 30–32 in the Kommuninvest i Sverige AB annual report 2014) along with pages 28-30 in the Society’s annual report .
Capital plan and internal capital adequacy assessment process
Within Kommuninvest, a capital plan is developed at least once a year. The plan calculates how capital is intended to be developed over the next three years. The plan is based on assumptions regarding, among other aspects, margins in lending operations, margins in the management of the liquidity reserve, cost trends and forecasts for lending and other balance sheet items. The capital plan is an important building block in the internal capital adequacy assessment process (ICAAP) for the Company and the Group, consisting of the Society, the Company and Kommuninvest Fastighets AB, which owns the property in which the credit market company conducts its operations. In supporting the capital plan, the Society’s owner directives determine the desired risk appetite and sets clear targets with regard to capital structure. Under current regulations, credit institutes are responsible for designing their own ICAAP. The intention is that the institutes shall map their risks and assess their risk management in an integrated and comprehensive way and, on the basis of that, assess their capital requirements, and that they should communicate analyses and conclusions to Finansinspektionen. Within Kommuninvest, the finance department is responsible for the ICAAP. The Risk and Control department performs quality assurance related to the ICAAP, for example by assessing the evaluation methods that are applied. A significant portion of Kommuninvest’s risk-focused capital planning consists of stress tests that illuminate how risk-related capital requirements are affected by unfavourable external trends in various dimensions. Kommuninvest’s capital assessment shows that Kommuninvest meets all known requirements in accordance with both current and future regulations (primarily CRR/CRD IV1 – Capital Requirements Regulation/Capital Requirements Directive IV; and EMIR2 – European Markets Infrastructure Regulation). However, uncertainty prevails regarding the introduction of a leverage ratio requirement in the EU, with levels to be announced in 2016 (see also pages 30–32 in the Kommuninvest i Sverige AB annual report 2014) along with pages 28-30 in the Society annual report.
On 31 December 2014, the Company’s risk exposure amount (REA), calculated in accordance with CRR, amounted to SEK 6,784.9 (4,558.7) million. The core Tier 1 capital amounted to SEK 2,345.7 (1,650.8) million, entailing a core Tier 1 capital ratio of 34.6 (37.0) percent. The requirement, including the capital conservation buffer requirement, was 7.0 percent. Tier 1 capital was also SEK 2,345.7 (1,650.8) million, and the Tier 1 capital ratio was 34.6 (37.0) percent. The requirement, including the buffer requirement, was 8.5 percent. The total capital base was SEK 3,345.7 (2 650.8) million, which gave a total capital ratio of 49.3 (59.5) percent. The requirement, including the buffer requirement, was 10.5 percent. Transitional regulations do not significantly affect the Company’s capital ratio and other measures of capital.
On 31 December 2014, the Group’s risk exposure amount (REA), calculated in accordance with CRR, amounted to SEK 6,788.9 (4,455.0) million. The core Tier 1 capital amounted to SEK 2,345.7 (1,650.8) million, entailing a core Tier 1 capital ratio of 35.6 (37.6) percent. The requirement, including the capital conservation buffer requirement, was 7.0 percent. Tier 1 capital was also SEK 2,416.9 (1,674.3) million, and the Tier 1 capital ratio was 35.6
(37.6) percent. The requirement, including the buffer requirement, was 8.5 percent. The total capital base was SEK 3,216.9 (2,511.4) million, which gave a total capital ratio of 47.4 (56.4) percent. The requirement, including the buffer requirement, was 10.5 percent.
Transitional regulations do not significantly affect the Company’s capital ratio and other measures of capital.
1) Capital Requirements Regulation/Capital Requirements Directive IV, i.e. the European Parliament and the Council’s regulation (EU) No. 575/2013 on supervisory requirements for credit institutes and securities companies and the European Parliament and Council’s directive (EU) No. 2013/36/EU on authorisation to conduct operations in credit institutes and on supervision of credit institutes and securities companies.
2) EMIR (European Markets Infrastructure Regulation). The European Parliament and the Council’s regulation (EU) No. 648/2012 on OTC derivatives, central counterparties and trade repositories.
Risk management at Kommuninvest: transforming gross risks into net risks
|Gross exposure||Risk management||Net exposure|
|Credit risk Risk in credit provision|
Credit is only provided to members and their majority owned companies. Credit can also be provided to municipal foundations and associations.
The company follows up members according to its own model for risk review and local government analysis. Each year, the company’s Board of Directors sets a group limit for all members. The limit entails a maximum level on a group’s net consolidated debt. Lending to municipal companies, foundations and associations must be supported by a guarantee from one or several members.
Swedish municipalities and county councils/regions have the right to levy taxes and -cannot be declared bankrupt. The -central government also bears the ultimate responsibility for the local government -sector’s operations, which have a 0-percent risk weight according to applicable capital -adequacy rules. The risk in credit provision is assessed as very low.
Investments are made in securities issued -primarily by governments, government–guaranteed issuers and covered bonds.
Exposure to a single issuer may not exceed a risk weight of 20 percent. Maturities may not exceed 5.5 years. All outstanding issuers are followed up on an annual basis and when necessary. Each year, the company’s Board of Directors sets a total limit for each issuer.
Kommun-invest imposes high demands on issuers, with the effect that the greater share of the exposures involve issuers with very good creditworthiness. The issuer risk is considered to be limited.
Counterparty risk arises when derivatives contracts are entered with counterparties with the purpose of reducing or eliminating market risks. Depending on changes in market prices, a derivative contract of this kind can entail either a receivable or a liability in relation to the counterparty.
Exposure to a single counterparty may not exceed a risk weight of 20 percent. Derivative exposures are to be covered by ISDA agreements and, to the greatest extent possible, by CSA agreements. The scope of business is limited based on a number of criteria aimed at mitigating the risk that the cost of transferring the contract to a new counterparty will exceed the collateral secured. All outstanding counterparties are followed up on an annual basis and when necessary. Each year, the company’s Board of Directors sets a total limit for each counterparty.
CSA agreements entail Kommun-invest receiving collateral for receivables exceeding the exposure determined in the agreement. The collateral that Kommun-invest receives entails the counterparty risk being limited.
Kommuninvest’s operations and business model give rise to market risks in the form of interest rate risk, currency risk, credit market risk, credit spread risk, basis swap risk, other price risks and settlement risk.
Market risk is measured and followed up continuously. Most interest rate and currency risks, and all other price risks, are exchanged for counterparty risks through derivative contracts. Credit market risk is limited in part through good matching of maturities between liabilities and assets and, in part, through both assets and liabilities being of a very high credit quality with historically small fluctuations in underlying prices.
The company is exposed to changes in credit spreads on assets and/or liabilities, as well as changes in basis swaps. Through good governance and control, this risk is kept to a controlled and acceptable level. The exposure to interest rate and currency risk is very limited.
Liquidity risk refers to the risk that Kommun-invest will not be able to meet its payment obligations on maturity without the cost of obtaining payment funds increasing considerably.
The structural liquidity situation is to be highly stable with somewhat longer maturities on liabilities than on assets. Liquidity risks are limited by means of the company being a full member of the Riksbank’s RIX payment system. Through RIX, Kommun-invest can, for example, borrow funds against collateral. To be able to meet short-term lending or funding needs, a readily available liquidity reserve is maintained.
The liquidity risks in the Company are very limited.
Operational risks exist in all business operations and can never be avoided. The gross risk is considerable in a financial business that manages large amounts and long-term transactions.
Risks in the operations are identified continuously over the year. The method includes planning measures to manage the risks that are identified. Procedures and systems support are in place that enable reporting and follow-up of undesired events.
Through good governance and control, operational risk is kept to a controlled and acceptable level.