Annual Report - VÚB banka

3. Summary of significant accounting policies (continued)
3.11 Repurchase and reverse repurchase agreements
Securities sold under sale and repurchase agreements
(‘repo transactions’) remain as assets in the
balance sheet under the original caption and the
liability from the received loan is included in ‘Deposits
from central and other banks’ or ‘Deposits
from customers’.
Securities purchased under agreements to purchase
and resell (‘reverse repo transactions’) are
recorded only in the off-balance sheet and the loan
provided is reported in the balance sheet in ‘Loans
and advances to banks’ or ‘Loans and advances to
customers’, as appropriate.
The price differential between the purchase and
sale price of securities is treated as interest income
or expense and accrued over the life of the agreement.
24
3.12 Derivative financial instruments
In the normal course of business, the VUB Group is
a party to contracts with derivative fi nancial instruments,
which represent a very low initial investment
compared to the notional value of the contract.
The derivative fi nancial instruments used include
foreign exchange forwards, interest rate/foreign
exchange swaps and options, forward rate agreements
and cross currency swaps. The VUB Group
also uses fi nancial instruments to hedge interest
rate risk and currency exposures associated with
its transactions in the fi nancial markets. They are
accounted for as trading derivatives as they do not
fully comply with the defi nition of a hedging derivative
as prescribed by IFRS. The VUB Group also
acts as an intermediary provider of these instruments
to certain customers.
Derivative fi nancial instruments are initially recognized
and subsequently re-measured in the balance
sheet at fair value. All derivatives are carried
as assets when the fair value is positive and as liabilities
when the fair value is negative. Changes
in the fair value of derivatives are included in ‘Net
trading income’.
Fair values are obtained from quoted market prices,
discounted cash fl ow models and option pricing
models as appropriate. The fair values of derivative
positions are computed using standard formulas
and prevailing interest rates applicable for respective
currencies available on the market at reporting
dates.
In the normal course of business, the VUB Group enters
into derivative fi nancial instrument transactions
to hedge its liquidity, foreign exchange and interest
rate risks. The Group also enters into proprietary
derivative fi nancial transactions for the purpose
of generating profi ts from short-term fl uctuations
in market prices. The VUB Group operates a system
of market risk and counterparty limits, which
are designed to restrict exposure to movements
in market prices and counterparty concentrations.
The VUB Group also monitors adherence to these
limits on a regular basis.
Credit risk of fi nancial derivatives
Credit exposure or the replacement cost of derivative
fi nancial instruments represents the VUB
Group’s credit exposure from contracts with a
positive fair value, that is, it indicates the estimated
maximum potential losses of the VUB Group in
the event that counterparties fail to perform their
obligations. It is usually a small proportion of the
notional amounts of the contracts. The credit exposure
of each contract is indicated by the credit
equivalent calculated pursuant to the generally applicable
methodology using the current exposure
method and involves the market value of the contract
(only if positive, otherwise a zero value is taken
into account) and a portion of nominal value, which
indicates the potential change in market value over
the term of the contract. The credit equivalent is
established depending on the type of contract and
its maturity. The VUB Group assesses the credit
risk of all fi nancial instruments on a daily basis.
The VUB Group is selective in its choice of counterparties
and sets limits for transactions with customers.
As such, the VUB Group considers that the actual
credit risk associated with fi nancial derivatives
is substantially lower than the exposure calculated
pursuant to credit equivalents.
Annual Report 2007