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| Name | Symbol | Market | Type |
|---|---|---|---|
| Hsbc Frn Var3 | LSE:57HB | London | Medium Term Loan |
| Price Change | % Change | Price | Bid Price | Offer Price | High Price | Low Price | Open Price | Traded | Last Trade | |
|---|---|---|---|---|---|---|---|---|---|---|
| 0.00 | 0.00% | 0 | - |
From Dec 2019 to Dec 2024
TIDM57HB
RNS Number : 0005S
Hongkong & Shanghai Banking Corp Ld
12 March 2021
12 March 2021
The Hongkong and Shanghai Banking Corporation Limited
2020 Annual Report and Accounts
In fulfilment of its obligations under sections 4.1.3 and 6.3.5(1) of the Disclosure Guidance and Transparency Rules, The Hongkong and Shanghai Banking Corporation Limited (the "Company") hereby releases the unedited full text of its 2020 Annual Report and Accounts for the year ended 31 December 2020.
The document is now available on the Company's website at: https://www.hsbc.com.hk/legal/regulatory-disclosures .
The document has also been submitted to the National Storage Mechanism and will shortly be available for inspection at: https://data.fca.org.uk/#/nsm/nationalstoragemechanism .
The Hongkong and Shanghai
Banking Corporation Limited
Annual Report and Accounts 2020
Hot Features
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Contents
Page
Certain defined terms 1
----
Cautionary statement regarding
forward-looking statements 1
------------------------------------------ ----
Chinese translation 1
------------------------------------------ ----
Financial Highlights 2
----
Report of the Directors 4
----
Financial Review 15
----
Risk 19
----
Statement of Directors' Responsibilities 80
----
Independent Auditor's Report 81
----
Consolidated Financial Statements
----
Consolidated income statement 71
----
Consolidated statement of comprehensive
income 72
----
Consolidated balance sheet 73
----
Consolidated statement of cash
flows 74
----
Consolidated statement of changes
in equity 75
----
Notes on the Consolidated Financial
Statements
----
Basis of preparation and significant
1 accounting policies 77
--- ------------------------------------- ----
2 Operating profit 88
--- ------------------------------------- ----
3 Insurance business 90
--- ------------------------------------- ----
Employee compensation and
4 benefits 91
--- ------------------------------------- ----
5 Tax 94
--- ------------------------------------- ----
6 Dividends 95
--- ------------------------------------- ----
7 Trading assets 95
--- ------------------------------------- ----
8 Derivatives 96
--- ------------------------------------- ----
Financial assets designated
and otherwise mandatorily
measured at fair value through
9 profit or loss 97
--- ------------------------------------- ----
10 Loans and advances to customers 97
--- ------------------------------------- ----
11 Financial investments 98
--- ------------------------------------- ----
Assets pledged, assets transferred
12 and collateral received 98
--- ------------------------------------- ----
13 Investments in subsidiaries 99
--- ------------------------------------- ----
Interests in associates and
14 joint ventures 100
--- ------------------------------------- ----
15 Goodwill and intangible assets 103
--- ------------------------------------- ----
16 Property, plant and equipment 104
--- ------------------------------------- ----
Prepayments, accrued income
17 and other assets 105
--- ------------------------------------- ----
18 Customer accounts 105
--- ------------------------------------- ----
19 Trading liabilities 105
--- ------------------------------------- ----
Financial liabilities designated
20 at fair value 106
--- ------------------------------------- ----
21 Debt securities in issue 106
--- ------------------------------------- ----
Accruals and deferred income,
22 other liabilities and provisions 106
--- ------------------------------------- ----
23 Subordinated liabilities 107
--- ------------------------------------- ----
24 Share capital 107
--- ------------------------------------- ----
25 Other equity instruments 107
--- ------------------------------------- ----
Maturity analysis of assets
26 and liabilities 108
--- ------------------------------------- ----
Analysis of cash flows payable
under financial liabilities
27 by remaining contractual maturities 110
--- ------------------------------------- ----
Contingent liabilities, contractual
28 commitments and guarantees 111
--- ------------------------------------- ----
29 Other commitments 111
--- ------------------------------------- ----
Offsetting of financial assets
30 and financial liabilities 111
--- ------------------------------------- ----
31 Segmental analysis 112
--- ------------------------------------- ----
32 Related party transactions 114
--- ------------------------------------- ----
Fair values of financial instruments
33 carried at fair value 116
--- ------------------------------------- ----
Fair values of financial instruments
34 not carried at fair value 119
--- ------------------------------------- ----
35 Structured entities 120
--- ------------------------------------- ----
Bank balance sheet and statement
36 of changes in equity 122
--- ------------------------------------- ----
Legal proceedings and regulatory
37 matters 124
--- ------------------------------------- ----
38 Ultimate holding company 125
--- ------------------------------------- ----
Events after the balance sheet
39 date 125
--- ------------------------------------- ----
40 Approval of financial statements 125
--- ------------------------------------- ----
Certain defined terms
This document comprises the Annual Report and Accounts 2020 for The Hongkong and Shanghai Banking Corporation Limited ('the Bank') and its subsidiaries (together 'the group'). References to 'HSBC', 'the Group' or 'the HSBC Group' within this document mean HSBC Holdings plc together with its subsidiaries. Within this document the Hong Kong Special Administrative Region of the People's Republic of China is referred to as 'Hong Kong'. The abbreviations 'HK$m' and 'HK$bn' represent millions and billions (thousands of millions) of Hong Kong dollars respectively.
Cautionary statement regarding forward-looking statements
This Annual Report and Accounts contains certain forward-looking statements with respect to the financial condition, results of operations and business of the group.
Statements that are not historical facts, including statements about the Bank's beliefs and expectations, are forward-looking statements. Words such as 'expects', 'anticipates', 'intends', 'plans', 'believes', 'seeks', 'estimates', 'potential' and 'reasonably possible', variations of these words and similar expressions are intended to identify forward-looking statements. These statements are based on current plans, estimates and projections, and therefore undue reliance should not be placed on them. Forward-looking statements speak only as of the date they are made, and it should not be assumed that they have been revised or updated in the light of new information or future events.
Forward-looking statements involve inherent risks and uncertainties. Readers are cautioned that a number of factors could cause actual results to differ, in some instances materially, from those anticipated or implied in any forward-looking statement.
Chinese translation
A Chinese translation of the Annual Report and Accounts 2020 is available upon request from: Communications (Asia), Level 32, HSBC Main Building, 1 Queen's Road Central, Hong Kong. The report is also available, in English and Chinese, on the Bank's website at www.hsbc.com.hk.
Financial Highlights
2020 2019
HK$m HK$m
------------------------------------------------------ --------- -----------
For the year
------------------------------------------------------ --------- -----------
Net operating income before change in expected credit
losses and other credit impairment charges 189,338 219,381
------------------------------------------------------ --------- ---------
Profit before tax 90,196 136,433
------------------------------------------------------ --------- ---------
Profit attributable to shareholders 69,447 105,722
------------------------------------------------------ --------- ---------
At the year-end
------------------------------------------------------ --------- -----------
Total shareholders' equity 845,353 814,678
------------------------------------------------------ --------- ---------
Total equity 911,531 879,281
------------------------------------------------------ --------- ---------
Total capital(1) 614,545 598,934
------------------------------------------------------ --------- ---------
Customer accounts 5,911,396 5,432,424
------------------------------------------------------ --------- ---------
Total assets 9,416,403 8,661,714
------------------------------------------------------ --------- ---------
Ratios % %
------------------------------------------------------ --------- -----------
Return on average ordinary shareholders' equity 8.6 13.9
------------------------------------------------------ --------- -----------
Post-tax return on average total assets 0.8 1.3
------------------------------------------------------ --------- -----------
Cost efficiency ratio 50.6 42.6
------------------------------------------------------ --------- -----------
Net interest margin 1.6 2.0
------------------------------------------------------ --------- -----------
Advances-to-deposits ratio 62.1 68.5
------------------------------------------------------ --------- -----------
Capital ratios
------------------------------------------------------ --------- -----------
Common equity tier 1 capital 17.2 17.2
------------------------------------------------------ --------- -----------
Tier 1 capital 18.8 18.8
------------------------------------------------------ --------- -----------
Total capital 20.8 21.0
------------------------------------------------------ --------- -----------
1 Capital is calculated in accordance with the Banking (Capital) Rules issued by the Hong Kong Monetary Authority ('HKMA') under section 97C(1) of the Banking Ordinance.
Established in Hong Kong and Shanghai in 1865, The Hongkong and Shanghai Banking Corporation Limited is the founding member of the HSBC Group - one of the world's largest banking and financial services organisations. It is the largest bank incorporated in Hong Kong and one of Hong Kong's three note-issuing banks. It is a wholly-owned subsidiary of HSBC Holdings plc, the holding company of the HSBC Group, which has an international network organised into four geographical regions: Europe, Asia, the Middle East and North Africa, North America and Latin America.
The Hongkong and Shanghai Banking Corporation Limited
Incorporated in the Hong Kong SAR with limited liability
Registered Office and Head Office: HSBC Main Building, 1 Queen's Road Central, Hong Kong
Telephone: (852) 2822 1111 Web: www.hsbc.com.hk. Report of the Directors
Principal Activities
The group provides a comprehensive range of domestic and international banking and related financial services, principally in the Asia-Pacific region.
Asia Strategy
Asia's growth story remains at the heart of HSBC's future. Based on the region's strong and sustained underlying fundamentals of economic growth, trade, and wealth creation, HSBC's strategy in the region remains aligned to the biggest opportunities to create further shareholder value. Building on the momentum of the past 10 years, we are well positioned to further extend the strengths of our leading Hong Kong franchise across the Greater Bay Area, and in other key growth markets, including India and Southeast Asia. By increasing investment in our people and technology, we will further grow our leading Asian Wealth Management business, while maintaining our distinct position as the leading international bank for our corporate and commercial clients. We remain focused on connecting Asia to the world through HSBC's global network, supporting the ongoing transition to a low-carbon economy as a Sustainable Finance leader, continually streamlining our organisation to realise greater operating efficiencies, and improving service for our domestic, regional, and global clients through our technology, talent, and 156 years of experience in the region.
Consolidated Financial Statements
The consolidated financial statements of the group are set out on pages 71 to 125.
Subordinated Liabilities, Share Capital and Other Equity Instruments
Details on subordinated liabilities issued by the group are set out in Notes 23 and 32. Details on share capital and other equity instruments of the Bank are set out in Notes 24 and 25 on the Consolidated Financial Statements.
Dividends
The interim dividends paid in respect of 2020 are set out in Note 6 on the Consolidated Financial Statements.
Directors
The Directors at the date of this report are set out below:
Laura May Lung Cha*, GBM
Chairman
She is an independent non-executive
Director of HSBC Holdings plc. She
is also Chairman and an independent
non-executive Director of Hong Kong
Exchanges and Clearing Limited;
an independent non-executive Director
of Unilever PLC and Unilever N.V.;
and a non-executive Director of
The London Metal Exchange. She holds
a Bachelor of Arts from University
of Wisconsin-Madison and a Juris
Doctor from University of Santa
Clara Law School. She is admitted
to practice in the State of California
and in U.S. Federal Courts.
---------------------------------------------------
Peter Tung Shun Wong, GBS, JP
Deputy Chairman & Chief Executive
He is a Group Managing Director
and a member of the Group Executive
Committee of HSBC Holdings plc and
a non-executive Director of Hang
Seng Bank Limited. He is also Chairman
and a non-executive Director of
HSBC Bank (China) Company Limited.
He holds a Bachelor of Arts, a Master
of Business Administration and a
Master of Science from Indiana University.
---------------------------------------------------
Zia Mody*
Deputy Chairman
She is a partner of AZB & Partners;
an independent non-executive Director
of CLP Holdings Limited; and an
independent Director of Ascendas
Property Fund Trustee Pte. Ltd.
She holds a Bachelor of Arts (Law)
from Cambridge University and a
Master of Laws from Harvard University.
---------------------------------------------------
Graham John Bradley*
He is Chairman and a non-executive
Director of United Malt Group Limited
and Shine Justice Ltd.; and Chairman
and a Director of EnergyAustralia
Holdings Limited, Infrastructure
New South Wales and Virgin Australia
International Holdings Limited.
He holds a Bachelor of Arts and
a Bachelor of Laws (Hons I) from
Sydney University and a Master of
Laws from Harvard University. He
was non-executive Chairman and a
Director of HSBC Bank Australia
Limited from 2004 to 2020.
---------------------------------------------------
Dr Christopher Wai Chee Cheng*,
GBS, OBE
He is Chairman of Wing Tai Properties
Limited; and an independent non-executive
Director of NWS Holdings Ltd. and
Eagle Asset Management (CP) Limited.
He holds a Bachelor of Business
Administration from University of
Notre Dame; a Master of Business
Administration from Columbia University;
a Doctorate in Social Sciences honoris
causa from The University of Hong
Kong; and an Honorary Degree of
Doctor of Business Administration
from The Hong Kong Polytechnic University.
---------------------------------------------------
Sonia Chi Man Cheng*
She is the Chief Executive Officer
of Rosewood Hotel Group. She is
also an executive Director of New
World Development Company Limited;
a Director of New World China Land
Limited; and a non-executive Director
of Chow Tai Fook Jewellery Group
Limited. She holds a Bachelor of
Arts degree with a field of concentration
in Applied Mathematics from Harvard
University.
---------------------------------------------------
Yiu Kwan Choi*
He is an independent non-executive
Director of HSBC Bank (China) Company
Limited. He holds a higher certificate
in Accountancy from The Hong Kong
Polytechnic University and is a
fellow member of The Hong Kong Institute
of Bankers.
He was Deputy Chief Executive of
the Hong Kong Monetary Authority
('HKMA') in charge of Banking Supervision
when he retired in January 2010.
Before this, he was Deputy Chief
Executive of the HKMA in charge of Monetary Policy and Reserves Management from June 2005 to August 2007 and held various senior positions in the HKMA including Executive Director (Banking Supervision), Head of Administration, and Head of Banking Policy from 1993 to 2005. --------------------------------------------------- Beau Khoon Chen Kuok* He is Chairman and Managing Director of Kerry Group Limited. He holds a Bachelor of Economics from Monash University. He was previously Chairman and Chief Executive Officer of Shangri-La Asia Limited; Chairman of Kerry Properties Limited; and Non-Executive Director of Wilmar International Limited. --------------------------------------------------- Irene Yun-lien Lee* She is an independent non-executive Director of HSBC Holdings plc and Hang Seng Bank Limited. She is also executive Chairman of Hysan Development Company Limited. She holds a Bachelor of Arts (Distinction) in History of Art from Smith College, Northampton, Massachusetts, USA. She is also a member of the Honourable Society of Gray's Inn, UK and a Barrister-at-Law in England and Wales. --------------------------------------------------- Jennifer Xinzhe Li* She is General Managing Partner of Changcheng Investment Partners. She is also an independent non-executive Director of Philip Morris International Inc. and a non-executive Director of Flex Ltd. and ABB Ltd. She holds a Bachelor of Arts from Tsinghua University and a Master of Business Administration from University of British Columbia. She was previously Chief Executive Officer and General Partner of Baidu Capital and Chief Financial Officer of Baidu, Inc. --------------------------------------------------- Victor Tzar Kuoi Li(#) He is Chairman and Managing Director of CK Asset Holdings Limited; Chairman and a Group Co-Managing Director of CK Hutchison Holdings Limited; Chairman of CK Infrastructure Holdings Limited and CK Life Sciences Int'l., (Holdings) Inc.; a non-executive Director of Power Assets Holdings Limited and HK Electric Investments Manager Limited; and a non-executive Director and Deputy Chairman of HK Electric Investments Limited. He is also Deputy Chairman of Li Ka Shing Foundation Limited, Li Ka Shing (Global) Foundation and Member Deputy Chairman of Li Ka Shing (Canada) Foundation. He holds a Bachelor of Science degree in Civil Engineering, a Master of Science degree in Civil Engineering, both received from Stanford University; and a degree of Doctor of Laws, honoris causa (LL.D.) from The University of Western Ontario. --------------------------------------------------- Bin Hwee Quek (née Chua)*, PBM, BBM, JP She is an independent non-executive Director of CapitaLand Integrated Commercial Trust Management Limited, Certis Cisco Security Pte. Ltd. and Mapletree Oakwood Holdings Pte. Ltd. She is also a Director of several government or government-funded organisations in Singapore, including Health Promotion Board, Maritime and Port Authority of Singapore, and National Heritage Board. She holds a Bachelor of Accountancy (Hons) from The University of Singapore and is a Chartered Accountant with the Institute of Singapore Chartered Accountants. She was an audit partner of PricewaterhouseCoopers (PwC) Singapore until June 2017 and held leadership positions including Vice Chairman of PwC Singapore and Deputy Markets Leader of PwC Asia-Pacific and Americas. --------------------------------------------------- Kevin Anthony Westley*, BBS He is an independent non-executive Director of Fu Tak Iam Foundation Limited and a member of the investment committee of the West Kowloon Cultural District Authority. He holds a Bachelor of Arts (Hons) from the University of London (LSE) and is a Fellow of the Institute of Chartered Accountants in England and Wales. He was Chairman (from 1996) and Chief Executive (from 1992) of HSBC Investment Bank Asia Limited (formerly named as Wardley Limited) until his retirement in 2000 and subsequently acted as an advisor to the Bank and the Group in Hong Kong. --------------------------------------------------- Tan Sri (Sir) Francis Sock Ping Yeoh*, KBE, CBE He is executive Chairman of YTL Corporation Berhad, YTL Land & Development Berhad, YTL Power International Berhad, YTL Cement Berhad, Malayan Cement Berhad and YTL E-Solutions Berhad. He holds a Bachelor of Science (Hons) in Civil Engineering and an Honorary Doctorate of Engineering from the University of Kingston. --------------------------------------------------- * Independent non-executive Director # Non-executive Director ===================================================
During the year, Louisa Wai Wan Cheang and Raymond Kuo Fung Ch'ien stepped down as Directors with effect from 10 August and 13 November 2020 respectively. Beau Khoon Chen Kuok and Sonia Chi Man Cheng were appointed as Directors with effect from 10 August and 20 November 2020 respectively. Save for the above, all the Directors served throughout the year.
A list of the directors of the Bank's subsidiary undertakings (consolidated in the financial statements) during the period from
1 January 2020 to the date of this report will be available on the Bank's website www.hsbc.com.hk/legal/regulatory-disclosures/.
Secretary
Paul Stafford was appointed as the Corporation Secretary with effect from 13 January 2020. Neil Olofsson was Corporation Secretary until 13 December 2019, when Philip Miller assumed the responsibilities on an interim basis until Paul Stafford's appointment.
Permitted Indemnity Provision
The Bank's Articles of Association provide that the Directors and other officers of the Bank shall be indemnified out of the Bank's assets against any liability incurred by them or any of them as the holder of any such office or appointment to a person other than the Bank or an associated company of the Bank in connection with any negligence, default, breach of duty or breach of trust in relation to the Bank or associated company. In addition, the Bank's ultimate holding company, HSBC Holdings plc, has maintained directors' and officers' liability insurance providing appropriate cover for the directors and officers within the Group, including the Directors of the Bank and its subsidiaries.
Directors' Interests in Transactions, Arrangements or Contracts
Save as disclosed in Note 32 on the Consolidated Financial Statements, no transactions, arrangements or contracts that were significant in relation to the Bank's business and in which a Director or his or her connected entities had, directly or indirectly, a material interest were entered into by or subsisted with the Bank, its holding companies, its subsidiaries or subsidiaries of its holding companies during the year.
Directors' Rights to Acquire Shares or Debentures
To help align the interests of employees with shareholders, executive Directors of the Bank and HSBC Holdings plc are eligible to be granted conditional awards over ordinary shares in HSBC Holdings plc by that company (being the ultimate holding company) under the HSBC Share Plan 2011 and the HSBC International Employee Share Purchase Plan.
Executive Directors of the Bank and HSBC Holdings plc are eligible to receive an annual incentive award based on the outcome of the performance measures (financial and non financial) set out in their annual performance scorecard. Annual incentive awards are normally delivered in cash and/or shares, and these generally have a deferral rate of 60% or 40% if the annual incentive award is GBP500,000 or below. The period over which annual incentive awards would be deferred is determined in accordance with the requirements of the Prudential Regulation Authority ('PRA') Remuneration Rules, i.e. seven years for Senior Managers (individuals in PRA and Financial Conduct Authority ('FCA') designated Senior Management Functions), five years for Risk Managers, and three years for other Material Risk Takers ('MRTs'). From January 2017 onwards, all share awards granted to MRTs are subject to a minimum retention period of one year as opposed to six months previously. However, for certain individuals whose variable pay awards will be deferred for at least five years and who are not considered to be members of senior management, their retention period may be kept at six months.
All unvested deferred awards made under the HSBC Share Plan 2011 are subject to the application of malus, i.e. the cancellation and reduction of unvested deferred awards. All paid or vested variable pay awards made to Identified Staff and MRTs will be subject to clawback for a period of seven years from the date of award. For Senior Managers, this may be extended to 10 years in the event of an ongoing internal or regulatory investigation at the end of the seven-year period.
Executive Directors and other senior executives of HSBC Holdings plc are subject to Group minimum shareholding requirements. Individuals are given five years from 2014 or (if later) their appointment to build up the recommended levels of shareholding. HSBC operates an anti-hedging policy for Group, sectorial and local MRTs including executive Directors in accordance with the PRA Rules, who are required to certify each year via the Bank's Global Personal Account Dealing system that they have not entered into any personal hedging strategies in relation to their holdings of HSBC shares as part of the Global Personal Account Dealing Certification.
The HSBC International Employee Share Purchase Plan is an employee share purchase plan offered to employees in Hong Kong since 2013 and has been extended to further countries in the HSBC Group from 2014. For every three shares in HSBC Holdings plc purchased by an employee ('Investment Shares'), a conditional award to acquire one share is granted ('Matching Shares'). The employee becomes entitled to the Matching Shares subject to continued employment with HSBC and retention of the Investment Shares until the third anniversary of the start of the relevant plan year. HSBC Holdings Savings-Related Share Option Plan (UK) is an all employee share plan under which eligible employees may be granted options to acquire HSBC Holdings ordinary shares. Employees may make monthly contributions, up to a maximum defined limit, over a period of three or five years and shares are exercisable within six months following either the third or fifth anniversary of the commencement. The exercise price is set at a 20% discount to the market value immediately preceding the date of invitation.
During the year, Peter Wong and Louisa Cheang acquired or were awarded shares of HSBC Holdings plc under the terms of the HSBC Share Plan 2011.
Apart from these arrangements, at no time during the year was the Bank, its holding companies, its subsidiaries or any fellow subsidiaries a party to any arrangements to enable the Directors to acquire benefits by means of the acquisition of shares in or debentures of the Bank or any other body corporate.
Donations
Donations made by the Bank and its subsidiaries during the year amounted to HK$345m (2019: HK$339m).
Compliance with the Banking (Disclosure) Rules
The Directors are of the view that the Annual Report and Accounts 2020 and Banking Disclosure Statements 2020 fully comply with the Banking (Disclosure) Rules made under section 60A of the Banking Ordinance and the Financial Institutions (Resolution) (Loss-absorbing Capacity Requirements - Banking Sector) Rules ('LAC Rules') made under section 19(1) of the Financial Institutions (Resolution) Ordinance ('FIRO').
Auditor
The Consolidated Financial Statements have been audited by PricewaterhouseCoopers ('PwC'). A resolution to reappoint PwC as auditor of the Bank will be proposed at the forthcoming AGM.
Corporate Governance
The Bank is committed to high standards of corporate governance. As an Authorised Institution, the Bank is subject to and complies with the HKMA Supervisory Policy Manual CG-1 'Corporate Governance of Locally Incorporated Authorised Institutions'.
Board of Directors
The Board, led by the Chairman, provides entrepreneurial leadership of the Bank within a framework of prudent and effective controls which enables risks to be assessed and managed. The Board is collectively responsible for the long-term success of the Bank and delivery of sustainable value to shareholders. The Board sets the strategy and risk appetite for the group and approves capital and operating plans presented by management for the achievement of the strategic objectives it has set.
Directors
The Bank has a unitary Board. The authority of each Director is exercised in Board meetings where the Board acts collectively. As at the date of this report, the Board comprised: the independent non-executive Chairman; the Deputy Chairman and Chief Executive; one Deputy Chairman who is an independent non-executive Director; one non-executive Director; and another 10 independent non-executive Directors.
Independent non-executive Directors
Independent non-executive Directors do not participate in the daily business management of the Bank. They bring an external perspective, constructively challenge and help develop proposals on strategy, scrutinise the performance of management in meeting agreed goals and objectives, and monitor the risk profile and reporting of performance of the Bank. The independent non-executive Directors bring experience from a number of industries and business sectors, including the leadership of large complex multinational enterprises. The Board has determined that there are 12 independent non-executive Directors. In making this determination, it was agreed that there are no relationships or circumstances likely to affect the judgement of the independent non-executive Directors, with any relationships or circumstances that could appear to do so not considered to be material.
Chairman and Chief Executive
The roles of the Chairman and Chief Executive are separate and held respectively by an experienced independent non-executive Director and a full-time employee of the HSBC Group. There is a clear division of responsibilities between leading the Board and the executive responsibility for running the Bank's business.
The Chairman provides leadership to the Board in promoting the overall effectiveness of the Bank, in particular the development of strategy and monitoring of the execution and delivery of Board approved strategies and plans by the Chief Executive and management. The Chairman's role includes promoting an open and inclusive culture on the Board to facilitate open and critical discussion and challenge and leading the Board in setting an appropriate 'tone from the top' and in the oversight of the Bank's corporate culture. The Chairman also leads an annual evaluation of the performance of the Board, its Committees and individual Directors.
The Chief Executive is responsible for ensuring implementation of the strategy and policy as established by the Board and the day-to-day running of operations. The Chief Executive is Chairman of the Executive Committee. Each Asia-Pacific Global Business and Global Function head reports to the Chief Executive.
Board Committees
The Board has established various committees consisting of Directors and senior management. The committees include the Executive Committee, Audit Committee, Risk Committee, Nomination Committee, Remuneration Committee and Chairman's Committee. The Chairmen of the Executive Committee and of each Board committee that includes independent non-executive Directors report to each subsequent Board meeting on the relevant committee's proceedings.
The Board has also established an Asset, Liability and Capital Management Committee, a Risk Management Meeting and a Financial Crime Risk Management Committee. The Executive Committee has the delegated authority to approve any changes in the membership and terms of reference of the Asset, Liability and Capital Management Committee, the Risk Management Meeting and the Financial Crime Risk Management Committee.
The Board and each Board committee have terms of reference to document their responsibilities and governance procedures. The key roles of the committees are described in the paragraphs below.
Executive Committee
The Executive Committee is responsible for the exercise of all of the powers, authorities and discretions of the Board in so far as they concern the management, operations and day-to-day running of the group, in accordance with such policies and directions as the Board may from time to time determine, with power to sub-delegate. A schedule of items that require the approval of the Board is maintained.
The Bank's Deputy Chairman and Chief Executive, Peter Wong, is Chairman of the Committee. The current members of the Committee are: Diana Cesar (Chief Executive Officer Hong Kong); Anthony Cripps (Chief Executive Officer Singapore); Darren Furnarello (Chief Compliance Officer, Asia-Pacific); David Grimme (Chief Operating Officer, Asia-Pacific); Gregory Hingston (Regional Head of Wealth and Personal Banking, Asia-Pacific); Mukhtar Hussain (Head of Belt and Road Initiative, Asia-Pacific); Ming Lau (Chief Financial Officer, Asia-Pacific); David Liao (Head of Asia-Pacific Global Banking Coverage); Matthew Lobner (Head of Strategy and Planning, Asia-Pacific and Head of International, Asia-Pacific); Mark McKeown (Chief Risk Officer, Asia-Pacific); Kaber Mclean (Chief Executive Officer Australia); Stuart Milne (Chief Executive Officer Malaysia); Surendranath Rosha (Chief Executive Officer India); Susan Sayers (Regional General Counsel, Asia-Pacific); Stuart Tait (Regional Head of Commercial Banking, Asia-Pacific); David Thomas (Regional Head of Human Resources, Asia-Pacific) and Mark Wang (President and Chief Executive Officer China). Paul Stafford (Corporation Secretary) is the Committee Secretary. In attendance are: Patrick Humphris (Head of Communications, Asia-Pacific); Astor Law (Head of Global Internal Audit, Asia-Pacific) and Philip Miller (Deputy Corporation Secretary). The Committee met 11 times in 2020. In between Committee meetings, there were periodic 'check-in' sessions held by the Committee Chairman with members to discuss urgent or important matters and to support effective communication.
Asset, Liability and Capital Management Committee
The Asset, Liability and Capital Management Committee ('ALCO') is chaired by the Chief Financial Officer and is an advisory committee to provide recommendations and advice to support the Chief Financial Officer's individual accountability for the efficient management of the Bank's balance sheet within the constraints of liquidity, funding and capital, and other key balance sheet risks such as interest rate risk, market risk and equity risk. The Committee also has responsibility for the Bank's resolution planning activities.
The Committee consists of Ming Lau (Chief Financial Officer, Asia-Pacific), Peter Wong (the Bank's Deputy Chairman and Chief Executive), the Regional Head of Asset and Liability Management, Asia-Pacific, the Regional Head of Capital Management, Asia-Pacific, the Regional Head of Markets Treasury, Asia-Pacific, and other senior executives of the Bank most of whom are members of the Executive Committee. The Committee met 11 times in 2020.
Risk Management Meeting
The Risk Management Meeting is chaired by the Chief Risk Officer and is a formal governance committee established to provide recommendations and advice to the Chief Risk Officer on enterprise-wide management of all risks, including key policies and frameworks for the management of risk within the Bank. The Risk Management Meeting consists of Mark McKeown (Chief Risk Officer, Asia-Pacific), Peter Wong (the Bank's Deputy Chairman and Chief Executive), the Head of Global Internal Audit, Asia-Pacific and other senior executives of the Bank most of whom are members of the Executive Committee. The Risk Management Meeting met 10 times in 2020.
Financial Crime Risk Management Committee
The Financial Crime Risk Management Committee is chaired by the Bank's Deputy Chairman and Chief Executive and is a formal governance committee established to ensure effective enterprise-wide management of financial crime risk within the Asia-Pacific Region and to support the Chief Executive in discharging his financial crime risk responsibilities. The Committee consists of Peter Wong (the Bank's Deputy Chairman and Chief Executive), the Regional Chief Compliance Officer, Asia-Pacific, the Regional Head of Financial Crime, Asia-Pacific, the Regional Head of Operational Risk, Asia-Pacific, and other senior executives of the Bank most of whom are members of the Executive Committee. The Committee met 10 times in 2020.
Audit Committee
The Audit Committee has non-executive responsibility for oversight of and advice to the Board on matters relating to financial reporting and internal financial controls. The current members of the Committee, all being independent non-executive Directors, are Kevin Westley (Chairman of the Committee), Graham Bradley, Yiu Kwan Choi, Irene Lee and Jennifer Li. The Committee met six times in 2020.
The Audit Committee monitors the integrity of the Consolidated Financial Statements and disclosures relating to financial performance, the effectiveness of the internal audit function and the external audit process, and the effectiveness of internal financial control systems. The Committee reviews the adequacy of resources and expertise as well as succession planning for the finance function. It reviews, and considers changes to, the Bank's accounting policies. The Committee advises the Board on the appointment, re-appointment, or removal of the external auditor and reviews and monitors the external auditor's independence and objectivity. The Committee reviews matters escalated for its attention by subsidiaries' audit committees and receives minutes of meetings of the Asset, Liability and Capital Management Committee.
Risk Committee
The Risk Committee has non-executive responsibility for oversight of and advice to the Board on risk-related matters impacting the Bank and its subsidiaries, including risk governance and internal control systems (other than internal controls over financial reporting). The current members of the Committee, all being independent non-executive Directors, are Graham Bradley (Chairman of the Committee), Christopher Cheng, Sonia Cheng, Yiu Kwan Choi, Irene Lee, Zia Mody and Kevin Westley. The Committee met five times in 2020.
All of the Bank's activities involve, to varying degrees, the identification, assessment, monitoring and management of risk or combinations of risks. The Board, advised by the Risk Committee, requires and encourages a strong risk culture which shapes the Bank's attitude to risk. The Bank's risk governance is supported by the Group's enterprise risk management framework which provides a clear policy of risk ownership and accountability of all staff for identifying, assessing and managing risks within the scope of their assigned responsibilities. This personal accountability, reinforced by clear and consistent employee communication on risk that sets the tone from senior leadership, the governance structure, mandatory learning and remuneration policy, helps to foster a disciplined and constructive culture of risk management and control throughout the group.
The Board and the Risk Committee oversee the maintenance and development of a strong risk management framework by continually monitoring the risk environment, top and emerging risks facing the group and mitigating actions planned and taken. The Risk Committee reviews the Group risk management policies and procedures at least annually and advises the Board if these are appropriate for the circumstances of the Bank. It also reviews local risk management policies at least annually, and approves or recommends any changes to the Board for approval.
The Committee reviews any revisions to the group's risk appetite statement twice a year and recommends any proposed changes to the Board for approval. The Committee reviews management's assessment of risk against the risk appetite statement and provides scrutiny of management's proposed mitigating actions. The Committee monitors the risk profiles for all of the risk categories within the group's business. The Committee also monitors the effectiveness of the Bank's risk management and internal controls other than those over financial reporting. Regular reports from the Risk Management Meeting are also presented at each Risk Committee meeting to report on the ongoing monitoring, assessment and management of the risk environment and the effectiveness of the risk management framework. The Committee reviews matters escalated for its attention by subsidiaries' risk committees and receives minutes of meetings of the Risk Management Meeting.
Nomination Committee
The Nomination Committee is responsible for leading the process for Board appointments and for identifying and nominating, for the approval of the Board, candidates for appointment to the Board and certain senior management roles. Appointments to the Board and certain senior management roles are subject to the approval of the HKMA. The Committee considers plans for orderly succession to the Board and the appropriate balance of skills, knowledge and experience on the Board. The Committee also considers and endorses appointments to boards of directors and specified senior management positions of certain subsidiaries of the Bank.
The current members of the Committee, all being independent non-executive Directors, are Christopher Cheng (Chairman of the Committee), Laura Cha (Chairman of the Board) and Zia Mody. The Deputy Chairman and Chief Executive attends each meeting of the Committee. The Committee met eight times in 2020.
A rigorous selection process, overseen by the Nomination Committee and based upon agreed requirements using an external search consultancy, is followed in relation to the appointment of non-executive Directors. Before recommending an appointment of a Director to the Board, the Committee evaluates the Board composition including balance of skills, knowledge and experience, as well as diversity and the role and capabilities required. In identifying suitable Board candidates, the Committee considers candidates' backgrounds, knowledge and experience (including international experience) to promote diversity of views, and takes into account the required time commitment and any potential conflicts of interest.
Chairman's Committee
The Chairman's Committee acts on behalf of the Board either in accordance with authority delegated by the Board from time to time, or as specifically set out within its terms of reference. The Committee meets with such frequency and at such times as it may determine and can implement previously agreed strategic decisions by the full Board, approve specified matters subject to their prior review by the full Board, and act exceptionally on urgent matters within its terms of reference.
The current members of the Committee comprise the Chairman of the Board, the Deputy Chairman and Chief Executive, the non-executive Deputy Chairman and the Chairmen of the Audit and Risk Committees. The Committee met twice in 2020.
Remuneration Committee
The Group Remuneration Committee is responsible for setting the overarching principles, parameters and governance for the Group's remuneration framework applicable to all Group employees. The Remuneration Committee of the Bank is responsible for the oversight of matters related to remuneration impacting the Bank and its subsidiaries, in particular, overseeing the implementation and operation of the Group's remuneration framework and satisfying itself that the remuneration framework complies with local laws, rules or regulations; is in line with the risk appetite, business strategy, culture and values, and long-term interests of the Bank; and is appropriate to attract, retain and motivate employees to support the success of the Bank. The Committee annually reviews the effectiveness and compliance of the Group's reward strategy as adopted by the Bank alongside the submission of the Bank's HKMA Supervisory Policy Manual CG-5 'Guideline on a Sound Remuneration System' Self Assessment as conducted by Deloitte LLP. The current members of the Committee, all being independent non-executive Directors, are Irene Lee (Chairman of the Committee), Christopher Cheng, Beau Kuok, Jennifer Li, Bin Hwee Quek and Francis Yeoh. The Committee met six times in 2020.The following is a summary of the Committee's key activities during 2020:
Details of the Committee's key activities
* Reviewed and approved senior management's
remuneration and pay proposals
* Reviewed and approved the performance scorecards for
the Chief Executive and Executive Committee members
of the Bank
* Approved 2019/2020 performance year pay review
matters
* Reviewed remuneration framework effectiveness
* Received updates on notable events and regulatory and
corporate governance matters
* Reviewed and approved 2020 Material Risk Taker
('MRT') identification approaches and outcomes
* Reviewed attrition data and plans to address area of
concerns
* Approved 2020 remuneration related regulatory
submissions
------------------------------------------------------------
* Senior Management includes the Chief Executive of the Bank, Chief Executive of Hang Seng Bank Limited, Executive Committee members, Alternate Chief Executives and Managers as registered with HKMA.
Remuneration Strategy
Our performance and pay strategy underpinned by our Group's Remuneration Framework is designed to reward competitively the achievement of long-term sustainable performance, and attract, motivate and retain the very best people, regardless of gender, ethnicity, age, disability or any other factor unrelated to performance or experience. We believe that remuneration is an important tool for instilling the right behaviours, and driving and encouraging actions that are aligned to organisational values and the long-term interests of our stakeholders.
The strategy supports our people to perform their roles to support our strategic priorities and long-term interests of our stakeholders, which includes the customers and communities we serve, our shareholders and regulators. We maintain key principles that underpin the performance and pay decisions for our workforce, as outlined below. These principles were crucial to the approach we took in response to Covid-19 to adequately support and recognise them and ensure they were treated fairly.
-- Ensuring that the assessments completed by people managers are fair, appropriate and free from bias. Managers are encouraged to challenge and communicate with peers, and analytical reviews are undertaken to identify any bias.
-- An alignment to performance at all levels (individual, business and Group) taking into account both 'what' has been achieved and 'how' it has been achieved. The 'how' helps ensure that performance is sustainable in the longer term, consistent with HSBC's values, risk and compliance standards.
-- Being informed, but not driven by, market position and practice. Market benchmarks are sourced through independent specialists and provide an indication of the range of pay levels and employee benefits provided by our competitors.
-- Supporting a culture of continuous feedback through manager and employee empowerment and creating a culture where employees can fulfil their potential, gain new skills and develop their careers for the future.
-- Considering the full-market range when making pay decisions for employees, taking into account the individual's and the Group's performance in any given year. An individual's pay will vary depending upon their performance.
-- Compliance with relevant regulation across all of our countries and territories.
More details of the Bank's remuneration strategy are contained within the Annual Report and Accounts 2020 of HSBC Holdings plc.
The Bank as an authorised institution under the Banking Ordinance is required by HKMA Supervisory Policy Manual CG-5 'Guideline on a Sound Remuneration System' (the Guideline) to assess whether their existing remuneration systems and policy are in line with the principles in the Guideline, independently of management and at least annually. The annual review for 2019 was commissioned externally to Deloitte LLP, and the results confirm that the Bank's remuneration framework as adopted from the Group is consistent with the principles set out in the Guideline.
Recovery and Resolution Planning
The group is subject to recovery and resolution requirements in many of the jurisdictions in which it operates.
Recovery
The group maintains recovery plans that are designed to outline credible actions that the group could implement in the event of severe stress in order to restore its business to a stable and sustainable condition. The Bank typically submits recovery plans on an annual basis to the HKMA and to other regulators that have implemented recovery planning requirements. The Bank's recovery plans are continually re-appraised, and this involves stress testing and 'fire drill' tests.
Resolution
The Financial Institutions (Resolution) (Loss-absorbing Capacity Requirements-Banking Sector) Rules ('LAC Rules') came into operation in Hong Kong in December 2018, under the powers set out in the Financial Institutions (Resolution) Ordinance ('FIRO') which came into effect in 2017. Within the LAC Rules, the group needs to have sufficient loss-absorbing capacity ('LAC') which can be written down or converted into equity at an intermediate holding company in Hong Kong to recapitalise the group as a whole in the event of failure.
HSBC Asia Holdings Limited, a wholly-owned subsidiary of HSBC Holdings plc and the intermediate holding company of the group, is designated as the resolution entity for the group, where adequate LAC has to be available in a form that will be bailed-in at the point of resolution. The group completed the restructuring of its internal regulatory capital and LAC-eligible debt and equity instruments such that they are all held by HSBC Asia Holdings Limited, in compliance with LAC requirements as at 1 July 2019.
In July 2019, the Bank of England and Prudential Regulation Authority ('PRA') published final policies on the Resolvability Assessment Framework ('RAF'), which places the onus on firms to demonstrate their own resolvability and is designed to increase transparency and accountability for resolution planning. In order to be considered resolvable, HSBC Group must meet three outcomes: (i) have adequate resources in resolution; (ii) be able to continue business through resolution and restructuring; and (iii) be able to co-ordinate its resolution and communicate effectively with stakeholders. The RAF requires the HSBC Group to perform a self-assessment of its preparedness for resolution, submit a report of the outcome of this self-assessment to the PRA in October 2021 and publish a public summary of the HSBC Group's resolvability in June 2022. The group is part of the HSBC Group-wide RAF implementation along with continued bilateral engagement with the HKMA and other principal Asian regulators to ensure adherence to local requirements and regulatory expectations.
Supporting Sustainable Finance
At the heart of the Group's climate ambition announced in October 2020 is an aim to help our customers embrace and thrive through the low carbon transition, and the goal to align financed emissions from our portfolio of customers to the Paris Agreement goal of net zero by 2050 or sooner. In 2020, the group was awarded 'Asia's Best Bank for Sustainable Finance' by Euromoney for the third consecutive year since award inception. Throughout the year, we continued to expand our sustainable finance offerings across our global businesses.
We have played our role to mitigate the impact of Covid-19. In addition to HSBC's US$25m Covid-19 donation fund, we have a range of measures to support individuals and businesses affected by the pandemic in Asia, including the provision of immediate medical relief, access to food, and care for the most vulnerable people. We have also dedicated effort to facilitate Covid-19 themed bonds (examples illustrated below).
In 2020, we continued to expand our sustainable finance offerings across Global Banking and Markets, Commercial Banking and Wealth and Personal Banking.
Global Banking and Markets
In July 2020, HSBC formed a dedicated team to help clients to 'build back better' following Covid-19. The Environmental, Social and Governance ('ESG') Solutions unit provides advice, expertise and financing ideas to clients in Asia, and around the world. The ESG Solutions team is led from Hong Kong and draws on the expertise of our bankers across sector, product and geography to assess client needs and deliver actionable ESG solutions which are in the best interests of our clients.
We have led a number of Covid-19 themed bonds, including the world's first Covid-19 impact alleviation bond for Bank of China (Macau), first Covid-19 impact alleviation bond (private placement) for Shinhan Bank and a sovereign bond for Republic of Indonesia with a partial fund for Covid-19 relief. We have also facilitated Downer EDI Limited's AUD1.4bn Sustainability Linked Loan ('SLL'), which is the largest SLL in Australia with internal key performance indicators. We were ranked first in Dealogic's 'Green, Social and Sustainability Bond League Table for Asia Pacific in G3 currencies' in 2020.
Across Asia, we have completed a number of innovative deals, including the first Green CNH Dim Sum Private Placement via the Placement Portal Exchange platform in Hong Kong, the first Structured Equity Product linked to an in-house ESG Index, and the first THB-denominated ESG bond issued out of HSBC Thailand.
Commercial Banking
In 2020, Commercial Banking launched a Sustainable Financing Programme and green loan and green trade products for our clients. In mainland China, the HSBC Sustainable Financing Programme is a market-first amongst foreign banks to provide green loans to clients with cash rebates linked to carbon savings, providing support and recognition for clients investing into eco-friendly projects and adopting a sustainable way of doing business. In Singapore, the HSBC SME Green Loan draws on existing green projects or asset certifications from Singapore's industry authorities, which helps reduce the time, complexity and cost typically associated with applying for green finance.
Our suite of green / sustainable trade and receivable finance products now comprises the end-to-end solution from pre-shipment / manufacturing advance to post-shipment receivables financing and supply chain financing solutions. In 2020, this offering was further complemented with our range of contingent solutions that encompass letters of credit / stand-by letters of credit and guarantee solutions to assist our clients with the financing of their sustainable activities. We received industry accolades - Asset Asian recognised the Walmart Sustainable Supply Chain Solutions transaction as the 'Best ESG Supply Chain Solutions (Regional)'.
Wealth and Personal Banking
A comprehensive range of sustainable investment products is offered to help clients fulfil their sustainability preferences while delivering financial goals. These include green, social and sustainability bonds, investment funds, structured products and green certificates of deposit. Our structured product offer linked to ESG baskets was recognised as 'Best ESG Solution' in the SRP China Awards 2020.
In addition to our existing offering, we have extended the HSBC GIF Lower Carbon Bond Fund in mainland China and Taiwan, and introduced a number of other third party sustainable investment funds across various Asian markets in 2020. We have also launched retail green certificates of deposit in Hong Kong, where proceeds were used to fund green and sustainable development projects.
HSBC Private Banking in Asia won the Asiamoney award of 'Best for ESG in Hong Kong' in 2020. In 2020, we have further enriched our ESG product offerings in structured products, long-only funds and alternatives with examples in impact investing, ESG structured products, and UN Sustainable Development Goals Fund.
Environmental, Social and Governance
We have the responsibility to protect our customers, our communities and the integrity of the financial system.
Environmental matters
We recognise our wider obligations to the communities where we operate, and understand economic growth must also be sustainable. In September 2020, the Group announced an ambitious plan to prioritise financing and investment that supports the transition to a net zero global economy, and which helps to build a thriving, resilient future for society and businesses. The global climate plan has three elements: to support our portfolio of customers to make the transition; to unlock climate solutions and innovation; and to transform HSBC into a net zero bank. To achieve these goals, we will work with a range of stakeholders including charities, governments, and policymakers.
More information about our assessment of climate risk can be found in 'Top and emerging risks' on page 19.
Employee matters
We are opening up a world of opportunity for our people through building a fully inclusive organisation that prioritises well-being, invests in learning and careers and prepares our colleagues for the future of work. We believe in the importance of listening to our people and seek new and innovative ways to encourage employees to speak up. At times, individuals may not feel comfortable speaking up through the usual channels. Our global whistleblowing channel, HSBC Confidential, is open to colleagues, past and present, to raise concerns either confidentially or anonymously.
We foster a healthy working environment and expect colleagues to treat each other with dignity and respect and take action where we find behaviour that falls short of our expectations. We monitor how we perform on metrics that we value and benchmark against history and internal best practice, including employee focus and engagement, employee belief in leadership and our strategy and employee willingness to speak up. We have a growing range of tools and resources to help colleagues to take ownership of their development journey, including training in core skills of leadership, risk management and cyber awareness.
Social matters
We have a responsibility to invest in the long-term prosperity of the communities where we operate. We recognise that technology is developing at a rapid pace and that a range of new and different skills are now needed to succeed in the workplace. For this reason, much of our focus is on programmes that develop employability and financial capability. We also back initiatives that support responsible business, and contribute to disaster relief efforts based on need. More details on customer relief programmes can be found on page 44.
Human rights
Our commitment to respecting human rights, principally as they apply to our employees, our suppliers and through our financial services lending, is aligned to that of the Group, the details of which are set out in the HSBC's Statement on Human Rights on www.hsbc.com/our-approach/measuring-our-impact.
Anti-corruption and anti-bribery
We are committed to high standards of ethical behaviour and operate a zero-tolerance approach to bribery and corruption, which we consider unethical and contrary to good corporate governance. Our anti-bribery and corruption policy sets the framework for the Group to comply with anti-bribery and corruption legislation in all jurisdictions in which we operate, and gives practical effect to global initiatives. The principal risks addressed by our anti-bribery and corruption policy are the risk that our employees, associated persons or customers engage in bribery or corruption, or that the Group does so through its strategic activities.
Business Review
The Bank is exempt from the requirement to prepare a business review under section 388(3) of the Companies Ordinance Cap. 622 since it is an indirect wholly-owned subsidiary of HSBC Holdings plc.
On behalf of the Board
Laura Cha, Chairman
23 February 2021
Financial Review Results for 2020
(Unaudited)
Profit before tax for 2020 reported by The Hongkong and Shanghai Banking Corporation Limited ('the Bank') and its subsidiaries (together 'the group') decreased by HK$46,237m, or 34%, to HK$90,196m.
Consolidated income statement and balance sheet data by global business(1)
(Audited)
Wealth
and Global
Personal Commercial Banking Corporate
Banking Banking and Markets Centre(2) Total
HK$m HK$m HK$m HK$m HK$m
--------------------------------------- --------- ---------- ------------ ---------- -----------
Year ended 31 Dec 2020
--------------------------------------- --------- ---------- ------------ ---------- -----------
Net interest income 59,783 34,192 22,895 (5,357) 111,513
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net fee income 22,026 9,102 10,380 162 41,670
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net income from financial instruments
measured at fair value through
profit or loss 18,927 2,985 21,288 2,067 45,267
--------------------------------------- --------- ---------- ------------ ---------- ---------
Gains less losses from financial
investments 772 450 417 (15) 1,624
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net insurance premium income/(expense) 58,261 3,627 - (325) 61,563
--------------------------------------- --------- ---------- ------------ ---------- ---------
Other operating income 5,056 66 862 (372) 5,612
--------------------------------------- --------- ---------- ------------ ---------- ---------
Total operating income 164,825 50,422 55,842 (3,840) 267,249
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net insurance claims and benefits
paid and movement in liabilities
to policyholders (74,394) (3,700) - 183 (77,911)
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net operating income before change
in expected credit losses and other
credit impairment charges 90,431 46,722 55,842 (3,657) 189,338
--------------------------------------- --------- ---------- ------------ ---------- ---------
- of which: - external 77,521 50,075 66,453 (4,711) 189,338
---------------------------------------
- inter-segment 12,910 (3,353) (10,611) 1,054 -
--------------------------------------- --------- ---------- ------------ ---------- ---------
Change in expected credit losses
and other credit impairment charges (4,441) (12,145) (1,128) (5) (17,719)
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net operating income 85,990 34,577 54,714 (3,662) 171,619
--------------------------------------- --------- ---------- ------------ ---------- ---------
Operating expenses (47,292) (19,391) (24,013) (5,132) (95,828)
--------------------------------------- --------- ---------- ------------ ---------- ---------
Operating profit 38,698 15,186 30,701 (8,794) 75,791
--------------------------------------- --------- ---------- ------------ ---------- ---------
Share of profit in associates and
joint ventures 6 - - 14,399 14,405
--------------------------------------- --------- ---------- ------------ ---------- ---------
Profit before tax 38,704 15,186 30,701 5,605 90,196
--------------------------------------- --------- ---------- ------------ ---------- ---------
Balance sheet data at 31 Dec 2020
--------------------------------------- --------- ---------- ------------ ---------- -----------
Loans and advances to customers
(net) 1,463,558 1,206,857 994,864 3,402 3,668,681
--------------------------------------- --------- ---------- ------------ ---------- ---------
Customer accounts 3,333,360 1,472,646 1,104,941 449 5,911,396
--------------------------------------- --------- ---------- ------------ ---------- ---------
Year ended 31 Dec 2019
--------------------------------------- --------- ---------- ------------ ---------- -----------
Net interest income 73,776 44,604 27,067 (14,544) 130,903
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net fee income 21,473 9,950 9,965 117 41,505
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net income from financial instruments
measured at fair value through
profit or loss 17,983 2,959 17,862 11,654 50,458
--------------------------------------- --------- ---------- ------------ ---------- ---------
Gains less losses from financial
investments 186 187 264 1 638
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net insurance premium income/(expense) 56,222 4,380 - (327) 60,275
--------------------------------------- --------- ---------- ------------ ---------- ---------
Other operating income 13,906 431 821 600 15,758
--------------------------------------- --------- ---------- ------------ ---------- ---------
Total operating income 183,546 62,511 55,979 (2,499) 299,537
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net insurance claims and benefits
paid and movement in liabilities
to policyholders (75,627) (4,529) - - (80,156)
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net operating income before change
in expected credit losses and other
credit impairment charges 107,919 57,982 55,979 (2,499) 219,381
--------------------------------------- --------- ---------- ------------ ---------- ---------
- of which: - external 80,935 61,593 83,087 (6,234) 219,381
---------------------------------------
- inter-segment 26,984 (3,611) (27,108) 3,735 -
--------------------------------------- --------- ---------- ------------ ---------- ---------
Change in expected credit losses
and other credit impairment charges (2,084) (3,034) (554) - (5,672)
--------------------------------------- --------- ---------- ------------ ---------- ---------
Net operating income 105,835 54,948 55,425 (2,499) 213,709
--------------------------------------- --------- ---------- ------------ ---------- ---------
Operating expenses (46,077) (19,442) (23,654) (4,321) (93,494)
--------------------------------------- --------- ---------- ------------ ---------- ---------
Operating profit 59,758 35,506 31,771 (6,820) 120,215
--------------------------------------- --------- ---------- ------------ ---------- ---------
Share of profit in associates and
joint ventures 346 - - 15,872 16,218
--------------------------------------- --------- ---------- ------------ ---------- ---------
Profit before tax 60,104 35,506 31,771 9,052 136,433
--------------------------------------- --------- ---------- ------------ ---------- ---------
Balance sheet data at 31 Dec 2019
--------------------------------------- --------- ---------- ------------ ---------- -----------
Loans and advances to customers
(net) 1,409,169 1,244,027 1,066,254 1,425 3,720,875
--------------------------------------- --------- ---------- ------------ ---------- ---------
Customer accounts 3,101,820 1,345,176 985,018 410 5,432,424
--------------------------------------- --------- ---------- ------------ ---------- ---------
1 Effective from 2020, the reportable segments have been changed to reflect the merging of Retail Banking and Wealth Management and Global Private Banking to form Wealth and Personal Banking ('WPB'), and the re-allocation of Balance Sheet Management from Corporate Centre to the global businesses. Comparatives have been re-presented to conform to the current year's presentation. Further details on the change in reportable segments are set out in Note 31 'Segmental analysis' on the Consolidated Financial Statements.
2 Includes inter-segment elimination. Financial Review
(Unaudited)
The commentary that follows compares the group's financial performance for the years ended 2020 with 2019.
Results Commentary
The group reported profit before tax of HK$90,196m, a decrease of HK$46,237m, or 34%.
Net interest income decreased by HK$19,390m, or 15%. Excluding the unfavourable foreign exchange impact, net interest income decreased by HK$18,401m, or 14%, driven by Hong Kong primarily due to narrower customer deposit spreads and lower reinvestment yields as market interest rates decreased, partly offset by balance sheet growth. Net interest income in mainland China, Singapore and Malaysia also decreased. These were partly offset by an increase in India, primarily from lower funding costs on customer deposits, coupled with balance sheet growth.
Net fee income increased by HK$165m. Excluding the unfavourable foreign exchange impact, net fee income increased by HK$355m, or 1%, driven by Wealth and Personal Banking ('WPB') in Hong Kong from an increase in securities brokerage income due to higher equities turnover, partly offset by lower income from unit trusts due to lower transaction volumes, coupled with lower credit cards income due to lower customer spending as a result of Covid-19. Net fee income in Commercial Banking ('CMB') decreased, mainly due to lower trade-related and remittance fees.
Net income from financial instruments measured at fair value through profit or loss decreased by HK$5,191m, or 10%.
Net income from financial instruments held for trading or managed on a fair value basis decreased by HK$4,216m, or 12%, mainly in Hong Kong from lower trading income, notably in Global Foreign Exchange, Securities Financing and Debt Trading and Financing businesses. Decreases also occurred in Taiwan and Japan from unfavourable revaluation on funding swaps, and in mainland China mainly from revaluation losses on foreign currency translation of balance sheet exposures.
Net income from assets and liabilities of insurance businesses, including related derivatives, measured at fair value through profit or loss decreased by HK$1,129m, or 8%, notably in WPB in Hong Kong, driven by lower revaluation gains on the equity portfolio held to support insurance and investment contracts due to less favourable market conditions in 2020 as compared to 2019. To the extent that these gains are attributable to policyholders, there is an offsetting movement reported under 'Net insurance claims and benefits paid and movement in liabilities to policyholders'.
Net insurance premium income increased by HK$1,288m, or 2%, driven by lower reinsurance arrangements in 2020 in Hong Kong. Gross insurance premium income (excluding the impact from reinsurance arrangements) decreased by 10%, mainly in Hong Kong driven by lower volumes due to the Covid-19 outbreak. These were largely offset by a corresponding movement in 'Net insurance claims and benefits paid and movement in liabilities to policyholders'.
Other operating income decreased by HK$10,146m, or 64%, driven by the less favourable movement in the present value of in-force long-term insurance business ('PVIF'), and from the unfavourable revaluation on investment properties, mainly in Hong Kong. The movement in PVIF was partly offset by a corresponding movement in 'Net insurance claims and benefits paid and movement in liabilities to policyholders'.
Net insurance claims and benefits paid and movement in liabilities to policyholders decreased by HK$2,245m, or 3%, mainly driven by lower reinsurance share of policy reserve, lower investment returns to policyholders due to the less favourable equity market performance compared with the prior year, coupled with lower premium income and the less favourable movement in PVIF.
Change in expected credit losses and other credit risk provisions increased by HK$12,047m, or 212%, with increases across all global businesses, mainly from higher specific charges in CMB, notably in Singapore and Hong Kong, coupled with charges relating to the global impact of Covid-19 and the unfavourable economic outlook.
Total operating expenses increased by HK$2,334m, or 2%. Excluding the favourable foreign exchange impact, operating expenses increased by HK$2,900m, or 3%, reflecting an increase in principally IT-related investments to enhance our digital capabilities and on regulatory programmes. The increase was also due to higher amortisation charges on intangible assets due to increased capitalised costs, coupled with an impairment charge on intangible assets. These increases were partly offset by lower employee compensation and benefits, mainly from lower performance-related pay and lower average headcount, partly offset by wage inflation across the region. To a lesser extent, decreases were also noted in marketing and advertising, travel and entertainment, and professional and consultancy expenses.
Share of profit in associates and joint ventures decreased by HK$1,813m, or 11%. Excluding the unfavourable foreign exchange impact, the share of profit in associates and joint ventures decreased by HK$1,646m, or 10%, mainly from Bank of Communications Co., Limited.
Net interest income
(Unaudited)
2020 2019
HK$m HK$m
--------------------------------- --------- -----------
Net interest income 111,513 130,903
--------------------------------- --------- ---------
Average interest-earning assets 6,882,970 6,464,424
--------------------------------- --------- ---------
% %
--------------------------------- --------- -----------
Net interest spread 1.53 1.87
--------------------------------- --------- -----------
Contribution from net free funds 0.09 0.15
--------------------------------- --------- -----------
Net interest margin 1.62 2.02
--------------------------------- --------- -----------
Net interest income ('NII') decreased by HK$19,390m, or 15%. Excluding the unfavourable foreign exchange impact, net interest income decreased by HK$18,401m, or 14%, driven by Hong Kong primarily from narrower customer deposit spreads and lower reinvestment yields as market interest rates decreased, partly offset by balance sheet growth. NII in mainland China, Singapore and Malaysia also decreased. These were partly offset by an increase in India, primarily from lower funding costs on customer deposits, coupled with balance sheet growth.
Average interest-earning assets increased by HK$419bn, or 6%, driven by Hong Kong and mainland China, mainly from increases in financial investments, reflecting growth in the commercial surplus as customer deposits increased. To a lesser extent, increases were also noted in Singapore, Australia and India.
Net interest margin ('NIM') dropped by 40 basis points, with decreases noted across the region, primarily in Hong Kong and mainland China, as market interest rates decreased significantly compared to the prior year. This resulted in narrower customer deposit spreads and lower reinvestment yields. The increase in commercial surplus, which was primarily deployed into financial investments, also contributed to lower yields.
As a result, the NIM at the Bank's operations in Hong Kong decreased by 53 basis points, and at Hang Seng Bank, the NIM decreased by 51 basis points.
Insurance business
(Unaudited)
The following table shows the results of our insurance manufacturing operations by income statement line item, and separately the insurance distribution income earned by the group's bank channels.
Results of insurance manufacturing operations and insurance distribution
income earned by the group's bank channels
2020 2019
HK$m HK$m
------------------------------------------------------------- -------- ----------
Insurance manufacturing operations(1)
------------------------------------------------------------- -------- ----------
Net interest income 15,654 14,634
------------------------------------------------------------- -------- --------
Net fee expense (2,923) (4,424)
------------------------------------------------------------- -------- --------
Net income from financial instruments measured at fair
value 13,812 13,633
------------------------------------------------------------- -------- --------
Net insurance premium income 61,874 60,577
------------------------------------------------------------- -------- --------
Change in present value of in-force long-term insurance
business 3,840 12,546
------------------------------------------------------------- -------- --------
Other operating income/(expense) (364) 267
------------------------------------------------------------- -------- --------
Total operating income 91,893 97,233
------------------------------------------------------------- -------- --------
Net insurance claims and benefits paid and movement
in liabilities to policyholders (78,093) (80,156)
------------------------------------------------------------- -------- --------
Net operating income before change in expected credit
losses and other credit impairment charges 13,800 17,077
------------------------------------------------------------- -------- --------
Change in expected credit losses and other credit impairment
charges (440) (113)
------------------------------------------------------------- -------- --------
Net operating income 13,360 16,964
------------------------------------------------------------- -------- --------
Total operating expenses (2,595) (2,095)
------------------------------------------------------------- -------- --------
Operating profit 10,765 14,869
------------------------------------------------------------- -------- --------
Share of profit in associates and joint ventures 6 346
------------------------------------------------------------- -------- --------
Profit before tax 10,771 15,215
------------------------------------------------------------- -------- --------
Annualised new business premiums of insurance manufacturing
operations(2) 15,749 23,617
------------------------------------------------------------- -------- --------
Distribution income earned by the group's bank channels 4,092 5,800
------------------------------------------------------------- -------- --------
1 The results presented for insurance manufacturing operations are shown before elimination of intercompany transactions with the group's non-insurance operations.
2 Annualised new business premium comparatives have been re-presented to include 100% of first year regular premiums and 10% of single premiums, before reinsurance ceded.
1
Insurance manufacturing
Profit before tax from the insurance manufacturing operations decreased by HK$4,444m, or 29%, driven by the less favourable equity market performance compared to 2019, together with lower new business volumes in 2020 due to the Covid-19 outbreak.
Net interest income increased by 7% from growth in invested funds, reflecting net new business and renewal premium inflows on life insurance contracts.
Net income from financial instruments measured at fair value increased, mainly from favourable gains from currency swaps, partly offset by lower revaluation gains on the equity portfolio held to support insurance and investment contracts. While there was strong investment performance within the portfolio in light of volatile markets during the year, the overall fair value gains were lower compared to 2019.
Net insurance premium income increased slightly, driven by lower reinsurance arrangements in 2020 in Hong Kong. Gross insurance premium income (excluding the impact from reinsurance arrangements) decreased by 10%, mainly in Hong Kong driven by lower volumes due to the Covid-19 outbreak.
The less favourable movement in the present value of in-force long-term insurance business was driven by Hong Kong, mainly from the effect of interest rate changes on the valuation of liabilities under insurance contracts, lower sales volumes of new business written during 2020 due to the Covid-19 outbreak, and actuarial assumptions and methodology updates. For further details, please see Note 15 on the Consolidated Financial Statements.
To the extent that the above gains are attributable to policyholders, there is an offsetting movement reported under 'Net insurance claims and benefits paid and movement in liabilities to policyholders'.
Annualised new business premiums ('ANP') is a measure of new insurance premium generation by the business. It is calculated as the sum of 100% of annualised first year regular premiums and 10% of single premiums, before reinsurance ceded. The decrease in ANP during the year reflected lower volumes in all insurance manufacturing markets, principally in Hong Kong.
Balance sheet commentary compared with 31 December 2019
(Unaudited)
The consolidated balance sheet at 31 December 2020 is set out in the Consolidated Financial Statements.
Gross loans and advances to customers decreased by HK$41bn, or 1%, which included favourable foreign exchange translation effects of HK$54bn. Excluding this impact, the underlying decrease of HK$95bn was driven by a decrease in corporate and commercial lending of HK$112bn, mainly in Hong Kong and Australia, coupled with decreases in other personal lending of HK$15bn and credit card advances of HK$9bn, mainly in Hong Kong. The decrease was partly offset by an increase in residential mortgages of HK$50bn, mainly in Hong Kong and Australia.
Overall credit quality remained strong, with total gross impaired loans and advances as a percentage of gross loans and advances standing at 0.99% at the end of 2020. The change in expected credit losses as a percentage of average gross customer advances was 0.44% for 2020 (2019: 0.15%).
Interest in associates and joint ventures
At 31 December 2020, an impairment review on the group's investment in Bank of Communications Co., Ltd ('BoCom') was carried out and it was concluded that the investment was not impaired based on our value in use calculation (see Note 14 on the Consolidated Financial Statements for further details). As discussed in that note, in future periods the value in use may increase or decrease depending on the effect of changes to model inputs. It is expected that the carrying amount will increase due to retained profits earned by BoCom. At the point where the carrying amount exceeds the value in use, impairment would be recognised. The group would continue to recognise its share of BoCom's profit or loss, but the carrying amount would be reduced to equal the value in use, with a corresponding reduction in income. An impairment review would continue to be performed at each subsequent reporting period, with the carrying amount and income adjusted accordingly.
Customer deposits rose by HK$479bn, or 9%, to HK$5,911bn. The advances-to-deposits ratio was 62.1% at the end of the year (2019: 68.5%).
Shareholders' equity grew by HK$32bn to HK$912bn at
31 December 2020, mainly reflecting the current year's profit, net of dividend payments, coupled with an increase in the foreign exchange reserve due to appreciation of various currencies against the Hong Kong dollar.
Risk Our approach to risk
(Unaudited)
Our risk appetite
We recognise the importance of a strong risk culture, which refers to our shared attitudes, values and norms that shape behaviours related to risk awareness, risk taking and risk management. All our people are responsible for the management of risk, with the ultimate accountability residing with the Board.
We seek to build our business for the long term by balancing social, environmental and economic considerations in the decisions we make. Our strategic priorities are underpinned by our endeavour to operate in a sustainable way. This helps us to carry out our social responsibility and manage the risk profile of the business. We are committed to managing and mitigating climate-related risks, both physical and transition, and will continue to incorporate this into how we manage and oversee risks internally and with our customers.
The following principles guide the group's overarching appetite for risk and determine how our businesses and risks are managed.
Financial position
-- We aim to maintain a strong capital position, defined by regulatory and internal capital ratios.
-- We carry out liquidity and funding management for each operating entity, on a stand-alone basis.
Operating model
-- We seek to generate returns in line with a conservative risk appetite and strong risk management capability.
-- We aim to deliver sustainable earnings and consistent returns for shareholders.
Business practice
-- We have zero tolerance for any of our people to knowingly engage in any business, activity or association where foreseeable reputational risk or damage has not been considered and/or mitigated.
-- We have no appetite for deliberately or knowingly causing detriment to consumers, or incurring a breach of the letter or spirit of regulatory requirements.
-- We have no appetite for inappropriate market conduct by a member of staff or by any group business.
Enterprise-wide application
Our risk appetite encapsulates consideration of financial and non-financial risks. We define financial risk as the risk of a financial loss as a result of business activities. We actively take these types of risks to maximise shareholder value and profits. Non-financial risk is defined as the risk to achieving our strategy or objectives as a result of inadequate or failed internal processes, people and systems or from external events.
Our risk appetite is expressed in both quantitative and qualitative terms and applied at the global business level and to material operating entities. It continues to evolve and expand its scope as part of our regular review process.
The Board reviews and approves the group's risk appetite twice a year to make sure it remains fit for purpose. The group's risk appetite is considered, developed and enhanced through:
-- an alignment with our strategy, purpose, values and customer needs; -- trends highlighted in other group risk reports;
--
communication with risk stewards on the developing risk landscape;
-- strength of our capital, liquidity and balance sheet; -- compliance with applicable laws and regulations;
-- effectiveness of the applicable control environment to mitigate risk, informed by risk ratings from risk control assessments;
-- functionality, capacity and resilience of available systems to manage risk; and -- the level of available staff with the required competencies to manage risks.
We formally articulate our risk appetite through our risk appetite statement ('RAS'), which is approved by the Board on the recommendation of the group Risk Committee ('RC'). Setting out our risk appetite ensures that we agree a suitable level of risk for our strategy. In this way, risk appetite informs our financial planning process and helps senior management to allocate capital to business activities, services and products.
The RAS consists of qualitative statements and quantitative metrics, covering financial and non-financial risks. It is applied to the development of business line strategies, strategic and business planning, and remuneration. At a group level, performance against the RAS is reported to the group Risk Management Meeting ('RMM') alongside key risk indicators to support targeted insight and discussion on breaches of risk appetite and associated mitigating actions. This reporting allows risks to be promptly identified and mitigated, and informs risk-adjusted remuneration to drive a strong risk culture.
Most global businesses and strategically important entities are required to have their own RAS, which is monitored to ensure they remain aligned with the group's. Each RAS and business activity is guided and underpinned by qualitative principles and/or quantitative metrics.
Risk Management
We recognise that the primary role of risk management is to protect our business, customers, colleagues, shareholders and the communities that we serve, while ensuring we are able to support our strategy and provide sustainable growth.
We are focused upon the implementation of our business strategy, as part of which we are carrying out a major change programme. It is critical that we ensure that as we implement changes, we use active risk management to manage the execution risks.
We will also perform periodic risk assessments, including against strategies to ensure retention of key personnel for our continued safe operation.
We use a comprehensive risk management framework across the organisation and across all risk types, underpinned by the group's culture and values. This outlines the key principles, policies and practices that we employ in managing material risks, both financial and non-financial.
The framework fosters continual monitoring, promotes risk awareness and encourages sound operational and strategic decision making. It also ensures a consistent approach to identifying, assessing, managing and reporting the risks we accept and incur in our activities.
Our risk management framework
The following diagram and descriptions summarise key aspects of the risk management framework, including governance and structure, our risk management tools and our risk culture, which together help align employee behaviour with our risk appetite.
Key components of our risk management framework
Risk governance Non-executive risk governance The Board approves the group's
risk appetite, plans and performance
targets. It sets the 'tone from
the top' and is advised by the
group's Risk Committee.
===========================================
Executive risk governance Our executive risk governance structure
is responsible for the enterprise-wide
management of all risks, including
key policies and frameworks for
the management of risk within the
group.
===========================================
Roles and Three lines of defence Our 'three lines of defence' model
responsibilities model defines roles and responsibilities
for risk management. An independent
Risk function helps ensure the
necessary balance in risk/return
decisions.
===========================================
Processes Risk appetite The group has several processes
and tools to identify/assess, monitor, manage
and report risks to ensure we remain
within our risk appetite.
===========================================
Enterprise-wide risk management
tools
Active risk management:
identification/assessment,
monitoring, management
and reporting
Internal Policies and procedures Policies and procedures define
controls the minimum requirements for the
controls required to manage our
risks.
===========================================
Control activities Operational and resilience risk
management defines minimum standards
and processes for managing operational
risks and internal controls.
===========================================
Systems and infrastructure The group has systems and/or processes
that support the identification,
capture and exchange of information
to support risk management activities.
---------------------------------------
Risk governance
The Board has ultimate responsibility for the effective management of risk and approves our risk appetite. It is advised on risk-related matters by the RC.
The group's Chief Risk Officer, supported by the RMM, holds executive accountability for the ongoing monitoring, assessment and management of the risk environment and the effectiveness of the risk management framework.
The management of regulatory compliance risk and financial crime risk resides with the group's Chief Compliance Officer. Oversight is maintained by the group's Chief Risk Officer, in line with his enterprise risk oversight responsibilities, through the RMM.
Day-to-day responsibility for risk management is delegated to senior managers with individual accountability for decision making. All our people have a role to play in risk management. These roles are defined using the three lines of defence model, which takes into account the group's business and functional structures.
We use a defined executive risk governance structure to help ensure there is appropriate oversight and accountability of risk, which facilitates reporting and escalation to the RMM. This structure is summarised in the following table.
Governance structure for the management of risk
Risk Management group Chief Risk Officer
Meeting of group General Counsel * Supporting the group Chief Risk Officer in exercising
the group group Chief Executive Board-delegated risk management authority
group Chief Financial
Officer
group heads of global * Overseeing the implementation of risk appetite and
business and global the risk management framework
functions
* Forward-looking assessment of the risk environment,
analysing possible risk impacts and taking
appropriate action
* Monitoring all categories of risk and determining
appropriate mitigating action
* Promoting a supportive group culture in relation to
risk management and conduct
-------------------- -------------------------- ------------------------------------------------------------
Global business/Site Global business/Site
risk management Chief Risk Officer * Supporting the Chief Risk Officer in exercising
meetings Global business/Site Board-delegated risk management authority
Chief Executive
Global business/Site
Chief Financial Officer * Forward-looking assessment of the risk environment,
Global business/Site analysing the possible risk impact and taking
heads of global functions appropriate action
* Implementation of risk appetite and the risk
management framework
* Monitoring all categories of risk and determining
appropriate mitigating actions
* Embedding a supportive culture in relation to risk
management and controls
-------------------- -------------------------- ------------------------------------------------------------
The Board committees with responsibility for oversight of risk-related matters are set out on page 6.
Our responsibilities
All our people are responsible for identifying and managing risk within the scope of their role as part of the three lines of defence model.
Three lines of defence
To create a robust control environment to manage risks, we use an activity-based three lines of defence model. This model delineates management accountabilities and responsibilities for risk management and the control environment.
The model underpins our approach to risk management by clarifying responsibility and encouraging collaboration, as well as enabling efficient coordination of risk and control activities.
The three lines of defence are summarised below:
-- The first line of defence owns the risks and is responsible for identifying, recording, reporting and managing them in line with risk appetite, and ensuring that the right controls and assessments are in place to mitigate them.
-- The second line of defence challenges the first line of defence on effective risk management, and provides advice and guidance in relation to the risk.
-- The third line of defence is our Internal Audit function, which provides independent assurance that our risk management approach and processes are designed and operating effectively.
Risk function
The group's Risk function, headed by the group's Chief Risk Officer, is responsible for the group's risk management framework. This responsibility includes establishing and monitoring of risk profiles, and forward-looking risk identification and management. The group's Risk function is made up of sub-functions covering all risks to our business and forms part of the second line of defence. It is independent from the global businesses, including sales and trading functions, to provide challenge, appropriate oversight and balance in risk/return decisions.
Responsibility for minimising both financial and non-financial risk lies with our people. They are required to manage the risks of the business and operational activities for which they are responsible. We maintain adequate oversight of our risks through our various specialist risk stewards as well as the collective accountability held by our Chief Risk Officers.
Non-financial risk is the risk to achieving our strategy or objectives as a result of failed internal processes, people and systems, or from external events. Sound non-financial risk management is central to achieving good outcomes for our customers.
During 2020 we continued to strengthen the control environment and our approach to the management of non-financial risk, as broadly set out in our risk management framework. The management of non-financial risk focuses governance and risk appetite, and provides a single view of the non-financial risks that matter the most and the associated controls. It incorporates a risk management system designed to enable the active management of non-financial risk. Our ongoing focus is on simplifying our approach to non-financial risk management, while driving more effective oversight and better end-to-end identification and management of non-financial risks. This is overseen by the Operational and Resilience Risk function, headed by the group Head of Operational and Resilience Risk.
Stress testing and recovery planning
The group operates a wide-ranging stress testing programme that is a key part of our risk management and capital and liquidity planning. Stress testing provides management with key insights into the impact of severely adverse events on the group, and provides confidence to regulators on the group's financial stability.
Our stress testing programme assesses our capital and liquidity strength through a rigorous examination of our resilience to external shocks. As well as undertaking regulatory-driven stress tests, we conduct our own internal stress tests, in order to understand the nature and level of all material risks, quantify the impact of such risks and develop plausible business as usual mitigating actions.
Many of our regulators - including the Hong Kong Monetary Authority ('HKMA') - use stress testing as a prudential regulatory tool, and the group has focused significant governance and resources to meet their requirements.
Internal stress tests
Our internal capital assessment uses a range of stress scenarios that explore risks identified by management. They include potential adverse macroeconomic, geopolitical and operational risk events, as well as other potential events that are specific to the group.
The selection of scenarios is based upon the output of our identified top and emerging risks and our risk appetite. Stress testing analysis helps management understand the nature and extent of vulnerabilities to which the group is exposed. Using this information, management decides whether risks can or should be mitigated through management actions or, if they were to crystallise, should be absorbed through capital and liquidity. This in turn informs decisions about preferred capital and liquidity levels and allocations.
In addition to the group-wide stress testing scenarios, each major subsidiary and branch performs regular macroeconomic and event-driven scenario analyses specific to its region. They also participate, as required, in the regulatory stress testing programmes of the jurisdictions in which they operate, and the stress tests of the HKMA. Global functions and businesses also perform bespoke stress testing to inform their assessment of risks in potential scenarios.
We also conduct reverse stress tests each year at a group level and, where required, at subsidiary entity level to understand potential extreme conditions that would make our business model non-viable. Reverse stress testing identifies potential stresses and vulnerabilities we might face, and helps inform early warning triggers, management actions and contingency plans designed to mitigate risks.
The group stress testing programme is overseen by the RC and results are reported, where appropriate, to the RMM and RC.
Recovery and resolution plans
Recovery and resolution plans form an integral framework in the safeguarding of the group's financial stability. Together with stress testing, it helps us understand the outcomes of adverse business or economic conditions and the identification of mitigating actions.
Key developments in 2020
In 2020, it was announced that Edward Jenkins was stepping down from his role of the group's Chief Risk Officer. Mark McKeown, who is the Global Chief Corporate Credit Officer and Head of Wholesale Credit and Market Risk, has been appointed as the group's Chief Risk Officer on an interim basis with effect from 1 July 2020.
During the year, we have actively managed the risks resulting from the Covid-19 outbreak and its impacts on our customers and operations, as well as other key risks described in this section.
In addition, we enhanced our risk management in the following areas:
-- In January 2020, we simplified our approach and articulation of risk management through the combination of our enterprise risk management framework and our operational risk management framework.
-- The global model risk policy and associated standards were revised to improve how we manage model risk and meet enhanced external expectations.
-- We continued to focus on simplifying our approach to non-financial risk management. We are driving more effective oversight and better end-to-end identification and management of non-financial risks.
-- In line with the increasing threat landscape that the industry faces within non-financial risk, we formed a new Operational and Resilience Risk combined sub-function in May 2020. The sub-function provides robust first line of defence oversight and risk steward oversight, supported by clear plans and evidenced by effective and timely independent challenge. The sub-function helps to ensure that the first line of defence are focused firmly on priority tasks. By bringing the two teams together, we expect to benefit from improved stewardship, better risk management capabilities and better outcomes for our customers.
-- In November 2020, the second line of defence for the Treasury function within Global Risk was re-named Treasury Risk Management ('TRM'). TRM will oversee Treasury activities across the group including capital risk, liquidity and funding risk and Interest Risk Risk in the Banking Book ('IRRBB'). Through these changes we expect to improve effective management of capital, liquidity, funding and balance sheet utilisation across all parts of the group.
-- We continue to support the business and our customers throughout the global pandemic, while continuing to manage financial crime risk. We continued to invest in both advanced analytics and artificial intelligence, which remain key components of our next generation of tools to fight financial crime. From 2021, we will integrate our RMM and Financial Crime Risk Management Meetings to ensure a holistic view of all risks.
--
Top and emerging risks
(Unaudited)
We use a top and emerging risks process to provide a forward-looking view of issues with the potential to threaten the execution of our strategy or operations over the medium to long term.
We proactively assess the internal and external risk environment, as well as review the themes identified across our regions and global businesses, for any risks that may require global escalation, updating our top and emerging risks as necessary.
We define a 'top risk' as a thematic issue that may form and crystallise within one year, and which has the potential to materially affect the group's financial results, reputation or business model. It may arise across any combination of risk types, countries or global businesses. The impact may be well understood by senior management and some mitigating actions may already be in place.
An 'emerging risk' is a thematic issue with large unknown components that may form and crystallise beyond a one year time horizon. If it were to materialise, it could have a material effect on the group's long-term strategy, profitability and/or reputation. Existing mitigation action plans are likely to be minimal, reflecting the uncertain nature of these risks at this stage. Some high-level analysis and/or stress testing may have been carried out to assess the potential impact.
Our current top and emerging risks are as follows:
Externally driven
Geopolitical and macroeconomic risks
Our operations and portfolios are exposed to risks associated with political instability, civil unrest and military conflict, which could lead to disruption of our operations, physical risk to our staff and/or physical damage to our assets.
Global tensions over trade, technology and ideology can manifest themselves in divergent regulatory, standards and compliance regimes, presenting long-term strategic challenges for multinational businesses.
The Covid-19 outbreak dominated the political and economic landscape through much of 2020. The twin shocks of a public health emergency and the resultant economic fallout have been felt around the world, and hit both advanced and emerging markets. The closure of borders threatened medical and food supplies for many markets, leading to countries and territories focusing efforts on building resilient supply chains closer to home. Covid-19 and the corresponding vaccine rollout will likely dominate the political and economic agenda for most of 2021.
Tensions could be raised as countries compete for access for the array of vaccines under development, approved or pending approval, while the potential differences of protection offered, the speed and scale with which they can be manufactured, and the take-up rates of vaccines will impact the speed of economic recovery.
The Covid-19 outbreak also heightened existing US-China tensions. Tensions span a wide range of issues, including trade, finance, military, technology and human rights. The Covid-19 outbreak has accelerated US and Chinese efforts to reduce mutual dependence in strategic industries such as sensitive technology, pharmaceuticals and precursor chemicals.
A range of tensions in US-China relations could have potential ramifications for the group and its customers. These tensions could include divisions over Hong Kong, US funding of and trading with strategic Chinese industries, claims of human rights violations, and others. Some of these tensions have manifested themselves through actions taken by the governments of the United States and China in 2020 and early 2021. These tensions may affect the group as a result of the impact of sanctions (including sanctions that impact the group's clients/customers), as well as regulatory, reputational and market risks.
The United States has imposed a range of sanctions and trade restrictions on Chinese persons and companies, focusing on entities the United States believes are involved in human rights violations, information technology and communications equipment and services, and military activities, among others. In response, China has announced a number of sanctions and trade restrictions that target or provide authority to target foreign officials and companies, including those in the US. Certain measures are of particular relevance.
The US Hong Kong Autonomy Act provides 'secondary sanctions' authority that allows for the imposition of US sanctions against non-US financial institutions found to be engaged in significant transactions with certain Chinese individuals and entities subject to US sanctions as a result of a US determination that these individuals or entities engaged in activities undermining Hong Kong's autonomy. The United States has also imposed restrictions on US persons' ability to engage in transactions in, or relating to, publicly traded securities of a number of prominent Chinese companies. China has subsequently adopted regulations providing a framework for specific prohibitions against compliance with, and private rights of action for damages resulting from, measures that the government determines have an unjustified extraterritorial application that impairs Chinese sovereignty.
No penalties have yet been imposed against financial institutions under any of these measures, and their scope and application remain uncertain. These and any future measures that may be taken by the US and China may affect the group, its customers, and the markets in which we operate.
While the inauguration of US President Biden may lead to a more orderly conduct of relations between the US and China in the future, long-term differences between the two nations remain, which could affect sentiment and restrict global economic activities. It remains unclear the extent to which the new administration will impact geopolitical tensions.
While UK-China relations have historically been shaped by strong trade and investment, there are also emerging challenges. Following the implementation of the Hong Kong National Security Law, the UK offered residency rights and a path to citizenship to eligible British National (Overseas) passport holders in Hong Kong. In addition, both the UK and Hong Kong governments have suspended their extradition treaties with each other.
As geopolitical tensions rise, the compliance by multinational corporations with their legal or regulatory obligations in one jurisdiction may be seen as supporting the law or policy objectives of that jurisdiction over another, creating additional reputational and political risks for the Group. We continue to seek to monitor, assess and meet the legal requirements introduced by all jurisdictions that we operate in, and maintain an open dialogue with our regulators on the impact of legal and regulatory obligations on our business and customers.
China's expanding data privacy and cybersecurity laws could pose potential challenges to intra-group data sharing, especially within the Greater Bay Area ('GBA'). China's draft Personal Information Protection Law and Data Security Law, if passed in their current forms, could increase financial institutions' compliance burdens in respect of cross-border transfers of personal information. In Hong Kong, there is also an increasing focus by regulators on the use of big data and artificial intelligence. Use of personal data through digital platforms for GBA initiatives may need to take into account these evolving data privacy and cybersecurity obligations.
Emerging and frontier markets have suffered particularly heavily from the Covid-19 outbreak, in light of healthcare shortcomings, widespread labour informality, exposure to commodities production and often weak policy frameworks and buffers. Multilateral institutions have mobilised support for the weaker frontier markets, with the World Bank and G-20 marshalling efforts to implement a standstill on debt to public sector institutions. The International Monetary Fund has also, to date, made circa US$106bn in emergency funds available to over 80 countries. However, negotiations on debt to the private sector will likely prove more difficult, and may result in sovereign debt restructuring and defaults for several countries. Most developed markets are expected to recover from the crisis, as macroeconomic policies remain highly accommodative. However, permanent business closures and job losses in some sectors will likely prevent several developed markets from achieving pre-crisis growth rates or activity levels in the near term.
These countries and territories should be able to shoulder the higher public deficits and debts necessary to offset private sector weaknesses, given the continuing low cost of servicing public debt. However, a group of weaker developed markets, including some members of the EU, have entered the Covid-19 crisis on weak economic and fiscal footing and suffered high healthcare and economic costs. Although substantial joint EU monetary and fiscal measures should help support recoveries and keep debt servicing costs down at least through 2021, there are concerns that permanently higher debt burdens will eventually lead to investors questioning their sustainability. Renewed government restrictions in response to new waves of infections will put further pressure on these economies.
The contraction in the global economy during 2020 has had varying effects on our customers, with many of them experiencing financial difficulties. This has resulted in an increase in expected credit losses ('ECL') and risk-weighted assets ('RWAs'). For further details on customer relief programmes, see page 44. For further details on RWAs, see page 50.
Central banks have reduced interest rates in most financial markets due to the adverse impact on the timelines and the path for economic recovery from the Covid-19 outbreak, which has in turn increased the likelihood of negative interest rates. This raises a number of risks and concerns, such as the readiness of our systems and processes to accommodate zero or negative rates, the resulting impacts on customers, regulatory constraints and the financial implications given the significant impact that prolonged low interest rates have had, and may continue to have, on our net interest income. For some products, we have floored deposit rates at zero or made decisions not to charge negative rates. This, alongside loans repriced at lower rates, will result in our commercial margins being compressed, which is expected to be reflected in our profitability. The pricing of this risk will need to be carefully considered. These factors may challenge the long-term profitability of the banking sector, including HSBC, and will be considered as part of the group's transformation programme.
Mitigating actions
-- We closely monitor economic developments in key markets and sectors and undertake scenario analysis. This helps enable us to take portfolio actions where necessary, including enhanced monitoring, amending our risk appetite and/or reducing limits and exposures.
-- We stress test portfolios of particular concern to identify sensitivity to loss under a range of scenarios, with management actions being taken to rebalance exposures and manage risk appetite where necessary.
-- We undertake regular reviews of key portfolios to help ensure that individual customer or portfolio risks are understood and our ability to manage the level of facilities offered through any downturn is appropriate.
-- We continually monitor the geopolitical outlook, in particular in countries where we have material exposures and/or a significant physical presence. We have also established dedicated forums to monitor geopolitical developments.
-- We have taken steps to enhance physical security in those geographical areas deemed to be at high risk from terrorism and military conflicts.
Climate-related risks
Climate change can have an impact across HSBC's risk taxonomy through both transition and physical channels. Transition risk can arise from the move to a low-carbon economy, such as through policy, regulatory and technological changes. Physical risk can arise through increasing severity and/or frequency of severe weather or other climatic events, such as rising sea levels and flooding.
These have the potential to cause both idiosyncratic and systemic risks, resulting in potential financial and non-financial impacts for HSBC. Financial impacts could materialise if transition and physical risks impact the ability of borrowers to repay their loans. Non-financial impacts could materialise if our own assets or operations are impacted by extreme weather or chronic changes in weather patterns, or as a result of business decisions to achieve our climate ambition.
Climate risks have also increased over 2020 as a result of the pace and volume of policy and regulatory changes. This impacts the Bank, both directly and indirectly, through impacts on our customers.
Mitigating actions
-- We are in the process of establishing a governance framework to help ensure that risks associated with climate change are escalated to and discussed at the Board, as appropriate, in a timely manner. The Board will be presented with a risk profile report, which includes key issues and common themes identified across the enterprise risk reports, as required. The group Chief Risk Officer will provide verbal or written updates on climate risk to the Board and group Risk Committee where appropriate.
-- We are in the process of incorporating climate-related risk, both physical and transition, into how we manage and oversee risks. We have a Board-approved RAS that contains a qualitative statement on our approach to climate risk, which we intend to further enhance in 2021.
-- We continue to enhance our approach to climate-related risks, and develop and embed how we measure, monitor and manage it. An internal climate risk working group provides oversight by seeking to develop policy and limit frameworks to achieve desired portfolios over time, and protect the Group from climate-related risks. We will establish a transition risk framework to gain a better understanding of our exposure to the highest transition risk sectors.
-- We implement sustainability risk policies and focus the policies on sensitive sectors that may have a high adverse impact on people or on the environment and in which we have a significant number of customers. These include sectors with potentially high-carbon impacts.
-- We are developing a framework for climate stress test to inform the development of our approach to climate risk management, including the continuous enhancement of our RAS.
-- We continue to engage with our customers, investors and regulators proactively when compiling and disclosing the information needed to manage climate risks. We also engage with initiatives actively, including the Climate Financial Risk Forum, Equator Principles, Taskforce for Climate-related Financial Disclosures, and Carbon Disclosure Project to drive best practice for climate risk management.
IBOR transition
Interbank offered rates ('Ibors') are used to set interest rates on hundreds of trillions of US dollars of different types of financial transactions and are used extensively for valuation purposes, risk measurement and performance benchmarking.
The UK's Financial Conduct Authority ('FCA') announced in July 2017 that it will no longer persuade or require banks to submit rates for the London interbank offered rate ('Libor') after 2021. In addition, the 2016 EU Benchmark Regulation, which defines the minimum reliability standards for interest rate benchmarks, has resulted in other regulatory bodies' reassessment of benchmarks. As a result, national working groups are actively discussing the mechanisms for an orderly transition of the five Libors currencies, four Asia-Pacific benchmarks that reference US dollar Libor, the Euro Overnight Index Average ('Eonia'), and the Singapore interbank offered rate ('Sibor') to their chosen replacement rates.
As our Ibor transition programme progresses into the execution phase, resilience and operational risks, are heightened due to an expected increase in the number of new near risk-free rate ('RFR') products being rolled out, compressed timelines for transition of legacy Ibor contracts and the extensive systems and process changes required to facilitate both new products and transition. This is being exacerbated by the current interest rate environment where low Libor rates, in comparison with replacement RFR, could affect decisions to transition contracts early, further compressing transition timelines. Regulatory compliance, legal and conduct risks may also increase as a result of both the continued sale of products referencing Ibors, as well as the sale of new products referencing RFRs due to the lack of established market conventions.
Financial risks resulting from the discontinuation of Ibors and the development of RFR market liquidity will also affect the group throughout transition. The differences in Ibor and RFR interest rates will create a basis risk that we need to actively manage through appropriate financial hedging. As contracts are transitioned from Ibors to RFRs, there is a risk that the associated financial hedges will not be aligned.
The continued orderly transition from Ibors continues to be the programme's key objective throughout 2021 and can be broadly grouped into two streams of work: development of alternative rate product capabilities, and the transition of legacy contracts.
Development of alternative rate product capabilities
All global businesses have actively developed and implemented system and operational capabilities for alternative rates products during 2020 in key sites, with several key transactions for RFR products undertaken within Wholesale and Wealth and Private Banking business areas. The offering of RFR products is expected to be expanded, with further product releases for Sterling Overnight Index Average ('Sonia') and Secured Overnight Financing Rate ('Sofr') in the first half of 2021, in addition to other Libor currencies through 2021.
These developments have enabled the group to cease selling certain Ibor-related products. Notably, Libor-linked loan products have been demised for Business Banking and Mid-Market enterprise segments in Malaysia and Indonesia, while low usage Libor-linked products have also been demised across these segments in Hong Kong, mainland China and Singapore where there are suitable alternatives.
While Ibor sales do continue for a number of product lines, Ibor exposures that have post-2021 maturities are reducing, aided by market compression of Ibor trades and transacting new activities in alternative RFR products as market liquidity builds.
Transition legacy contracts
In addition to offering new alternative rate based products, the development of new product capabilities will also help facilitates the transition of legacy Ibor products. HSBC has begun to engage clients to determine their ability to transition in line with the readiness of the alternative rate product availability. The Covid-19 outbreak and the interest rate environment may have affected the ability of clients to transition early and has resulted in compressed timelines for Ibor transition. However, this may be mitigated in part by the recent announcement by InterContinental Exchange Benchmark Administration ('IBA'), the Libor Benchmark Administrator, to consult on extending the publication of most US dollar Libor setting (excluding one week and two month tenors) to enable the legacy US dollar book transition by 30 June 2023. Despite the proposed extension, regulatory and industry guidance has been clear that market participants should cease writing new US dollar Libor contracts as soon as is practicable, and in any event, by the end of 2021. While the extended deadline will result in additional US dollar Libor transactions maturing before cessation, not all of them will, hence it is possible that other proposed solutions, including legislative relief, will still be needed.
For the derivatives exposures, the adoption of the ISDA protocol, which comes into effect in the first quarter of 2021, and the successful changes made by clearing house to discount derivatives using in Sofr and euro short-term rate ('EURstr') reduce the risk of a disorderly transition of the derivative market.
With respect to the transition of HSBC's Libor bond issuance, an assessment of the debt issued and the ability to transition based on solicitation rights has been undertaken with plans to implement, as appropriate, through 2021. Additionally, Ibor issuance has been reduced by new debt issuance in Sonia and Sofr through 2020.
For the group's holdings of Libor bonds, and of those bonds where HSBC is the payment agent, there remains a dependence on engagement of third-party market participants in the transition process of their issued debt.
For the group's loan book, our global businesses have developed commercial strategies that include active client engagement and communication, providing detailed information on RFR products to assist our clients to transition to a suitable alternative rate or replacement RFR product before Ibor cessation.
Mitigating actions
-- We have put in place a global Ibor transition programme to facilitate an orderly transition to replacement rates for our business and our clients, which is overseen globally by the Group Chief Risk Officer, and regionally by the group's Chief Risk Officer.
--
We have widened the scope of the global Ibor transition programme to include additional interest rate benchmarks, where plans are in place to demise those benchmarks in the near future.
-- We have and continue to carry out extensive training, communication and client engagement to facilitate appropriate selection of products, with dedicated teams in place to support the development of, and transition to, alternative rate and replacement RFR products.
-- We are implementing IT and operational change to enable a longer transition window.
-- We have met 2020 regulatory expectations for implementing relevant contractual language changes for loan products and transitioning to RFR discounting by clearing houses for derivatives.
-- We have actively compressed derivative contracts and are targeting regulatory set and industry agreed milestones for the cessation of new standard Libor trades (sterling Libor in the first quarter of 2021, other Libors in the second quarter of 2021) leading to a reduction in the Group's Ibor portfolio through 2020.
-- We have assessed, monitored and are dynamically managing risks, and implemented specific mitigating controls as required.
-- We continue to engage with regulatory and industry bodies actively to mitigate risks relating to hedge accounting changes, multiple loan/bond conventions, and those contracts that have no appropriate replacements or no likelihood of renegotiation to transition ('tough legacy').
Financial instruments impacted by IBOR reform
(Audited)
Amendments to HKFRSs issued in October 2020 (Interest Rate Benchmark Reform Phase 2) represents the second phase of the project on the effects of interest rate benchmark reform, addressing issues affecting financial statements when changes are made to contractual cash flows and hedging relationships as a result of reform.
Under these amendments, changes made to financial instruments measured at other than fair value through profit or loss that are economically equivalent and required by interest rate benchmark reform do not result in the derecognition or a change in the carrying amount of the financial instrument, but instead require the effective interest rate to be updated to reflect the change in the interest rate benchmark. In addition, hedge accounting will not be discontinued solely because of the replacement of the interest rate benchmark if the hedge meets other hedge accounting criteria.
These amendments apply from 1 January 2021 with early adoption permitted. The group has adopted the amendments from 1 January 2020.
Financial instruments yet
to transition to alternative
(Audited) benchmarks, by main benchmark
-------------------------------------------
USD Libor JPY Libor SIBOR(1) Others(2)
At 31 Dec 2020 HK$m HK$m HK$m HK$m
---------------------------------------- --------- --------- -------- -----------
Non-derivative financial assets(3) 253,239 2,688 63,100 49,521
---------------------------------------- --------- --------- -------- ---------
Non-derivative financial liabilities(3) 119,269 12,192 - 4,125
---------------------------------------- --------- --------- -------- ---------
Derivative notional contract amount 6,252,168 3,281,539 299 1,466,484
---------------------------------------- --------- --------- -------- ---------
1 In December 2020, the Monetary Authority of Singapore announced the discontinuation of the SIBOR in phases, with eventual transition to SORA.
2 Comprises financial instruments referencing other significant benchmark rates yet to transition to alternative benchmarks (GBP Libor, EUR Libor, CHF Libor, EONIA, SOR and THBFIX).
3 Gross carrying amount excluding allowances for expected credit losses.
The amounts in the above table relate to the group's main operating entities(1) and provide an indication of the extent of the group's exposure to the Ibor benchmarks which are due to be replaced. Amounts are in respect of financial instruments that:
-- contractually reference an interest rate benchmark that is planned to transition to an alternative benchmark;
-- have a contractual maturity date after 31 December 2021, the date by which Libor is expected to cease; and
-- are recognised on the group's consolidated balance sheet.
1 Entities where we have material exposures impacted by Ibor reform in countries/territories comprising of Hong Kong, Singapore, Thailand, Australia and Japan.
1
The administrator of Libor, IBA, has announced a proposal to extend the publication date of most US dollar Libor tenors until 30 June 2023. Publication of one-week and two-month tenors will cease after 31 December 2021. This proposal, if endorsed, would reduce the amounts presented in the above table as some financial instruments included will reach their contractual maturity date prior to 30 June 2023.
Financial crime risk environment
(Unaudited)
Financial institutions remain under considerable regulatory scrutiny regarding their ability to prevent and detect financial crime. Financial crime threats continue to evolve, often in tandem with increased geopolitical developments, posing challenges for financial institutions to keep abreast of developments and manage conflicting laws. The global economic slowdown as a result of the Covid-19 outbreak and the resulting rapid deployment of government relief measures to support individuals and businesses, have increased the risk of fraud. Developments around virtual currencies, stablecoins and central bank digital currencies have continued, with the industry's financial crime risk assessment and management frameworks in the early stages of development. The evolving regulatory environment continues to present an execution challenge. We continue to see increasing challenges presented by national data privacy requirements in a global organisation, which may affect our ability to manage financial crime risks effectively. There has also been an increase in media and public scrutiny on how financial crime is managed within financial institutions.
In December 2012, among other agreements, HSBC Holdings plc ('HSBC Holdings') agreed to an undertaking with the UK's FCA, which was replaced by a Direction issued by the FCA in 2013, and consented to a cease-and-desist order with the US Federal Reserve Board ('FRB'), both of which contained certain forward-looking anti-money laundering ('AML') and sanctions-related obligations. HSBC also agreed to retain an independent compliance monitor (who is, for FCA purposes, a 'Skilled Person' under section 166 of the Financial Services and Markets Act and, for FRB purposes, an 'Independent Consultant') to produce periodic assessments of the Group's AML and sanctions compliance programme (the 'Skilled Person/Independent Consultant'). Reflective of HSBC's significant progress in strengthening financial crime risk management capabilities, our engagement with the Skilled Person was terminated in the first quarter of 2020 and in the second quarter of 2020, and a new Skilled Person with a narrower mandate was appointed to assess the remaining areas that require further work in order for us to transition fully to business-as-usual financial crime risk management. Thereafter, in 2020, the FCA issued a new, more tailored Direction that replaces the previous Direction issued in 2013. The Independent Consultant will continue to carry out an annual Office of Foreign Assets Control ('OFAC') compliance review at the FRB's discretion. The role of the Skilled Person/Independent Consultant is discussed on page 58.
Mitigating actions
-- We continue to enhance our financial crime risk management capabilities. We are investing in next generation capabilities to fight financial crime through the application of advanced analytics and artificial intelligence.
-- We continue to monitor geopolitical developments closely and the impacts on our financial crime controls.
-- We are strengthening and investing in our fraud controls, to introduce next generation anti-fraud capabilities to protect both customers and the Bank.
-- We have developed procedures and controls to manage the risks associated with direct and indirect exposure to virtual currencies, and we continue to monitor external developments.
-- We continue to educate our staff on emerging digital landscapes and associated risks.
-- We continue to monitor external developments on stablecoins and central bank digital currencies, engaging with central banks and regulators on financial crime risk management.
-- We continue to work with jurisdictions and relevant international bodies to address data privacy challenges through international standards, guidance, and legislation to help enable effective management of financial crime risk.
-- We continue to take steps designed to ensure that the reforms we have put in place are both effective and sustainable over the long term.
-- We continue to work closely with our regulators and engage in Public Private Partnerships, playing an active role in shaping the industry's financial crime controls for the future.
Regulatory developments including conduct, with adverse impact on business model and profitability
(Unaudited)
Financial service providers continue to face stringent regulatory and supervisory requirements, particularly in the areas of capital and liquidity management, conduct of business, financial crime, internal control frameworks, the use of models and the integrity of financial services delivery. The competitive landscape in which the group operates may be significantly altered by future regulatory changes and government intervention. Regulatory changes, including those driven by geopolitical issues such as US-China tensions may affect the activities of the group as a whole, or of some or all of its principal subsidiaries. For further details, see pages 17-18.
Mitigating actions
-- We are engaged, wherever possible, with governments and regulators in the countries and territories in which we operate, to help ensure that new requirements are considered properly and can be implemented effectively. In particular, we have engaged proactively with regulators and governments globally regarding the policy changes issued in response to Covid-19 to help our customers and contribute to an economic recovery.
-- We have had regular meetings with all relevant authorities to discuss strategic contingency plans, including those arising from geopolitical issues.
Cyber threat and unauthorised access to systems
(Unaudited)
The group and other organisations continue to operate in an increasingly hostile cyber threat environment, which requires ongoing investment in business and technical controls to defend against these threats.
Key threats include unauthorised access to online customer accounts, advanced malware attacks, attacks on third party suppliers, and security vulnerabilities being exploited.
Mitigating actions
-- We continually evaluate threat levels for the most prevalent attack types and their potential outcomes. To further protect the group and our customers and help ensure the safe expansion of our global business lines, we strengthen our controls to reduce the likelihood and impact of advanced malware, data leakage, infiltration of payment systems and denial of service attacks.
-- We continued to enhance our cybersecurity capabilities, including cloud security, identity and access management, metrics and data analytics, and third party security reviews. An important part of our defence strategy is ensuring our people remain aware of cybersecurity issues and know how to report incidents.
-- We report and review cyber risk and control effectiveness quarterly at executive and non-executive Board level. We also report it across the global businesses, functions and regions to help ensure appropriate visibility and governance of the risk and mitigating actions.
-- We participate globally in several industry bodies and working groups to share information about tactics employed by cyber-crime groups and to collaborate in fighting, detecting and preventing cyber-attacks on financial organisations.
Internally driven
(Unaudited)
Data management
We use a large number of systems and applications to support key business processes and operations. As a result, we often need to reconcile multiple data sources, including customer data sources, to reduce the risk of error. Along with other organisations, we also need to meet external/regulatory obligations such as the General Data Protection Regulation ('GDPR') and Basel III.
Mitigating actions
-- We are improving data quality across a large number of systems. Our data management, aggregation and oversight continues to strengthen and enhance the effectiveness of internal systems and processes. We are implementing data controls for end-to-end critical processes to improve our data capture at the point of entry and throughout the data lifecycle.
-- Through the Global Data Management Framework, we are expanding and enhancing our data governance processes to help monitor the quality of critical customer, product, reference and transaction data proactively and resolve associated data issues in a timely manner.
--
We continue to modernise our data and analytics infrastructure through investments in advanced capabilities in Cloud, visualisation, machine learning and artificial intelligence platforms.
-- We help protect customer data via our global data privacy framework programme which establishes data privacy practices, design principles and guidelines that enable us to demonstrate compliance with data privacy laws and regulations in the jurisdictions in which we operate.
-- To help our employees keep abreast of data privacy laws and regulations we hold data privacy awareness training highlighting our commitment to protect personal data for our customers, employees and stakeholders.
IT systems infrastructure and resilience
We are committed to investing in the reliability and resilience of our IT systems and critical services. We do so to protect our customers and ensure they are not impacted by disruption to services, which could result in reputational and regulatory damage.
Mitigating actions
-- We are continuing to invest in transforming how software solutions are developed, delivered and maintained, with a particular focus on providing high-quality, stable and secure services. We concentrate on improving system resilience and service continuity testing. We have enhanced the security features of our software development life cycle and improved our testing processes and tools.
-- We upgraded many of our IT systems, simplifying our service provision and replacing older IT infrastructure and applications. These enhancements led to continued global improvements in service availability during 2020 for both our customers and employees.
Risks arising from the receipt of services from third parties
We use third parties for the provision of a range of services, in common with other financial service providers. Risks arising from the use of third-party service providers may be less transparent and therefore more challenging to manage or influence. It is critical that we ensure that we have appropriate risk management policies, processes and practices. These should include adequate control over the selection, governance and oversight of third parties, particularly for key processes and controls that could affect operational resilience. Any deficiency in our management of risks arising from the use of third parties could affect our ability to meet strategic, regulatory or client expectations.
Mitigating actions
-- We continued to embed our delivery model in the first line of defence through a dedicated team. We have deployed processes, controls and technology to assess third-party service providers against key criteria and associated control monitoring, testing and assurance.
-- A dedicated oversight forum in the second line of defence monitors the embedding of policy requirements and performance against risk appetite.
Risks associated with workforce capability, capacity and environmental factors with potential impact on growth
Our success in delivering our strategic priorities and managing the regulatory environment proactively depends on the development and retention of our leadership and high-performing employees. The ability to continue to attract, develop and retain competent individuals in an employment market impacted by the Covid-19 outbreak proves challenging. Changed working arrangements, local Covid-19 restrictions and health concerns during the pandemic also impact employee mental health and well-being.
Mitigating actions
-- We have put in place measures to help support our people so they are able to work safely during the Covid-19 outbreak. While the approach to workplace recovery around the world is consistent, the measures we take in different locations are specific to their environment.
-- We promote a diverse and inclusive workforce and provide active support across a wide range of health and well-being activities. We continue to build our speak-up culture though active campaigns.
-- We monitor people risks that could arise due to organisational restructuring, helping to ensure we manage redundancies sensitively and support impacted employees.
-- We launched the Future Skills curriculum through HSBC University to help provide the critical skills that will enable employees and HSBC to be successful in the future.
-- We continue to develop succession plans for key management roles, with actions agreed and reviewed on a regular basis by the group Executive Committee.
-- We have robust plans in place, driven by senior management, to mitigate the effect of external factors that may impact our employment practices. Political and regulatory challenges are closely monitored to minimise the impact on the attraction and retention of talent and key performers.
Change execution risk
In February 2020, HSBC announced the plans to restructure the Group's business, reallocate freed-up capital into higher-growth and higher-return businesses and markets, and to simplify our organisation and reduce costs. Our success in delivering our strategic priorities and continuing to address regulatory change and other top and emerging risks is dependent on the effective and safe delivery of change across the Group.
Mitigating actions
-- We have established a Global Transformation Programme to deliver the commitments made in February 2020. The Programme is overseen globally by members of the Group Executive Committee, and regionally by the members of the group's Executive Committee. Related execution risks across the initiatives, including their sequencing and prioritisation, are being monitored and managed. Many of the initiatives impact our staff and require continued investment in technology.
-- We continue to work to strengthen our change management practices to deliver sustainable change. This includes increased adoption across the Group of Agile ways of working to deliver change.
Areas of special interest
(Unaudited)
During 2020, a number of areas were identified and considered as part of our top and emerging risks because of the effect they may have on the group. While considered under the themes captured under top and emerging risks, in this section we have placed particular focus on Covid-19.
Risks related to Covid-19
The Covid-19 outbreak and its effect on the global economy have impacted our customers and our performance, and the future effects of the outbreak remain uncertain. The outbreak necessitated governments to respond at unprecedented levels to protect public health, local economies and livelihoods. It has affected regions at different times and varying degrees as it has developed. The varying government measures in response have added challenges, given the rapid pace of change and significant operational demands. The speed at which countries and territories will be able to return to pre-Covid-19 economic levels will vary based on the levels of infection, local political decisions and access and ability to rollout vaccines. There remains a risk of subsequent waves of infection, as evidenced by the new, more transmissible variants of the virus. Renewed outbreaks emphasise the ongoing threat of Covid-19 even in countries and territories that have recorded lower than average cases so far.
Government restrictions imposed around the world to limit the spread of Covid-19 resulted in a sharp contraction in global economic activity during 2020. At the same time, governments also took steps designed to soften the extent of the damage to investment, trade and labour markets. Our Central scenario used to calculate impairment assumes that economic activity will gradually recover over the course of 2021. In this scenario, recovery will be supported by a successful rollout of vaccination programmes across our key markets which, coupled with effective non-pharmacological measures to contain the virus - such as 'track and trace' systems and restrictions to mobility - will lead to a decline in infections across over the course of the year. Governments and central banks are expected to continue to work together, across many of our key markets, to ensure that households and firms receive an appropriate level of financial support until restrictions on economic activity and mobility can be materially eased. Such support is intended to ensure that labour and housing markets do not experience abrupt, negative corrections and is also intended to limit the extent of long term structural damage to economies. There is a high degree of uncertainty associated with economic forecasts in the current environment and there are significant risks to our Central scenario. The degree of uncertainty varies by market, driven by country specific trends in the evolution of the pandemic and associated policy responses. As a result, our Central scenario for impairment has not been assigned an equal likelihood of occurrence across our key markets. For further details of our Central and other scenarios see 'Measurement uncertainty and sensitivity analysis' on page 33.
There is a material risk of a renewed drop in economic activity. The economic fallout from Covid-19 risks increasing inequality across markets that have already suffered from social unrest. This will leave the burden on governments and central banks to maintain or increase fiscal and monetary stimulus. After financial markets suffered a sharp fall in the early phases of the spread of Covid-19, they rebounded but still remain volatile. Depending on the degree to which global economic growth suffers permanent losses, financial asset prices may suffer a further sharp fall.
Governments and central banks in major economies have deployed extensive measures to support their local populations. Measures implemented by governments have included income support to households and funding support to businesses. Central bank measures have included cuts to policy rates, support to funding markets and asset purchases. These measures are being extended in countries where further waves of the pandemic are prompting renewed government restrictions. Central banks are expected to maintain record-low interest rates for a considerable period of time and the debt burden of governments is expected to rise significantly.
We initiated market-specific measures to support our personal and business customers through these challenging times. These included mortgage assistance, payment holidays, the waiving of certain fees and charges, and liquidity relief for businesses facing market uncertainty and supply chain disruption. We are also working closely with governments, and supporting national schemes that focus on the parts of the economy most impacted by Covid-19. In Hong Kong, we provided prompt liquidity relief to businesses facing market uncertainty and supply chain pressures. For further details of our customer relief programmes, see page 44.
The rapid introduction and varying nature of the government support schemes, as well as customer expectations, has led to risks as the group implements large-scale changes in a short period of time. This has led to increased operational risks, including complex conduct considerations, increased reputational risk and increased risk of fraud. These risks are likely to be heightened further as and when those government support schemes are unwound. Central bank and government actions and support measures, and our responses to those, have also led to increased litigation risk, including lawsuits that have been and may continue to be brought in connection with our cancellation of the fourth interim dividend for 2019.
At 31 December 2020, our CET1 ratio was 17.2%, compared with 17.2% at 31 December 2019, and our average liquidity coverage ratio ('LCR') for the quarter ended 31 December 2020 was 172.1%. Our capital, funding and liquidity position is expected to help us to continue supporting our customers throughout the Covid-19 outbreak.
In many of our markets, the Covid-19 outbreak has led to a weakening in GDP, a key input used for calculating ECL, and there remains the risk of more adverse economic scenarios given its ongoing impact. Furthermore, ECL will also increase from other parts of our business impacted by the disruption to supply chains. The impact will vary by sectors of the economy.The impact of the outbreak on the long-term prospects of businesses in these sectors is uncertain and may lead to significant ECL charges on specific exposures, which may not be fully captured in ECL estimates. In addition, in times of crisis, fraudulent activity is often more prevalent, leading to potentially significant ECL charges or operational losses.
The significant changes in economic and market drivers, customer behaviours and government actions caused by Covid-19 have also impacted the performance of financial models. HKFRS 9 model performance has been dramatically impacted over the course of 2020 which has increased reliance on management judgement in determining the appropriate level of ECL estimates. These models are driven by forecasts of economic factors such as GDP and unemployment. Many of these models were not able to deliver reliable outputs given the significant volatility in these measures, as a consequence of the current global economic crisis. The reliability of ECL models has also been impacted by the unprecedented response from governments to provide a variety of economic stimulus packages to support livelihoods and the highest hit businesses. This has significantly affected the ability of these models to accurately anticipate the effects of these measures on ECL outputs.
In order to address some model limitations and performance issues, there has been redevelopment of some key models used to calculate ECL estimates. These models have been independently validated by the Model Risk Management team and have been assessed as having the ability to deliver reliable credit loss estimates. While this has reduced the reliance on management judgement for determining ECL estimates, the current uncertain economic outlook, coupled with the expected end to government support schemes, has led to post model management adjustments still being required.
The Model Risk Management team is reviewing HKFRS9 model performance at the country and group level on a quarterly basis to assess whether or not the models in place can deliver reliable outputs. The assessments of the team on the performance of the models provide the credit teams with a view of model reliability. HKFRS 9 model redevelopment will continue as the economic consequences of the Covid crisis become clearer over time as economic conditions normalise and actual credit losses occur.
As a result of Covid-19, business continuity responses have been successfully implemented and the majority of service level agreements have been maintained. We have not experienced any major impacts to the supply chain from our third-party service providers due to Covid-19. The risk of damage or theft to our physical assets or criminal injury to our employees remains unchanged and no significant incidents have impacted our buildings or staff.
There remain significant uncertainties in assessing the duration of the Covid-19 outbreak and its impact. The actions taken by the various governments and central banks, in particular in the UK, mainland China, Hong Kong and the US, provide an indication of the potential severity of the downturn and post-recovery environment, which from a commercial, regulatory and risk perspective could be significantly different to past crises and persist for a prolonged period. A continued prolonged period of significantly reduced economic activity as a result of the impact of the outbreak would have a materially adverse effect on our financial condition, results of operations, prospects, liquidity, capital position and credit ratings. We continue to monitor the situation closely, and given the novel or prolonged nature of the outbreak, additional mitigating actions may be required.
Our material banking risks
The material risk types associated with our banking and insurance manufacturing operations are described in the following tables:
Description of risks - banking operations
(Audited)
Credit risk
Credit risk is the Credit risk arises Credit risk is:
risk of financial principally from * measured as the amount that could be lost if a
loss if a customer direct lending, customer or counterparty fails to make repayments;
or counterparty fails trade finance and
to meet an obligation leasing business,
under a contract. but also from certain * monitored using various internal risk management
other products such measures and within limits approved by individuals
as guarantees and within a framework of delegated authorities; and
derivatives.
* managed through a robust risk control framework which
outlines clear and consistent policies, principles
and guidance for risk managers.
----------------------------- -------------------------- -----------------------------------------------------------
Treasury risk
Treasury risk is the Treasury risk arises Treasury risk is:
risk of having insufficient from changes to * measured through risk appetite and more granular
capital, liquidity the respective resources limits, set to provide an early warning of increasing
or funding resources and risk profiles risk, minimum ratios of relevant regulatory metrics,
to meet financial driven by customer and metrics to monitor the key risk drivers impacting
obligations and satisfy behaviour, management treasury resources;
regulatory requirements, decisions, or pension
including the risk plan fiduciary decisions.
of adverse impact It also arises from * monitored and projected against appetites and by
on earnings or capital the external environment, using operating plans based on strategic objectives
due to structural including changes together with stress and scenario testing; and
foreign exchange exposures to market parameters
and changes in market such as interest
interest rates, and rates or foreign * managed through control of resources in conjunction
including the financial exchange rates, with risk profiles, strategic objectives and cash
risks arising from together with updates flows.
historic and current to the regulatory
provision of pensions requirements.
and other post-employment
benefits to staff
and their dependants.
----------------------------- -------------------------- -----------------------------------------------------------
Market risk
Market risk is the Exposure to market Market risk is:
risk that movements risk is separated * measured using sensitivities, value at risk ('VaR')
in market factors, into two portfolios: and stress testing, giving a detailed picture of
such as foreign exchange trading and non-trading. potential gains and losses for a range of market
rates, interest rates, Market risk exposures movements and scenarios, as well as tail risks over
credit spreads, equity arising from our specified time horizons;
prices and commodity insurance operations
prices, will reduce are discussed on
our income or the the following page. * monitored using VaR, stress testing and other
value of our portfolios. measures; and
* managed using risk limits approved by the Board for
the group and the various global businesses.
----------------------------- -------------------------- -----------------------------------------------------------
Resilience risk
Resilience risk is Resilience risk Resilience risk is:
the risk that we are arises from failures * measured through a range of metrics with defined
unable to provide or inadequacies maximum acceptable impact tolerances, and against our
critical services in processes, people, agreed risk appetite;
to our customers, systems or external
affiliates and counterparties events.
as a result of sustained * monitored through oversight of enterprise processes,
and significant operational risks, controls and strategic change programmes; and
disruption.
* managed by continual monitoring and thematic reviews.
----------------------------- -------------------------- -----------------------------------------------------------
Regulatory compliance risk
Regulatory compliance Regulatory compliance Regulatory compliance risk is:
risk is the risk that risk arises from * measured by reference to risk appetite, identified
we fail to observe the risks associated metrics, incident assessments, regulatory feedback
the letter and spirit with breaching our and the judgement and assessment of our regulatory
of all relevant laws, duty to our customers, compliance teams;
codes, rules, regulations inappropriate market
and standards of good conduct and breaching
market practice, which other regulatory * monitored against the first line of defence risk and
as a consequence incur requirements. control assessments, the results of the monitoring
fines and penalties and control assurance activities of the second line
and suffer damage of defence functions, and the results of internal and
to our business. external audits and regulatory inspections; and
* managed by establishing and communicating appropriate
policies and procedures, training employees in them,
and monitoring activity to help ensure their
observance. Proactive risk control and/or remediation
work is undertaken where required.
----------------------------- -------------------------- -----------------------------------------------------------
Description of risks - banking operations (continued)
(Audited)
Financial crime risk
Financial crime risk Financial crime Financial crime risk is:
is the risk of knowingly risk arises from * measured by reference to risk appetite, identified
or unknowingly help day-to-day banking metrics, incident assessments, regulatory feedback
parties to commit operations involving and the judgement and assessment of our financial
or to further illegal customers, third crime risk teams;
activity through HSBC, parties and employees.
including money laundering, Exceptional circumstances
fraud, bribery and which impact day * monitored against the first line of defence risk and
corruption, tax evasion, to day operations control assessments, the results of the monitoring
sanctions breaches, may additionally and control assurance activities of the second line
and increase financial of defence functions, and the results of internal and
terrorist and proliferation crime risk. external audits and regulatory inspections; and
financing.
* managed by establishing and communicating appropriate
policies and procedures, training employees in them,
and monitoring activity to help ensure their
observance. Proactive risk control and/or remediation
work is undertaken where required.
----------------------------- -------------------------- -----------------------------------------------------------
Model risk
Model risk is the Model risk arises Model risk is:
potential for adverse in both financial * measured by reference to model performance tracking
consequences from and non-financial and the output of detailed technical reviews, with
business decisions contexts whenever key metrics including model review statuses and
informed by models, business decision findings;
which can be exacerbated making includes
by errors in methodology, reliance on models.
design or the way * monitored against model risk appetite statements,
they are used. insight from the independent review function,
feedback from internal and external audits, and
regulatory reviews; and
* managed by creating and communicating appropriate
policies, procedures and guidance, training
colleagues in their application, and supervising
their adoption to ensure operational effectiveness.
----------------------------- -------------------------- -----------------------------------------------------------
Our insurance manufacturing subsidiaries are regulated separately from our banking operations. Risks in the insurance entities are managed using methodologies and processes that are subject to oversight at group level. Our insurance operations are also subject to some of the same risks as our banking operations, and these are covered by the group's risk management processes. There are specific risks inherent to the insurance operations as noted below.
Description of risks - insurance manufacturing operations (Audited) Financial risk For insurance Exposure to financial Financial risk is: entities, risks arises from: * measured (i) for credit risk, in terms of economic financial * market risk affecting the fair values of financial capital and the amount that could be lost if a risk includes assets or their future cash flows; counterparty fails to make repayments; (ii) for the risk of market risk, in terms of economic capital, internal not being metrics and fluctuations in key financial variables; able to match * credit risk; and and (iii) for liquidity risk, in terms of internal liabilities metrics including stressed operational cash flow arising under projections; insurance * liquidity risk of entities being unable to make contracts payments to policyholders as they fall due. with * monitored through a framework of approved limits and appropriate delegated authorities; and investments and that the expected * managed through a robust risk control framework, sharing which outlines clear and consistent policies, of financial principles and guidance. This includes using product performance design, asset liability matching and bonus rates. with policyholders under certain contracts is not possible.
------------- ---------------------------------------------------------- ----------------------------------------------------------- Insurance risk Insurance Insurance risk is: risk is * The cost of claims and benefits can be influenced by * measured in terms of life insurance liabilities and the risk many factors, including mortality and morbidity economic capital allocated to insurance underwriting that, over experience, as well as lapse and surrender rates. risk; time, the cost of insurance * monitored through a framework of approved limits and policies delegated authorities; and written, including claims and * managed through a robust risk control framework which benefits, outlines clear and consistent policies, principles may exceed and guidance. This includes using product design, the total underwriting, reinsurance and claims-handling amount of procedures. premiums and investment income received. ------------- ---------------------------------------------------------- ----------------------------------------------------------- Credit risk
Overview
Credit risk is the risk of financial loss if a customer or counterparty fails to meet an obligation under a contract. Credit risk arises principally from direct lending, trade finance and leasing business, but also from other products, such as guarantees and credit derivatives.
Credit risk management
Key developments 2020
(Unaudited)
There were no material changes to the policies and practices for the management of credit risk in 2020. We continued to apply the requirements of HKFRS 9 within Credit Risk.
Due to the unique market conditions in the COVID-19 outbreak, we expanded operational practices to provide short-term support to customers under the current policy framework. For further details of market-specific measures to support our personal and business customers, see page 44.
Governance and structure
(Unaudited)
We have established credit risk management and related HKFRS 9 processes throughout the group. We continue to assess the impact of economic developments in key markets on specific customers, customer segments or portfolios. As credit conditions change, we take mitigating action, including the revision of risk appetites or limits and tenors, as appropriate. In addition, we continue to evaluate the terms under which we provide credit facilities within the context of individual customer requirements, the quality of the relationship, local regulatory requirements, market practices and our local market position.
Credit risk sub-function
(Audited)
Credit approval authorities are delegated by the Board to the group Chief Executive together with the authority to sub-delegate them. The Credit Risk sub-function in Global Risk is responsible for the key policies and processes for managing credit risk, which include formulating group credit policies and risk rating frameworks, guiding the group's appetite for credit risk exposures, undertaking independent reviews and objective assessment of credit risk, and monitoring performance and management of portfolios.
The principal objectives of our credit risk management are:
-- to maintain across the group a strong culture of responsible lending, and robust risk policies and control frameworks;
-- to both partner and challenge our businesses in defining, implementing and continually re-evaluating our risk appetite under actual and scenario conditions; and
-- to ensure there is independent, expert scrutiny of credit risks, their causes and their mitigation.
Key risk management processes
HKFRS 9 process
(Unaudited)
The HKFRS 9 process comprises three main areas: modelling and data; implementation; and governance.
Modelling and data
(Unaudited)
We have established HKFRS 9 modelling and data processes in various geographies, which are subject to internal model risk governance including independent review of significant model developments.
Implementation
(Unaudited)
A centralised impairment engine performs the expected credit loss ('ECL') calculation using data, which is subject to a number of validation checks and enhancements, from a variety of client, finance and risk systems. Where possible, these checks and processes are performed in a globally consistent and centralised manner.
Governance
(Unaudited)
Regional management review forums are established in key sites and regions in order to review and approve the impairment results. Regional management review forums have representatives from Credit Risk and Finance. The key site and regional approvals are reported up to the global business impairment committee for final approval of the Group's ECL for the period. Required members of the committee are the global heads of Wholesale Credit and Market Risk and Wealth and Personal Banking Risk, as well as the global business Chief Financial Officers and the Group Chief Accounting Officer.
Concentration of exposure
(Audited)
Concentrations of credit risk arise when there are single material counterparty exposures or when there are a number of counterparties or exposures that have comparable economic characteristics, or such counterparties are engaged in similar activities or operate in the same geographical areas or industry sectors so that their collective ability to meet contractual obligations is uniformly affected by changes in economic, political or other conditions. We use a number of controls and measures to minimise undue concentration of exposure in our portfolios across industries, countries and global businesses. These include portfolio and counterparty limits, approval and review controls, and stress testing.
Credit quality of financial instruments
(Audited)
Our risk rating system facilitates the internal ratings-based approach under the Basel framework adopted by the group to support the calculation of our minimum credit regulatory capital requirement.
The five credit quality classifications each encompass a range of granular internal credit rating grades assigned to wholesale and retail lending businesses, and the external ratings attributed by external agencies to debt securities.
For debt securities and certain other financial instruments, external ratings have been aligned to the five quality classifications based upon the mapping of related customer risk rating ('CRR') to external credit rating.
Wholesale lending
(Unaudited)
The CRR 10-grade scale summarises a more granular underlying 23-grade scale of obligor probability of default ('PD'). All corporate customers are rated using the 10 or 23-grade scale, depending on the degree of sophistication of the Basel approach adopted for the exposure.
Each CRR band is associated with an external rating grade by reference to long-run default rates for that grade, represented by the average of issuer-weighted historical default rates. This mapping between internal and external ratings is indicative and may vary over time.
Retail lending
Retail lending credit quality is based on a 12-month point-in-time ('PIT') probability-weighted PD.
(Unaudited)
Credit quality classification
(Unaudited)
Sovereign Other
debt debt
securities securities Wholesale lending
and bills and bills and derivatives Retail lending
12-month
Basel
probability 12 month
External External Internal of Internal probability-
credit credit credit default credit weighted
rating rating rating % rating PD %
-------------------------- --------------- --------------- --------- ------------ -------- -------------
Quality classification(1,
2)
-------------------------- --------------- --------------- --------- ------------ -------- -------------
Strong BBB and A- and CRR 1 to 0 - 0.169 Band 1 0.000 -
above above CRR 2 and 2 0.500
-------------------------- --------------- --------------- --------- ------------ -------- -------------
Good BBB- to BBB+ to CRR 3 0.170 - Band 3 0.501 -
BB BBB- 0.740 1.500
-------------------------- --------------- --------------- --------- ------------ -------- -------------
BB- to BB+ to CRR 4 to 0.741 - Band 4 1.501 -
Satisfactory B and unrated B and unrated CRR 5 4.914 and 5 20.000
-------------------------- --------------- --------------- --------- ------------ -------- -------------
Sub-standard B- to C B- to C CRR 6 to 4.915 - Band 6 20.001 -
CRR 8 99.999 99.999
-------------------------- --------------- --------------- --------- ------------ -------- -------------
CRR 9 to
Credit impaired Default Default CRR 10 100 Band 7 100
-------------------------- --------------- --------------- --------- ------------ -------- -------------
1 Customer risk rating ('CRR').
2 12-month PIT PD.
Quality classification definitions
'Strong' exposures demonstrate a strong capacity to meet financial
commitments, with negligible or low probability of default and/or low
levels of expected loss.
'Good' exposures require closer monitoring and demonstrate a good
capacity to meet financial commitments, with low default risk.
'Satisfactory' exposures require closer monitoring and demonstrate
an average-to-fair capacity to meet financial commitments, with moderate
default risk.
'Sub-standard' exposures require varying degrees of special attention
and default risk is of greater concern.
'Credit-impaired' exposures have been assessed as described in Note
1.2(i) on the Consolidated Financial Statements.
=========================================================================
Renegotiated loans and forbearance
(Audited)
'Forbearance' describes concessions made on the contractual terms of a loan in response to an obligor's financial difficulties.
A loan is classed as 'renegotiated' when we modify the contractual payment terms on concessionary terms because we have significant concerns about the borrowers' ability to meet contractual payments when due.
Non-payment-related concessions (e.g. covenant waivers), while potential indicators of impairment, do not trigger identification as renegotiated loans.
Loans that have been identified as renegotiated retain this designation until maturity or derecognition.
For details of our policy on derecognised renegotiated loans, see Note 1.2(i) on the Consolidated Financial Statements.
Credit quality of renegotiated loans
(Unaudited)
On execution of a renegotiation, a loan will also be classified as credit impaired if it is not already so classified. In wholesale lending, all facilities with a customer, including loans that have not been modified, are considered credit impaired following the identification of a renegotiated loan.
Wholesale renegotiated loans are classified as credit-impaired until there is sufficient evidence to demonstrate a significant reduction in the risk of non-payment of future cash flows, observed over a minimum one-year period, and there are no other indicators of impairment. Personal renegotiated loans are deemed to remain credit impaired until repayment, write-off or derecognition.
Renegotiated loans and recognition of expected credit losses
(Audited)
For wholesale lending, renegotiated loans are typically assessed individually. Credit risk ratings are intrinsic to the impairment assessments. The individual impairment assessment takes into account the higher risk of the future non-payment inherent in renegotiated loans. For retail lending, unsecured renegotiated loans are generally segmented from other parts of the loan portfolio. Renegotiated expected credit loss assessments reflect the higher rates of losses typically encountered with renegotiated loans.
Impairment assessment
(Audited)
For details of our impairment policies on loans and advances and financial investments, see Note 1.2(i) on the Consolidated Financial Statements.
Write-off of loans and advances
(Audited)
For details of our policy on the write-off of loans and advances, see Note 1.2(i) on the Consolidated Financial Statements.
Unsecured personal facilities, including credit cards, are generally written off at between 150 and 210 days past due. The standard period runs until the end of the month in which the account becomes 180 days contractually delinquent. Write-off periods may be extended, generally to no more than 360 days past due. However, in exceptional circumstances, they may be extended further.
For secured facilities, write-off should occur upon repossession of collateral, receipt of proceeds via settlement, or determination that recovery of the collateral will not be pursued.
Any secured assets maintained on our balance sheet beyond 60 months of consecutive delinquency-driven default require additional monitoring and review to assess the prospect of recovery.
There are exceptions in a few countries where local regulation or legislation constrain earlier write-off, or where the realisation of collateral for secured real estate lending takes more time. In the event of bankruptcy or analogous proceedings, write-off may occur earlier than the maximum periods stated above. Collection procedures may continue after write-off. Summary of credit risk
The following disclosure presents the gross carrying/nominal amount of financial instruments to which the impairment requirements in HKFRS 9 are applied and the associated allowance for expected credit losses ('ECL').
Summary of financial instruments to which the impairment requirements
in HKFRS 9 are applied
(Audited)
2020 2019
Gross Gross
carrying/ Allowance carrying/ Allowance
nominal for nominal for
amount ECL(1) amount ECL(1)
At 31 Dec HK$m HK$m HK$m HK$m
------------------------------------------------- ---------- --------- ---------- -----------
Loans and advances to customers at amortised
cost 3,697,568 (28,887) 3,738,269 (17,394)
------------------------------------------------- ---------- --------- ---------- ---------
Loans and advances to banks 403,908 (24) 328,934 (29)
------------------------------------------------- ---------- --------- ---------- ---------
Other financial assets measured at amortised
cost 1,869,268 (713) 1,540,963 (341)
------------------------------------------------- ---------- --------- ---------- ---------
- cash and balances at central banks 347,999 - 202,747 (1)
-------------------------------------------------
- items in the course of collection from
other banks 21,943 - 21,140 -
-------------------------------------------------
- Hong Kong Government certificates of
indebtedness 313,404 - 298,944 -
-------------------------------------------------
- reverse repurchase agreements - non-trading 520,344 - 422,333 -
-------------------------------------------------
- financial investments 475,553 (527) 434,523 (223)
-------------------------------------------------
- prepayments, accrued income and other
assets 190,025 (186) 161,276 (117)
------------------------------------------------- ---------- --------- ---------- ---------
Amounts due from Group companies 82,849 - 85,385 -
------------------------------------------------- ---------- --------- ---------- ---------
Total gross carrying amount on-balance
sheet 6,053,593 (29,624) 5,693,551 (17,764)
------------------------------------------------- ---------- --------- ---------- ---------
Loans and other credit related commitments 1,725,963 (825) 1,630,005 (560)
------------------------------------------------- ---------- --------- ---------- ---------
Financial guarantee 32,358 (124) 41,163 (62)
------------------------------------------------- ---------- --------- ---------- ---------
Total nominal amount off-balance sheet 1,758,321 (949) 1,671,168 (622)
------------------------------------------------- ---------- --------- ---------- ---------
7,811,914 (30,573) 7,364,719 (18,386)
------------------------------------------------- ---------- --------- ---------- ---------
Allowance Allowance
for for
Fair value ECL Fair value ECL
HK$m HK$m HK$m HK$m
------------------------------------------------- ---------- --------- ---------- -----------
At 31 Dec
------------------------------------------------- ---------- --------- ---------- -----------
Debt instruments measured at Fair Value
through Other Comprehensive Income ('FVOCI')(2) 1,689,820 (167) 1,457,362 (64)
------------------------------------------------- ---------- --------- ---------- ---------
1 For retail overdrafts and credit cards the total ECL is recognised against the financial asset unless the total ECL exceeds the gross carrying amount of the financial asset, in which case the ECL is recognised against the loan commitment.
2 Debt instruments measured at FVOCI continue to be measured at fair value with the allowance for ECL as a memorandum item. Changes in ECL are recognised in 'Change in expected credit losses and other credit impairment charges' in the consolidated income instatement.
The following table provides an overview of the group's credit risk by stage and industry, and the associated ECL coverage. The financial assets recorded in each stage have the following characteristics:
-- Stage 1: These financial assets are unimpaired and without significant increase in credit risk on which a 12-month allowance for ECL is recognised.
-- Stage 2: A significant increase in credit risk has been experienced on these financial assets since initial recognition for which a lifetime ECL is recognised.
-- Stage 3: There is objective evidence of impairment and the financial assets are therefore considered to be in default or otherwise credit impaired on which a lifetime ECL is recognised.
-- POCI: Financial assets that are purchased or originated at a deep discount are seen to reflect the incurred credit losses on which a lifetime ECL is recognised.
Summary of credit risk (excluding debt instruments measured at FVOCI)
by stage distribution and ECL coverage by industry sector
(Audited)
Gross carrying/nominal
amount Allowance for ECL ECL coverage %
Stage Stage Stage Stage Stage Stage Stage Stage Stage
1 2 3 POCI Total 1 2 3 POCI Total 1 2 3 POCI Total
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m % % % % %
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
Loans
and advances
to customers 3,150,921 510,040 35,752 855 3,697,568 (4,393) (6,438) (17,694) (362) (28,887) 0.1 1.3 49.5 42.3 0.8
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
- personal 1,381,495 61,790 9,062 - 1,452,347 (1,809) (3,463) (1,872) - (7,144) 0.1 5.6 20.7 - 0.5
--------------------------------
- corporate(1) 1,580,976 391,635 26,514 853 1,999,978 (2,428) (2,897) (15,763) (360) (21,448) 0.2 0.7 59.5 42.2 1.1
--------------------------------
* financial institutions(2) 188,450 56,615 176 2 245,243 (156) (78) (59) (2) (295) 0.1 0.1 33.5 100.0 0.1
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- -----
Loans
and advances
to banks 401,256 2,652 - - 403,908 (19) (5) - - (24) 0.0 0.2 - - 0.0
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
Other
financial
assets 1,854,154 14,834 279 1 1,869,268 (452) (221) (40) - (713) 0.0 1.5 14.3 - 0.0
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
Loan and
other
credit-related
commitments 1,677,242 48,538 183 - 1,725,963 (514) (281) (30) - (825) 0.0 0.6 16.4 - 0.0
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
* personal 1,205,969 6,129 79 - 1,212,177 (1) - - - (1) 0.0 - - - 0.0
--------------------------------
* corporate(1) 388,833 34,095 104 - 423,032 (492) (266) (30) - (788) 0.1 0.8 28.8 - 0.2
--------------------------------
* financial institutions(2) 82,440 8,314 - - 90,754 (21) (15) - - (36) 0.0 0.2 - - 0.0
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- -----
Financial
guarantee 25,786 6,522 50 - 32,358 (51) (56) (17) - (124) 0.2 0.9 34.0 - 0.4
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
- personal 4,043 2 6 - 4,051 - - (1) - (1) - - 16.7 - 0.0
--------------------------------
- corporate(1) 20,737 6,241 44 - 27,022 (51) (56) (16) - (123) 0.2 0.9 36.4 - 0.5
--------------------------------
* financial institutions(2) 1,006 279 - - 1,285 - - - - - - - - - -
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -----
At 31
Dec 2020 7,109,359 582,586 36,264 856 7,729,065 (5,429) (7,001) (17,781) (362) (30,573) 0.1 1.2 49.0 42.3 0.4
-------------------------------- --------- ------- ------ ---- --------- ------- ------- -------- ----- -------- ----- ----- ----- ----- -------
The above table does not include balances due from Group companies.
1 Includes corporate and commercial. 2 Includes non-bank financial institutions.
Unless identified at an earlier stage, all financial assets are deemed to have suffered a significant increase in credit risk when they are 30 days past due ('DPD') and are transferred from stage 1 to stage 2. The following disclosure presents the ageing of stage 2 financial assets by those less than 30 and greater than 30 days past due and therefore presents those amounts classified as stage 2 due to ageing (30 DPD) and those identified at an earlier stage (less than 30 DPD).
Stage 2 days past due analysis for loans and advances to customers
(Audited)
-----------------------------------
Gross carrying amount Allowance for ECL ECL coverage %
of of of of of of of of of
which: which: which: which: which: which: which: which: which:
1 to 30 1 to 30
Stage 1 to 30 and Stage 29 and Stage 29 and
2 Up-to-date 29 DPD > DPD 2 Up-to-date DPD > DPD 2 Up-to-date DPD > DPD
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m % % % %
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ --------
At 31 Dec 2020
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ --------
Loans and advances
to customers
at amortised
cost 510,040 499,567 6,590 3,883 (6,438) (5,505) (268) (665) 1.3 1.1 4.1 17.1
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ ------
* personal 61,790 53,063 5,311 3,416 (3,463) (2,642) (204) (617) 5.6 5.0 3.8 18.1
--------------------------------------
* corporate and commercial 391,635 389,941 1,227 467 (2,897) (2,785) (64) (48) 0.7 0.7 5.2 10.3
--------------------------------------
* non-bank financial institutions 56,615 56,563 52 - (78) (78) - - 0.1 0.1 - -
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ ------
Summary of credit risk (excluding debt instruments measured at FVOCI)
by stage distribution and ECL coverage by industry sector
(continued)
(Audited)
Gross carrying/nominal Allowance for ECL ECL coverage %
amount
------------------------------------------------
Stage Stage Stage Stage Stage Stage Stage Stage Stage
1 2 3 POCI Total 1 2 3 POCI Total 1 2 3 POCI Total
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m % % % % %
-------------------------------- --------- ------- ------ ----- ------------- ------- ------- ------- ----- ------------ ----- ----- ----- ----- -----
Loans
and advances
to customers 3,423,956 296,522 16,639 1,152 3,738,269 (3,480) (4,615) (8,999) (300) (17,394) 0.1 1.6 54.1 26.0 0.5
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- ----- -----
* personal 1,351,575 45,606 5,575 - 1,402,756 (1,732) (2,646) (1,325) - (5,703) 0.1 5.8 23.8 - 0.4
--------------------------------
* corporate(1) 1,850,316 222,819 10,914 1,149 2,085,198 (1,622) (1,844) (7,525) (297) (11,288) 0.1 0.8 68.9 25.8 0.5
--------------------------------
* financial institutions(2) 222,065 28,097 150 3 250,315 (126) (125) (149) (3) (403) 0.1 0.4 99.3 100.0 0.2
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- -----
Loans
and advances
to banks 328,355 579 - - 328,934 (26) (3) - - (29) 0.0 0.5 - - 0.0
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- ----- -----
Other
financial
assets 1,530,910 9,884 167 2 1,540,963 (214) (77) (50) - (341) 0.0 0.8 29.9 - 0.0
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- ----- -----
Loan and
other
credit-related
commitments 1,601,934 27,967 104 - 1,630,005 (303) (236) (21) - (560) 0.0 0.8 20.2 - 0.0
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- ----- -----
* personal 1,158,805 5,311 69 - 1,164,185 - (1) - - (1) - 0.0 - - 0.0
--------------------------------
* corporate(1) 378,362 18,495 35 - 396,892 (293) (230) (21) - (544) 0.1 1.2 60.0 - 0.1
--------------------------------
* financial institutions(2) 64,767 4,161 - - 68,928 (10) (5) - - (15) 0.0 0.1 - - 0.0
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- -----
Financial
guarantee 34,496 6,634 33 - 41,163 (29) (20) (13) - (62) 0.1 0.3 39.4 - 0.2
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- ----- -----
* personal 4,377 - 3 - 4,380 - - (3) - (3) - - 100.0 - 0.1
--------------------------------
* corporate(1) 28,530 6,410 30 - 34,970 (29) (20) (10) - (59) 0.1 0.3 33.3 - 0.2
--------------------------------
* financial institutions(2) 1,589 224 - - 1,813 - - - - - - - - - -
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- -----
At 31
Dec 2019 6,919,651 341,586 16,943 1,154 7,279,334 (4,052) (4,951) (9,083) (300) (18,386) 0.1 1.4 53.6 26.0 0.3
-------------------------------- --------- ------- ------ ----- --------- ------- ------- ------- ----- -------- ----- ----- ----- ----- -----
The above table does not include balances due from Group companies.
1 Includes corporate and commercial. 2 Includes non-bank financial institutions.
Unless identified at an earlier stage, all financial assets are deemed to have suffered a significant increase in credit risk when they are 30 days past due ('DPD') and are transferred from stage 1 to stage 2. The following disclosure presents the ageing of stage 2 financial assets by those less than 30 and greater than 30 days past due and therefore presents those amounts classified as stage 2 due to ageing (30 DPD) and those identified at an earlier stage (less than 30 DPD).
Stage 2 days past due analysis for loans and advances to customers (continued)
(Audited)
Gross carrying amount Allowance for ECL ECL coverage %
of of of of of of of of of
which: which: which: which: which: which: which: which: which:
1 to 30 1 to 30 1 to 30
Stage 29 and Stage 29 and Stage 29 and
2 Up-to-date DPD > DPD 2 Up-to-date DPD > DPD 2 Up-to-date DPD > DPD
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m % % % %
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ --------
At 31 Dec 2019
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ --------
Loans and advances
to customers at
amortised cost 296,522 284,357 8,254 3,911 (4,615) (3,926) (255) (434) 1.6 1.4 3.1 11.1
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ ------
* personal 45,606 35,607 6,505 3,494 (2,646) (2,033) (217) (396) 5.8 5.7 3.3 11.3
--------------------------------------
* corporate and commercial 222,819 220,715 1,687 417 (1,844) (1,768) (38) (38) 0.8 0.8 2.3 9.1
--------------------------------------
* non-bank financial institutions 28,097 28,035 62 - (125) (125) - - 0.4 0.4 - -
-------------------------------------- ------- ---------- ------ ------ ------- ---------- ------ ------ ----- ---------- ------ ------
Credit exposure
Maximum exposure to credit risk
(Audited)
This section provides information on the maximum exposure to credit risk associated with balance sheet items as well as loan and other credit-related commitments.
'Maximum exposure to credit risk' table The following table presents our maximum exposure to credit risk before taking account of any collateral held or other credit enhancements (unless such enhancements meet accounting offsetting requirements). The table excludes financial instruments whose carrying amount best represents the net exposure to credit risk, and it excludes equity securities as they are not subject to credit risk. For the financial assets recognised on the balance sheet, the maximum exposure to credit risk equals their carrying amount; for financial guarantees and other guarantees granted, it is the maximum amount that we would have to pay if the guarantees were called upon. For loan commitments and other credit-related commitments, it is generally the full amount of the committed facilities. ========================================================================
Other credit risk mitigants
There are arrangements in place that reduce our maximum exposure to credit risk. These include a charge over collateral on borrowers' specific assets, such as properties, collateral held in the form of financial instruments that are not held on the balance sheet and short positions in securities. In addition, for financial assets held as part of linked insurance/investment contracts the risk is predominantly borne by the policyholder.
Collateral available to mitigate credit risk is disclosed in the Collateral section on pages 45-48.
Maximum exposure to credit risk before collateral held or other credit
enhancements
(Audited)
---------- ------------
2020 2019
HK$m HK$m
--------------------------------------------------- ---------- ------------
Cash and balances at central banks 347,999 202,746
--------------------------------------------------- ---------- ----------
Items in the course of collection from other banks 21,943 21,140
--------------------------------------------------- ---------- ----------
Hong Kong Government certificates of indebtedness 313,404 298,944
--------------------------------------------------- ---------- ----------
Trading assets 434,029 445,298
--------------------------------------------------- ---------- ----------
Derivatives 422,945 280,642
--------------------------------------------------- ---------- ----------
Financial assets designated at fair value 35,145 33,464
--------------------------------------------------- ---------- ----------
Reverse repurchase agreements - non-trading 520,344 422,333
--------------------------------------------------- ---------- ----------
Loans and advances to banks 403,884 328,905
--------------------------------------------------- ---------- ----------
Loans and advances to customers 3,668,681 3,720,875
--------------------------------------------------- ---------- ----------
Financial investments 2,164,846 1,891,661
--------------------------------------------------- ---------- ----------
Amounts due from Group companies 83,203 87,632
--------------------------------------------------- ---------- ----------
Other assets 197,362 165,497
--------------------------------------------------- ---------- ----------
Total on-balance sheet exposure to credit risk 8,613,785 7,899,137
--------------------------------------------------- ---------- ----------
Total off-balance sheet 3,326,935 3,346,414
--------------------------------------------------- ---------- ----------
Financial guarantees and other similar contracts 325,631 315,257
--------------------------------------------------- ---------- ----------
Loan and other credit-related commitments 3,001,304 3,031,157
--------------------------------------------------- ---------- ----------
At 31 Dec 11,940,720 11,245,551
--------------------------------------------------- ---------- ----------
Total exposure to credit risk remained broadly unchanged in 2020 with loans and advances continuing to be the largest element.
Credit deterioration of financial instruments
(Audited)
A summary of our current policies and practices regarding the identification, treatment and measurement of stage 1, stage 2, stage 3 (credit impaired) and POCI financial instruments can be found in Note 1.2(i) on the Consolidated Financial Statements.
Measurement uncertainty and sensitivity analysis of ECL estimates
(Audited)
The recognition and measurement of expected credit losses ('ECL') involves the use of significant judgement and estimation. We form multiple economic scenarios based on economic forecasts, apply these assumptions to credit risk models to estimate future credit losses, and probability-weight the results to determine an unbiased ECL estimate. Management judgemental adjustments are used to address late-breaking events, data and model limitations, and expert credit judgements.
Methodology
Four economic scenarios have been used to capture the exceptional nature of the current economic environment and to articulate management's view of the range of potential outcomes. Scenarios produced to calculate ECL are aligned to HSBC's Top and Emerging Risks. Three of these scenarios are drawn from consensus forecasts and distributional estimates. These include a central scenario, representing a most likely outcome, a downside and an upside scenario that represent meaningfully different outcomes from the central. The central scenario is created using the average of a panel of external forecasters ('the consensus') while consensus upside and downside scenarios are created with reference to distributions for select markets that capture forecasters' views of the entire range of outcomes. We have chosen to use a fourth scenario to represent severe downside risks that are not captured in the consensus scenarios. The use of additional scenarios is in line with HSBC's Forward Economic Guidance ('FEG') methodology and has been regularly used over the course of 2020. Unlike the consensus scenarios, additional scenarios are driven by narrative assumptions and may result in shocks that drive economic activities permanently away from trend.
Description of Consensus Economic Scenarios
The economic assumptions presented in this section have been formed internally with reference to external forecasts specifically for the purpose of calculating ECL.
The world economy experienced a deep economic shock in 2020. As Covid-19 spread globally, governments in many of our markets sought to limit the human impact by imposing significant restrictions on mobility, in turn driving the deep falls in activity that were observed in the first half of the year. Restrictions were eased as cases declined in response to the initial measures which in turn supported an initial rebound in economic activity by the third quarter of 2020. This increase in mobility unfortunately led to renewed transmission of the virus in several countries, placing health-care systems under significant burden, leading governments to re-impose restrictions on mobility and causing global economic activity to decline once more.
Economic forecasts are subject to a high degree of uncertainty in the current environment. Limitations of forecasts and economic models require a greater reliance on management judgement in addressing both the imperfections inherent in economic forecasts and in assessing associated ECL outcomes. The scenarios used to calculate ECL are described below.
The consensus Central scenario
HSBC's Central scenario features an improvement in economic growth in 2021 as activity and employment gradually returns to the levels experienced prior to the outbreak of Covid-19.
Despite the sharp contraction in activity, government fiscal support in advanced economies played a crucial role averting significant financial distress. At the same time, central banks in our key markets implemented a variety of measures, which included lowering their main policy interest rates, implementing emergency support measures for funding markets, and either restarting or increasing quantitative easing programs in order to support economies and the financial system. Across our key markets, governments and central banks are expected to continue to work together to ensure that households and firms receive an appropriate level of financial support until restrictions on economic activity and mobility can be materially eased. Such support will ensure that labour and housing markets do not experience abrupt, negative corrections and will also limit the extent of long term structural damage to economies.
Differences across markets in the speed and scale of economic recovery in the Central scenario reflect timing differences in the progression of the Covid-19 outbreak, differences in restrictions imposed, the coverage achieved by vaccination programmes and the scale of support measures.
The key features of our Central scenario are:
-- Growth in economic activity in 2021, supported by a successful rollout of vaccination programmes across our key markets. We expect vaccination programmes, coupled with effective non-pharmacological measures to contain the virus ('track and trace' systems and restrictions to mobility) to lead to a significant decline in infections across our key markets by the end of the third quarter of 2021.
-- Where fiscal support schemes are available, they will limit the increase in the unemployment rate in 2021. We expect a gradual reversion of the unemployment rate to pre-crisis levels over the course of the projection period as a result of economic recovery and due to the orderly withdrawal of fiscal support.
-- Inflation will converge towards central bank targets in our key markets.
-- In advanced economies, fiscal support in 2020 led to large deficits and a significant increase in public debt. Fiscal support is expected to continue as needed and deficits are expected to reduce gradually over the projection period. Sovereign debt levels will remain high and our central scenario does not assume fiscal austerity.
-- Policy interest rates in key markets will remain at current levels for an extended period and will increase very modestly towards the end of our projection period. Central banks will continue to provide assistance through their asset purchase programmes as needed.
-- The West Texas Intermediate oil price is forecast to average US$43 per barrel over the projection period.
The following table describes key macroeconomic variables and the probabilities assigned in the consensus Central scenario.
Central scenario (2021-2025)
Mainland
Hong Kong China
% %
------------------------ --------- --------
GDP growth rate (annual
average)
------------------------ --------- --------
2020 (6.4) 2.0
------------------------ --------- --------
2021 4.3 7.8
------------------------ --------- --------
2022 2.9 5.3
------------------------ --------- --------
2023 2.6 5.2
------------------------ --------- --------
5 Year Average 2.9 5.6
------------------------ --------- --------
Unemployment rate
(annual average)
------------------------ --------- --------
2020 5.8 3.9
------------------------ --------- --------
2021 5.0 4.1
------------------------ --------- --------
2022 3.9 4.2
------------------------ --------- --------
2023 3.8 4.1
------------------------ --------- --------
5 Year Average 4.0 4.0
------------------------ --------- --------
House Price growth
(annual average)
------------------------ --------- --------
2020 (0.8) 2.3
------------------------ --------- --------
2021 (2.2) 4.7
------------------------ --------- --------
2022 2.4 5.7
------------------------ --------- --------
2023 5.2 5.0
------------------------ --------- --------
5 Year Average 2.3 4.7
------------------------ --------- --------
Short term interest
rate (annual average)
------------------------ --------- --------
2020: 1.2 3.2
------------------------ --------- --------
2021: 1.0 2.9
------------------------ --------- --------
2022 1.1 3.0
------------------------ --------- --------
2023 1.2 3.1
------------------------ --------- --------
5 Year Average 1.3 3.1
------------------------ --------- --------
Probability 70.0 80.0
------------------------ --------- --------
The consensus Upside scenario
Compared to the consensus Central scenario, the consensus Upside scenario features a faster recovery in economic activity during the first two years, before converging to long-run trends.
The scenario is consistent with a number of key upside risk themes. These include:
-- The orderly and rapid global abatement of Covid-19 via successful containment and prompt deployment of a vaccine;
-- De-escalation of tensions between the US and China; -- De-escalation of political tensions in Hong Kong; and -- Continued support from fiscal and monetary policy.
The following table describes key macroeconomic variables and the probabilities assigned in the consensus Upside scenario.
Consensus Upside scenario best outcome
Mainland
Hong Kong China
% %
----------------------- ----------- -------------
GDP growth rate 13.8 (4Q21) 20.5 (1Q21)
----------------------- ----------- -------------
Unemployment rate 3.0 (3Q22) 3.9 (4Q21)
----------------------- ----------- -------------
House price growth 4.9 (1Q22) 12.2 (1Q22)
----------------------- ----------- -------------
Short-term interest
rate 1.1 (1Q21) 3.0 (1Q21)
----------------------- ----------- -------------
Probability 5.0 10.0
----------------------- ----------- ---------
Note: Extreme point in the consensus Upside is 'best outcome' in the scenario, i.e. highest GDP growth, lowest unemployment rate etc, in first two years of the scenario.
Downside Scenarios
2021 is expected to be a year of economic recovery, but the progression and management of the pandemic presents a key risk to global growth.
-- A new and more contagious strain of the virus increases the transmission rate in the UK and resulted in stringent restrictions to mobility towards the year end.
-- This viral strain observed in the UK, together with aggressive strains observed in other countries including South Africa and Brazil, introduce the risk that transmission may increase significantly within the national borders of a number of countries in 2021 and also raise concerns around the efficacy of vaccines as the virus mutates.
-- Some countries may keep significant restrictions to mobility in place for an extended period of time and at least until critical segments of the population can be inoculated. Further risks to international travel also arise for international hubs such as Hong Kong.
A number of vaccines have been developed and approved for use at a rapid pace and plans to inoculate significant proportions of national populations in 2021 across many of our key markets are a clear positive for economic recovery. While we expect vaccination programmes to be successful, governments and healthcare authorities face specific challenges that could affect the speed and spread of vaccinations. These challenges include:
-- The logistics of inoculating a significant proportion of populations within a limited time-frame and the public acceptance of vaccines.
-- On a global level, supply challenges could affect the pace of roll out and the efficacy of vaccines is yet to be determined.
Government support programmes in advanced economies in 2020 were supported by accommodative actions taken by central banks.
-- These measures by governments and central banks have provided households and firms with significant support.
-- An inability or unwillingness to continue with such support or the untimely withdrawal of support present a downside risk to growth.
While Covid-19 and related risks dominate the economic outlook, geopolitical risks also present a threat. These risks include:
-- The potential for increased tensions between the US and mainland China: the outcome of the 2020 Presidential election in the US signals a more orderly conduct of relations between the US and mainland China in the future but long term differences between the two nations remain, which could affect sentiment and restrict global economic activity.
-- Social and political unrest in Hong Kong: mobility restrictions to combat the spread of Covid-19 and the passage of the National Security Law in 2020 significantly reduced the scale of protests. As Covid-19 diminishes as a threat, such unrest has the potential to return.
The consensus Downside scenario
In the consensus Downside scenario, economic recovery is considerably weaker compared to the Central scenario:
-- GDP growth remains weak; -- Unemployment rates stay elevated; and -- Asset and commodity prices fall before gradually recovering towards their long-run trends.
The scenario is consistent with the key downside risks articulated above. Further outbreaks of Covid-19, coupled with delays in vaccination programmes lead to longer lasting restrictions on economic activity. Other global risks also increase and drive increased risk-aversion in asset markets.
The following table describes key macroeconomic variables and the probabilities assigned in the consensus Downside scenario.
Consensus Downside scenario worst
outcome
Hong Mainland
Kong China
% %
---------------------- ========== ============
-2.1 -1.3
GDP growth rate (3Q21) (4Q21)
---------------------- ========== ============
Unemployment rate 6.4 (1Q21) 4.3 (3Q22)
---------------------- ---------- ------------
-6.8
House price growth (3Q21) 0.3 (4Q21)
---------------------- ---------- ------------
Short-term interest
rate 1.1 (4Q22) 2.8 (1Q21)
====================== ========== ============
Probability 20.0 8.0
====================== ========== ========
Note: Extreme point in the consensus Downside is 'worst outcome' in the scenario, i.e. lowest GDP growth, highest unemployment rate etc, in first two years of the scenario (2021Q1-2022Q4).
The Additional Downside scenario
An additional Downside scenario which features a global recession, has been created to reflect management's view of severe risks:
-- Infections rise in 2021 and setbacks to vaccine programmes imply that successful roll out of vaccines only occurs towards the end of 2021 and it takes until the end of 2022 for the pandemic to come to an end.
-- Governments and central banks are unable to significantly increase fiscal and monetary programmes which results in abrupt corrections in labour and asset markets.
The following table describes key macroeconomic variables and the probabilities assigned in the additional Downside scenario.
Additional Downside scenario worst
outcome
Hong Mainland
Kong China
% %
----------------------- ----------- -------------
GDP growth rate -8.3 (4Q21) -9.5 (4Q21)
----------------------- ----------- -------------
Unemployment rate 6.7 (3Q21) 6.1 (3Q22)
----------------------- ----------- -------------
-21.0 -19.4
House price growth (4Q21) (4Q21)
----------------------- ----------- -------------
Short-term interest
rate 1.3 (1Q21) 4.0 (2Q21)
----------------------- ----------- -------------
Probability 5.0 2.0
----------------------- ----------- -------- ---
Note: Extreme point in the additional Downside is 'worst outcome' in the scenario, i.e. lowest GDP growth, highest unemployment rate etc, in first two years of the scenario (2021Q1-2022Q4).
In considering economic uncertainty and assigning probabilities to scenarios, management has considered both global and local specific factors. This has led management to assigning scenario probabilities that are tailored to our view of uncertainty in individual markets.
To inform our view, management have considered trends in the progression and response to the virus in individual markets, the expected reach and efficacy of vaccine roll-outs over the course of 2021, the size and effectiveness of future government support schemes and the connectivity with other countries. Management has also been guided by the actual response to the Covid-19 outbreak and by the economic experience across countries in 2020. China's visible success at containing the virus and its repeated rapid response to localised outbreaks, coupled with government support programmes and clear signs of economic recovery, have led management to conclude that the economic outlook for mainland China is the least volatile out of all our key markets.
The weights assigned for mainland China reflect this outlook with a probability of 80% for the Central scenario and a total of 10% across the two downside scenarios. The weights assigned to Asian markets excluding Hong Kong and mainland China remain unchanged at 70% for the Central scenario and a total of 20% across the two downside scenarios. The weights assigned to Hong Kong are 70% for the Central scenario and a total of 25% across the two downside scenarios.
Uncertainty related to the continued impact of the pandemic and the ability of governments to control its spread via restrictions and vaccinations over the course of 2021 also play a prominent role in assigning scenario weights to other markets.
Critical accounting estimates and judgements
The calculation of ECL under HKFRS 9 involves significant judgements, assumptions and estimates. The level of estimation uncertainty and judgement has increased during 2020 as a result of the economic effects of the Covid-19 outbreak, including significant judgements relating to:
-- the selection and weighting of economic scenarios, given rapidly changing economic conditions in an unprecedented manner, uncertainty as to the effect of government and central bank support measures designed to alleviate adverse economic impacts, and a wider distribution of economic forecasts than before the pandemic. The key judgements are the length of time over which the economic effects of the pandemic will occur and the speed and shape of recovery. The main factors include the effectiveness of pandemic containment measures, the pace of roll-out and effectiveness of vaccines, and the emergence of new variants of the virus, plus a range of geopolitical uncertainties,which together represent a very high degree of estimation uncertainty, particularly in assessing downside scenarios;
-- estimating the economic effects of those scenarios on ECL, where there is no observable historical trend that can be reflected in the models that will accurately represent the effects of the economic changes of the severity and speed brought about by the Covid-19 outbreak. Modelled assumptions and linkages between economic factors and credit losses may underestimate or overestimate ECL in these conditions, and there is significant uncertainty in the estimation of parameters such as collateral values and loss severity; and
-- the identification of customers experiencing significant increases in credit risk and credit impairment, particularly where those customers have accepted payment deferrals and other reliefs designed to address short-term liquidity issues, or have extended those deferrals, given limitations in the available credit information on these customers. The use of segmentation techniques for indicators of significant increases in credit risk involves significant estimation uncertainty.
How economic scenarios are reflected in the wholesale calculation of ECL
The Group has developed a globally consistent methodology for the application of forward economic guidance into the calculation of ECL by incorporating forward economic guidance into the estimation of the term structure of probability of default ('PD') and loss given default ('LGD'). For PDs, we consider the correlation of forward economic guidance to default rates for a particular industry in a country. For LGD calculations we consider the correlation of forward economic guidance to collateral values and realisation rates for a particular country and industry. PDs and LGDs are estimated for the entire term structure of each instrument.
For impaired loans, LGD estimates take into account independent recovery valuations provided by external consultants where available, or internal forecasts corresponding to anticipated economic conditions and individual company conditions. In estimating the ECL on impaired loans that are individually considered not to be significant, we incorporate forward economic guidance proportionate to the probability-weighted outcome and the Central scenario outcome for non-stage 3 populations.
These models are based largely on historical observations and correlations with default rates. Management judgemental adjustments are described below.
How economic scenarios are reflected in the retail calculation of ECL
The Group has developed and implemented a globally consistent methodology for incorporating forward economic guidance into ECL estimates. The impact of economic scenarios on PD is modelled at a portfolio level. Historic relationships between observed default rates and macroeconomic variables are integrated into HKFRS 9 ECL estimates by using economic response models. The impact of these scenarios on PD is modelled over a period equal to the remaining maturity of underlying assets. The impact on LGD is modelled for mortgage portfolios by forecasting future loan-to-value ('LTV') profiles for the remaining maturity of the asset by using national level forecasts of the house price index and applying the corresponding LGD expectation.
These models are based largely on historic observations and correlations with default rates. Management judgemental adjustments are described below.
Management judgemental adjustments
In the context of HKFRS 9, management judgemental adjustments are short-term increases or decreases to the ECL at either a customer or portfolio level to account for late breaking events, model and data limitations and deficiencies, and expert credit judgement applied following management review and challenge. In the Annual Report and Accounts 2019, these were described as 'Post model adjustments'.
The most severe projections at 31 December 2020 of macroeconomic variables are outside the historical observations on which HKFRS 9 models have been built and calibrated to operate. Moreover, the complexities of governmental support programmes, the impacts on customer behaviours and the unpredictable nature of the pandemic have never been modelled. Consequently, the group's HKFRS 9 models, in some cases, generate outputs that appear implausible when compared with other economic and credit metrics. Governmental support programmes and customer payment reliefs have dislocated the correlation between economic conditions and defaults on which models are based. Management judgemental adjustments are required to ensure that an appropriate amount of ECL impairment is recognised.
Internal governance is in place to regularly monitor management judgemental adjustments and, where possible, to reduce the reliance on these through model recalibration or redevelopment, as appropriate. During 2020, the composition of modelled ECL and management judgemental adjustments changed significantly, reflecting the path of the pandemic containment efforts and government support measures, and this is expected to continue to be the case until economic conditions improve. Wider-ranging model changes will take time to develop and need more real data on which models can be developed. Models will be revisited over time once the full impacts of Covid-19 are observed.
Management judgemental adjustments made in estimating the reported ECL at 31 December 2020 are set out in the following table. The table includes adjustments in relation to data and model limitations resulting from the pandemic, and as a result of the regular process of model development and implementation. It shows the adjustments applicable to the scenario-weighted ECL numbers. Adjustments in relation to Downside scenarios are more significant, as results are subject to greater uncertainty.
Management judgemental adjustments
to ECL(1)
Retail Wholesale Total
HK$bn HK$bn HK$bn
Low-risk counterparties
(banks, sovereigns
and government entities)(2) 0.21 0.03 0.24
----------------------------- ------ --------- -----
Corporate lending
adjustments 2.99 2.99
----------------------------- ------ --------- -----
Retail lending adjustments 1.15 1.15
----------------------------- ------ --------- -----
Retail model default
suppression adjustment 1.31 1.31
----------------------------- ------ --------- -----
Total 2.67 3.02 5.69
----------------------------- ------ --------- -----
1 Management judgemental adjustments presented in the table reflect increases in ECL.
2 Low-risk counterparties for Retail is comprised of adjustments relating to WPB Insurance only.
During 2020, management judgemental adjustments reflected the volatile economic conditions associated with the Covid-19 pandemic. The composition of modelled ECL and management judgemental adjustments changed significantly over 2020 as certain economic measures, such as GDP growth rate, passed the expected low point in a number of key markets and returned towards those reflected in modelled relationships, subject to continued uncertainty in the recovery paths of different economies.
ECL Wholesale adjustments were undertaken in the fourth quarter of 2020 totalling an increase of HK$3bn, versus a decrease in second quarter of 2020 of HK$10bn. This change came mainly through the improvement in FEG and implementation of model enhancements in Hong Kong, mainland China and Australia to address previous model limitations relating to PD projections under extreme scenarios. The effect of these model changes was a significant reduction in ECL in the alternative Downside scenario.
Adjustments to corporate exposures principally reflect the outcome of management judgements for high-risk and vulnerable sectors, supported by credit experts input, quantitative analyses and benchmarks. Considerations include potential default suppression in some sectors due to government intervention and late-breaking (idiosyncratic) developments.
At 31 December 2020, retail management judgemental adjustments led to an ECL increase of HK$2.7bn, primarily from additional ECL of HK$1.3bn to reflect adjustments to the timing of default which has been delayed by government support and customer relief measures on potential defaults. Retail lending adjustments of HK$1.2bn address areas such as customer relief, vulnerable segments and data limitations.
Adjustments under low-risk counterparties are from modelled numbers on the insurance portfolio as a result of the overall credit expert best estimates ('CEBE') process.
The retail model default suppression adjustment was applied as defaults remain temporarily suppressed due to government support and customer relief programmes which have supported stabilised portfolio performance. Retail models are reliant on the assumption that as macroeconomic conditions deteriorate, defaults will crystallise. This adjustment aligns the increase in default due to change in economic conditions to the period of time when defaults are expected to be observed. The retail model default suppression adjustment will be monitored and updated prospectively to ensure appropriate alignment with expected performance taking into consideration the levels and timing of government support and customer relief programmes.
Economic scenarios sensitivity analysis of ECL estimates
Management considered the sensitivity of the ECL outcome against the economic forecasts as part of the ECL governance process by recalculating the ECL under each scenario described above for selected portfolios, applying a 100% weighting to each scenario in turn. The weighting is reflected in both the determination of a significant increase in credit risk and the measurement of the resulting ECL.
The ECL calculated for the Upside and Downside scenarios should not be taken to represent the lower and upper limits of possible actual ECL outcomes. The impact of defaults that might occur in future under different economic scenarios is captured by recalculating ECL for loans in stages 1 and 2 at the balance sheet date. The population of stage 3 loans (in default) at the balance sheet date is unchanged in these sensitivity calculations. Stage 3 ECL would only be sensitive to changes in forecasts of future economic conditions if the LGD of a particular portfolio was sensitive to these changes.
There is a particularly high degree of estimation uncertainty in numbers representing tail risk scenarios when assigned a 100% weighting.
For wholesale credit risk exposures, the sensitivity analysis excludes ECL and financial instruments related to defaulted obligors because the measurement of ECL is relatively more sensitive to credit factors specific to the obligor than future economic scenarios. Therefore, it is impracticable to separate the effect of macroeconomic factors in individual assessments. For retail credit risk exposures, the sensitivity analysis includes ECL for loans and advances to customers related to defaulted obligors. This is because the retail ECL for secured mortgage portfolios including loans in all stages is sensitive to macroeconomic variables.
Wholesale and retail sensitivity
The wholesale and retail sensitivity analysis is stated inclusive of management judgemental adjustments, as appropriate to each scenario. The results tables exclude portfolios held by insurance business and small portfolios. In both the wholesale and retail analysis, the comparative period results for alternative Downside scenarios are not directly comparable to the current period, because they reflect different risk profiles relative with the Consensus scenarios for the period end.
Wholesale analysis
HKFRS 9 ECL sensitivity to future
economic conditions(1)
Mainland
Hong Kong China
---------------------------- --------- ----------
ECL coverage of financial
instruments
subject to significant
measurement
uncertainty at 31 December
2020(2) HK$m HK$m
---------------------------- --------- ----------
Reported ECL 3,675 897
---------------------------- --------- --------
Consensus scenarios
---------------------------- --------- ----------
Central scenario 3,009 718
---------------------------- --------- --------
Upside scenario 1,638 217
---------------------------- --------- --------
Downside scenario 5,208 1,954
---------------------------- --------- --------
Alternative scenario 10,568 8,979
---------------------------- --------- --------
HKFRS 9 ECL sensitivity to future
economic conditions(1)
Mainland
Hong Kong China
---------------------------- --------- ----------
ECL coverage of financial
instruments subject
to significant measurement
uncertainty at 31 December
2019(2) HK$m HK$m
---------------------------- --------- ----------
Reported ECL 2,555 966
---------------------------- --------- --------
Consensus scenarios
---------------------------- --------- ----------
Central scenario 1,895 919
---------------------------- --------- --------
Upside scenario 1,877 740
---------------------------- --------- --------
Downside scenario 1,901 826
---------------------------- --------- --------
Alternative scenarios
---------------------------- --------- ----------
Asia-Pacific alternative
Downside scenario 1
(HK$m) 4,284 1,168
---------------------------- --------- --------
Asia-Pacific alternative 5,452 N/A
Downside scenario 2
(HK$m)
---------------------------- --------- ----------
1 Excludes ECL and financial instruments relating to defaulted obligors because the measurement of ECL is relatively more sensitive to credit factors specific to the obligor than future economic scenarios.
2 Includes off-balance sheet financial instruments that are subject to significant measurement uncertainty.
At 31 December 2020, the most significant level of ECL sensitivity was observed in Hong Kong. This higher sensitivity was largely driven by significant exposure and more severe impacts of the Downside Scenarios relative to the Central scenario.
Retail analysis
HKFRS 9 ECL sensitivity to future
economic conditions(1)
Reported Central Upside Downside Alternative
ECL Scenario Scenario Scenario Scenarios
--------------- -------- --------- --------- --------- -------------
ECL coverage
of loans
and advances
to customers HK$m HK$m HK$m HK$m HK$m
At 31 December
2020(2)
--------------- -------- --------- --------- --------- -------------
Hong Kong 2,959 2,822 2,711 3,043 4,153
--------------- -------- --------- --------- --------- -----------
At 31 December
2019(2)
--------------- -------- --------- --------- --------- -------------
Hong Kong 2,718 2,306 2,197 2,383 4,128
--------------- -------- --------- --------- --------- -----------
1 ECL sensitivities exclude portfolios using less complex modelling approaches.
2 ECL sensitivity includes only on-balance sheet financial instruments to which HKFRS 9 impairment requirements are applied.
ECL sensitivities demonstrate an increase from 31 December 2019, driven by a significant increase in reported expected credit losses due to the global Covid-19 pandemic.
Reconciliation of changes in gross carrying/nominal amount and allowances for placings with and advances to banks and loans and advances to customers, including loan commitments and financial guarantees
(Unaudited)
The following disclosure provides a reconciliation by stage of the group's gross carrying/nominal amount and allowances for loans and advances to banks and customers, including loan commitments and financial guarantees. Movements are calculated on a quarterly basis and therefore fully capture stage movements between quarters. If movements were calculated on a year-to-date basis they would only reflect the opening and closing position of the financial instrument.
The transfers of financial instruments represents the impact of stage transfers upon the gross carrying/nominal amount and associated allowance for ECL.
The net remeasurement of ECL arising from stage transfers represents the increase or decrease due to these transfers, for example, moving from a 12-month (stage 1) to a lifetime (stage 2) ECL measurement basis. Net remeasurement excludes the underlying customer risk rating ('CRR')/ probability of default ('PD') movements of the financial instruments transferring stage. This is captured, along with other credit quality movements in the 'changes in risk parameters - credit quality' line item.
Changes in 'New financial assets originated or purchased', 'assets derecognised (including final repayments)' and 'changes to risk parameters - further lending/repayments' represent the impact from volume movements within the group's lending portfolio.
Reconciliation of changes in gross carrying/nominal amount and allowances
for loans and advances to banks and customers, including
loan commitments and financial guarantees
(Audited)
----------- --------- --------- --------- --------- --------- --------- --------- ----------- -----------
Stage 1 Stage 2 Stage 3 POCI Total
Gross Gross Gross Gross Gross
carrying/ Allowance carrying/ Allowance carrying/ Allowance carrying/ Allowance carrying/ Allowance
nominal for nominal for nominal for nominal for nominal for
amount ECL amount ECL amount ECL amount ECL amount ECL
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- -----------
At 1 Jan 2020 5,383,650 (3,839) 331,701 (4,874) 16,775 (9,032) 1,152 (300) 5,733,278 (18,045)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Transfers of
financial
instruments: (288,695) (2,585) 259,962 4,322 28,733 (1,737) - - - -
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
- transfers from
stage 1 to stage
2 (975,023) 2,504 975,023 (2,504) - - - - - -
------------------
- transfers from
stage 2 to stage
1 702,624 (5,130) (702,624) 5,130 - - - - - -
------------------
- transfers to
stage 3 (17,478) 95 (14,362) 1,821 31,840 (1,916) - - - -
------------------
- transfers from
stage 3 1,182 (54) 1,925 (125) (3,107) 179 - - - -
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Net remeasurement
of ECL arising
from transfer
of stage - 1,978 - (2,598) - (5,702) - - - (6,322)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
New financial
assets originated
and purchased 1,422,036 (1,743) - - - - 2 - 1,422,038 (1,743)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Assets
derecognised
(including final
repayments) (1,093,254) 320 (182,195) 687 (4,244) 1,357 - - (1,279,693) 2,364
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Changes to risk
parameters -
further
lending/repayment (235,616) (1,037) 140,675 4 41 606 (293) 10 (95,193) (417)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Changes in risk
parameters -
credit
quality - 1,501 - (6,709) - (9,339) - (71) - (14,618)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Changes to model
used for ECL
calculation - 489 - 2,626 - 26 - - - 3,141
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Assets written
off - - - - (6,064) 6,058 - - (6,064) 6,058
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Credit-related
modifications
that resulted
in derecognition - - - - (4) 2 - - (4) 2
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Foreign exchange 65,974 (67) 17,610 (237) 744 14 (6) (1) 84,322 (291)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Others 2 5 - (2) 3 8 - - 5 11
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
At 31 Dec 2020 5,254,097 (4,978) 567,753 (6,781) 35,984 (17,739) 855 (362) 5,858,689 (29,860)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
ECL income
statement
charge for the
year (17,595)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Recoveries 733
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Others (154)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total ECL income
statement charge
for the year (17,016)
------------------ ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
At 31 Dec 2020 Year ended
31 Dec 2020
--------------
Gross carrying/nominal Allowance
amount for ECL ECL charge
HK$m HK$m HK$m
--------------------------------------------- ---------------------- --------- --------------
As above 5,858,689 (29,860) (17,016)
--------------------------------------------- ---------------------- --------- ------------
Other financial assets measured at amortised
cost 1,869,268 (713) (452)
--------------------------------------------- ---------------------- --------- ------------
Non-trading reverse repurchase agreement
commitments 1,108 - -
--------------------------------------------- ---------------------- --------- ------------
Performance and other guarantees not
considered for HKFRS 9 N/A N/A (147)
--------------------------------------------- ---------------------- --------- ------------
Amounts due from Group companies 82,849 - -
--------------------------------------------- ---------------------- --------- ------------
Summary of financial instruments to
which the impairment requirements in
HKFRS 9 are applied/Summary consolidated
income statement 7,811,914 (30,573) (17,615)
--------------------------------------------- ---------------------- --------- ------------
Debt instruments measured at FVOCI 1,689,820 (167) (104)
--------------------------------------------- ---------------------- --------- ------------
Total allowance for ECL/total income
statement ECL charge for the year N/A (30,740) (17,719)
--------------------------------------------- ---------------------- --------- ------------
Reconciliation of changes in gross carrying/nominal amount and allowances
for loans and advances to banks and customers, including
loan commitments and financial guarantees (continued)
(Audited)
----------- --------- --------- --------- --------- --------- --------- --------- ----------- -----------
Stage 1 Stage 2 Stage 3 POCI Total
Gross Gross Gross Gross Gross
carrying/ Allowance carrying/ Allowance carrying/ Allowance carrying/ Allowance carrying/ Allowance
nominal for nominal for nominal for nominal for nominal for
amount ECL amount ECL amount ECL amount ECL amount ECL
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- -----------
At 1 Jan 2019 5,190,396 (3,339) 213,434 (3,849) 19,836 (9,772) 721 (279) 5,424,387 (17,239)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Transfers of financial
instruments: (199,043) (1,999) 192,106 2,829 6,937 (830) - - - -
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
- transfers from
stage 1 to stage
2 (424,655) 904 424,655 (904) - - - - - -
----------------------------------------
* transfers from stage 2 to stage 1 227,072 (2,849) (227,072) 2,849 - - - - - -
----------------------------------------
- transfers to
stage 3 (1,987) 48 (6,513) 1,056 8,500 (1,104) - - - -
----------------------------------------
- transfers from
stage 3 527 (102) 1,036 (172) (1,563) 274 - - - -
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Net remeasurement
of ECL arising
from transfer
of stage - 1,657 - (1,887) - (215) - - - (445)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
New financial
assets originated
and purchased 1,655,668 (1,347) - - - - 555 - 1,656,223 (1,347)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Assets derecognised
(including final
repayments) (1,132,107) 274 (77,234) 590 (4,991) 1,078 (18) - (1,214,350) 1,942
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Changes to risk
parameters - further
lending/repayment (104,136) 757 3,871 289 850 363 (152) 7 (99,567) 1,416
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Changes in risk
parameters - credit
quality - 207 - (2,880) - (4,989) - (64) - (7,726)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Changes to model
used for ECL calculation - (50) - 39 - 113 - - - 102
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Assets written
off - - - - (4,842) 4,842 (41) 41 (4,883) 4,883
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Credit-related
modifications
that resulted
in derecognition - - - - (980) 394 - - (980) 394
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Foreign exchange (7,733) 16 (479) (2) 63 (37) (2) (1) (8,151) (24)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Others (19,395) (15) 3 (3) (98) 21 89 (4) (19,401) (1)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
At 31 Dec 2019 5,383,650 (3,839) 331,701 (4,874) 16,775 (9,032) 1,152 (300) 5,733,278 (18,045)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
ECL income statement
charge for the
year (6,058)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Recoveries 863
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Others (197)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total ECL income
statement charge
for the year (5,392)
---------------------------------------- ----------- --------- --------- --------- --------- --------- --------- --------- ----------- ---------
Year ended
At 31 Dec 2019 31 Dec 2019
--------------
Gross carrying/nominal Allowance
amount for ECL ECL charge
HK$m HK$m HK$m
--------------------------------------------- ---------------------- --------- --------------
As above 5,733,278 (18,045) (5,392)
--------------------------------------------- ---------------------- --------- ------------
Other financial assets measured at amortised
cost 1,540,963 (341) (134)
--------------------------------------------- ---------------------- --------- ------------
Non-trading reverse repurchase agreement
commitments 5,093 - -
--------------------------------------------- ---------------------- --------- ------------
Performance and other guarantees not
considered for HKFRS 9 N/A N/A (123)
--------------------------------------------- ---------------------- --------- ------------
Amounts due from Group companies 85,385 - -
--------------------------------------------- ---------------------- --------- ------------
Summary of financial instruments to which
the impairment requirements in HKFRS
9 are applied/Summary consolidated income
statement 7,364,719 (18,386) (5,649)
--------------------------------------------- ---------------------- --------- ------------
Debt instruments measured at FVOCI 1,457,362 (64) (23)
--------------------------------------------- ---------------------- --------- ------------
Total allowance for ECL/total income
statement ECL charge for the year N/A (18,450) (5,672)
--------------------------------------------- ---------------------- --------- ------------
Credit quality
Credit quality of financial instruments
(Audited)
We assess the credit quality of all financial instruments that are subject to credit risk. The credit quality of financial instruments is a point-in-time assessment of the probability of default of financial instruments, whereas stages 1 and 2 are determined based on relative deterioration of credit quality since initial recognition. Accordingly, for non-credit-impaired financial instruments, there is no direct relationship between the credit quality assessment and stages 1 and 2, though typically the lower credit quality bands exhibit a higher proportion in stage 2.
The five credit quality classifications each encompass a range of granular internal credit rating grades assigned to wholesale and retail lending businesses and the external ratings attributed by external agencies to debt securities, as shown in the table below.
Distribution of financial instruments by credit quality at 31 December
2020
(Audited)
Gross carrying/notional amount
----------------------------------------------------------------------
Allowance
Credit for
Strong Good Satisfactory Sub-standard impaired Total ECL Net
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m
-------------- --------- --------- ------------ ------------ --------- --------- --------- -----------
In-scope for
HKFRS
9 impairment
-------------- --------- --------- ------------ ------------ --------- --------- --------- -----------
Loans and
advances
to customers
held at
amortised
cost 1,926,557 861,848 832,072 40,484 36,607 3,697,568 (28,887) 3,668,681
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
- personal 1,220,972 146,492 70,098 5,723 9,062 1,452,347 (7,144) 1,445,203
--------------
- corporate
and
commercial 604,310 631,415 702,801 34,085 27,367 1,999,978 (21,448) 1,978,530
--------------
- non-bank
financial
institutions 101,275 83,941 59,173 676 178 245,243 (295) 244,948
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Loans and
advances
to banks 393,732 8,441 1,650 85 - 403,908 (24) 403,884
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Cash and
balances at
central banks 338,968 8,332 699 - - 347,999 - 347,999
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Items in the
course
of collection
from
other banks 21,943 - - - - 21,943 - 21,943
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Hong Kong
Government
certificates
of
indebtedness 313,404 - - - - 313,404 - 313,404
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Reverse
repurchase
agreements -
non-trading 315,534 135,842 68,968 - - 520,344 - 520,344
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Financial
investments
held at
amortised
cost 389,024 75,792 10,737 - - 475,553 (527) 475,026
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Prepayments,
accrued
income and
other assets 100,460 46,003 42,535 747 280 190,025 (186) 189,839
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Debt
instruments
measured
at fair value
through
other
comprehensive
income(1) 1,579,022 69,909 30,197 - - 1,679,128 (167) 1,678,961
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Out-of-scope
for HKFRS
9 impairment - -
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Trading assets 360,104 47,456 24,962 1,507 - 434,029 - 434,029
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Other
financial
assets
designated
and otherwise
mandatorily
measured
at fair value
through
profit or
loss 23,285 6,068 2,197 - - 31,550 - 31,550
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Derivatives 258,643 75,131 11,431 318 2 345,525 - 345,525
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Total gross
carrying
amount
on-balance
sheet 6,020,676 1,334,822 1,025,448 43,141 36,889 8,460,976 (29,791) 8,431,185
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Percentage of
total
credit
quality 71% 16% 12% 1% 0% 100%
-------------- --------- --------- ------------ ------------ --------- --------- --------- -----------
Loan and other
credit
related
commitments 1,627,804 704,123 464,521 14,968 1,978 2,813,394 (825) 2,812,569
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Financial
guarantee
and similar
contracts 101,381 121,415 78,434 4,046 879 306,155 (432) 305,723
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
Total nominal
off-balance
sheet amount 1,729,185 825,538 542,955 19,014 2,857 3,119,549 (1,257) 3,118,292
-------------- --------- --------- ------------ ------------ --------- --------- --------- ---------
The above table does not include balances due from Group companies.
1 For the purposes of this disclosure, gross carrying value is defined as the amortised cost of a financial asset, before adjusting for any loss allowance. As such the gross carrying value of debt instruments at FVOCI as presented above will not reconcile to the balance sheet as it excludes fair value gains and losses.
Distribution of financial instruments by credit quality at 31 December
2019 (continued)
(Audited)
Gross carrying/notional amount
-------------------------------------------------------------------
Allowance
Sub- Credit for
Strong Good Satisfactory standard impaired Total ECL Net
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m
-------------- --------- --------- ------------ --------- --------- --------- --------- -----------
In-scope for
HKFRS
9 impairment
-------------- --------- --------- ------------ --------- --------- --------- --------- -----------
Loans and
advances
to customers
held at
amortised
cost 1,997,523 946,831 755,183 21,067 17,665 3,738,269 (17,394) 3,720,875
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
- personal 1,173,323 138,094 81,345 4,419 5,575 1,402,756 (5,703) 1,397,053
--------------
- corporate
and
commercial 707,662 731,917 617,079 16,602 11,938 2,085,198 (11,288) 2,073,910
--------------
- non-bank
financial
institutions 116,538 76,820 56,759 46 152 250,315 (403) 249,912
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Loans and
advances
to banks 308,236 19,338 1,357 3 - 328,934 (29) 328,905
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Cash and
balances at
central banks 197,770 3,946 1,031 - - 202,747 (1) 202,746
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Items in the
course
of collection
from
other banks 21,140 - - - - 21,140 - 21,140
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Hong Kong
Government
certificates
of
indebtedness 298,944 - - - - 298,944 - 298,944
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Reverse
repurchase
agreements -
non-trading 286,338 99,555 36,440 - - 422,333 - 422,333
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Financial
investments
held at
amortised
cost 382,384 46,887 5,252 - - 434,523 (223) 434,300
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Prepayments,
accrued
income and
other assets 82,725 38,627 38,922 833 169 161,276 (117) 161,159
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Debt
instruments
measured
at fair value
through
other
comprehensive
income(1) 1,382,729 60,202 9,301 - - 1,452,232 (64) 1,452,168
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Out-of-scope
for HKFRS
9 impairment
-------------- --------- --------- ------------ --------- --------- --------- --------- -----------
Trading assets 378,656 39,057 26,683 905 - 445,301 - 445,301
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Other
financial
assets
designated
and otherwise
mandatorily
measured
at fair value
through
profit or
loss 22,850 3,702 3,174 - - 29,726 - 29,726
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Derivatives 168,448 44,520 3,336 41 - 216,345 - 216,345
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Total gross
carrying
amount
on-balance
sheet 5,527,743 1,302,665 880,679 22,849 17,834 7,751,770 (17,828) 7,733,942
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Percentage of
total
credit
quality 71% 17% 12% 0% 0% 100%
-------------- --------- --------- ------------ --------- --------- --------- --------- -----------
Loan and other
credit
related
commitments 1,639,786 678,914 415,286 13,650 303 2,747,939 (561) 2,747,378
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Financial
guarantee
and similar
contracts 113,138 108,045 71,562 3,222 324 296,291 (213) 296,078
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Total nominal
off-balance
sheet amount 1,752,924 786,959 486,848 16,872 627 3,044,230 (774) 3,043,456
-------------- --------- --------- ------------ --------- --------- --------- --------- ---------
The above table does not include balances due from Group companies.
1 For the purposes of this disclosure, gross carrying value is defined as the amortised cost of a financial asset, before adjusting for any loss allowance. As such the gross carrying value of debt instruments at FVOCI as presented above will not reconcile to the balance sheet as it excludes fair value gains and losses.
Distribution of financial instruments to which the impairment requirements
in HKFRS 9 are applied, by credit quality and stage
allocation
(Audited)
--------- -----------
Gross carrying/notional amount
------------------------------------------------------------------
Allowance
Sub- Credit for
Strong Good Satisfactory standard impaired Total ECL Net
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m
--------------- --------- --------- ------------ -------- --------- --------- --------- -----------
Loans and
advances to
banks 393,732 8,441 1,650 85 - 403,908 (24) 403,884
--------------- --------- --------- ------------ -------- --------- --------- --------- ---------
- stage 1 392,766 7,082 1,408 - - 401,256 (19) 401,237
---------------
- stage 2 966 1,359 242 85 - 2,652 (5) 2,647
---------------
- stage 3 - - - - - - - -
---------------
- POCI - - - - - - - -
--------------- --------- --------- ------------ -------- --------- --------- --------- ---------
Loans and
advances to
customers at
amortised
cost 1,926,557 861,848 832,072 40,484 36,607 3,697,568 (28,887) 3,668,681
--------------- --------- --------- ------------ -------- --------- --------- --------- ---------
- stage 1 1,907,066 697,619 541,177 5,059 - 3,150,921 (4,393) 3,146,528
---------------
- stage 2 19,491 164,229 290,895 35,425 - 510,040 (6,438) 503,602
---------------
- stage 3 - - - - 35,752 35,752 (17,694) 18,058
---------------
- POCI - - - - 855 855 (362) 493
--------------- --------- --------- ------------ -------- --------- --------- --------- ---------
Other financial
assets
measured at
amortised
cost 1,479,334 265,966 122,941 747 280 1,869,268 (713) 1,868,555
--------------- --------- --------- ------------ -------- --------- --------- --------- ---------
- stage 1 1,475,066 263,384 115,572 132 - 1,854,154 (452) 1,853,702
---------------
- stage 2 4,268 2,582 7,369 615 - 14,834 (221) 14,613
---------------
- stage 3 - - - - 279 279 (40) 239
---------------
- POCI - - - - 1 1 - 1
--------------- --------- --------- ------------ -------- --------- --------- --------- ---------
Loan and other
credit-related
commitments 1,270,557 328,523 122,817 3,883 183 1,725,963 (825) 1,725,138 --------------- --------- --------- ------------ -------- --------- --------- --------- --------- - stage 1 1,269,249 307,836 98,578 1,579 - 1,677,242 (514) 1,676,728 --------------- - stage 2 1,308 20,687 24,239 2,304 - 48,538 (281) 48,257 --------------- - stage 3 - - - - 183 183 (30) 153 --------------- - POCI - - - - - - - - --------------- --------- --------- ------------ -------- --------- --------- --------- --------- Financial guarantees 7,694 12,634 10,896 1,084 50 32,358 (124) 32,234 --------------- --------- --------- ------------ -------- --------- --------- --------- --------- - stage 1 7,272 11,095 7,374 45 - 25,786 (51) 25,735 --------------- - stage 2 422 1,539 3,522 1,039 - 6,522 (56) 6,466 --------------- - stage 3 - - - - 50 50 (17) 33 --------------- - POCI - - - - - - - - --------------- --------- --------- ------------ -------- --------- --------- --------- --------- At 31 Dec 2020 5,077,874 1,477,412 1,090,376 46,283 37,120 7,729,065 (30,573) 7,698,492 Debt instruments at FVOCI(1) --------------- --------- --------- ------------ -------- --------- --------- --------- ----------- - stage 1 1,578,971 69,886 30,197 - - 1,679,054 (167) 1,678,887 --------------- - stage 2 50 24 - - - 74 - 74 --------------- - stage 3 - - - - - - - - --------------- - POCI - - - - - - - - --------------- --------- --------- ------------ -------- --------- --------- --------- --------- At 31 Dec 2020 1,579,021 69,910 30,197 - - 1,679,128 (167) 1,678,961 --------------- --------- --------- ------------ -------- --------- --------- --------- ---------
The above table does not include balances due from Group companies.
1 For the purposes of this disclosure, gross carrying value is defined as the amortised cost of a financial asset, before adjusting for any loss allowance. As such the gross carrying value of debt instruments at FVOCI as presented above will not reconcile to the balance sheet as it excludes fair value gains and losses.
Distribution of financial instruments to which the impairment requirements
in HKFRS 9 are applied, by credit quality and stage
allocation (continued)
(Audited)
--------- -----------
Gross carrying/notional amount
-------------------------------------------------------------------
Allowance
Sub Credit for
Strong Good Satisfactory standard impaired Total ECL Net
HK$m HK$m HK$m HK$m HK$m HK$m HK$m HK$m
--------------- --------- --------- ------------ --------- --------- --------- --------- -----------
Loans and
advances to
banks 308,236 19,338 1,357 3 - 328,934 (29) 328,905
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
- stage 1 307,968 19,313 1,071 3 - 328,355 (26) 328,329
---------------
- stage 2 268 25 286 - - 579 (3) 576
---------------
- stage 3 - - - - - - - -
---------------
- POCI - - - - - - - -
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Loans and
advances to
customers at
amortised
cost 1,997,523 946,831 755,183 21,067 17,665 3,738,269 (17,394) 3,720,875
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
- stage 1 1,990,700 859,196 569,372 4,688 - 3,423,956 (3,480) 3,420,476
---------------
- stage 2 6,823 87,635 185,811 16,253 - 296,522 (4,615) 291,907
---------------
- stage 3 - - - - 16,639 16,639 (8,999) 7,640
---------------
- POCI - - - 126 1,026 1,152 (300) 852
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Other financial
assets
measured at
amortised
cost 1,269,301 189,015 81,645 833 169 1,540,963 (341) 1,540,622
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
- stage 1 1,266,894 185,925 77,914 177 - 1,530,910 (214) 1,530,696
---------------
- stage 2 2,407 3,090 3,731 656 - 9,884 (77) 9,807
---------------
- stage 3 - - - - 167 167 (50) 117
---------------
- POCI - - - - 2 2 - 2
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Loan and other
credit-related
commitments 1,246,440 285,938 94,436 3,087 104 1,630,005 (560) 1,629,445
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
- stage 1 1,244,851 273,593 81,601 1,889 - 1,601,934 (303) 1,601,631
---------------
- stage 2 1,589 12,345 12,835 1,198 - 27,967 (236) 27,731
---------------
- stage 3 - - - - 104 104 (21) 83
---------------
- POCI - - - - - - - -
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
Financial
guarantees 10,520 16,774 12,860 976 33 41,163 (62) 41,101
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
- stage 1 10,224 15,108 9,069 95 - 34,496 (29) 34,467
---------------
- stage 2 296 1,666 3,791 881 - 6,634 (20) 6,614
---------------
- stage 3 - - - - 33 33 (13) 20
---------------
- POCI - - - - - - - -
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
At 31 Dec 2019 4,832,020 1,457,896 945,481 25,966 17,971 7,279,334 (18,386) 7,260,948
Debt
instruments at
FVOCI(1)
--------------- --------- --------- ------------ --------- --------- --------- --------- -----------
- stage 1 1,382,708 60,180 9,301 - - 1,452,189 (64) 1,452,125
---------------
- stage 2 21 22 - - - 43 - 43
---------------
- stage 3 - - - - - - - -
---------------
- POCI - - - - - - - -
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
At 31 Dec 2019 1,382,729 60,202 9,301 - - 1,452,232 (64) 1,452,168
--------------- --------- --------- ------------ --------- --------- --------- --------- ---------
The above table does not include balances due from Group companies.
1 For the purposes of this disclosure, gross carrying value is defined as the amortised cost of a financial asset, before adjusting for any loss allowance. As such the gross carrying value of debt instruments at FVOCI as presented above will not reconcile to the balance sheet as it excludes fair value gains and losses.
Credit-impaired loans
(Audited)
We determine that a financial instrument is credit impaired and in stage 3 by considering relevant objective evidence, primarily whether:
-- contractual payments of either principal or interest are past due for more than 90 days;
-- there are other indications that the borrower is unlikely to pay, such as when a concession has been granted to the borrower for economic or legal reasons relating to the borrower's financial condition; and
--
the loan is otherwise considered to be in default. If such unlikeliness to pay is not identified at an earlier stage, it is deemed to occur when an exposure is 90 days past due, even where regulatory rules permit default to be defined based on 180 days past due. Therefore, the definitions of credit impaired and default are aligned as far as possible so that stage 3 represents all loans that are considered defaulted or otherwise credit impaired.
--
Customer relief programmes
(Unaudited)
In response to the Covid-19 outbreak, governments and regulators across Asia-Pacific have introduced a number of support measures for both personal and wholesale customers in market-wide schemes. The following table presents the number of personal accounts/wholesale customers and the associated drawn loan values of customers under these schemes and HSBC-specific measures for major markets at 31 December 2020. In relation to personal lending, the majority of relief measures, including payment holidays, relate to existing lending, while in wholesale lending, the relief measures comprise payment holidays, refinancing of existing facilities and new lending under government-backed schemes.
At 31 December 2020, the gross carrying value of loans to personal customers under relief was HK$19.9bn (the first half of 2020: HK$55.8bn). This comprised HK$16.4bn in relation to mortgages (the first half of 2020: HK$39.0bn) and HK$3.6bn in relation to other personal lending (the first half of 2020: HK$16.7bn). The decrease in personal customer relief during the second half of the year was driven by customers exiting relief measures. The gross carrying value of loans to wholesale customers under relief was HK$91.8bn (the first half of 2020: HK$212.9bn). We continue to monitor the recoverability of loans granted under customer relief programs, including loans to a small number of customers that were subsequently found to be ineligible for such relief. The ongoing performance of such loans remains an area of uncertainty at 31 December 2020.
Personal lending
--------- ----------- --------
Other
Extant at 31 December 2020 Hong Kong markets(1) Total
--------------------------------------------------- ---- --------- ----------- --------
Market-wide schemes
--------------------------------------------------- ---- --------- ----------- --------
Number of accounts in mortgage customer relief 000s - 6 6
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of accounts in mortgage customer
relief HK$m - 7,518 7,518
--------------------------------------------------- ---- --------- ----------- ------
Number of accounts in other personal lending
customer relief 000s - 37 37
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of accounts in other personal
lending customer relief HK$m - 2,818 2,818
--------------------------------------------------- ---- --------- ----------- ------
HSBC-specific measures
--------------------------------------------------- ---- --------- ----------- --------
Number of accounts in mortgage customer relief 000s 3 - 3
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of accounts in mortgage customer
relief HK$m 8,713 128 8,841
--------------------------------------------------- ---- --------- ----------- ------
Number of accounts in other personal lending
customer relief 000s 1 5 6
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of accounts in other personal
lending customer relief HK$m 582 196 778
--------------------------------------------------- ---- --------- ----------- ------
Total personal lending under market-wide schemes
and HSBC-specific measures
--------------------------------------------------- ---- --------- ----------- --------
Number of accounts in mortgage customer relief 000s 3 6 9
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of accounts in mortgage customer
relief HK$m 8,713 7,646 16,359
--------------------------------------------------- ---- --------- ----------- ------
Number of accounts in other personal lending
customer relief 000s 1 42 43
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of accounts in other personal
lending customer relief HK$m 582 3,014 3,596
--------------------------------------------------- ---- --------- ----------- ------
Market-wide schemes and HSBC-specific measures
- mortgage relief as a proportion of total
mortgages % 1.2 2.0 1.5
--------------------------------------------------- ---- --------- ----------- ------
Market-wide schemes and HSBC-specific measures
- other personal lending relief as a proportion
of total other personal lending loans and advance % 0.2 2.7 1.0
--------------------------------------------------- ---- --------- ----------- ------
Wholesale lending
--------- ----------- --------
Other
Extant at 31 December 2020 Hong Kong markets Total
--------------------------------------------------- ---- --------- ----------- --------
Market-wide schemes
--------------------------------------------------- ---- --------- ----------- --------
Number of customers under market-wide measures 000s 3 - 3
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of customers under market-wide
schemes HK$m 82,356 5,178 87,534
--------------------------------------------------- ---- --------- ----------- ------
HSBC-specific measures
--------------------------------------------------- ---- --------- ----------- --------
Number of customers under HSBC-specific measures 000s - - -
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan value of customers under HSBC-specific
measures HK$m 1 4,295 4,296
--------------------------------------------------- ---- --------- ----------- ------
Total wholesale lending under market-wide schemes
and HSBC-specific measures
--------------------------------------------------- ---- --------- ----------- --------
Number of customers 000s 3 - 3
--------------------------------------------------- ---- --------- ----------- ------
Drawn loan values HK$m 82,357 9,473 91,830
--------------------------------------------------- ---- --------- ----------- ------
Market-wide schemes and HSBC-specific measures
as a proportion of total wholesale lending
loans and advances % 5.9 1.1 4.1
--------------------------------------------------- ---- --------- ----------- ------
Number of accounts/customers below 500 is rounded to zero in the above table.
1 Other markets in personal lending mainly represent Singapore, Malaysia and Australia.
The initial granting of customer relief does not automatically trigger a migration to stage 2 or 3. However, information provided by payment deferrals is considered in the context of other reasonable and supportable information. This forms part of the overall assessment for significant increase in credit risk and for credit impairment, to identify loans for which lifetime ECL is appropriate. An extension in payment deferral does not automatically result in stage 2 or stage 3. The key accounting and credit risk judgement to ascertain whether a significant increase in credit risk has occurred is whether the economic effects of Covid-19 on the customer are likely to be temporary over the lifetime of the loan, and do not indicate that a concession is being made in respect of financial difficulty that would be consistent with stage 3.
The following narratives provides further details on the major relief programmes offered in Hong Kong.
Wholesale
Pre-approved Principal Payment Holiday Scheme for Corporate Customers enables eligible customers to apply for a payment holiday of six months (or 90 days for trade finance) with no change to the existing interest rate charge. On 2 September 2020, the Hong Kong Monetary Authority announced that this scheme had been extended for a further six months to April 2021.
Retail
Customer relief granted on Hong Kong mortgages consists of deferred principal repayment of up to 12 months. This relief programme is available to existing HSBC mortgage loan customers who have a good repayment record in the past six months.
Collateral and other credit enhancements
(Audited)
Although collateral can be an important mitigant of credit risk, it is the group's general practice to lend on the basis of the customer's ability to meet their obligations out of cash flow resources rather than placing primary reliance on collateral and other credit risk enhancements. Depending on the customer's standing and the type of product, facilities may be provided without any collateral or other credit enhancements. For other lending, a charge over collateral is obtained and considered in determining the credit decision and pricing. In the event of default, the bank may utilise the collateral as a source of repayment.
Depending on its form, collateral can have a significant financial effect in mitigating our exposure to credit risk. Where there is sufficient collateral, an expected credit loss is not recognised. This is the case for reverse repurchase agreements and for certain loans and advances to customers where the loan to value ('LTV') is very low.
Mitigants may include a charge on borrowers' specific assets, such as real estate or financial instruments. Other credit risk mitigants include short positions in securities and financial assets held as part of linked insurance/investment contracts where the risk is predominantly borne by the policyholder. Additionally, risk may be managed by employing other types of collateral and credit risk enhancements, such as second charges, other liens and unsupported guarantees. Guarantees are normally taken from corporates and export credit agencies. Corporates would normally provide guarantees as part of a parent/subsidiary relationship and span a number of credit grades. The export credit agencies will normally be investment grade.
Certain credit mitigants are used strategically in portfolio management activities. While single name concentrations arise in portfolios managed by Global Banking and Corporate Banking, it is only in Global Banking that their size requires the use of portfolio level credit mitigants. Across Global Banking, risk limits and utilisations, maturity profiles and risk quality are monitored and managed proactively. This process is key to the setting of risk appetite for these larger, more complex, geographically distributed customer groups. While the principal form of risk management continues to be at the point of exposure origination, through the lending decision-making process, Global Banking also utilises loan sales and credit default swap ('CDS') hedges to manage concentrations and reduce risk. These transactions are the responsibility of a dedicated Global Banking portfolio management team. Hedging activity is carried out within agreed credit parameters, and is subject to market risk limits and a robust governance structure. Where applicable, CDSs are entered into directly with a central clearing house counterparty. Otherwise, our exposure to CDS protection providers is diversified among mainly banking counterparties with strong credit ratings.
CDS mitigants are held at portfolio level and are not reported in the presentation below.
Collateral on loans and advances
The collateral measured in the following tables consists of fixed first charges on real estate, and charges over cash and marketable financial instruments. The values in the tables represent the expected market value on an open market basis; no adjustment has been made to the collateral for any expected costs of recovery. Marketable securities are measured at their fair value.
Other types of collateral such as unsupported guarantees and floating charges over the assets of a customer's business are not measured in the following tables. While such mitigants have value, often providing rights in insolvency, their assignable value is not sufficiently certain and they are therefore assigned no value for disclosure purposes.
The LTV ratios presented are calculated by directly associating loans and advances with the collateral that individually and uniquely supports each facility. When collateral assets are shared by multiple loans and advances, whether specifically or, more generally, by way of an all monies charge, the collateral value is pro-rated across the loans and advances protected by the collateral.
For credit-impaired loans, the collateral values cannot be directly compared with impairment allowances recognised. The LTV figures use open market values with no adjustments.
Impairment allowances are calculated on a different basis, by considering other cash flows and adjusting collateral values for costs of realising collateral.
Personal lending
(Unaudited)
The following table provides a quantification of the value of fixed charges we hold over specific assets where we have a history of enforcing, and are able to enforce, collateral in satisfying a debt in the event of the borrower failing to meet its contractual obligations, and where the collateral is cash or can be realised by sale in an established market. The collateral valuation excludes any adjustments for obtaining and selling the collateral and, in particular, loans shown as not collateralised or partially collateralised may also benefit from other forms of credit mitigants.
Residential mortgages including loan commitments by level of collateral
(Audited)
2020 2019
Gross Gross
carrying/ carrying/
nominal ECL nominal ECL
amount coverage amount coverage
HK$m % HK$m %
----------------------------------------- ------------ ----------- ------------ ---------
Stage 1
----------------------------------------- ------------ ----------- ------------ ---------
Fully collateralised 1,124,513 0.0 1,044,885 0.0
----------------------------------------- --------- ----------- --------- ---------
LTV ratio:
----------------------------------------- ------------ ----------- ------------ ---------
- less than 70% 940,033 0.0 914,665 0.0
-----------------------------------------
- 71% to 90% 148,242 0.0 108,813 0.0
-----------------------------------------
- 91% to 100% 36,238 0.0 21,407 0.0
----------------------------------------- --------- ----------- ---------
Partially collateralised (A): 2,852 0.0 2,525 0.0
----------------------------------------- --------- ----------- --------- ---------
- collateral value on A 2,762 2,445
----------------------------------------- --------- ----------- --------- ---------
Total 1,127,365 0.0 1,047,410 0.0
----------------------------------------- --------- ----------- --------- ---------
Stage 2
----------------------------------------- ------------ ----------- ------------ ---------
Fully collateralised 26,554 0.6 26,748 0.3
----------------------------------------- --------- ----------- --------- ---------
LTV ratio:
----------------------------------------- ------------ ----------- ------------ ---------
- less than 70% 22,045 0.4 19,430 0.1
-----------------------------------------
- 71% to 90% 4,059 1.4 6,743 0.7
-----------------------------------------
- 91% to 100% 450 2.0 575 2.3
----------------------------------------- --------- ----------- ---------
Partially collateralised (B): 116 3.4 151 6.6
----------------------------------------- --------- ----------- --------- ---------
- collateral value on B 111 139
----------------------------------------- --------- ----------- --------- ---------
Total 26,670 0.6 26,899 0.4
----------------------------------------- --------- ----------- --------- ---------
Stage 3
----------------------------------------- ------------ ----------- ------------ ---------
Fully collateralised 4,556 6.4 1,997 6.9
----------------------------------------- --------- ----------- --------- ---------
LTV ratio:
----------------------------------------- ------------ ----------- ------------ ---------
- less than 70% 3,185 4.7 1,433 3.4
-----------------------------------------
- 71% to 90% 1,245 8.8 422 13.5
-----------------------------------------
- 91% to 100% 126 25.4 142 22.5
----------------------------------------- --------- ----------- ---------
Partially collateralised (C): 119 52.1 97 59.8
----------------------------------------- --------- ----------- --------- ---------
- collateral value on C 103 85
----------------------------------------- --------- ----------- --------- ---------
Total 4,675 7.5 2,094 9.4
----------------------------------------- --------- ----------- --------- ---------
At 31 Dec 1,158,710 0.1 1,076,403 0.0 ----------------------------------------- --------- -------- --------- ---------
Other personal lending
(Unaudited)
Other personal lending consists primarily of personal loans, overdrafts and credit cards, all of which are generally unsecured, except lending to private banking customers which are generally secured.
Commercial real estate loans and advances
(Unaudited)
The value of commercial real estate collateral is determined by using a combination of external and internal valuations and physical inspections. For CRR 1-7, local valuation policies determine the frequency of review on the basis of local market conditions because of the complexity of valuing collateral for commercial real estate. For CRR 8-10, almost all collateral would have been revalued within the last three years. In Hong Kong, market practice is typically for lending to major property companies to be either secured by guarantees or unsecured.
Commercial real estate loans and advances including loan commitments
by level of collateral
(Audited)
2020 2019
Gross Gross
carrying carrying/
nominal ECL nominal ECL
amount coverage amount coverage
HK$m % HK$m %
------------------------------------------- ----------- --------- ---------- -----------
Stage 1
------------------------------------------- ----------- --------- ---------- -----------
Not collateralised 303,890 0.0 344,010 0.0
------------------------------------------- ----------- --------- ---------- -----------
Fully collateralised 321,650 0.1 387,796 0.1
------------------------------------------- ----------- --------- ---------- -----------
Partially collateralised (A): 20,941 0.3 27,155 0.1
------------------------------------------- ----------- --------- ---------- -----------
- collateral value on A 12,163 15,724
------------------------------------------- ----------- --------- ---------- -----------
Total 646,481 0.1 758,961 0.1
------------------------------------------- ----------- --------- ---------- -----------
Stage 2
------------------------------------------- ----------- --------- ---------- -----------
Not collateralised 23,644 0.1 5,326 0.9
------------------------------------------- ----------- --------- ---------- -----------
Fully collateralised 73,991 0.6 17,781 1.0
------------------------------------------- ----------- --------- ---------- -----------
Partially collateralised (B): 3,092 1.3 589 0.3
------------------------------------------- ----------- --------- ---------- -----------
- collateral value on B 1,315 423
------------------------------------------- ----------- --------- ---------- -----------
Total 100,727 0.5 23,696 1.0
------------------------------------------- ----------- --------- ---------- -----------
Stage 3
------------------------------------------- ----------- --------- ---------- -----------
Not collateralised - - - -
------------------------------------------- ----------- --------- ---------- ---------
Fully collateralised 298 6.4 165 9.1
------------------------------------------- ----------- --------- ---------- -----------
Partially collateralised (C): - - - -
------------------------------------------- ----------- --------- ---------- ---------
- collateral value on C - -
------------------------------------------- ----------- --------- ---------- -----------
Total 298 6.4 165 9.1
------------------------------------------- ----------- --------- ---------- -----------
POCI
------------------------------------------- ----------- --------- ---------- -----------
Not collateralised - - - -
------------------------------------------- ----------- --------- ---------- ---------
Fully collateralised - - - -
------------------------------------------- ----------- --------- ---------- ---------
Partially collateralised (D): - - - -
------------------------------------------- ----------- --------- ---------- ---------
- collateral value on D - -
------------------------------------------- ----------- --------- ---------- -----------
Total - - - -
------------------------------------------- ----------- --------- ---------- ---------
At 31 Dec 747,506 0.1 782,822 0.1
------------------------------------------- ----------- --------- ---------- -----------
Other corporate, commercial and non-bank financial institutions lending
(Unaudited)
Other corporate, commercial and financial (non-bank) loans are analysed separately in the following table. For financing activities in other corporate and commercial lending, collateral value is not strongly correlated to principal repayment performance.
Collateral values are generally refreshed when an obligor's general credit performance deteriorates and we have to assess the likely performance of secondary sources of repayment should it prove necessary to rely on them.
Accordingly, the following table reports values only for customers with CRR 8-10, recognising that these loans and advances generally have valuations that are comparatively recent.
Other corporate, commercial and non-bank financial institutions loans
and advances including loan commitments by level of collateral
(Audited)
2020 2019
Gross Gross
carrying/ carrying/
nominal nominal
amount ECL coverage amount ECL coverage
HK$m % HK$m %
--------------------------------- ---------- ------------ ---------- -------------
Stage 1
--------------------------------- ---------- ------------ ---------- -------------
Not collateralised 1,918,586 0.1 2,164,436 0.1
--------------------------------- ---------- ------------ ---------- -------------
Fully collateralised 398,232 0.1 345,386 0.1
--------------------------------- ---------- ------------ ---------- -------------
Partially collateralised (A): 242,375 0.1 242,433 0.1
--------------------------------- ---------- ------------ ---------- -------------
- collateral value on A 103,582 103,251
--------------------------------- ---------- ------------ ---------- -------------
Total 2,559,193 0.1 2,752,255 0.1
--------------------------------- ---------- ------------ ---------- -------------
Stage 2
--------------------------------- ---------- ------------ ---------- -------------
Not collateralised 294,547 0.4 191,455 0.6
--------------------------------- ---------- ------------ ---------- -------------
Fully collateralised 129,799 0.9 108,229 0.6
--------------------------------- ---------- ------------ ---------- -------------
Partially collateralised (B): 40,104 1.1 37,016 0.3
--------------------------------- ---------- ------------ ---------- -------------
- collateral value on B 19,214 16,629
--------------------------------- ---------- ------------ ---------- -------------
Total 464,450 0.6 336,700 0.6
--------------------------------- ---------- ------------ ---------- -------------
Stage 3
--------------------------------- ---------- ------------ ---------- -------------
Not collateralised 16,948 75.1 6,815 78.4
--------------------------------- ---------- ------------ ---------- -------------
Fully collateralised 3,555 18.4 2,005 46.0
--------------------------------- ---------- ------------ ---------- -------------
Partially collateralised (C): 7,753 31.8 2,353 60.5
--------------------------------- ---------- ------------ ---------- -------------
- collateral value on C 4,171 1,046
--------------------------------- ---------- ------------ ---------- ------------- Total 28,256 56.1 11,173 68.8 --------------------------------- ---------- ------------ ---------- ------------- POCI --------------------------------- ---------- ------------ ---------- ------------- Not collateralised 506 36.4 706 11.5 --------------------------------- ---------- ------------ ---------- ------------- Fully collateralised 348 51.4 200 0.5 --------------------------------- ---------- ------------ ---------- ------------- Partially collateralised (D): - - 246 88.6 --------------------------------- ---------- ------------ ---------- ------------- - collateral value on D - 233 --------------------------------- ---------- ------------ ---------- ------------- Total 854 42.5 1,152 26.0 --------------------------------- ---------- ------------ ---------- ------------- At 31 Dec 3,052,753 0.7 3,101,280 0.4 --------------------------------- ---------- ------------ ---------- -------------
Other credit risk exposures
(Unaudited)
In addition to collateralised lending described above, other credit enhancements are employed and methods used to mitigate credit risk arising from financial assets. These are summarised below:
-- Some securities issued by governments, banks and other financial institutions may benefit from additional credit enhancements provided by government guarantees that cover the assets.
-- Debt securities issued by banks and financial institutions include asset-backed securities ('ABSs') and similar instruments, which are supported by underlying pools of financial assets. Credit risk associated with ABSs is reduced through the purchase of credit default swap ('CDS') protection
-- The group's maximum exposure to credit risk includes financial guarantees and similar contracts granted, as well as loan and other credit-related commitments. Depending on the terms of the arrangement, we may use additional credit mitigation if a guarantee is called upon or a loan commitment is drawn and subsequently defaults.
Derivatives
(Unaudited)
We participate in transactions exposing us to counterparty credit risk. Counterparty credit risk is the risk of financial loss if the counterparty to a transaction defaults before satisfactorily settling it. It arises principally from over-the-counter ('OTC') derivatives and securities financing transactions and is calculated in both the trading and non-trading books. Transactions vary in value by reference to a market factor such as an interest rate, exchange rate or asset price.
The counterparty risk from derivative transactions is taken into account when reporting the fair value of derivative positions. The adjustment to the fair value is known as the credit value adjustment ('CVA').
Treasury Risk
Capital
Capital management
(Audited)
Our approach to capital management is driven by our strategic and organisational requirements, taking into account the regulatory, economic and commercial environment in which we operate.
It is our objective to maintain a strong capital base to support the development of our business and to meet regulatory capital requirements at all times. To achieve this, our policy is to hold capital in a range of different forms and all capital raising is agreed with major subsidiaries as part of their individual and the group's capital management processes.
The policy on capital management is underpinned by a capital management framework, which enables us to manage our capital in a consistent manner. The framework defines regulatory capital and economic capital as the two primary measures for the management and control of capital.
Capital measures:
-- economic capital is the internally calculated capital requirement to support risks to which we are exposed and forms a core part of the internal capital adequacy assessment process; and
-- regulatory capital is the capital which we are required to hold in accordance with the rules established by regulators.
Our capital management process is articulated in our annual capital plan which is approved by the Board. The plan is drawn up with the objective of maintaining both an appropriate amount of capital and an optimal mix between the different components of capital. Each subsidiary manages its own capital to support its planned business growth and meet its local regulatory requirements within the context of the approved annual group capital plan. In accordance with the Capital Management Framework, capital generated by subsidiaries in excess of planned requirements is returned to the Bank, normally by way of dividends.
The Bank is the primary provider of capital to its subsidiaries and these investments are substantially funded by the Bank's own capital issuance and profit retention. As part of its capital management process, the Bank seeks to maintain a prudent balance between the composition of its capital and that of its investment in subsidiaries.
The principal forms of capital are included in the following balances on the consolidated balance sheet: share capital, other equity instruments, retained earnings, other reserves and subordinated liabilities.
Externally imposed capital requirements
(Unaudited)
The Hong Kong Monetary Authority ('HKMA') supervises the group on both a consolidated and solo-consolidated basis and therefore receives information on the capital adequacy of, and sets capital requirements for, the group as a whole and on a solo-consolidated basis. Individual banking subsidiaries and branches are directly regulated by their local banking supervisors, who set and monitor their capital adequacy requirements. In most jurisdictions, non-banking financial subsidiaries are also subject to the supervision and capital requirements of local regulatory authorities.
The group uses the advanced internal ratings-based approach to calculate its credit risk for the majority of its non-securitisation exposures. For securitisation exposures, the group uses the securitisation internal ratings-based approach, securitisation external ratings-based approach, securitisation standardised approach or securitisation fall-back approach to determine credit risk for its banking book securitisation exposures. For counterparty credit risk, the group uses both the current exposure method and an internal models approach to calculate its default risk exposures. For market risk, the group uses an internal models approach to calculate its general market risk for the risk categories of interest rate and foreign exchange (including gold) exposures, and equity exposures. The group also uses an internal models approach to calculate its market risk in respect of specific risk for interest rate exposures and equity exposures. The group uses the standardised (market risk) approach for calculating other market risk positions, as well as trading book securitisation exposures, and the standardised (operational risk) approach to calculate its operational risk.
During the year, the individual entities within the group and the group itself complied with all of the externally imposed capital requirements of the HKMA.
Basel III
(Unaudited)
The Basel III capital rules set out the minimum CET1 capital requirement of 4.5% and total capital requirement of 8%. At 31 December 2020, the capital buffers applicable to the group include the Capital Conservation Buffer ('CCB'), the Countercyclical Capital Buffer ('CCyB') and the Higher Loss Absorbency ('HLA') requirement for Domestic Systemically Important Banks ('D-SIB'). The CCB is 2.5% and is designed to ensure banks build up capital outside periods of stress. The CCyB is set on an individual country basis and is built up during periods of excess credit growth to protect against future losses. On 16 March 2020, the HKMA reduced the CCyB for Hong Kong to 1% from 2%. On 30 December 2020, the HKMA maintained the D-SIB designation as well as HLA requirement at 2.5% for the group.
In December 2018, the Financial Institutions (Resolution) (Loss-absorbing Capacity Requirements - Banking Sector) Rules ('LAC') in Hong Kong were passed into legislation, with transition periods provided for their implementation. The group is classified as a material subsidiary under the LAC and therefore is subject to the LAC requirements to maintain its internal LAC risk-weighted ratio and the internal LAC leverage ratio at or above specified minimums.
Leverage ratio
(Unaudited)
Basel III introduces a simple non risk-based leverage ratio as a complementary measure to the 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. The ratio is a volume-based measure calculated as tier 1 capital divided by total on- and off-balance sheet exposures.
At
----------------------
31 Dec 31 Dec
2020 2019
% %
------------------------ --------- -----------
Leverage ratio 6.4 6.7
------------------------ --------- ---------
Capital and leverage
ratio exposure measure HK$m HK$m
------------------------ --------- -----------
Tier 1 capital 555,553 537,460
------------------------ --------- ---------
Total exposure measure 8,705,672 8,078,204
------------------------ --------- ---------
The decrease in the leverage ratio from 31 December 2019 to
31 December 2020 was mainly due to the rise in the exposure measure, partly offset by an increase in Tier 1 capital.
Further details regarding the group's leverage position can be viewed in the Banking Disclosure Statement 2020, which will be available in the Regulatory Disclosure Section of our website: www.hsbc.com.hk .
Capital adequacy at 31 December 2020
(Unaudited)
The following tables show the capital ratios, RWAs and capital base as contained in the 'Capital Adequacy Ratio' return submitted to the HKMA on a consolidated basis under the requirements of section 3C(1) of the Banking (Capital) Rules.
The basis of consolidation for financial accounting purposes is described in Note 1 on the Consolidated Financial Statements and differs from that used for regulatory purposes. Further information on the regulatory consolidation basis and a full reconciliation between the group's accounting and regulatory balance sheets can be viewed in the Banking Disclosure Statement 2020. Subsidiaries not included in the group's consolidation for regulatory purposes are securities and insurance companies and the capital invested by the group in these subsidiaries is deducted from regulatory capital, subject to threshold.
The Bank and its banking subsidiaries maintain regulatory reserves to satisfy the provisions of the Banking Ordinance and local regulatory requirements for prudential supervision purposes. At
31 December 2020, the effect of this requirement is to reduce the amount of reserves which can be distributed to shareholders by HK$18,063m (31 December 2019: HK$23,979m).
We closely monitor and consider future regulatory change and continue to evaluate the impact upon our capital requirements of regulatory developments. This includes the Basel III reforms package, over which there remains a significant degree of uncertainty due to the number of national discretions within Basel's reforms. It remains premature to provide details of an impact although we currently anticipate the potential for an increase in RWAs, driven by the output floor.
Capital ratios
(Unaudited)
At
----------------
31 Dec 31 Dec
2020 2019
% %
--------------------- ------ --------
Common equity tier
1 ('CET1') capital
ratio 17.2 17.2
--------------------- ------ ------
Tier 1 capital ratio 18.8 18.8
--------------------- ------ ------
Total capital ratio 20.8 21.0
--------------------- ------ ------
Risk-weighted assets by risk type
(Unaudited)
At
----------------------
31 Dec 31 Dec
2020 2019
HK$m HK$m
-------------------- --------- -----------
Credit risk 2,378,821 2,318,266
-------------------- --------- ---------
Counterparty credit
risk 113,650 79,758
-------------------- --------- ---------
Market risk 107,661 97,908
-------------------- --------- ---------
Operational risk 356,861 355,448
-------------------- --------- ---------
Total 2,956,993 2,851,380
-------------------- --------- ---------
Risk-weighted assets by global business
(Unaudited)
At
----------------------
31 Dec 31 Dec
2020 2019
HK$m HK$m
---------------------- --------- -----------
Wealth and Personal
Banking 583,078 567,320
---------------------- --------- ---------
Commercial Banking 1,072,171 1,043,521
---------------------- --------- ---------
Global Banking and
Markets 944,943 912,550
---------------------- --------- ---------
Corporate Centre 356,801 327,989
---------------------- --------- ---------
Total 2,956,993 2,851,380
---------------------- --------- ---------
Capital base
(Unaudited)
The following table sets out the composition of the group's capital base under Basel III at 31 December 2020.
Capital base
(Unaudited)
At
----------------------
31 Dec 31 Dec
2020 2019
HK$m HK$m
----------------------------------------------------------- --------- -----------
Common equity tier 1 ('CET1') capital
----------------------------------------------------------- --------- -----------
Shareholders' equity 712,119 690,104
----------------------------------------------------------- --------- ---------
- shareholders' equity per balance sheet 845,353 814,678
-----------------------------------------------------------
- revaluation reserve capitalisation issue (1,454) (1,454)
-----------------------------------------------------------
- other equity instruments (44,615) (44,615)
-----------------------------------------------------------
- unconsolidated subsidiaries (87,165) (78,505)
----------------------------------------------------------- --------- ---------
Non-controlling interests 27,907 27,459
----------------------------------------------------------- --------- ---------
- non-controlling interests per balance sheet 66,178 64,603
-----------------------------------------------------------
- non-controlling interests in unconsolidated subsidiaries (10,801) (10,316)
-----------------------------------------------------------
- surplus non-controlling interests disallowed in CET1 (27,470) (26,828)
----------------------------------------------------------- --------- ---------
Regulatory deductions to CET1 capital (230,574) (225,922)
----------------------------------------------------------- --------- ---------
- valuation adjustments (1,648) (1,554)
-----------------------------------------------------------
- goodwill and intangible assets (23,276) (20,132)
-----------------------------------------------------------
- deferred tax assets net of deferred tax liabilities (3,273) (2,214)
-----------------------------------------------------------
- cash flow hedging reserve (33) 41
-----------------------------------------------------------
- changes in own credit risk on fair valued liabilities 1,814 2,013
-----------------------------------------------------------
- defined benefit pension fund assets (12) (45)
-----------------------------------------------------------
- significant Loss-absorbing capacity ('LAC') investments
in unconsolidated financial sector entities (119,868) (105,426)
-----------------------------------------------------------
- property revaluation reserves(1) (66,215) (74,626)
-----------------------------------------------------------
- regulatory reserve (18,063) (23,979)
----------------------------------------------------------- --------- ---------
Total CET1 capital 509,452 491,641
----------------------------------------------------------- --------- ---------
Additional tier 1 ('AT1') capital
----------------------------------------------------------- --------- -----------
Total AT1 capital before regulatory deductions 46,101 45,819
----------------------------------------------------------- --------- ---------
- perpetual subordinated loans 44,615 44,615
-----------------------------------------------------------
- allowable non-controlling interests in AT1 capital 1,486 1,204
Total AT1 capital 46,101 45,819
----------------------------------------------------------- --------- ---------
Total tier 1 capital 555,553 537,460
----------------------------------------------------------- --------- ---------
Tier 2 capital
----------------------------------------------------------- --------- -----------
Total tier 2 capital before regulatory deductions 66,717 68,340
----------------------------------------------------------- --------- ---------
- perpetual subordinated debt(2) 3,101 3,114
-----------------------------------------------------------
- term subordinated debt 15,698 14,839
-----------------------------------------------------------
- property revaluation reserves(1) 30,451 34,236
-----------------------------------------------------------
- impairment allowances and regulatory reserve eligible
for inclusion in tier 2 capital 16,451 16,151
-----------------------------------------------------------
- allowable non-controlling interests in tier 2 capital 1,016 -
----------------------------------------------------------- --------- ---------
Regulatory deductions to tier 2 capital (7,725) (6,866)
----------------------------------------------------------- --------- --------- - significant LAC investments in unconsolidated financial sector entities (7,725) (6,866) ----------------------------------------------------------- --------- --------- Total tier 2 capital 58,992 61,474 ----------------------------------------------------------- --------- --------- Total capital 614,545 598,934 ----------------------------------------------------------- --------- ---------
1 Includes the revaluation surplus on investment properties which is reported as part of retained earnings and adjustments made in accordance with the Banking (Capital) Rules issued by the HKMA.
2 This Tier 2 capital instrument is grandfathered under Basel III and will be phased out in full after 31 December 2021.
A detailed breakdown of the group's CET1 capital, AT1 capital, Tier 2 capital and regulatory deductions can be viewed in the Banking Disclosure Statement 2020.
Structural foreign exchange exposures
(Unaudited)
Structural foreign exchange exposures represent net investments in subsidiaries, branches and associates, the functional currencies of which are currencies other than the HK dollar. An entity's functional currency is normally that of the primary economic environment in which the entity operates.
Exchange differences on structural exposures are recognised in 'Other comprehensive income'.
Our structural foreign exchange exposures are managed with the primary objective of ensuring, where practical, that our consolidated capital ratios and the capital ratios of individual banking subsidiaries are largely protected from the effect of changes in exchange rates. We hedge structural foreign exchange exposures only in limited circumstances.
The group had the following structural foreign currency exposures that were not less than 10% of the total net structural foreign currency positions:
LCYm HK$m equivalent
--------------- ------- -----------------
At 31 Dec 2020
--------------- ------- -----------------
Renminbi 210,707 250,116
--------------- ------- ---------------
At 31 Dec 2019
--------------- ------- -----------------
Renminbi 201,509 225,392
--------------- ------- ---------------
Liquidity and funding risk
(Audited)
Overview
Liquidity risk is the risk that we do not have sufficient financial resources to meet our obligations as they fall due. Liquidity risk arises from mismatches in the timing of cash flows.
Funding risk is the risk that we cannot raise funding or can only do so at excessive cost.
The Group maintains a comprehensive liquidity and funding risk management framework ('LFRF'), which aims to allow us to withstand severe but plausible liquidity stresses. It is based on global policies that are designed to be adaptable to different business models, markets and regulations. The LFRF comprises policies, metrics and controls designed to ensure that group and entity management has oversight of our liquidity and funding risks in order to manage them appropriately.
The Group manages liquidity and funding risk at an operating entity (as defined in LFRF) level to ensure that obligations can be met in the jurisdiction where they fall due, generally without reliance on other parts of the group. Operating entities are required to meet internal minimum requirements and any applicable regulatory requirements at all times.
Structure and organisation
Asset, Liability and Capital Management ('ALCM') teams are responsible for the application of the LFRF at a local operating entity level. The elements of the LFRF are underpinned by a robust governance framework, the two major elements of which are:
-- Asset and Liability Management Committees ('ALCOs') at the group and entity level; and
-- annual individual liquidity adequacy assessment ('ILAA') used to validate risk tolerance and set risk appetite.
All operating entities are required to prepare an ILAA document at appropriate frequency. The final objective of the ILAA, approved by the relevant ALCOs, is to verify that the entity and subsidiaries maintain liquidity resources which are adequate in both amount and quality at all times, there is no significant risk that its liabilities cannot be met as they fall due, and a prudent funding profile is maintained.
The Board is ultimately responsible for determining the types and magnitude of liquidity risk that the group is able to take and ensuring that there is an appropriate organisation structure for managing this risk. Under authorities delegated by the Board, the group ALCO is responsible for managing all ALCM issues including liquidity and funding risk management. The group ALCO delegates to the group Tactical Asset and Liability Management Committee ('TALCO') the task of reviewing and monitoring operating entities' liquidity and funding positions.
Compliance with liquidity and funding requirements is monitored by local ALCO who report to the RMM and Executive Committee on a regular basis. This process includes:
-- maintaining compliance with relevant regulatory requirements of the operating entity;
-- projecting cash flows under various stress scenarios and considering the level of liquid assets necessary in relation thereto;
-- monitoring liquidity and funding ratios against internal and regulatory requirements; -- maintaining a diverse range of funding sources with adequate back-up facilities; -- managing the concentration and profile of term funding; -- managing contingent liquidity commitment exposures within pre-determined limits; -- maintaining debt financing plans;
-- monitoring of depositor concentration in order to avoid undue reliance on large individual depositors and ensuring a satisfactory overall funding mix; and
-- maintaining liquidity and funding contingency plans. These plans identify early indicators of stress conditions and describe actions to be taken in the event of difficulties arising from systemic or other crises, while minimising adverse long-term implications for the business.
Governance
ALCM teams apply the LFRF at both an individual entity and group level, and are responsible for the implementation of Group-wide and local regulatory policy at a legal entity level. Markets Treasury has responsibility for cash and liquidity management.
Treasury Risk Management carry out independent review, challenge and assurance of the appropriateness of the risk management activities undertaken by ALCM and Markets Treasury. Their work includes setting control standards and advice on policy implementation.
Internal Audit provide independent assurance that risk is managed effectively.
Management of liquidity and funding risk
Funding and liquidity plans form part of the annual operating plan that is approved by the Board. The critical Board risk appetite measures are the liquidity coverage ratio ('LCR') and net stable funding ratio ('NSFR'). An appropriate funding and liquidity profile is managed through a wider set of measures:
-- a minimum LCR requirement; -- a minimum NSFR requirement or other appropriate metric; -- a legal entity depositor concentration limit;
-- three-month and 12-month cumulative rolling term contractual maturity limits covering deposits from banks, deposits from non-bank financial institutions and securities issued;
-- a minimum LCR requirement by currency; -- intra-day liquidity; -- the application of liquidity funds transfer pricing; and -- forward-looking funding assessments. -- The LCR and NSFR metrics are to be supplemented by an internal liquidity metric in 2021.
Sources of funding
(Unaudited)
Our primary sources of funding are customer current accounts and customer savings deposits payable on demand or at short notice. We issue wholesale securities (secured and unsecured) to supplement our customer deposits and change the currency mix, maturity profile or location of our liabilities.
Currency mismatch in the LCR
(Unaudited)
The LFRF requires all operating entities to monitor material single currency LCR. Limits are set to ensure that outflows can be met, given assumptions on stressed capacity in the FX swap markets.
Additional collateral obligations
(Unaudited)
Under the terms of our current collateral obligations of derivative contracts (which are ISDA compliant CSA contracts), the additional collateral required to post in the event of one-notch and two-notch downgrade in credit ratings is immaterial.
Liquidity and funding risk in 2020
(Unaudited)
The management of liquidity risk was enhanced during 2020 in response to the Covid-19 outbreak to ensure the Bank anticipated, monitored and responded to the impacts both at group and entity level.
The group is required to calculate its LCR and NSFR on a consolidated basis in accordance with rule 11(1) of The Banking (Liquidity) Rules ('BLR'), and is required to maintain both LCR and NSFR of not less than 100%.
The average LCR of the group for the period are as follows:
Quarter ended
-----------------
31 Dec 31 Dec
2020 2019
% %
---------------------- ------- --------
Average LCR 172.1 163.5
---------------------- ------- -----
The liquidity position of the group remained strong in 2020. The average LCR increased by 8.6 percentage points from 163.5% for the quarter ended 31 December 2019 to 172.1% for the quarter ended 31 December 2020, mainly as a result of the increase in customer deposits.
The majority of high quality liquid assets ('HQLA') included in the LCR are Level 1 assets as defined in the BLR, which consist mainly of government debt securities. From 1 January 2020, listed ordinary shares and triple-B rated marketable debt securities that meet HKMA requirements are also included in HQLA as Level 2B assets.
The total weighted amount of HQLA of the group for the period are as follows:
Weighted amount
(average value)
at quarter
ended
----------------------
31 Dec 31 Dec
2020 2019
HK$m HK$m
---------------- --------- -----------
Level 1 assets 1,870,016 1,528,908
---------------- --------- ---------
Level 2A assets 78,515 80,174
---------------- --------- ---------
Level 2B assets 34,468 10,788
---------------- --------- ---------
Total 1,982,999 1,619,870
---------------- --------- ---------
The NSFR of the group for the period are as follows:
Quarter ended
-----------------
31 Dec 31 Dec
2020 2019
% %
------------------------- ------- --------
Net stable funding ratio 159.3 145.8
------------------------- ------- -----
The funding position of the group remained robust in 2020, highlighting a surplus of stable funding relative to the required stable funding requirement. The NSFR increased by 13.5 percentage points from 145.8% for the quarter ended 31 December 2019 to 159.3% for the quarter ended 31 December 2020, mainly as a result of the increase in customer deposits.
Interdependent assets and liabilities included in the group's NSFR are certificates of indebtedness held and legal tender notes issued.
Further details of the group's liquidity information disclosures can be viewed in the Banking Disclosure Statement 2020.
Interest Rate Risk in the Banking Book
(Unaudited)
Interest Rate Risk in the Banking Book ('IRRBB') is the risk of an adverse impact to earnings or capital due to changes in interest rates that affect the Bank's banking book positions. The risk arises either from timing mismatches in the repricing of non-traded assets and liabilities, an imperfect correlation between changes in the rates earned and paid on different instruments with otherwise similar repricing characteristics; as well as from option derivative positions or from optional elements embedded in the Bank's assets, liabilities and/or off-balance sheet items, where the Bank or its customer can alter the level and timing of their cash flows. In its management of the risk, the group aims to mitigate the impact of future interest rate movements which could reduce future net interest income or its net worth, while balancing the cost of hedging activities to the current revenue stream. Monitoring the sensitivity of the projected net interest income and of the present value of expected net cash flows under varying interest rate scenarios is a key part of this.
In order to manage structural interest rate risk, non-traded assets and liabilities are transferred to Markets Treasury based on their repricing and maturity characteristics. For assets and liabilities with no defined maturity or repricing characteristics, behaviouralisation is used to assess the interest rate risk profile. Markets Treasury manage the banking book interest rate positions transferred to it within approved limits. Local ALCOs are responsible for monitoring and reviewing their overall structural interest rate risk position. Interest rate behaviouralisation policies have to be formulated in line with the group's behaviouralisation policies and approved at least annually by local ALCOs.
Sensitivity of net interest income
A principal part of our management of non-traded interest rate risk is to monitor the sensitivity of expected net interest income ('NII') under varying interest rate scenarios (simulation modelling), where all other economic variables are held constant. This monitoring is undertaken at an entity level by local ALCOs, where entities forecast both one-year and five-year NII sensitivities across a range of interest rate scenarios. NII sensitivity reflects the group's sensitivity of earnings due to changes in market interest rates. Projected NII sensitivity figures represent the effect of pro forma movements in projected yield curves based on a constant balance sheet size and structure. The exception to this is where the size of the balances changes materially or repricing is deemed interest rate sensitive, for example, non-interest-bearing current account migration and fixed-rate loan early prepayment. These sensitivity calculations do not incorporate actions that would be taken by Markets Treasury or in the business that originate the risk to mitigate the effect of interest rate movements.
Sensitivity of economic value of equity
Economic value of equity ('EVE') represents the present value of the future banking book cash flows that could be distributed to equity providers under a managed run-off scenario. This equates to the current book value of equity plus the present value of future NII in this scenario. EVE can be used to assess the economic capital required to support interest rate risk in the banking book. An EVE sensitivity represents the expected movement in EVE due to pre-specified movements in interest rates, where all other economic variables are held constant. Operating entities are required to monitor EVE sensitivity as a percentage of Tier 1 capital resources.
Non-traded VaR
Non-traded VaR uses the same models as those used in the trading book and includes only the elements of risk that are transferred to Markets Treasury.
Market Risk
Overview
(Unaudited)
Market risk is the risk that movements in market factors, such as foreign exchange rates, interest rates, credit spreads, equity prices and commodity prices, will reduce our income or the value of our portfolios. Exposure to market risk is separated into two portfolios: trading portfolios and non-trading portfolios.
Market risk management
Key developments in 2020
(Unaudited)
There were no material changes to our policies and practices for the management of market risk in 2020.
Governance and structure
(Unaudited)
The following diagram summarises the main business areas where trading and non-trading market risks reside, and the market risk measures used to monitor and limit exposures.
Trading risk Non-trading risk
* Foreign exchange and commodities * Structural foreign exchange
* Interest rates * Interest rates(1)
* Credit spreads * Credit spreads
* Equities
-----------------------------------
GBM incl MT(2) GBM, MT(2) ,
CMB and WPB
---------------------------------------- -----------------------------------
VaR | Sensitivity VaR | Sensitivity
| Stress Testing | Stress Testing
---------------------------------------- -----------------------------------
1 The interest rate risk on the fixed-rate securities issued by HSBC Holdings is not included in the group value at risk.
2 Markets Treasury ('MT'), for external reporting purposes, forms part of the Corporate Centre while daily operations and risk are managed within GBM.
Where appropriate, we apply similar risk management policies and measurement techniques to both trading and non-trading portfolios. Our objective is to manage and control market risk exposures to optimise return on risk while maintaining a market profile consistent with our established risk appetite.
Market risk is managed and controlled through limits approved by the group's Board of Directors. These limits are allocated through business lines and to the Group's legal entities. The majority of HSBC's total value at risk ('VaR') and almost all trading VaR reside in GBM. The group has an independent market risk management and control sub-function, which is responsible for measuring, monitoring and reporting market risk exposures against limits on a daily basis. Each operating entity is required to assess the market risks arising in its business and to transfer them either to its local GBM unit for management, or to separate books managed under the supervision of the local ALCO. The Traded Risk function enforces the controls around trading in permissible instruments approved for each site as well as new product approval procedures. Trading Risk also restricts trading in the more complex derivatives products to offices with appropriate levels of product expertise and robust control systems.
Key risk management processes
(Audited)
Monitoring and limiting market risk exposures
Our objective is to manage and control market risk exposures while maintaining a market profile consistent with our risk appetite.
We use a range of tools to monitor and limit market risk exposures including sensitivity analysis, VaR and stress testing.
Sensitivity analysis
(Unaudited)
Sensitivity analysis measures the impact of individual market factor movements on specific instruments or portfolios, including interest rates, foreign exchange rates and equity prices. We use sensitivity measures to monitor the market risk positions within each risk type. Granular sensitivity limits are set primarily for trading desks with consideration of market liquidity, customer demand and capital constraints, among other factors.
Value at risk
VaR is a technique for estimating potential losses on risk positions as a result of movements in market rates and prices over a specified time horizon and to a given level of confidence. The use of VaR is integrated into market risk management and calculated for all trading positions regardless of how we capitalise them. In addition, we calculate VaR for non-trading portfolios to have a complete picture of risk. Where we do not calculate VaR explicitly, we use alternative tools as summarised in the 'Stress testing' section below.
Our models are predominantly based on historical simulation that incorporates the following features:
-- historical market rates and prices, which are calculated with reference to foreign exchange rates, commodity prices, interest rates, equity prices and the associated volatilities;
-- potential market movements which are calculated with reference to data from the past two years; and
-- these are calculated to a 99% confidence level and using a one-day holding period.
The models also incorporate the effect of option features on the underlying exposures. The nature of the VaR models means that an increase in observed market volatility will lead to an increase in VaR without any changes in the underlying positions.
VaR model limitations
Although a valuable guide to risk, VaR should always be viewed in the context of its limitations. For example:
-- the use of historical data as a proxy for estimating future market moves may not encompass all potential market events, particularly those that are extreme in nature.
-- the use of a one-day holding period for risk management purposes of trading and non-trading books assumes that this short period is sufficient to hedge or liquidate all positions.
-- the use of a 99% confidence level by definition does not take into account losses that might occur beyond this level of confidence.
-- VaR is calculated on the basis of exposures outstanding at the close of business and therefore does not reflect intra-day exposures.
Risk not in VaR framework
(Unaudited)
The risks not in VaR ('RNIV') framework aims to capture and capitalise material market risks that are not adequately covered in the VaR model.
Risk factors are reviewed on a regular basis and are either incorporated directly in the VaR models, where possible, or quantified through either the VaR-based RNIV approach or a stress test approach within the RNIV framework. While VaR-based RNIVs are calculated by using historical scenarios, stress-type RNIVs are estimated on the basis of stress scenarios whose severity is calibrated to be in line with the capital adequacy requirements. The outcome of the VaR-based RNIV approach is included in the overall VaR calculation but excluded from the VaR measure used for regulatory back-testing. In addition, stressed VaR also captures risk factors considered in the VaR-based RNIV approach. Stress-type RNIVs include a de-peg risk measure to capture risk to pegged and heavily-managed currencies.
Stress testing
(Audited)
Stress testing is an important procedure that is integrated into our market risk management framework to evaluate the potential impact on portfolio values of more extreme, although plausible, events or movements in a set of financial variables. In such scenarios, losses can be much greater than those predicted by VaR modelling.
Stress testing is implemented at legal entity, regional and overall Group levels. A set of scenarios is used consistently across all regions within the Group. The risk appetite around potential stress losses for the Group is set and monitored against a referral limit.
Market risk reverse stress tests are designed to identify vulnerabilities in our portfolios by looking for scenarios that lead to loss levels considered severe for the relevant portfolio. These scenarios may be quite local or idiosyncratic in nature, and complement the systematic top-down stress testing.
Stress testing and reverse stress testing provide senior management with insights regarding the 'tail risk' beyond VaR, for which our appetite is limited.
Trading portfolios
Trading portfolios comprise positions held for client servicing and market-making, with the intention of short-term resale and/or to hedge risks resulting from such positions.
Back-testing
We routinely validate the accuracy of our VaR models by back-testing them with both actual and hypothetical profit and loss against the corresponding VaR numbers. Hypothetical profit and loss excludes non-modelled items such as fees, commissions and revenue of intra-day transactions.
The actual number of profits or losses in excess of VaR over this period can be used to gauge how well the models are performing. A VaR model is deemed satisfactory if it experiences less than five profit or loss exceptions in a 250-day period.
We back-test our VaR at various levels of our group entity hierarchy.
Market risk in 2020
(Unaudited)
Global financial conditions worsened rapidly with the onset of the Covid-19 outbreak from mid-February 2020. Market volatility reached extreme levels across most asset classes and equity prices fell sharply. In credit markets, spreads and yields reached multi-year highs. The gold market experienced Covid-19 related disruption in refining and transportation, affecting the relative pricing of gold futures contracts. Oil prices collapsed due to rising oversupply as demand reduced materially from the economic slowdown. Financial markets stabilised from April onwards, as governments announced economic recovery programs and key central banks intervened to provide liquidity and support asset prices. Global equity markets substantially recovered from their losses in February-March and credit spreads reverted towards pre-Covid-19 levels. Markets remained susceptible to further bouts of volatility triggered by increases in Covid-19 cases and deaths, and various geopolitical risks.
We managed market risk prudently during 2020. Sensitivity exposures remained within appetite as the business pursued its core market-making activity in support of our customers during the outbreak. We also undertook hedging activities to protect the business from potential future deterioration in credit conditions. Market risk continued to be managed using a complementary set of exposure measures and limits, including stress and scenario analysis.
Trading portfolios
(Audited)
Value at risk of the trading portfolios
Trading value at risk ('VaR') was predominantly generated by Global Markets. The Fixed Income business continued to be the key driver of trading VaR. Interest rate risks from market-making activities were the main drivers of trading VaR. Total trading VaR was higher as at 31 December 2020 compared to 31 December 2019 mainly due to higher levels of market volatility reached in March and April 2020 as a result of the economic impact of the Covid-19 outbreak.
The trading VaR for the year is shown in the table below.
Trading value at risk, 99% 1 day(1)
(Audited)
Foreign
exchange
and Interest Credit Portfolio
commodity rate(4) Equity(4) spread diversification(2) Total(3)
HK$m HK$m HK$m HK$m HK$m HK$m
---------------- ---------- -------- --------- ------- ------------------- ----------
At 31 Dec 2020
---------------- ---------- -------- --------- ------- ------------------- ----------
Year end 50 130 62 45 (143) 144
---------------- ---------- -------- --------- ------- ------------------- --------
Average 48 140 62 49 172
---------------- ---------- -------- --------- ------- ------------------- --------
Maximum 96 250 118 106 251
---------------- ---------- -------- --------- ------- ------------------- --------
At 31 Dec 2019
---------------- ---------- -------- --------- ------- ------------------- ----------
Year end 48 90 50 24 (110) 140
---------------- ---------- -------- --------- ------- ------------------- --------
Average 38 102 38 34 157
---------------- ---------- -------- --------- ------- ------------------- --------
Maximum 58 145 63 81 210
---------------- ---------- -------- --------- ------- ------------------- --------
1 Trading portfolios comprise positions arising from the market-making and warehousing of customer-derived positions.
2 Portfolio diversification is the market risk dispersion effect of holding a portfolio containing different risk types. It represents the reduction in unsystematic market risk that occurs when combining a number of different risk types, for example, interest rate, equity and foreign exchange, together in one portfolio. It is measured as the difference between the sum of the VaR by individual risk type and the combined total VaR. A negative number represents the benefit of portfolio diversification. As the maximum and minimum occur on different days for different risk types, it is not meaningful to calculate a portfolio diversification benefit for these measures.
3 The total VaR includes HK$28m Risk not in VaR ('RNIV') for year end 2020.
4 The asset class RNIV was excluded for year 2019.
Resilience risk
(Unaudited)
Overview
Resilience risk is the risk that we are unable to provide critical services to our customers, affiliates and counterparties, during sustained and significant operational disruption. Resilience risk arises from failures or inadequacies in processes, people,systems or external events.
Resilience risk management
Key developments in 2020
In-line with the increasing expectations from customers, regulators and our Board, and in response to a continually evolving threat landscape that the wider industry faces, we combined Operational Risk and Resilience Risk to form a new Operational and Resilience Risk sub-function. This sub-function provides robust non-financial risk steward oversight of the Bank's business, functions, legal entities and critical business services management of risk, supported by effective and timely independent challenge. We carried out several initiatives during the year:
-- We developed regional hubs accountable for core Operational & Resilience Risk delivery.
-- We implemented business and function aligned teams focused on emerging risks as well as material products and services.
-- We deployed risk management oversight of the most material transformation programmes across the Group.
-- We implemented central services including governance, reporting and transformation.
-- We created a standalone assurance capability that provides independent review and evaluation of end-to-end processes, risks and key controls.
We prioritise these efforts on material risks and areas undergoing strategic growth, aligning our location strategy to this need.
Governance and structure
The Operational and Resilience Risk target operating model provides a globally consistent view across resilience risks, strengthening our risk management oversight while operating effectively as part of a simplified non-financial risk structure. We view resilience risk across seven risk types related to: third parties and supply-chain; information, technology and cyber security; business interruption and contingency risk; buildings unavailability; and workplace safety.
A principal senior management meeting for Operational and Resilience Risk governance is the Non-Financial Risk Management Board ('NFRMB'), chaired by the Group Chief Risk Officer, with an escalation path to the Group Risk Management Meeting ('GRMM'). At the group, the RMM is the senior management meeting for Operational and Resilience Risk governance.
Key risk management processes
Operational Resilience is our ability to anticipate, prevent, adapt, respond to, recover and learn from internal or external disruption, protecting customers, the markets we operate in and their economic stability. Resilience is determined by assessing whether we are able to continue providing our most important services, within an agreed level. We accept that we will not be able to prevent all disruption, but we prioritise investment to continually improve our response and recovery capability for our most important business services.
Business operations continuity
As a result of Covid-19, we successfully implemented business continuity responses and continued to maintain the majority of service level agreements. We did not experience any major impacts to the supply chain from our third-party service providers due to Covid-19. The risk of damage or theft to our physical assets or criminal injury to our colleagues remains unchanged and no significant incidents impacted our buildings or people.
Regulatory compliance risk
(Unaudited)
Overview
Regulatory compliance risk is the risk that we fail to observe the letter and spirit of all relevant laws, codes, rules, regulations and standards of good market practice, which as a consequence incur fines and penalties and suffer damage to our business.
Regulatory compliance risk arises from the risks associated with breaching our duty to our customers and inappropriate market conduct, as well as breaching regulatory licensing, permissions and rules.
Regulatory compliance risk management
Key developments in 2020
In 2020, we made changes to our wider approach to the governance and structure of the Compliance function and continued to raise standards related to the conduct of our business, as set out below.
Governance and structure
In July, we introduced a new operating model to transform the Compliance function. We created a new group capability called Regulatory Conduct, which was formed from the regulatory compliance and regulatory affairs capabilities, and the monitor liaison office team. The group Head of Regulatory Conduct continues to report to the group Chief Compliance Officer. The group Regulatory Conduct capability works with the newly appointed local chief compliance officers and their respective teams to help them identify and manage regulatory compliance risks across the Bank. They also work together to ensure good conduct outcomes and provide enterprise-wide support on the regulatory agenda.
Key risk management processes
The Group Regulatory Conduct capability is responsible for setting global policies, standards and risk appetite to guide the group's management of regulatory compliance. It also devises clear frameworks and support processes to protect against regulatory compliance risks. The capability at the group provides oversight, review and challenge to the local chief compliance officers and their teams to help them identify, assess and mitigate regulatory compliance risks, where required. The Group's regulatory compliance risk policies are regularly reviewed. Global policies and procedures require the prompt identification and escalation of any actual or potential regulatory breach. Relevant reportable events are escalated to the RMM and the Risk Committee, as appropriate.
Conduct of business
In 2020, we continued to promote and encourage good conduct through our people's behaviour and decision making to deliver fair outcomes for our customers, and to maintain financial market integrity. During 2020:
-- We continued to champion a strong conduct and customer-focused culture. We implemented a number of measures throughout the Covid-19 pandemic to support our customers in financial difficulties. We also maintained service and supported colleagues in unprecedented conditions.
-- We continued our focus on culture and behaviours, adapting our controls and risk management processes to reflect significant levels of remote working throughout the year.
-- We continued to invest significant resources to improve our compliance systems and controls relating to our activities in global markets and to ensure market integrity. These included enhancements to pricing and disclosure, order management and trade execution; trade, voice and audio surveillance; front office supervision; and improvements to our enforcement and discipline framework for employee misconduct.
-- We continued to emphasise, and worked to create, an environment in which employees are encouraged and feel safe to speak up. We placed a particular focus on the importance of well-being during the pandemic through regular top-down communications, virtual town halls, videos and podcasts.
-- We continue to embed conduct within our business line processes. We also consider and seek to mitigate the conduct impacts of the group's strategic transformation programme and other key business change programmes, including those relating to the IBOR transition.
-- We delivered our sixth annual global mandatory training course on conduct to reinforce the importance of conduct for all colleagues.
-- We are refreshing our approach to conduct arrangements across the group with a view to ensuring that the arrangements remain appropriate for the nature of our business.
-- The Board continues to maintain oversight of conduct matters through the Risk Committee.
--
Financial crime risk
(Unaudited)
Overview
Financial crime risk is the risk of knowingly or unknowingly helping parties to commit or to further illegal activity through HSBC, including money laundering, fraud, bribery and corruption, tax evasion, sanctions breaches, and terrorist and proliferation financing. Financial crime risk arises from day-to-day banking operations.
Financial crime risk management
Key developments in 2020
In 2020, we continued to strengthen our fight against financial crime and to enhance our financial crime risk management capability. Amid the challenges posed by Covid-19 pandemic, we introduced a number of financial crime risk management measures during this period to support the business and our customers. These included:
-- We supported the most vulnerable customers and those in financial difficulty, including by increasing the awareness of fraud during this period.
-- The Compliance function proactively engaged with other parts of the organisation to ensure financial crime risks were considered as part of Covid-19-related decisions.
-- Compliance colleagues were seconded to other parts of the organisation to assist with supporting the establishment of government relief measures.
-- We supported customers and the organisation through policy exceptions, including by allowing email instructions instead of face-to-face meetings, and introducing virtual onboarding.
We consistently review the effectiveness of our financial crime risk management framework, which includes consideration of geopolitical and wider economic factors. The sanctions regulatory environment remained changeable and uncertain during the course of 2020 due to the ongoing geopolitical tensions between the US and China, and the increasing divergence in sanctions policies between the US and the EU on Iran and Russia. We comply with all applicable sanctions regulations in the jurisdictions in which we operate, and continue to monitor the geopolitical landscape for ongoing developments. We also continued to progress several key financial crime risk management initiatives, including:
-- We continued to strengthen our anti-fraud capabilities, focusing on threats posed by new and existing technologies, and have delivered a comprehensive fraud training programme across the Bank.
-- We continued to invest in the use of artificial intelligence ('AI') and advanced analytics techniques to manage financial crime risk, and we published our principles for the ethical use of Big Data and AI.
-- We continued to work on strengthening our ability to combat money laundering and terrorist financing. In particular, we focused on the use of technology to enhance our risk management processes while minimising the impact to the customer. We also continued to develop our approach of intelligence led financial crime risk management, in part, through enhancements to our automated transaction monitoring systems.
Governance and structure
Since establishing a global framework of financial crime risk management committees in 2018, we have continued to strengthen and review the effectiveness of our governance framework to manage financial crime risk. Formal governance committees are held across all countries, territories and global business, and are chaired by the respective chief executive officers. They help to enable compliance with the letter and the spirit of all applicable financial crime laws and regulations, as well as our own standards, values and policies relating to financial crime risks. At a group level, the Financial Crime Risk Management Meeting has served as the pinnacle of this governance structure, ultimately responsible for the management of financial crime risk. As a reflection of the growing maturity and effectiveness of our financial crime risk management, this meeting was integrated with the group Risk Management Meeting in March 2021. During the course of 2021, we will review the management of financial crime risk across the Bank to identify other areas that could be simplified.
During 2020, we redesigned and delivered an integrated operating model for our Compliance function, with the accompanying restructure providing greater accountability to our local Compliance teams. These teams, led by local chief compliance officers, will support the group's Chief Compliance Officer in aligning the way in which we manage all compliance risks, including financial crime risk, to the needs and aims of the wider business. They will also support making our compliance risk management processes and procedures more efficient and effective.
Key risk management processes
We continued to deliver a programme to further enhance the policies and controls around identifying and managing the risks of bribery and corruption across our business. Recognising that the fight against financial crime is a constant challenge, we maintained our investment in operational controls and new technology to deter and detect criminal activity in the banking system. We continued to simplify our governance and policy frameworks, and our management information reporting process which demonstrates the effectiveness of our financial crime controls. We remain committed to enhancing our risk assessment capabilities and to delivering more proactive risk management, including our ongoing investment in the next generation of capabilities to fight financial crime by applying advanced analytics and AI.
We are committed to working in partnership with the wider industry and the public sector in managing financial crime risk, protecting the integrity of the financial system, and helping to protect the communities we serve. We are a strong advocate of public-private partnerships and participate in a number of information-sharing initiatives around the world. We are a constructive partner to national governments and international standard setters, and support reforms being undertaken in key markets such as Singapore where we work closely with peer banks and with the Monetary Authority of Singapore.
We have been an advocate for a more effective international framework for managing financial crime risk, whether through engaging directly with intergovernmental bodies such as the Financial Action Task Force, the global money laundering and terrorist financing watchdog, or via our key role in industry groups such as the Wolfsberg Group and the Institute of International Finance.
Skilled Person/Independent Consultant
Following expiration in December 2017 of the anti-money laundering deferred prosecution agreement entered into with the DoJ, the then-Monitor has continued to work in his capacity as a Skilled Person under Section 166 of the Financial Services and Markets Act under the Direction issued by the FCA in 2013. He has also continued to work in his capacity as an Independent Consultant under a cease-and-desist order issued by the FRB.
The Skilled Person has assessed our progress towards being able to effectively manage our financial crime risk on a business-as-usual basis. In 2020, the Skilled Person issued his final report, concluding that we have continued to make material progress towards our financial crime risk target end state in terms of key systems, processes and people, albeit noting areas of potential improvements. At the request of the FCA, our engagement with the Skilled Person concluded in the first quarter of 2020. In the second quarter of 2020, we appointed a new Skilled Person who is operating with a narrower mandate and in July 2020, the FCA issued a new, tailored Direction, replacing the previous Direction, issued in 2013. The new Skilled Person issued one report in 2020, concluding that we were on par with peers in certain areas of the specific elements of our financial crime management framework he has reviewed. However, the Skilled Person also identified opportunities for further improvements. In 2021, the new Skilled Person will assess certain operational elements that were not assessed in 2020.
In 2020, the Independent Consultant completed his seventh annual OFAC assessment, which was primarily focused on our sanctions programme. For the first time, the Independent Consultant concluded that we were now substantially compliant with all paragraphs of the cease-and-desist consent order issued by the FRB within scope of the annual assessment. However, the Independent Consultant has determined that certain areas within our sanctions compliance programme require further strengthening. An eighth annual assessment will take place in the first half of 2021. It is likely that a new Independent Consultant will be appointed to carry out an annual OFAC compliance review, at the FRB's discretion.
The new FCA Direction noted above requires that the Group Risk Committee retains oversight of matters relating to anti-money laundering, sanctions, terrorist financing and proliferation financing. Throughout 2020, the Group Risk Committee received regular updates on the Skilled Person's and the Independent Consultant's reviews.
Model risk
(Unaudited)
Overview
Model risk is the potential for adverse consequences from business decisions informed by models, which can be exacerbated by errors in methodology, design or the way they are used. Model risk arises in both financial and non-financial contexts whenever business decision making includes reliance on models.
Key developments in 2020
In 2020, we carried out a number of initiatives to further develop and embed the new Model Risk Management sub-function, including:
-- We refined the model risk policy to enable a more risk-based approach to model risk management.
-- We conducted a full review of model governance arrangements overseeing model risk, resulting in a range of enhancements to the underlying structure to improve effectiveness and increase business engagement.
-- We worked with the businesses and functions and developed new model risk controls in the Risk Control Library. These controls formed the basis for Model Risk Control Assessments that have been implemented for businesses and functions.
-- We updated the target operating model for Model Risk Management, referring to internal and industry best practice.
-- The Independent Model Validation team has begun a transformation program that will utilise advanced analytics and new workflow tools with the objective of providing a more risk based, efficient and effective management of model validation processes.
-- The consequences of Covid-19 on HKFRS 9 model performance and reliability has resulted in enhanced monitoring of those models and related model adjustments. Dramatic changes to model inputs such as GDP and unemployment rates have made the model results less reliable. As a result, greater reliance has been placed on management underlays/overlays based on business judgement to derive expected credit losses.
Governance and structure
We have placed greater focus on our model risk activities during 2020. To reflect this, Group has created the role of Chief Model Risk Officer, which is undertaken by the Head of Model Risk Management at the group. We elevated Model Risk Management to a function in its own right within the Global Risk Structure, where it had previously been structured as a sub-function within Global Risk Strategy. The team now reports directly to the group's Chief Risk Officer. We have also set up a Model Risk Committee at the group to demonstrate effective oversight of models used. The Model Risk Committee is supported by other forums such as the Wholesale Model Oversight Forum ('WMOF') and Retail Model Oversight Forum ('RMOF').
Key risk management processes
We use a variety of modelling approaches, including regression, simulation, sampling, machine learning and judgemental scorecards for a range of business applications, in activities such as customer selection, product pricing, financial crime transaction monitoring, creditworthiness evaluation and financial reporting.
We regularly review our model risk management policies and procedures, and require the first line of defence to demonstrate comprehensive and effective controls based on a library of model risk controls provided by Model Risk Management.
Model Risk Management reports on model risk to senior management through use of the risk map and regular key updates. We also review the effectiveness of these processes, including the regional model oversight governance structure, to ensure appropriate understanding and ownership of model risk is embedded in the businesses and functions.
Insurance manufacturing operations risk
(Unaudited)
Overview
The majority of the risk in our insurance business derives from manufacturing activities and can be categorised as financial risk or insurance risk. Financial risks include market risk, credit risk and liquidity risk. Insurance risk is the risk, other than financial risk, of loss transferred from the holder of the insurance contract to HSBC, the issuer.
HSBC's bancassurance model
(Unaudited)
We operate an integrated bancassurance model which provides insurance products principally for customers with whom we have a banking relationship. The insurance contracts we sell relate to the underlying needs of our banking customers, which we can identify from our point-of-sale contacts and customer knowledge. For the products we manufacture, the majority of sales are of savings and investment products.
By focusing largely on personal and small and medium-sized enterprise businesses, we are able to optimise volumes and diversify individual insurance risks. We choose to manufacture these insurance products in HSBC subsidiaries based on an assessment of operational scale and risk appetite. Manufacturing insurance allows us to retain the risks and rewards associated with writing insurance contracts by keeping part of the underwriting profit and investment income within the group.
We have life insurance manufacturing operations in: Hong Kong, Singapore and mainland China. We also have a life insurance manufacturing associate in India.
Where we do not have the risk appetite or operational scale to be an effective insurance manufacturer, we engage with a handful of leading external insurance companies in order to provide insurance products to our customers through our banking network and direct channels. These arrangements are generally structured with our exclusive strategic partners and earn the group a combination of commissions, fees and a share of profits. We distribute insurance products in all of our geographical regions.
Insurance products are sold through all global businesses, but predominantly by WPB and CMB through our branches and direct channels.
Insurance manufacturing operations risk management
Key developments in 2020
(Unaudited)
There were no material changes to the insurance risk management framework in 2020. Policies and practices for the management of risks associated with the selling of insurance contracts outside of bancassurance channels were enhanced in response to this being an increasing area of importance for the insurance business. Also, enhancements were made to the Capital Risk Framework for insurance operations to better align to the Group's Capital Risk Framework.
Governance
(Unaudited)
Insurance risks are managed to a defined risk appetite, which is aligned to the group's risk appetite and risk management framework, including the group's 'Three lines of defence' model. The group's Insurance Risk Management Meeting oversees the control framework globally and is accountable to the WPB Risk Management Meeting on risk matters relating to insurance business.
The monitoring of the risks within the insurance operations is carried out by the Insurance Risk teams. Specific risk functions, including wholesale credit and market risk, operational risk, information security risk and Compliance, support insurance risk teams in their respective areas of expertise.
Stress and scenario testing
(Unaudited)
Stress testing forms a key part of the risk management framework for the insurance business. Where in scope we participate in local and Group-wide regulatory stress tests, including the Bank of England stress test of the banking system, the Hong Kong Monetary Authority stress test, and individual country insurance regulatory stress tests. These have highlighted that a key risk scenario for the insurance business is a prolonged low interest rate environment. In order to mitigate the impact of this scenario, the insurance operations have a range of strategies that could be employed, repricing current products to reflect lower interest rates, moving towards less capital intensive products, and developing investment strategies to optimise the expected returns against the cost of economic capital.
Key risk management processes
Market risk
(Audited)
All our insurance manufacturing subsidiaries have market risk mandates that specify the investment instruments in which they are permitted to invest and the maximum quantum of market risk that they may retain. They manage market risk by using, among others, some or all of the techniques listed below, depending on the nature of the contracts written:
-- We are able to adjust bonus rates to manage the liabilities to policyholders for products with discretionary participating features ('DPF'). The effect is that a significant portion of the market risk is borne by the policyholder.
-- We use asset and liability matching where asset portfolios are structured to support projected liability cash flows. The group manages its assets using an approach that considers asset quality, diversification, cash flow matching, liquidity, volatility and target investment return. It is not always possible to match asset and liability durations, due to several factors such as uncertainty over the receipt of all future premiums, the timing of claims and because the forecast payment dates of liabilities may exceed the duration of the longest dated investments available. We use models to assess the effect of a range of future scenarios on the values of financial assets and associated liabilities, and ALCOs employ the outcomes in determining how best to structure asset holdings to support liabilities.
-- We use derivatives to protect against adverse market movements to better support liability cash flows.
-- For new products with investment guarantees, we consider the cost when determining the level of premiums or the price structure.
-- We periodically review products identified as higher risk, such as those that contain investment guarantees and embedded optionality features linked to savings and investment products, for active management.
-- We design new products to mitigate market risk, such as changing the investment return sharing portion between policyholders and the shareholder.
-- We exit, to the extent possible, investment portfolios whose risk is considered unacceptable. -- We reprice premiums charged to policyholders.
Credit risk
(Audited)
Our insurance manufacturing subsidiaries are responsible for the credit risk, quality and performance of their investment portfolios. Our assessment of the creditworthiness of issuers and counterparties is based primarily upon internationally recognised credit ratings, internal credit ratings, and other publicly available information.
Investment credit exposures are monitored against limits by our insurance manufacturing subsidiaries and are aggregated and reported to the Group Insurance Credit Risk and Group Credit Risk functions. Stress testing is performed on investment credit exposures using credit spread sensitivities and default probabilities.
We use a number of tools to manage and monitor credit risk. These include a credit report containing a watch-list of investments with current credit concerns, primarily investments that may be at risk of future impairment or where high concentrations to counterparties are present in the investment portfolio. Sensitivities to credit spread risk are assessed and monitored regularly.
Liquidity risk
(Audited)
Risk is managed by cash flow matching and maintaining sufficient cash resources, investing in high credit-quality investments with deep and liquid markets, monitoring investment concentrations and restricting them where appropriate, and establishing committed contingency borrowing facilities.
Insurance manufacturing subsidiaries complete quarterly liquidity risk reports and an annual review of the liquidity risks to which they are exposed.
Insurance risk
(Unaudited)
The group primarily uses the following techniques to manage and mitigate insurance risk:
-- a formalised product approval process covering product design, pricing and overall proposition management (for example, management of lapses by introducing surrender charges);
-- underwriting policy; -- claims management processes; and
-- reinsurance which cedes risks above our acceptable thresholds to an external reinsurer thereby limiting our exposure.
Insurance manufacturing operations risk in 2020
Measurement
(Unaudited)
The risk profile of our insurance manufacturing businesses is measured using an economic capital approach. Assets and liabilities are measured on a market value basis and a capital requirement is defined to ensure that there is a less than one-in-200 chance of insolvency over a one-year time horizon, given the risks that the businesses are exposed to. The methodology for the economic capital calculation is largely aligned to the pan-European Solvency II insurance capital regulation. The economic capital coverage ratio (economic net asset value divided by the economic capital requirement) is a key risk appetite measure.
Insurance entities in Asia manage their economic capital cover ratios against their appetite and tolerance as approved by their respective Boards. The tables below show the composition of assets and liabilities by contract type. 92% (2019: 92%) of both assets and liabilities are derived from Hong Kong.
Balance sheet of insurance manufacturing subsidiaries by type of contract
(Audited)
---------- ----------- ---------------- ---------
Shareholders'
assets
Non-linked Unit-linked and liabilities Total
HK$m HK$m HK$m HK$m
----------------------------------------------- ---------- ----------- ---------------- ---------
At 31 Dec 2020
----------------------------------------------- ---------- ----------- ---------------- ---------
Financial assets 577,666 42,621 40,776 661,063
----------------------------------------------- ---------- ----------- ---------------- -------
- financial assets designated and otherwise
mandatorily measured at fair value 129,597 41,366 384 171,347
-----------------------------------------------
- derivatives 1,323 20 3 1,346
-----------------------------------------------
- financial investments measured at
amortised cost 410,169 222 34,824 445,215
-----------------------------------------------
- financial investments measured at
fair value through other comprehensive
income 4,971 - 502 5,473
-----------------------------------------------
- other financial assets(1) 31,606 1,013 5,063 37,682
----------------------------------------------- ---------- ----------- ---------------- -------
Reinsurance assets 27,299 6 - 27,305
----------------------------------------------- ---------- ----------- ---------------- -------
PVIF(2) - - 65,052 65,052
----------------------------------------------- ---------- ----------- ---------------- -------
Other assets and investment properties 13,422 1 4,652 18,075
----------------------------------------------- ---------- ----------- ---------------- -------
Total assets 618,387 42,628 110,480 771,495
----------------------------------------------- ---------- ----------- ---------------- -------
Liabilities under investment contracts
designated at fair value 31,786 7,732 - 39,518
----------------------------------------------- ---------- ----------- ---------------- -------
Liabilities under insurance contracts 547,128 34,348 - 581,476
----------------------------------------------- ---------- ----------- ---------------- -------
Deferred tax(3) 9 - 10,436 10,445
----------------------------------------------- ---------- ----------- ---------------- -------
Other liabilities - - 37,220 37,220
----------------------------------------------- ---------- ----------- ---------------- -------
Total liabilities 578,923 42,080 47,656 668,659
----------------------------------------------- ---------- ----------- ---------------- -------
Total equity - - 102,836 102,836
----------------------------------------------- ---------- ----------- ---------------- -------
Total equity and liabilities 578,923 42,080 150,492 771,495
----------------------------------------------- ---------- ----------- ---------------- -------
At 31 Dec 2019
----------------------------------------------- ---------- ----------- ---------------- ---------
Financial assets 501,625 41,893 34,940 578,458
----------------------------------------------- ---------- ----------- ---------------- -------
- financial assets designated at fair
value 103,902 40,563 124 144,589
-----------------------------------------------
- derivatives 957 4 4 965
-----------------------------------------------
- financial investments - held-to-maturity 374,630 342 31,508 406,480
-----------------------------------------------
- financial investments - available-for-sale 4,126 - 395 4,521
-----------------------------------------------
- other financial assets(1) 18,010 984 2,909 21,903
----------------------------------------------- ---------- ----------- ---------------- -------
Reinsurance assets 28,031 44 - 28,075
----------------------------------------------- ---------- ----------- ---------------- -------
PVIF(2) - - 61,075 61,075
----------------------------------------------- ---------- ----------- ---------------- -------
Other assets and investment properties 13,015 2 3,898 16,915
----------------------------------------------- ---------- ----------- ---------------- -------
Total assets 542,671 41,939 99,913 684,523
----------------------------------------------- ---------- ----------- ---------------- -------
Liabilities under investment contracts
designated at fair value 30,231 6,793 - 37,024
----------------------------------------------- ---------- ----------- ---------------- -------
Liabilities under insurance contracts 494,181 34,579 - 528,760
----------------------------------------------- ---------- ----------- ---------------- -------
Deferred tax(3) 20 118 9,780 9,918
----------------------------------------------- ---------- ----------- ---------------- -------
Other liabilities - - 17,116 17,116
----------------------------------------------- ---------- ----------- ---------------- -------
Total liabilities 524,432 41,490 26,896 592,818
----------------------------------------------- ---------- ----------- ---------------- -------
Total equity - - 91,705 91,705
----------------------------------------------- ---------- ----------- ---------------- -------
Total equity and liabilities 524,432 41,490 118,601 684,523
----------------------------------------------- ---------- ----------- ---------------- -------
1 Comprise mainly loans and advances to banks, cash and inter-company balances with other non-insurance legal entities.
2 Present value of in-force long-term insurance business. 3 'Deferred tax' includes the deferred tax liabilities arising on recognition of PVIF.
4 Balance sheet of insurance manufacturing operations are shown before elimination of inter-company transactions with HSBC non-insurance operations.
Key risk types
The key risks for our insurance operations are market risks (in particular interest rate and equity) and credit risks, followed by insurance underwriting risks and operational risks. Liquidity risk, while significant for the bank, is minor for our insurance operations.
Market risk
(Audited)
Description and exposure
Market risk is the risk of changes in market factors affecting capital or profit. Market factors include interest rates, equity and growth assets and foreign exchange rates.
Our exposure varies depending on the type of contract issued. Our most significant life insurance products are contracts with discretionary participating features ('DPF') issued in Hong Kong. These products typically include some form of capital guarantee or guaranteed return on the sums invested by the policyholders, to which discretionary bonuses are added if allowed by the overall performance of the funds. These funds are primarily invested in bonds, with a proportion allocated to other asset classes to provide customers with the potential for enhanced returns.
DPF products expose the group to the risk of variation in asset returns, which will impact our participation in the investment performance. In addition, in some scenarios the asset returns can become insufficient to cover the policyholders' financial guarantees, in which case the shortfall has to be met by the group. Reserves are held against the cost of such guarantees, calculated by stochastic modelling.
Where local rules require, these reserves are held as part of liabilities under insurance contracts. Any remainder is accounted for as a deduction from the present value of in-force ('PVIF') long-term insurance business on the relevant product. The following table shows the total reserve held for the cost of guarantees, the range of investment returns on assets supporting these products and the implied investment return that would enable the business to meet the guarantees.
For unit-linked contracts, market risk is substantially borne by the policyholders, but some market risk exposure typically remains as fees earned are related to the market value of the linked assets.
Sensitivities
(Unaudited)
Where appropriate, the effects of the sensitivity tests on profit after tax and total equity incorporate the impact of the stress on the PVIF. The relationship between the profit and total equity and the risk factors is non-linear; therefore the results disclosed should not be extrapolated to measure sensitivities to different levels of stress. For the same reason, the impact of the stress is not symmetrical on the upside and downside. The sensitivities reflect the established risk sharing mechanism with policyholders for
participating products, and are stated before allowance for management actions which may mitigate the effect of changes in the market environment. The sensitivities presented allow for adverse changes in policyholders' behaviour that may arise in response to changes in market rates.
The following table illustrates the effects of selected interest rate, equity price and foreign exchange rate scenarios on our profit for the year and the total equity of our insurance manufacturing subsidiaries.
Sensitivity of the group's insurance manufacturing subsidiaries to market
risk factors
(Audited)
31 Dec 2020 31 Dec 2019
Effect Effect
on profit Effect on profit Effect
after on total after on total
tax equity tax equity
HK$m HK$m HK$m HK$m
---------- --------- ---------- -----------
+100 basis points parallel shift in
yield curves (1,673) (2,283) (538) (929)
---------- --------- ---------- ---------
-100 basis points parallel shift in
yield curves 1,613 2,223 38 429
---------- --------- ---------- ---------
10% increase in equity prices 2,167 2,167 1,814 1,814
---------- --------- ---------- ---------
10% decrease in equity prices (2,183) (2,183) (1,840) (1,840)
---------- --------- ---------- ---------
10% increase in USD exchange rate compared
to all currencies 673 673 327 327
---------- --------- ---------- ---------
10% decrease in USD exchange rate compared
to all currencies (673) (673) (327) (327)
---------- --------- ---------- ---------
Credit risk
(Audited)
Description and exposure
Credit risk is the risk of financial loss if a customer or counterparty fails to meet their obligation under a contract. It arises in two main areas for our insurance manufacturers:
-- risk associated with credit spread volatility and default by debt security counterparties after investing premiums to generate a return for policyholders and shareholders; and
-- risk of default by reinsurance counterparties and non-reimbursement for claims made after ceding insurance risk.
The amounts outstanding at the balance sheet date in respect of these items are shown in the table on page 61.
The credit quality of the reinsurers' share of liabilities under insurance contracts is assessed as 'strong' or 'good' (as defined on page 28), with 100% of the exposure being neither past due nor impaired (2019: 100%).
Credit risk on assets supporting unit-linked liabilities is predominantly borne by the policyholders. Therefore our exposure is primarily related to liabilities under non-linked insurance and investment contracts and shareholders' funds. The credit quality of insurance financial assets is included in the table on page 40. The risk associated with credit spread volatility is to a large extent mitigated by holding debt securities to maturity, and sharing a degree of credit spread experience with policyholders.
Capital and Liquidity risk
(Audited)
Description and exposure
Liquidity risk is the risk that an insurance operation, though solvent, either does not have sufficient financial resources available to meet its obligations when they fall due, or can secure them only at excessive cost.
The following table shows the expected undiscounted cash flows for insurance liabilities at 31 December 2020. The liquidity risk exposure is wholly borne by the policyholders in the case of unit-linked business and is shared with the policyholders for
non-linked insurance.
The profile of the expected maturity of insurance contracts at 31 December 2020 remained comparable with 2019.
The remaining contractual maturity of investment contract liabilities is included in the table on page 108.
Expected maturity of insurance contract liabilities
(Audited)
Expected cash flows (undiscounted)
Within 1-5 years 5-15 years Over 15 Total
1 year years
HK$m HK$m HK$m HK$m HK$m
------------------------------- ------- --------- ---------- ------- -----------
At 31 Dec 2020
------------------------------- ------- --------- ---------- ------- -----------
Non-linked insurance contracts 47,444 168,811 311,975 517,761 1,045,991
------------------------------- ------- --------- ---------- ------- ---------
Unit-linked 8,558 18,308 14,708 9,162 50,736
------------------------------- ------- --------- ---------- ------- ---------
56,002 187,119 326,683 526,923 1,096,727
------------------------------- ------- --------- ---------- ------- ---------
At 31 Dec 2019
------------------------------- ------- --------- ---------- ------- -----------
Non-linked insurance contracts 46,115 152,561 319,151 482,671 1,000,498
------------------------------- ------- --------- ---------- ------- ---------
Unit-linked 8,110 19,913 14,154 8,940 51,117
------------------------------- ------- --------- ---------- ------- ---------
54,225 172,474 333,305 491,611 1,051,615
------------------------------- ------- --------- ---------- ------- ---------
Insurance risk
Description and exposure
(Unaudited)
Insurance risk is the risk of loss through adverse experience, in either timing or amount, of insurance underwriting parameters (non-economic assumptions). These parameters include mortality, morbidity, longevity, lapses and unit costs.
The principal risk we face is that, over time, the cost of the contract, including claims and benefits may exceed the total amount of premiums and investment income received. The table on page 61 analyses our life insurance risk exposures by type of contract.
Sensitivities
(Audited)
The table below shows the sensitivity of profit and total equity to reasonably possible changes in non-economic assumptions across all our insurance manufacturing subsidiaries.
Mortality and morbidity risk is typically associated with life insurance contracts. The effect on profit of an increase in mortality or morbidity depends on the type of business being written.
Sensitivity to lapse rates depends on the type of contracts being written. In general, for life insurance contracts a policy lapse has two offsetting effects on profits, which are the loss of future income on the lapsed policy and the existence of surrender charge recouped at policy lapse. The net impact depends on the relative size of these two effects which varies with the type of contracts.
Expense rates risk is the exposure to a change in the cost of administering insurance contracts. To the extent that increased expenses cannot be passed on to policyholders, an increase in expense rates will have a negative effect on our profits.
Sensitivity analysis
(Audited)
2020 2019
HK$m HK$m
----- -------
Effect on profit after tax and total equity at 31 Dec
----- -------
10% increase in mortality and/or morbidity rates (613) (509)
----- -----
10% decrease in mortality and/or morbidity rates 629 507
----- -----
10% increase in lapse rates (575) (496)
----- -----
10% decrease in lapse rates 676 564
----- -----
10% increase in expense rates (352) (314)
----- -----
10% decrease in expense rates 360 310
----- -----
Statement of Directors' Responsibilities
The following statement, which should be read in conjunction with the Auditor's statement of their responsibilities set out in their report on pages 65-70, is made with a view to distinguishing for shareholders the respective responsibilities of the Directors and of the Auditor in relation to the Consolidated Financial Statements.
The Directors of The Hongkong and Shanghai Banking Corporation Limited ('the Bank') are responsible for the preparation of the Bank's Annual Report and Accounts, which contains the Consolidated Financial Statements of the Bank and its subsidiaries (together 'the group'), in accordance with applicable law and regulations.
The Hong Kong Companies Ordinance requires the Directors to prepare for each financial year the consolidated financial statements for the group and the balance sheet for the Bank.
The Directors are responsible for ensuring adequate accounting records are kept that are sufficient to show and explain the group's transactions, such that the group's consolidated financial statements give a true and fair view.
The Directors are responsible for preparing the consolidated financial statements that give a true and fair view and are in accordance with Hong Kong Financial Reporting Standards ('HKFRSs') issued by the Hong Kong Institute of Certified Public Accountants. The Directors have elected to prepare the Bank's balance sheet on the same basis.
The Directors, whose names and functions are set out in the 'Report of the Directors' on pages 3-9 of this Annual Report and Accounts, confirm to the best of their knowledge that:
-- the Consolidated Financial Statements, which have been prepared in accordance with HKFRSs and in accordance with the applicable set of accounting standards, give a true and fair view of the assets, liabilities, financial position and profit or loss of the group; and
-- the management report represented by the Financial Review, the Risk and Capital Reports includes a fair review of the development and performance of the business and the position of the group, together with a description of the principal risks and uncertainties that the group faces.
On behalf of the Board
Laura Cha
Chairman
23 February 2021
Independent Auditor's Report To the Shareholder of The Hongkong and Shanghai Banking Corporation Limited (incorporated in Hong Kong with limited liability)
Opinion
What we have audited
The consolidated financial statements of The Hongkong and Shanghai Banking Corporation Limited (the 'Bank') and its subsidiaries (the 'group') set out on pages 71 to 125, which comprise:
-- the consolidated balance sheet as at 31 December 2020; -- the consolidated income statement for the year then ended; -- the consolidated statement of comprehensive income for the year then ended; -- the consolidated statement of changes in equity for the year then ended; -- the consolidated statement of cash flows for the year then ended; and
-- the notes(1) on the consolidated financial statements, which include a summary of significant accounting policies.
1 Certain required disclosures as described in Note 1.1(d) on the consolidated financial statements have been presented elsewhere in the Annual Report and Accounts 2020, rather than in the notes on the consolidated financial statements. These are cross-referenced from the consolidated financial statements and are identified as audited.
Our opinion
In our opinion, the consolidated financial statements give a true and fair view of the consolidated financial position of the group as at
31 December 2020, and of its consolidated financial performance and its consolidated cash flows for the year then ended in accordance with Hong Kong Financial Reporting Standards ('HKFRSs') issued by the Hong Kong Institute of Certified Public Accountants ('HKICPA') and have been properly prepared in compliance with the Hong Kong Companies Ordinance.
Basis for Opinion
We conducted our audit in accordance with Hong Kong Standards on Auditing ('HKSAs') issued by the HKICPA. Our responsibilities under those standards are further described in the Auditor's Responsibilities for the Audit of the Consolidated Financial Statements section of our report.
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion.
Independence
We are independent of the group in accordance with the HKICPA's Code of Ethics for Professional Accountants ('the Code'), and we have fulfilled our other ethical responsibilities in accordance with the Code.
Key Audit Matters
Key audit matters are those matters that, in our professional judgement, were of most significance in our audit of the consolidated financial statements of the current period. These matters were addressed in the context of our audit of the consolidated financial statements as a whole, and in forming our opinion thereon, and we do not provide a separate opinion on these matters.
Key audit matters identified in our audit are summarised as follows:
-- Expected credit losses on loans and advances to customers
-- Impairment assessment of investment in associate - Bank of Communications Co., Limited ('BoCom')
-- The present value of in-force long-term insurance business ('PVIF') and liabilities under non-linked life insurance contracts
-- IT access management
Expected credit losses on loans and
advances to customers
At 31 December 2020, the group recorded We tested controls in place over
expected credit loss ('ECL') allowances the methodologies, their application,
on loans and advances to customers significant assumptions and data
of HK$28.9bn. used to determine the ECL allowances.
The determination of the ECL allowances Specifically, these included controls
requires the use of complex credit over:
risk methodologies based on the group's * Model development, validation and monitoring;
historic experience of the correlations
between defaults and losses, borrower
creditworthiness and economic conditions, * Determination and approval of consensus and
which can result in limitations in alternative economic scenarios;
their reliability to appropriately
estimate ECL. Significant judgement
and subjectivity are involved in * Approval of the probability weightings assigned to
determining whether these methodologies economic scenarios;
and their application in models remain
appropriate and in determining the
quantum of any management judgemental * Assigning Customer Risk Ratings and probabilities of
adjustments required to account for default;
late breaking events, model deficiencies
and expert credit judgement applied
following management review and challenge. * The input of critical data into source systems and
Significant judgement is also required the flow and transformation of critical data between
to determine assumptions, which involve source systems to the impairment ECL models;
subjectivity and estimation uncertainty.
The significant assumptions include
those with greater levels of management * Determination and approval of management judgemental
judgement and for which variations adjustments; and
have the most significant impact
on ECL. Specifically, these include
likelihoods of economic scenarios, * Review of input and assumptions applied in estimating
any alternative and additional scenarios the recoverability of credit-impaired wholesale
used, customer risk ratings and probabilities exposures.
of default, and the prospects of
future recoverability of credit impaired
wholesale exposures. Likewise, there We performed substantive audit procedures
is inherent uncertainty with the over the compliance of ECL methodologies
consensus economic forecasts data with the requirements of HKFRS 9.
from external economists. We engaged professionals with experience
The ongoing Covid-19 pandemic and in ECL modelling to assess the appropriateness
continued geopolitical tensions between of changes to models during the year,
the US and China increases the inherent and for a sample of those models,
risk and estimation uncertainty involved we independently reperformed the
in determining the ECL allowances modelling for certain aspects of
and the level of credit risk associated the ECL calculation. We also assessed
with the group's customers. The speed the appropriateness of methodologies
and severity of the economic shock and related models that did not change
caused specifically by the Covid-19 during the year, giving specific
pandemic and consequent government consideration to the Covid-19 pandemic
and regulator responses may have and whether management judgemental
altered the correlations between adjustments were needed. Where management
losses, borrower creditworthiness judgemental adjustments were made,
and economic conditions, as well we assessed the ECL allowances determined
as impacted economic factors such and the analysis supporting them.
as GDP and unemployment, and consequently We further performed the following
the extent and timing of customer to assess the significant assumptions,
defaults. This broadens the range data and disclosures:
of possible outcomes in estimating * We challenged the Bank's basis for determining
ECLs, which increases the judgement significant assumptions and, where relevant, their
required in assessing the appropriateness interrelationships;
of existing methodologies and economic
forecasts data from external economists,
and in determining assumptions. ECLs * We involved our economic experts in assessing the
have been adjusted through management reasonableness of the severity and likelihood of the
judgemental adjustments to reflect group's economic scenarios. These assessments
these limitations. In addition, certain considered the sensitivity of the ECL allowances to
changes to models used for the ECL variations in the severity and likelihood of
determination have been made during different economic scenarios;
2020.
* We tested a sample of customer risk ratings assigned
to wholesale exposures;
* We have independently assessed other significant
assumptions and obtained relevant corroborating
evidence. We further considered whether the
judgements made in selecting the significant
assumptions would give rise to indicators of possible
management bias;
* We performed various substantive audit procedures
over critical data used in the determination of the
ECL allowances to ensure these are relevant and
reliable; and
* We assessed the adequacy of the disclosures in
relation to expected credit losses on loans and
advances to customers made in the Annual Report and
Accounts 2020 in the context of the applicable
financial reporting framework.
We discussed the appropriateness
of the methodologies, their application,
significant assumptions, significant
data and disclosures with the Audit
Committee, giving consideration to
the ongoing Covid-19 pandemic and
continued geopolitical tensions between
the US and China. We further discussed
the governance and controls over
ECL, with a focus on the impact from
the Covid-19 pandemic.
In relation to the methodologies,
we focused our discussions on:
* Methodology application and model validation,
including where models were changed during the year;
and
* the identification and assessment of model
limitations and resulting management judgemental
adjustments made to derive the ECL allowances, in
particular for approaches adopted in response to the
Covid-19 pandemic.
In relation to significant assumptions
and data, we focused on those which
are most sensitive including:
* the severity and likelihood of economic scenarios and
the probabilities assigned to those scenarios;
* the determination and migration of customer risk
ratings; and
* assumptions around the future recoverability of
significant credit impaired wholesale exposures.
We further discussed the associated
disclosures in the Annual Report
and Accounts 2020, in particular
the impact of the Covid-19 pandemic
on determining the ECL allowances
and continued geopolitical tensions
between the US and China, and the
resulting estimation uncertainty.
Risk: Credit Risk, page 27-48
Note 1.2 (i) on the consolidated financial statements: Basis of preparation
and significant accounting policies, page 82-85
Note 2 (e) on the consolidated financial statements: Operating profit
- Change in expected credit losses and other credit impairment charges,
page 89
Note 10 on the consolidated financial statements: Loans and advances
to customers, page 97
Impairment assessment of investment in associate - Bank of Communications
Co., Limited ('BoCom')
At 31 December 2020, the market value We tested controls in place over
of the investment in BoCom, based significant assumptions, the methodology
on the share price, was HK$107.6bn and its application used to determine
lower than the carrying value of the VIU. We assessed the appropriateness
HK$165.4bn. This is an indicator of the methodology used, its application,
of potential impairment. An impairment and the mathematical accuracy of
test was performed, with supporting the calculations. In respect of the
sensitivity analysis, using a value significant assumptions, we performed
in use ('VIU') model. The VIU was the following:
HK$3.9bn in excess of the carrying * Challenged the basis for determining significant
value. On this basis, no impairment assumptions and, where relevant, their
was recorded and the share of BoCom's interrelationships;
profits has been recognised in the
consolidated income statement.
The methodology applied in the VIU * Obtained corroborating evidence for data supporting
model is dependent on various assumptions, significant assumptions that may include historic
both short term and long term in experience, external market information, third-party
nature. These assumptions, which sources including analyst reports, information from
are subject to estimation uncertainty, BoCom management and historical publicly available
are derived from a combination of BoCom financial information;
management's judgement, analysts'
forecasts and market data.
The significant assumptions that * Determined a reasonable range for the discount rate
we focused our audit on were those assumption, with the assistance of our valuation
with greater levels of management experts, and comparing it to the discount rate used
judgement and subjectivity, and for by management; and
which variations had the most significant
impact on the VIU. Specifically,
these included the discount rate, * Assessed whether the judgements made in selecting the
operating income growth rate, long-term significant assumptions give rise to indicators of
profit and asset growth rates, expected possible management bias.
credit losses, effective tax rates,
and capital requirements.
We observed meetings in April, May,
September and November 2020 between
management and senior BoCom executive
management, held specifically to
identify facts and circumstances
impacting assumptions relevant to
the determination of the VIU.
Representations were obtained from
the Bank that assumptions used were
consistent with information currently
available to them, both as a shareholder
of BoCom and to which HSBC are entitled
through their participation on BoCom's
Board of Directors.
We assessed the adequacy of the disclosures
in relation to BoCom made in the
Annual Report and Accounts 2020 in
the context of the applicable financial
reporting framework.
We discussed the appropriateness
of the methodology, its application
and significant assumptions with
the Audit Committee, giving consideration
to the macroeconomic environment
and the overall outlook for the Chinese
banking market. We considered reasonably
possible alternatives for the significant
assumptions. We also discussed the
disclosures made in relation to BoCom,
including the use of sensitivity
analysis to explain estimation uncertainty
and the conditions that would result
in an impairment being recognised.
Note 1.2 (a) on the consolidated financial statements: Basis of preparation
and significant accounting policies, page 78-79
Note 14 on the consolidated financial statements: Interests in associates
and joint ventures, page 100-103
The present value of in-force long-term insurance business ('PVIF') and
liabilities under non-linked life insurance contracts
At 31 December 2020, the group has We tested controls in place over
recorded an asset for PVIF of HK$65.1bn the determination of PVIF asset and
and liabilities under non-linked the liabilities under non-linked
life insurance contracts of HK$547.1bn. life insurance contracts. Specifically,
The determination of these balances these included controls over:
requires the use of complex actuarial * policy data reconciliations from the policyholder
methodologies that are applied in administration system to the actuarial valuation
models and involves significant judgement system;
about future outcomes. Specifically,
significant judgement is required
in deriving the economic assumptions, * assumptions setting;
and assumptions related to longevity,
mortality, persistency and expenses.
These assumptions are subject to * review and determination of valuation methodologies
estimation uncertainty, and movements and corresponding models;
in certain of these can have a material
impact on the PVIF asset and the
liabilities under non-linked life * restriction of user access to the models; and
insurance contracts.
* production and approval of the actuarial results.
With the assistance of our actuarial
experts, we performed the following
audit procedures to assess the methodologies
used, their application, significant
assumptions, data and disclosures:
* We assessed the appropriateness of the methodologies
used, their application and the mathematical accuracy
of the calculations;
* We challenged the group's basis for determining
significant assumptions and, where relevant, their
interrelationships. We have independently assessed
these assumptions and obtained relevant corroborating
evidence. We further considered whether the
judgements made in selecting the significant
assumptions would give rise to indicators of possible
management bias;
* We performed substantive audit procedures over
critical data used in the determination of these
balances to ensure these are relevant and reliable;
and
* We assessed the adequacy of the disclosures in
relation to the asset for PVIF and liabilities under
non-linked life insurance contracts made in the
Annual Report and Accounts 2020 in the context of the
applicable financial reporting framework.
We discussed the appropriateness
of the methodologies, their application,
significant assumptions and disclosures
with the Audit Committee. In relation
to assumptions, we focused on those
for which variations had the most
significant impact on the valuation
of PVIF and liabilities under non-linked
life insurance contracts carrying
value, including economic assumptions
and assumptions related to longevity,
mortality, persistency and expenses.
Risk: Insurance manufacturing operations risk, page 59-63
Note 1.2 (j) on the consolidated financial statements: Basis for preparation
and significant accounting policies, page 85-86
Note 3 on the consolidated financial statements: Insurance business,
page 90
Note 15 on the consolidated financial statements: Goodwill and intangible
assets, page 103-104
IT access management
The group has operations across a IT access management controls were
number of countries supporting a tested for systems and data relevant
wide range of products and services, to financial reporting that we relied
resulting in an IT environment that upon as part of our audit. Specifically,
is large, complex and increasingly these included controls over:
reliant on third parties. The Bank's * Authorising new access requests;
financial reporting processes rely
upon a significant element of this
IT environment, both within the group's * The timely removal of access rights;
operations and financial reporting.
Access management controls are an
important part of the IT environment * Periodic monitoring of the appropriateness of access
to ensure both access and changes rights to systems and data;
made to systems and data are appropriate.
Our audit approach relies extensively
on the effectiveness of IT access * Restricting highly privileged access to appropriate
management. personnel;
* The accuracy of information about IT users to
facilitate access management;
* Segregation of access across IT and business
functions;
* Changes made to systems and data; and
* Understanding and assessing reliance on third parties,
including Service Organisation controls reports.
We also independently assessed controls
related to password policies and
system configurations, and performed
substantive audit procedures in relation
to access right removal, privileged
access, IT user information and segregation
of duties.
We performed further testing where
control deficiencies were identified,
including:
* Where inappropriate access was identified, we
understood and assessed the nature of the access, and
when required, obtained additional evidence on the
appropriateness of activities performed; and
* Where necessary, we identified and tested
compensating business controls and performed other
audit procedures that addressed the risk that
inappropriate changes were made to systems and data.
The significance of IT access management
to our audit was discussed at Audit
Committee meetings during the year.
We further presented identified control
observations related to IT access
management and discussed our related
audit response.
Risk: Our material banking risks, page 25-26
Other Information
The directors of the Bank are responsible for the other information. The other information comprises the information included in the Financial Highlights, Report of the Directors, Financial Review, Risk and Statement of Directors' Responsibilities sections of the Annual Report and Accounts 2020 (but does not include the consolidated financial statements and our auditor's report thereon), which we obtained prior to the date of this auditor's report, and the Banking Disclosure Statement 2020 and the list of the directors of the Bank's subsidiary undertakings (consolidated in the financial statements) during the period from 1 January 2020 to 23 February 2021, which are expected to be made available to us after that date. The other information does not include the specific information presented therein that is identified as being an integral part of the consolidated financial statements and, therefore, covered by our audit opinion on the consolidated financial statements.
Our opinion on the consolidated financial statements does not cover the other information and we do not and will not express any form of assurance conclusion thereon.
In connection with our audit of the consolidated financial statements, our responsibility is to read the other information identified above and, in doing so, consider whether the other information is materially inconsistent with the consolidated financial statements or our knowledge obtained in the audit or otherwise appears to be materially misstated.
If, based on the work we have performed on the other information that we obtained prior to the date of this auditor's report, we conclude that there is a material misstatement of this other information, we are required to report that fact. We have nothing to report in this regard.
When we read the Banking Disclosure Statement 2020 and the list of the directors of the Bank's subsidiary undertakings (consolidated in the financial statements) during the period from 1 January 2020 to 23 February 2021, if we conclude that there is a material misstatement therein, we are required to communicate the matter to the Audit Committee and take appropriate action considering our legal rights and obligations.
Responsibilities of Directors and the Audit Committee for the Consolidated Financial Statements
The directors of the Bank are responsible for the preparation of the consolidated financial statements that give a true and fair view in accordance with HKFRSs issued by the HKICPA and the Hong Kong Companies Ordinance, and for such internal control as the directors determine is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error.
In preparing the consolidated financial statements, the directors are responsible for assessing the group's ability to continue as a going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting unless the directors either intend to liquidate the group or to cease operations, or have no realistic alternative but to do so.
The Audit Committee is responsible for overseeing the group's financial reporting process.
Auditor's Responsibilities for the Audit of the Consolidated Financial Statements
Our objectives are to obtain reasonable assurance about whether the consolidated financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditor's report that includes our opinion. We report our opinion solely to you, as a body, in accordance with Section 405 of the Hong Kong Companies Ordinance and for no other purpose. We do not assume responsibility towards or accept liability to any other person for the contents of this report. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with HKSAs will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these consolidated financial statements.
As part of an audit in accordance with HKSAs, we exercise professional judgement and maintain professional scepticism throughout the audit. We also:
-- Identify and assess the risks of material misstatement of the consolidated financial statements, whether due to fraud or error, design and perform audit procedures responsive to those risks, and obtain audit evidence that is sufficient and appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control.
-- Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the group's internal control.
-- Evaluate the appropriateness of accounting policies used and the reasonableness of accounting estimates and related disclosures made by the directors.
-- Conclude on the appropriateness of the directors' use of the going concern basis of accounting and, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the group's ability to continue as a going concern. If we conclude that a material uncertainty exists, we are required to draw attention in our auditor's report to the related disclosures in the consolidated financial statements or, if such disclosures are inadequate, to modify our opinion. Our conclusions are based on the audit evidence obtained up to the date of our auditor's report. However, future events or conditions may cause the group to cease to continue as a going concern.
-- Evaluate the overall presentation, structure and content of the consolidated financial statements, including the disclosures, and whether the consolidated financial statements represent the underlying transactions and events in a manner that achieves fair presentation.
-- Obtain sufficient appropriate audit evidence regarding the financial information of the entities or business activities within the group to express an opinion on the consolidated financial statements. We are responsible for the direction, supervision and performance of the group audit. We remain solely responsible for our audit opinion.
We communicate with the Audit Committee regarding, among other matters, the planned scope and timing of the audit and significant audit findings, including any significant deficiencies in internal control that we identify during our audit.
We also provide the Audit Committee with a statement that we have complied with relevant ethical requirements regarding independence, and to communicate with them all relationships and other matters that may reasonably be thought to bear on our independence, and where applicable, actions taken to eliminate threats or safeguards applied.
From the matters communicated with the Audit Committee, we determine those matters that were of most significance in the audit of the consolidated financial statements of the current period and are therefore the key audit matters. We describe these matters in our auditor's report unless law or regulation precludes public disclosure about the matter or when, in extremely rare circumstances, we determine that a matter should not be communicated in our report because the adverse consequences of doing so would reasonably be expected to outweigh the public interest benefits of such communication.
The engagement partner on the audit resulting in this independent auditor's report is Lars Christian Jordy Nielsen.
PricewaterhouseCoopers
Certified Public Accountants
Hong Kong, 23 February 2021
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