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This excerpt taken from the C 8-K filed Oct 13, 2009. Asset/Liability
Management Hedging—Citigroup
uses derivatives in connection with its risk-management activities to hedge
certain risks or reposition the risk profile of the Company. For example,
Citigroup may issue fixed-rate long-term debt and then enter into a
receive-fixed, pay-variable-rate interest rate swap with the same tenor and
notional amount to convert the interest payments to a net variable-rate basis.
This strategy is the most common form of an interest rate hedge, as it
minimizes interest cost in certain yield curve environments. Derivatives are
also used to manage risks inherent in specific groups of on-balance sheet
assets and liabilities, including investments, corporate and consumer loans,
deposit liabilities, as well as other interest-sensitive assets and
liabilities. In addition, foreign- exchange contracts are used to hedge
non-U.S. dollar denominated debt, available-for-sale securities, net capital
exposures and foreign-exchange transactions.
Derivatives may expose Citigroup to market, credit or liquidity risks in excess of the amounts recorded on the Consolidated Balance Sheet. Market risk on a derivative product is the exposure created by potential fluctuations in interest rates, foreign-exchange rates and other values and is a function of the type of product, the volume of transactions, the tenor and terms of the agreement, and the underlying volatility. Credit risk is the exposure to loss in the event of nonperformance by the other party to the transaction where the value of any collateral held is not adequate to cover such losses. The recognition in earnings of unrealized gains on these transactions is subject to management’s assessment as to collectibility. Liquidity risk is the potential exposure that arises when the size of the derivative position may not be able to be rapidly adjusted in periods of high volatility and financial stress at a reasonable cost.
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