C » Topics » Fair Valuation Adjustments for Derivatives

This excerpt taken from the C 10-Q filed Nov 6, 2009.

Fair Valuation Adjustments for Derivatives

        The fair value adjustments applied by the Company to its derivative carrying values consist of the following items:

    Liquidity adjustments are applied to items in Level 2 or Level 3 of the fair-value hierarchy (see Note 17 to the Consolidated Financial Statements) to ensure that the fair value reflects the price at which the entire position could be liquidated. The liquidity reserve is based on the bid/offer spread for an instrument, adjusted to take into account the size of the position.

    CVA are applied to over-the-counter derivative instruments, in which the base valuation generally discounts expected cash flows using LIBOR interest rate curves. Because not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, a CVA is necessary to incorporate the market view of both counterparty credit risk and the Company's own credit risk in the valuation.

        The Company's CVA methodology comprises two steps. First, the exposure profile for each counterparty is determined using the terms of all individual derivative positions and a Monte Carlo simulation or other quantitative analysis to generate a series of expected cash flows at future points in time. The calculation of this exposure profile considers the effect of credit risk mitigants, including pledged cash or other collateral and any legal right of offset that exists with a counterparty through arrangements such as netting agreements. Individual derivative contracts that are subject to an enforceable master netting agreement with a counterparty are aggregated for this purpose, since it is those aggregate net cash flows that are subject to nonperformance risk. This process identifies specific, point in time future cash flows that are subject to nonperformance risk, rather than using the current recognized net asset or liability as a basis to measure the CVA.

        Second, market-based views of default probabilities derived from observed credit spreads in the credit default swap market, are applied to the expected future cash flows determined in step one. Own-credit CVA is determined using Citi-specific CDS spreads for the relevant tenor. Generally, counterparty CVA is determined using CDS spread indices for each credit rating and tenor. For certain identified facilities where individual analysis is practicable (for example, exposures to monoline counterparties) counterparty-specific CDS spreads are used.

        The CVA adjustment is designed to incorporate a market view of the credit risk inherent in the derivative portfolio. However, most derivative instruments are negotiated bilateral contracts and are not commonly transferred to third parties. Derivative instruments are normally settled contractually, or if terminated early, are terminated at a value negotiated bilaterally between the counterparties. Therefore, the CVA (both counterparty and own-credit) may not be realized upon a settlement or termination in the normal course of business.

        In addition, all or a portion of the CVA may be reversed or otherwise adjusted in future periods in the event of changes in the credit risk of Citi or its counterparties, or changes in the credit mitigants (collateral and netting agreements) associated with the derivative instruments. Historically, Citigroup's credit spreads have moved in tandem with general counterparty credit spreads, thus providing offsetting CVAs affecting revenue. However, in the first quarter of 2009, Citigroup's credit spreads widened and counterparty credit spreads generally narrowed, each of which positively affected revenues. Conversely, in the second and third quarters of 2009, Citigroup's credit spreads narrowed and negatively affected revenues.

        The table below summarizes pretax gains (losses) related to changes in CVAs on derivative instruments for the quarters ended September 30, 2009 and 2008, respectively:

 
  Credit valuation
adjustment gain (loss)
 
In millions of dollars   2009   2008  

Non-monoline counterparties

  $ 855   $ (851 )

Citigroup (own)

    (1,534 )   1,951  
           

Net non-monoline CVA

  $ (679 ) $ 1,100  

Monoline counterparties

    (61 )   (920 )
           

Total CVA—derivative instruments

  $ (740 ) $ 180  
           

        The table below summarizes pretax gains (losses) related to changes in CVAs on derivative instruments for the nine months ended September 30, 2009 and 2008, respectively:

 
  Credit valuation
adjustment gain (loss)
 
In millions of dollars   2009   2008  

Non-monoline counterparties

  $ 5,387   $ (2,236 )

Citigroup (own)

    (1,891 )   3,165  
           

Net non-monoline CVA

  $ 3,496   $ 929  

Monoline counterparties

    (995 )   (4,839 )
           

Total CVA—derivative instruments

  $ 2,501   $ (3,910 )
           

        The table below summarizes the CVA applied to the fair value of derivative instruments as of September 30, 2009 and December 31, 2008, respectively.

 
  Credit valuation adjustment
Contra liability (contra asset)
 
In millions of dollars   September 30, 2009   December 31, 2008  

Non-monoline counterparties

  $ (2,878 ) $ (8,266 )

Citigroup (own)

    1,754     3,611  
           

Net non-monoline CVA

  $ (1,124 ) $ (4,655 )

Monoline counterparties

    (5,274 )   (4,279 )
           

Total CVA—derivative instruments

  $ (6,398 ) $ (8,934 )
           

        The CVA amounts shown above relate solely to the derivative portfolio, and do not include:

    Own-credit adjustments for non-derivative liabilities measured at fair value under the fair-value option. See

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Note 17 to the Consolidated Financial Statements for further information.

    The effect of counterparty credit risk embedded in non-derivative instruments. General spread widening has negatively affected the market value of a range of financial instruments. Losses on non-derivative instruments, such as bonds and loans, related to counterparty credit risk are not included in the table above.
This excerpt taken from the C 10-Q filed Aug 7, 2009.

Fair Valuation Adjustments for Derivatives

        The fair value adjustments applied by the Company to its derivative carrying values consist of the following items:

    Liquidity adjustments are applied to items in Level 2 or Level 3 of the fair-value hierarchy (see Note 17 to the Consolidated Financial Statements) to ensure that the fair value reflects the price at which the entire position could be liquidated. The liquidity reserve is based on the bid/offer spread for an instrument, adjusted to take into account the size of the position.

    Credit valuation adjustments (CVA) are applied to over-the-counter derivative instruments, in which the base valuation generally discounts expected cash flows using LIBOR interest rate curves. Because not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, a CVA is necessary to incorporate the market view of both counterparty credit risk and the Company's own credit risk in the valuation.

        The Company's CVA methodology comprises two steps. First, the exposure profile for each counterparty is determined using the terms of all individual derivative positions and a Monte Carlo simulation or other quantitative analysis to generate a series of expected cash flows at future points in time. The calculation of this exposure profile considers the effect of credit risk mitigants, including pledged cash or other collateral and any legal right of offset that exists with a counterparty through arrangements such as netting agreements. Individual derivative contracts that are subject to an enforceable master netting agreement with a counterparty are aggregated for this purpose, since it is those aggregate net cash flows that are subject to nonperformance risk. This process identifies specific, point in time future cash flows that are subject to nonperformance risk, rather than using the current recognized net asset or liability as a basis to measure the CVA. Second, market-based views of default probabilities derived from observed credit spreads in the credit default swap market, are applied to the expected future cash flows determined in step one. Own-credit CVA is determined using Citi-specific CDS spreads for the relevant tenor. Generally, counterparty CVA is determined using CDS spread indices for each credit rating and tenor. For certain identified facilities where individual analysis is practicable (for example, exposures to monoline counterparties) counterparty-specific CDS spreads are used.

        The CVA adjustment is designed to incorporate a market view of the credit risk inherent in the derivative portfolio as required by SFAS 157 (ASC 820-10). However, most derivative instruments are negotiated bilateral contracts and are not commonly transferred to third parties. Derivative instruments are normally settled contractually, or if terminated early, are terminated at a value negotiated bilaterally between the counterparties. Therefore, the CVA (both counterparty and own-credit) may not be realized upon a settlement or termination in the normal course of business. In addition, all or a portion of the credit valuation adjustments may be reversed or otherwise adjusted in future periods in the event of changes in the credit risk of Citi or its counterparties, or changes in the credit mitigants (collateral and netting agreements) associated with the derivative instruments. Historically, Citigroup's credit spreads have moved in tandem

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with general counterparty credit spreads, thus providing offsetting CVAs affecting revenue. However, in the first quarter of 2009, Citigroup's credit spreads widened and counterparty credit spreads generally narrowed, each of which positively affected revenues.

        The table below summarizes pretax gains (losses) related to changes in CVAs on derivative instruments for the quarters ended June 30, 2009 and 2008:

 
  Credit valuation
adjustment gain
(loss)
 
In millions of dollars   2009   2008  

Non-monoline counterparties

  $ 4,381   $ 405  

Citigroup (own)

    (2,980 )   (299 )
           

Net non-monoline CVA

  $ 1,401   $ 106  

Monoline counterparties

    157     (2,428 )
           

Total CVA—derivative instruments

  $ 1,558   $ (2,322 )
           

        The table below summarizes pretax gains (losses) related to changes in CVAs on derivative instruments for the six months ended June 30, 2009 and 2008:

 
  Credit valuation
adjustment gain
(loss)
 
In millions of dollars   2009   2008  

Non-monoline counterparties

  $ 4,533   $ (1,385 )

Citigroup (own)

    (357 )   1,214  
           

Net non-monoline CVA

  $ 4,176   $ (171 )

Monoline counterparties

    (934 )   (3,919 )
           

Total CVA—derivative instruments

  $ 3,242   $ (4,090 )
           

        The table below summarizes the CVA applied to the fair value of derivative instruments as of June 30, 2009 and December 31, 2008.

 
  Credit valuation adjustment
Contra liability
(contra asset)
 
In millions of dollars   June 30, 2009   December 31, 2008  

Non-monoline counterparties

  $ (3,733 ) $ (8,266 )

Citigroup (own)

    3,289     3,611  
           

Net non-monoline CVA

  $ (444 ) $ (4,655 )

Monoline counterparties

    (5,213 )   (4,279 )
           

Total CVA—derivative instruments

  $ (5,657 ) $ (8,934 )
           

        The CVA amounts shown above relate solely to the derivative portfolio, and do not include:

    Own-credit adjustments for non-derivative liabilities measured at fair value under the fair-value option. See Note 17 to the Consolidated Financial Statements for further information.

    The effect of counterparty credit risk embedded in non-derivative instruments. General spread widening has negatively affected the market value of a range of financial instruments. Losses on non-derivative instruments, such as bonds and loans, related to counterparty credit risk are not included in the table above.
This excerpt taken from the C 10-Q filed May 11, 2009.

Fair Valuation Adjustments for Derivatives

        The fair value adjustments applied by the Company to its derivative carrying values consist of the following items:

    Liquidity adjustments are applied to items in Level 2 or Level 3 of the fair-value hierarchy (see Note 17) to ensure that the fair value reflects the price at which the entire position could be liquidated. The liquidity reserve is based on the bid/offer spread for an instrument, adjusted to take into account the size of the position.

    Credit valuation adjustments (CVA) are applied to over-the-counter derivative instruments, in which the base valuation generally discounts expected cash flows using LIBOR interest rate curves. Because not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, a CVA is necessary to incorporate the market view of both counterparty credit risk and the Company's own credit risk in the valuation.

        The Company's CVA methodology comprises two steps. First, the exposure profile for each counterparty is determined using the terms of all individual derivative positions and a Monte Carlo simulation or other quantitative analysis to generate a series of expected cash flows at future points in time. The calculation of this exposure profile considers the effect of credit risk mitigants, including pledged cash or other collateral and any legal right of offset that exists with a counterparty through arrangements such as netting agreements. Individual derivative contracts that are subject to an enforceable master netting agreement with a counterparty are aggregated for this purpose, since it is those aggregate net cash flows that are subject to nonperformance risk. This process identifies specific, point in time future cash flows that are subject to nonperformance risk, rather than using the current recognized net asset or liability as a basis to measure the CVA. Second, market-based views of default probabilities derived from observed credit spreads in the credit default swap market, are applied to the expected future cash flows determined in step one. Own-credit CVA is determined using Citi-specific CDS spreads for the relevant tenor. Generally, counterparty CVA is determined using CDS spread indices for each credit rating and tenor. For certain identified facilities where individual analysis is practicable (for example, exposures to monoline counterparties) counterparty-specific CDS spreads are used.

        The CVA adjustment is designed to incorporate a market view of the credit risk inherent in the derivative portfolio as required by SFAS 157. However, most derivative instruments are negotiated bilateral contracts and are not commonly transferred to third parties. Derivative instruments are normally settled contractually, or if terminated early, are terminated at a value negotiated bilaterally between the counterparties. Therefore, the CVA (both counterparty and own-credit) may not be realized upon a settlement or termination in the normal course of business. In addition, all or a portion of the credit valuation adjustments may be reversed or otherwise adjusted in future periods in the event of changes in the credit risk of Citi or its counterparties, or changes in the credit mitigants (collateral and netting agreements) associated with the derivative instruments. Historically, Citigroup's credit spreads have moved in tandem with general counterparty credit spreads, thus providing offsetting CVAs affecting revenue. However, in the first quarter of 2009, Citigroup's credit spreads widened and

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counterparty credit spreads generally narrowed, each of which positively affected revenues.

        The table below summarizes pretax gains (losses) related to changes in credit valuation adjustments on derivative instruments for the quarters ended March 31, 2009 and 2008:

 
  Credit valuation
adjustment gain (loss)
 
In millions of dollars   2009   2008  

Non-monoline counterparties

  $ 166   $ (1,790 )

Citigroup (own)

    2,572     1,513  
           

Net non-monoline CVA

  $ 2,738   $ (277 )

Monoline counterparties

    (1,091 )   (1,491 )
           

Total CVA—derivative instruments

  $ 1,647   $ (1,768 )
           

        The table below summarizes the CVA applied to the fair value of derivative instruments as of March 31, 2009 and December 31, 2008.

 
  Credit valuation adjustment
Contra liability
(contra asset)
 
In millions of dollars   March 31,
2009
  December 31,
2008
 

Non-monoline counterparties

  $ (8,100 ) $ (8,266 )

Citigroup (own)

    6,183     3,611  
           

Net non-monoline CVA

  $ (1,917 ) $ (4,655 )

Monoline counterparties(1)

    (5,370 )   (4,279 )
           

Total CVA—derivative instruments

  $ (7,287 ) $ (8,934 )
           

(1)
Certain derivatives with monoline counterparties were terminated during 2008.

        The credit valuation adjustment amounts shown above relate solely to the derivative portfolio, and do not include:

    Own-credit adjustments for non-derivative liabilities measured at fair value under the fair-value option. See Note 17 for further information.

    The effect of counterparty credit risk embedded in non-derivative instruments. General spread widening has negatively affected the market value of a range of financial instruments. Losses on non-derivative instruments, such as bonds and loans, related to counterparty credit risk are not included in the table above.
These excerpts taken from the C 10-K filed Feb 27, 2009.

Fair Valuation Adjustments for Derivatives

The fair value adjustments applied by the Company to its derivative carrying values consist of the following items:

 

 

Liquidity adjustments are applied to items in Level 2 or Level 3 of the fair-value hierarchy (see Note 26 on page 191 for more details) to ensure that the fair value reflects the price at which the entire position could be liquidated. The liquidity reserve is based on the bid/offer spread for an instrument, adjusted to take into account the size of the position.

 

Credit valuation adjustments (CVA) are applied to over-the-counter derivative instruments, in which the base valuation generally discounts expected cash flows using LIBOR interest rate curves. Because not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, a CVA is necessary to incorporate the market view of both counterparty credit risk and the Company’s own credit risk in the valuation.

The Company’s CVA methodology comprises two steps. First, the exposure profile for each counterparty is determined using the terms of all individual derivative positions and a Monte Carlo simulation or other quantitative analysis to generate a series of expected cash flows at future points in time. The calculation of this exposure profile considers the effect of credit risk mitigants, including pledged cash or other collateral and any legal right of offset that exists with a counterparty through arrangements such as netting agreements. Individual derivative contracts that are subject to an enforceable master netting agreement with a counterparty are aggregated for this purpose, since it is those aggregate net cash flows that are subject to nonperformance risk. This process identifies specific, point in time future cash flows that are subject to nonperformance risk, rather than using the current recognized net asset or liability as a basis to measure the CVA. Second, market-based views of default probabilities derived from observed credit spreads in the credit default swap market, are applied to the expected


 

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future cash flows determined in step one. Own-credit CVA is determined using Citi-specific CDS spreads for the relevant tenor. Generally, counterparty CVA is determined using CDS spread indices for each credit rating and tenor. For certain identified facilities where individual analysis is practicable (for example, exposures to monoline counterparties) counterparty-specific CDS spreads are used.

The CVA adjustment is designed to incorporate a market view of the credit risk inherent in the derivative portfolio as required by SFAS 157. However, most derivative instruments are negotiated bilateral contracts and are not commonly transferred to third parties. Derivative instruments are normally settled contractually, or if terminated early, are terminated at a value negotiated bilaterally between the counterparties. Therefore, the CVA (both counterparty and own-credit) may not be realized upon a settlement or termination in the normal course of business. In addition, all or a portion of the credit valuation adjustments may be reversed or otherwise adjusted in future periods in the event of changes in the credit risk of Citi or its counterparties, or changes in the credit mitigants (collateral and netting agreements) associated with the derivative instruments. Historically, Citigroup’s credit spreads have moved in tandem with general counterparty credit spreads, thus providing offsetting CVAs affecting revenue. However, in the fourth quarter of 2008, Citigroup’s credit spreads generally narrowed and counterparty credit spreads widened, each of which negatively affected revenues. The table below summarizes the CVA applied to the fair value of derivative instruments as of December 31, 2008 and 2007.

 

   

Credit valuation adjustment

Contra liability (contra asset)

 
In millions of dollars   December 31,
2008
    December 31,
2007
 

Non-monoline counterparties

  $ (8,266 )   $ (1,613 )

Citigroup (own)

    3,611       1,329  

Net non-monoline CVA

    (4,655 )     (284 )

Monoline counterparties (1)

    (4,279 )     (967 )

Total CVA—derivative instruments

  $ (8,934 )   $ (1,251 )

 

(1) Certain derivatives with monoline counterparties were terminated during 2008.

The table below summarizes pre-tax gains (losses) related to changes in credit valuation adjustments on derivative instruments for the years ended December 31, 2008 and 2007:

 

    Credit valuation
adjustment gain
(loss)
 
In millions of dollars   2008     2007  

Non-monoline counterparties

  $ (6,653 )   $ (1,301 )

Citigroup (own)

    2,282       1,329  

Net non-monoline CVA

    (4,371 )     28  

Monoline counterparties

    (5,736 )     (967 )

Total CVA—derivative instruments

  $ (10,107 )   $ (939 )

The credit valuation adjustment amounts shown above relate solely to the derivative portfolio, and do not include:

 

 

Own-credit adjustments for non-derivative liabilities measured at fair value under the fair-value option. See Note 26 on page 191 for further information.

 

The effect of counterparty credit risk embedded in non-derivative instruments. During 2008, general spread widening has negatively affected the market value of a range of financial instruments. Losses on non-derivative instruments, such as bonds and loans, related to counterparty credit risk are not included in the table above.

Fair Valuation Adjustments for Derivatives

The fair value adjustments applied by the Company to its derivative carrying values consist of the following items:

 

 

Liquidity adjustments are applied to items in Level 2 or Level 3 of the fair-value hierarchy (see Note 26 on page 191 for more details) to ensure that the fair value reflects the price at which the entire position could be liquidated. The liquidity reserve is based on the bid/offer spread for an instrument, adjusted to take into account the size of the position.

 

Credit valuation adjustments (CVA) are applied to over-the-counter derivative instruments, in which the base valuation generally discounts expected cash flows using LIBOR interest rate curves. Because not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, a CVA is necessary to incorporate the market view of both counterparty credit risk and the Company’s own credit risk in the valuation.

The Company’s CVA methodology comprises two steps. First, the exposure profile for each counterparty is determined using the terms of all individual derivative positions and a Monte Carlo simulation or other quantitative analysis to generate a series of expected cash flows at future points in time. The calculation of this exposure profile considers the effect of credit risk mitigants, including pledged cash or other collateral and any legal right of offset that exists with a counterparty through arrangements such as netting agreements. Individual derivative contracts that are subject to an enforceable master netting agreement with a counterparty are aggregated for this purpose, since it is those aggregate net cash flows that are subject to nonperformance risk. This process identifies specific, point in time future cash flows that are subject to nonperformance risk, rather than using the current recognized net asset or liability as a basis to measure the CVA. Second, market-based views of default probabilities derived from observed credit spreads in the credit default swap market, are applied to the expected


 

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future cash flows determined in step one. Own-credit CVA is determined using Citi-specific CDS spreads for the relevant tenor. Generally, counterparty CVA is determined using CDS spread indices for each credit rating and tenor. For certain identified facilities where individual analysis is practicable (for example, exposures to monoline counterparties) counterparty-specific CDS spreads are used.

The CVA adjustment is designed to incorporate a market view of the credit risk inherent in the derivative portfolio as required by SFAS 157. However, most derivative instruments are negotiated bilateral contracts and are not commonly transferred to third parties. Derivative instruments are normally settled contractually, or if terminated early, are terminated at a value negotiated bilaterally between the counterparties. Therefore, the CVA (both counterparty and own-credit) may not be realized upon a settlement or termination in the normal course of business. In addition, all or a portion of the credit valuation adjustments may be reversed or otherwise adjusted in future periods in the event of changes in the credit risk of Citi or its counterparties, or changes in the credit mitigants (collateral and netting agreements) associated with the derivative instruments. Historically, Citigroup’s credit spreads have moved in tandem with general counterparty credit spreads, thus providing offsetting CVAs affecting revenue. However, in the fourth quarter of 2008, Citigroup’s credit spreads generally narrowed and counterparty credit spreads widened, each of which negatively affected revenues. The table below summarizes the CVA applied to the fair value of derivative instruments as of December 31, 2008 and 2007.

 

   

Credit valuation adjustment

Contra liability (contra asset)

 
In millions of dollars   December 31,
2008
    December 31,
2007
 

Non-monoline counterparties

  $ (8,266 )   $ (1,613 )

Citigroup (own)

    3,611       1,329  

Net non-monoline CVA

    (4,655 )     (284 )

Monoline counterparties (1)

    (4,279 )     (967 )

Total CVA—derivative instruments

  $ (8,934 )   $ (1,251 )

 

(1) Certain derivatives with monoline counterparties were terminated during 2008.

The table below summarizes pre-tax gains (losses) related to changes in credit valuation adjustments on derivative instruments for the years ended December 31, 2008 and 2007:

 

    Credit valuation
adjustment gain
(loss)
 
In millions of dollars   2008     2007  

Non-monoline counterparties

  $ (6,653 )   $ (1,301 )

Citigroup (own)

    2,282       1,329  

Net non-monoline CVA

    (4,371 )     28  

Monoline counterparties

    (5,736 )     (967 )

Total CVA—derivative instruments

  $ (10,107 )   $ (939 )

The credit valuation adjustment amounts shown above relate solely to the derivative portfolio, and do not include:

 

 

Own-credit adjustments for non-derivative liabilities measured at fair value under the fair-value option. See Note 26 on page 191 for further information.

 

The effect of counterparty credit risk embedded in non-derivative instruments. During 2008, general spread widening has negatively affected the market value of a range of financial instruments. Losses on non-derivative instruments, such as bonds and loans, related to counterparty credit risk are not included in the table above.

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