FORM 6
FORM 6-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Report of Foreign Private Issuer
Pursuant to Rule 13a - 16 or 15d - 16
of
the Securities Exchange Act of 1934
For the month of May
HSBC Holdings plc
42nd Floor, 8 Canada Square, London
E14 5HQ, England
(Indicate by check mark whether the registrant
files or will file annual reports under cover of Form 20-F or Form 40-F).
Form 20-F X
Form 40-F
......
(Indicate by check mark whether the registrant
by furnishing the information contained in this Form is also thereby furnishing the
information to the Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act
of 1934).
Yes.......
No X
(If "Yes" is marked, indicate below the file
number assigned to the registrant in connection with Rule 12g3-2(b): 82-
..............).
UNITED STATES SECURITIES
AND
|
|
X
|
QUARTERLY REPORT PURSUANT TO SECTION 13
OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
|
|
|
For the quarterly period ended
March 31, 2009
|
|
|
|
|
TRANSITION REPORT PURSUANT TO SECTION 13
OR 15(d)
OF THE SECURITIES
AND
EXCHANGE ACT OF
1934
|
|
|
For the transition period
from
to
|
Commission file number 1-7436
(Exact name of registrant as specified in its charter)
|
|
(State of
Incorporation
)
452 Fifth Avenue
,
New York
,
New York
(Address of principal executive
offices)
|
(I.R.S. Employer Identification
No.)
|
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past
90 days. Yes X
No
□
Indicate by check mark whether the registrant has submitted electronically and
posted on its corporate Web site, if any, every Interactive Data File required
to be submitted and posted pursuant to Rule 405 of Regulation S-T during the
preceding 12 months (or for such shorter period that the registrant was required to
submit and post such files). Yes
□
No
□
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See the
definitions of "large accelerated filer," "accelerated filer" and "smaller
reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
□
|
|
|
Smaller reporting company
□
|
|
|
(Do not check if a smaller reporting company)
|
|
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes
□
No X
At April 30, 2009, there were 711 shares of the registrant's Common Stock
outstanding, all of which are owned by HSBC North America Inc.
|
|
|
PART I.
FINANCIAL INFORMATION
|
|
|
|
|
|
Consolidated Statement
of (Loss) Income
|
|
|
Consolidated Balance
Sheet
|
|
|
Consolidated Statement
of Changes in Shareholders'
Equity
|
|
|
Consolidated Statement
of Cash Flows
|
|
|
Notes to Consolidated
Financial Statements
|
|
|
Management's Discussion and
Analysis of Financial Condition and
Results of Operations
|
|
|
Forward-Looking
Statements
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment Results -
IFRSs Basis
|
|
|
|
|
|
Liquidity and Capital
Resources
|
|
|
Off-Balance Sheet
Arrangements
|
|
|
|
|
|
|
|
|
Average Balances and Interest
Rates
|
|
|
Quantitative and Qualitative
Disclosures About Market
Risk
|
|
|
|
|
PART II
OTHER INFORMATION
|
|
|
|
|
|
|
|
|
|
PART I.
FINANCIAL INFORMATION
Item 1. Financial Statements
CONSOLIDATED STATEMENT OF (LOSS) INCOME (UNAUDITED)
Three Months Ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision for credit losses
|
|
|
Net
interest
income
after
provision
for
credit
losses
|
|
|
|
|
|
|
|
|
Other fees and commissions
|
|
|
|
|
|
|
|
|
Net other-than-temporary impairment losses (includes $116 million
of total losses less $78 million of losses on securities available
for sale, recognized in other comprehensive income at March 31,
2009)
|
|
|
Other securities gains, net
|
|
|
Servicing and other fees from HSBC affiliates
|
|
|
Residential mortgage banking revenue
|
|
|
Gain on instruments designated at fair value and related derivatives
|
|
|
|
|
|
Total
other
revenues
(losses)
|
|
|
|
|
|
Salaries and employee benefits
|
|
|
Support services from HSBC affiliates
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) before income tax expense (benefit)
|
|
|
Income tax expense (benefit)
|
|
|
|
|
|
The accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED BALANCE SHEET (UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
Interest bearing deposits with banks
|
|
|
Federal funds sold and securities purchased under agreements to
resell
|
|
|
|
|
|
Securities available for sale
|
|
|
Securities held to maturity (fair value of $2,999 million and
$2,935 million at March 31, 2009 and December 31, 2008,
respectively)
|
|
|
|
|
|
Less - allowance for credit losses
|
|
|
|
|
|
Loans held for sale (includes $925 million and $874 million
designated under fair value option at March 31, 2009 and
December 31, 2008, respectively)
|
|
|
Properties and equipment, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits in domestic offices:
|
|
|
|
|
|
Interest bearing (includes $2,549 million and $2,293 million
designated under fair value option at March 31, 2009 and
December 31, 2008, respectively)
|
|
|
Deposits in foreign offices:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term debt (includes $2,526 million and $2,627 million
designated under fair value option at March 31, 2009 and
December 31, 2008, respectively)
|
|
|
|
|
|
|
|
|
Interest, taxes and other liabilities
|
|
|
|
|
|
|
|
|
|
|
|
Common shareholder's equity:
|
|
|
Common stock ($5 par; 150,000,000 shares authorized; 711 and
709 shares issued and outstanding at March 31, 2009 and
December 31, 2008, respectively)
|
|
|
Additional paid-in capital
|
|
|
|
|
|
Accumulated other comprehensive loss
|
|
|
Total common shareholder's equity
|
|
|
Total
shareholders'
equity
|
|
|
Total
liabilities
and
shareholders'
equity
|
|
|
The accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (UNAUDITED)
Three Months Ended March 31,
|
|
|
|
|
|
|
|
|
|
Balance
at
beginning
and
end
of
period
|
|
|
|
|
|
|
|
Balance
at
beginning
and
end
of
period
|
|
|
|
Additional
paid-in
capital
|
|
|
|
Balance
at
beginning
of
period
|
|
|
|
Capital
contributions
from
parent
|
|
|
|
Employee
benefit
plans
and
other
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at
beginning
of
period
|
|
|
|
Adjustment
to
initially
apply
fair
value
measurement
and
fair
value
option
accounting,
under
SFAS 157
and
159,
net
of
tax
|
|
|
|
Adjustment
to
initially
apply
FSP
SFAS
115-2
and
124-2,
net
of
tax
|
|
|
|
Balance
at
beginning
of
period,
as
adjusted
|
|
|
|
|
|
|
|
Cash
dividends
declared
on
preferred
stock
|
|
|
|
|
|
|
|
Accumulated
other
comprehensive
(
loss)
|
|
|
|
Balance
at
beginning
of
period
|
|
|
|
Adjustment
to
initially
apply
FSP
SFAS
115-2
and
124-2,
net
of
tax
|
|
|
|
Balance
at
beginning
of
period,
as
adjusted
|
|
|
|
Net
change
in
unrealized
gains
(losses),
net
of
tax
on:
|
|
|
|
Securities
available
for
sale
not
other-than-temporarily
impaired
|
|
|
|
Other-than-temporarily impaired securities available for sale (includes
$116 million of total losses less $38 million of losses recognized in
other revenues (losses))
|
|
|
|
Derivatives
classified
as
cash
flow
hedges
|
|
|
|
Unrecognized
actuarial
gains,
transition
obligation
and
prior
service
costs
relating
to
pension
and
postretirement
benefits,
net
of
tax
|
|
|
|
Foreign
currency
translation
adjustments,
net
of
tax
|
|
|
|
Other
comprehensive
income
(loss),
net
of
tax
|
|
|
|
|
|
|
|
Total
shareholders'
equity
|
|
|
|
Comprehensive
income
(loss)
|
|
|
|
|
|
|
|
Other
comprehensive
income
(loss),
net
of
tax
|
|
|
|
Comprehensive
income
(loss
)
|
|
|
|
The accompanying notes are an integral part of the consolidated financial
statements.
CONSOLIDATED STATEMENT OF
CASH
FLOWS (UNAUDITED)
Three Months Ended March 31
|
|
|
|
|
|
Cash
flows
from
operating
activities
|
|
|
|
|
|
|
|
Adjustments
to
reconcile
net
income
to
net
cash
provided
by
operating activities:
|
|
|
|
Depreciation,
amortization
and
deferred
taxes
|
|
|
|
Provision
for
credit
losses
|
|
|
|
Other-than-temporarily
impaired
available
for
sale
securities
|
|
|
|
Net
change
in
other
assets
and
liabilities
|
|
|
|
Net
change
in
loans
held
for
sale
|
|
|
|
Loans
attributable
to
tax
refund
anticipation
loans
program:
|
|
|
|
|
|
|
|
Sales
of
loans
to
HSBC
Finance,
including
premium
|
|
|
|
Net
change
in
trading
assets
and
liabilities
|
|
|
|
Mark-to-market
on
financial
instruments
designated
at
fair
value
and
related
derivatives
|
|
|
|
Net
change
in
fair
value
of
derivatives
and
hedged
items
|
|
|
|
Net
cash
(used
in)
provided
by
operating
activities
|
|
|
|
Cash
flows
from
investing
activities
|
|
|
|
Net
change
in
interest
bearing
deposits
with
banks
|
|
|
|
Net
change
in
federal
funds
sold
and
securities
purchased
under
agreements
to
resell
|
|
|
|
Securities
available
for
sale:
|
|
|
|
Purchases
of
securities
available
for
sale
|
|
|
|
Proceeds
from
sales
of
securities
available
for
sale
|
|
|
|
Proceeds
from
maturities
of
securities
available
for
sale
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
Purchases
of
securities
held
to
maturity
|
|
|
|
Proceeds
from
maturities
of
securities
held
to
maturity
|
|
|
|
|
|
|
|
Originations,
net
of
collections
|
|
|
|
Loans
purchased
from
HSBC
Finance
|
|
|
|
Bulk
purchase
of
loans
from
HSBC
Finance
|
|
|
|
Loans
sold
to
third
parties
|
|
|
|
Net
cash
used
for
acquisitions
of
properties
and
equipment
|
|
|
|
|
|
|
|
Net
cash
(used
in)
investing
activities
|
|
|
|
Cash
flows
from
financing
activities
|
|
|
|
|
|
|
|
Net
change
in
short-term
borrowings
|
|
|
|
Change
in
long-term
debt:
|
|
|
|
Issuance
of
long-term
debt
|
|
|
|
Repayment
of
long-term
debt
|
|
|
|
Capital
contribution
from
parent
|
|
|
|
|
|
|
|
Net
cash
provided
by
(used
in)
financing
activities
|
|
|
|
Net
change
in
cash
and
due
from
banks
|
|
|
|
Cash
and
due
from
banks
at
beginning
of
period
|
|
|
|
Cash
and
due
from
banks
at
end
of
period
|
|
|
|
Supplemental
disclosure
of
non-cash
flow
investing
activities
|
|
|
|
Trading
securities
pending
settlement
|
|
|
|
Assumption
of
indebtedness
from
HSBC
Finance
related
to
the
bulk
loan
purchase
|
|
|
|
The accompanying notes are an integral part of the consolidated financial
statements.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Basis of Presentation
HSBC USA Inc. is an indirect wholly owned subsidiary of HSBC North America Holdings
Inc. ("HSBC North America"), which is an indirect wholly owned subsidiary of HSBC
Holdings plc ("HSBC"). The accompanying unaudited interim consolidated financial
statements of HSBC USA Inc. and its subsidiaries (collectively "HUSI"), including
its principal subsidiary HSBC Bank USA, National Association ("HSBC Bank USA"),
have been prepared in accordance with accounting principles generally accepted in
the United States of America ("U.S. GAAP") for interim financial information
and with the instructions to Form 10-Q and Article 10 of
Regulation S-X, as well as in accordance with predominate practices within the
banking industry. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all normal and recurring
adjustments considered necessary for a fair presentation of financial position,
results of operations and cash flows for the interim periods have been made. HSBC
USA Inc. may also be referred to in this Form 10-Q as "we," "us" or "our."
These unaudited interim consolidated financial statements should be read in
conjunction with our Annual Report on Form 10-K for the year ended
December 31, 2008 (the "2008 Form 10-K"). Certain reclassifications have
been made to prior period amounts to conform to the current period presentation.
The preparation of financial statements in conformity with U.S. GAAP requires
the use of estimates and assumptions that affect reported amounts and disclosures.
Actual results could differ from those estimates. Interim results should not be
considered indicative of results in future periods.
During the first quarter of 2009, we adopted Statement of Financial Accounting
Standards No. 161, "Disclosures about Derivative Instruments and Hedging
Activities - an amendment of FASB Statement No. 133" and FASB Staff
Position (FSP) SFAS 107-1 and APB 28-1, "Interim Disclosures about Fair Value
of Financial Instruments." In addition, we early adopted FSP SFAS 115-2 and
124-2, "Recognition and Presentation of Other-Than-Temporary Impairments" as well
as FSP SFAS 157-4, "Determining Fair Value When the Volume and Level of
Activity for the Asset or Liability Have Significantly Decreased and Identifying
Transactions That are Not Orderly" effective January 1, 2009. See
Note 20, "New Accounting Pronouncements" for further details and related
impact.
2. Restructuring Activities
We continue to review our expense base in an effort to create a more streamlined
organization, reduce expense growth and provide for future business initiatives.
This review includes improving workforce management, consolidating certain
functions where appropriate and increasing the use of global resourcing
initiatives. The following summarizes the changes in the severance accrual relating
to these activities during the three months ended March 31, 2009 and 2008:
|
|
|
|
|
|
|
|
Costs recorded during the period
|
|
|
Costs paid during the period
|
|
|
|
|
|
Also in November 2008, we announced that we would exit the wholesale/correspondent
channel of our Residential Mortgage business and focus our attention on our retail
sales channel. In connection with this decision, we recorded expense of
$3 million relating to one-time termination benefits of which approximately
$2 million were paid during the first quarter of 2009. No additional charges
relating to this decision are anticipated in future periods.
3. Trading Assets and Liabilities
Trading assets and liabilities are summarized in the following table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises(1)
|
|
|
|
|
|
Corporate
and
foreign
bonds
|
|
|
|
|
|
|
|
|
Fair
value
of
derivatives
|
|
|
|
|
|
|
|
|
Securities
sold,
not
yet
purchased
|
|
|
Payables
for
precious
metals
|
|
|
Fair
value
of
derivatives
|
|
|
|
|
|
(1)
|
Includes mortgage backed securities of $133 million and $328 million
issued or guaranteed by the Federal National Mortgage Association (FNMA) and
$64 million and $193 million issued or guaranteed by the Federal Home
Loan Mortgage Corporation (FHLMC) at March 31, 2009 and December 31,
2008, respectively.
|
At March 31, 2009 and December 31, 2008, the fair value of derivatives
included in trading assets have been reduced by $5.5 billion and
$6.1 billion, respectively, relating to amounts recognized for the obligation
to return cash collateral received under master netting agreements with derivative
counterparties, consistent with the reporting requirements of FASB Staff Position
No. FIN 39-1, Amendment of FASB Interpretation No. 39 ("FSP
FIN 39-1").
At March 31, 2009 and December 31, 2008, the fair value of derivatives
included in trading liabilities have been reduced by $13.0 billion and
$11.8 billion, respectively, relating to amounts recognized for the right to
reclaim cash collateral paid under master netting agreements with derivative
counterparties, consistent with the reporting requirements of FSP FIN 39-1.
The amortized cost and fair value of the securities available for sale and
securities held to maturity portfolios are summarized in the following tables.
|
|
|
|
|
|
|
|
Securities
available
for
sale:
|
|
|
|
|
|
|
|
|
|
|
|
U.S. Government sponsored enterprises:(1)
|
|
|
|
|
|
Mortgage-backed
securities
|
|
|
|
|
|
Direct
agency
obligations
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed:
|
|
|
|
|
|
Mortgage-backed
securities
|
|
|
|
|
|
Collateralized
mortgage
obligations
|
|
|
|
|
|
Direct
agency
obligations
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
Asset
backed
securities
collateralized
by:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
available-for-sale
securities
|
|
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
|
|
U.S. Government sponsored enterprises:(3)
|
|
|
|
|
|
Mortgage-backed
securities
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed:
|
|
|
|
|
|
Mortgage-backed
securities
|
|
|
|
|
|
Collateralized
mortgage
obligations
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
Asset
backed
securities
collateralized
by:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
held-to-maturity
securities
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available
for
sale:
|
|
|
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises(1)
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
|
U.S.
Government
sponsored
enterprises(3)
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) Includes securities of $3.5 billion and $5.1 billion issued or
guaranteed by the Federal National Mortgage Association (FNMA) at March 31,
2009 and December 31, 2008, respectively, and $3.9 billion and
$5.9 billion issued or guaranteed by Federal Home Loan Mortgage Corporation
(FHLMC) at March 31, 2009 and December 31, 2008, respectively.
(2) Includes securities issued by FNMA of $2 million at March 31,
2009 and December 31, 2008. Balances at March 31, 2009 and
December 31, 2008 reflect other-than-temporary impairment charges of
$203 million.
(3) Includes securities of $.7 billion issued or guaranteed by FNMA at
March 31, 2009 and December 31, 2008, and $1.2 billion issued and
guaranteed by FHLMC at March 31, 2009 and December 31, 2008.
A summary of gross unrealized losses and related fair values as of March 31,
2009 and December 31, 2008, classified as to the length of time the losses
have existed follows:
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
Securities
available
for
sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises
|
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available
for
sale
|
|
|
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises
|
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
held
to
maturity
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
Securities
available
for
sale:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises
|
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available
for
sale
|
|
|
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises
|
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
held
to
maturity
|
|
|
|
|
|
|
Assessment for Other-Than-Temporary Impairment
On a quarterly basis, we perform an assessment to determine whether there have been
any events or economic circumstances indicating that a security with an unrealized
loss has suffered other-than-temporary impairment pursuant to FASB Staff Position
No. SFAS 115-1 and SFAS 124-1, "The Meaning of Other-Than-Temporary
Impairment and Its Application to Certain Investments" ("
FSP
SFAS
115-1 and 124-1"). A debt security is considered impaired if the fair value
is less than its amortized cost basis at the reporting date. The accounting
literature requires us to assess whether the unrealized loss is
other-than-temporary. Prior to the adoption of FASB Staff Position
No. SFAS 115-2 and SFAS 124-2, "Recognition and Presentation of
Other-Than-Temporary Impairments" ("FSP SFAS 115-2 and 124-2"), unrealized
losses that were determined to be temporary were recorded, net of tax, in other
comprehensive income for available for sale securities, whereas unrealized losses
related to held to maturity securities determined to be temporary were not
recognized. Regardless of whether the security was classified as available for sale
or held to maturity, unrealized losses that were determined to be
other-than-temporary were recorded to earnings in their entirety. An unrealized
loss was considered other than temporary if (i) it was not probable that the
holder will collect all amounts due according to the contractual terms of the debt
security, or (ii) the fair value was below the amortized cost of the debt
security for a prolonged period of time and we did not have the positive intent and
ability to hold the security until recovery or maturity.
We adopted
FSP
SFAS
115-2 and 124-2 effective January 1, 2009.
FSP
SFAS
115-2 and 124-2, which amended
FSP
SFAS
115-1 and 124-1, changed the recognition criteria and presentation of
unrealized losses for available for sale and held to maturity debt securities that
have suffered other-than-temporary impairment. Under
FSP
SFAS
115-2 and 124-2, an unrealized loss is generally deemed to be
other-than-temporary and a credit loss is deemed to exist if the present value of
the expected future cash flows is less than the amortized cost basis of the debt
security. As a result of our adoption of FSP SFAS 115-2 and 124-2, the
credit loss component of an other-than-temporary impairment write-down is recorded
as a component of
Net other-than-temporary impairment losses
in the accompanying consolidated statement of (loss) income, while the
remaining portion of the impairment loss is recognized in other comprehensive
income (loss), provided we do not intend to sell the underlying debt security and
it is "more likely than not" that we will not have to sell the debt security prior
to recovery.
For all securities held in the available for sale or held to maturity portfolio for
which unrealized losses have existed for a period of time, we do not have the
intention to sell, and believe we will not be required to sell the securities for
contractual, regulatory or liquidity reasons as of the reporting date. Therefore,
the non-credit portion of unrealized losses related to debt securities in these
portfolios were recorded in other comprehensive income (loss). Debt securities
issued by U.S. Treasury, U.S. Government agencies and government
sponsored entities accounted for 75% of total available for sale and held to
maturity securities as of March 31, 2009. Therefore, our assessment for credit
loss was concentrated on private label asset backed securities for which we
evaluate for credit losses on a quarterly basis. We considered the following
factors in determining whether a credit loss exists and the period over which the
debt security is expected to recover:
•
The length of time and the extent to which the fair value has been less than the
amortized cost basis. In general, a cash flow based recovery analysis is performed
when the fair value of the debt security is below its amortized cost by more than
20% on a cumulative basis;
•
The level of credit enhancement provided by the structure, which includes but is
not limited to credit subordination positions, excess spread,
overcollateralization, protective triggers and financial guarantees provided by
monoline wraps;
•
Changes in the near term prospects of the issuer or underlying collateral of a
security such as changes in default rates, loss severities given default and
significant changes in prepayment assumptions;
•
The level of excessive cash flows generated from the underlying collateral
supporting the principal and interest payments of the debt securities; and
•
Any adverse change to the credit conditions of the issuer, the monoline insurer or
the security such as credit downgrades by the rating agencies.
•
The expected length of time and the extent of continuing financial guarantee to be
provided by the monoline insurers after announcement of downgrade or restructure.
We use a standard, market-based valuation model to measure the credit loss for
available for sale and held to maturity securities. The valuation model captures
the composition of the underlying collateral and the cash flow structure of the
security. Management develops inputs to the model based on external analyst reports
and forecasts and internal credit assessments. Significant inputs to the model
include delinquencies, credit spreads, collateral types and related contractual
features, estimated rates of default, loss given default and prepayment
assumptions. Using the inputs, the model estimates cash flows generated from the
underlying collateral and distributes those cash flows to respective tranches of
securities considering credit subordination and other credit enhancement features.
The projected future cash flows attributable to the debt security held are
discounted using the effective interest rates determined at the original
acquisition date if the security bears a fixed rate of return. The discount rate is
adjusted for the floating index rate for securities which bear a variable rate of
return, such as LIBOR-based instruments.
The excess of amortized cost over the present value of expected future cash flows,
which represents the credit loss of a debt security, was $38 million as of
March 31, 2009. The excess of the present value of discounted cash flows over
fair value, which represents the non-credit component of the unrealized loss, was
$78 million as of March 31, 2009. Since we do not have the intention to
sell the securities and have sufficient capital and liquidity to hold these
securities until a recovery of the fair value occurs, only the credit loss
component is reflected in earnings. The difference between the fair value estimate
of the security and the present value of estimated future cash flows, which
represents the non-credit component of the unrealized loss, is recorded, net of
taxes, in other comprehensive income (loss).
The following table summarizes the roll-forward of credit losses on debt securities
held by us for which a portion of an other-than-temporary impairment is recognized
in other comprehensive income:
|
|
|
|
Credit
losses
at
the
beginning
of
the
period
|
|
Credit
losses
related
to
securities
for
which
an
other-than-temporary
impairment
was
not
previously
recognized
|
|
Increase
in
credit
losses
for
which
an
other-than-temporary
impairment
was
previously
recognized
|
|
Reductions
of
credit
losses
recognized
prior
to
the
sale
of
securities
|
|
Reductions
of credit losses related to other than temporarily impaired
securities for which we have recognized the non-credit loss in earnings
because we have changed our intent not to sell or have to sell the
security prior to recovery of amortized
cost
|
|
Reductions
of
credit
losses
for
increases
in
cash
flows
expected
to
be
collected
that
are
recognized
over
the
remaining
life
of
the
security
|
|
Ending
balance
of
credit
losses
on
debt
securities
held
for
which
a
portion
of
an
other-than-temporary
impairment
was
recognized
in
other
comprehensive
income
|
|
At March 31, 2009, we held 155 individual asset-backed securities in the
available for sale portfolio, of which 37 were also wrapped by a monoline insurance
company. The asset backed securities backed by a monoline wrap comprised
$429 million of the total aggregate fair value of asset-backed securities of
$2.2 billion at March 31, 2009. The gross unrealized losses on these
securities was $432 million at March 31, 2009. During the quarter, two
monoline insurers were downgraded and as a result, we did not take into
consideration the financial guarantee from those monoline insurers associated with
certain securities. As of March 31, 2009, some of the securities which were
wrapped by the monoline insurance companies which were downgraded in the first
quarter of 2009 were deemed to be other-than-temporarily impaired.
At December 31, 2008, we held 161 individual asset-backed securities in the
available for sale portfolio of which 37 were also wrapped by a monoline insurance
company. These asset backed securities backed by a monoline wrap comprised
$629 million of the total aggregate fair value of asset-backed securities of
$2.4 billion at December 31, 2008. The gross unrealized losses on these
securities was $404 million at December 31, 2008. As of December 31,
2008, we deemed these securities to be temporarily impaired as our analysis of the
structure and our credit analysis of the monoline insurer resulted in the
conclusion that it was probable we would receive all contractual cash flows from
our investment, including amounts to be paid by the investment grade monoline
insurers.
Gross unrealized losses within the available-for-sale and held-to-maturity
portfolios decreased overall primarily due to sales of securities, but increased
for asset backed securities during the first quarter of 2009 as the impact of wider
credit spreads and continued reduced liquidity in many markets was only partially
offset by decreases in interest rates. We have reviewed our securities on which
there is an unrealized loss in accordance with our accounting policies for
other-than-temporary impairment described previously. During the first quarter of
2009, nine debt securities were determined to be other-than-temporarily impaired
pursuant to
FSP
SFAS
115-2 and 124-2. As a result, we recorded an other-than-temporary
impairment charge of $116 million during the three months ended March 31,
2009 on these investments. Consistent with
FSP
SFAS
115-2 and 124-2, the credit loss component of the applicable debt securities
totaling $38 million was recorded as a component of
Net
other-than-temporary impairment losses
in the accompanying consolidated statement of (loss) income, while the remaining
non-credit portion of the impairment loss was recognized in other comprehensive
income (loss).
We do not consider any other securities to be other-than-temporarily impaired as we
expect to recover the amortized cost basis of these securities, do not intend to
sell and do not have to sell these securities prior to recovery. However,
additional other-than-temporary impairments may occur in future periods if the
credit quality of the securities deteriorates.
The following table summarizes realized gains and losses on investment securities
transactions attributable to available for sale and held to maturity securities.
|
|
|
|
|
|
Three
months
ended
March 31,
2009:
|
|
|
|
Securities
available
for
sale
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
Maturities,
calls
and
mandatory
redemptions
|
|
|
|
|
|
|
|
Year
ended
December 31,
2008:
|
|
|
|
Securities
available
for
sale
|
|
|
|
Securities
held
to
maturity:
|
|
|
|
Maturities,
calls
and
mandatory
redemptions
|
|
|
|
|
|
|
|
The amortized cost and fair values of securities available for sale and securities
held to maturity at March 31, 2009, by contractual maturity are summarized in
the table below. Expected maturities differ from contractual maturities because
borrowers have the right to prepay obligations without prepayment penalties in
certain cases. Securities available for sale amounts exclude equity securities as
they do not have stated maturities. The table below also reflects the distribution
of maturities of debt securities held at March 31, 2009, together with the
approximate taxable equivalent yield of the portfolio. The yields shown are
calculated by dividing annual interest income, including the accretion of discounts
and the amortization of premiums, by the amortized cost of se
curities outstanding at March 31, 2009
. Yields on tax-exempt obligations have been computed on a taxable equivalent basis
using applicable statutory tax rates.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises
|
|
|
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Government
sponsored
enterprises
|
|
|
|
|
|
|
|
|
U.S.
Government
agency
issued
or
guaranteed
|
|
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments in FHLB stock, FRB stock, and MasterCard Class B shares of
$164 million, $382 million and $28 million, respectively, were
included in other assets at March 31, 2009. Investments in FHLB stock, FRB
stock and MasterCard Class B shares of $209 million, $349 million
and $29 million, respectively, were included in other assets at
December 31, 2008.
Loans consisted of the following:
|
|
|
|
|
|
|
|
Construction and other real estate
|
|
|
|
|
|
|
|
|
|
|
|
HELOC and home equity mortgages
|
|
|
Other residential mortgages
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Secured financings of $1.2 billion and $5.1 billion at March 31,
2009 are secured by $1.5 billion and $6.1 billion of private label cards
and credit cards, respectively. Secured financings of $1.2 billion at
December 31, 2008 were secured by $1.6 billion of private label cards.
Purchased Loan Portfolios:
In January 2009, we purchased the
General
Motors
MasterCard
receivable portfolio ("GM Portfolio") and the
AFL
-CIO Union Plus MasterCard/Visa receivable portfolio ("UP Portfolio") with an
aggregate outstanding principal balance of $6.3 billion and $6.1 billion,
respectively from HSBC Finance. The aggregate purchase price for the GM and UP
Portfolios was $12.2 billion, which included the transfer of approximately
$6.1 billion of indebtedness, resulting in a cash consideration of
$6.1 billion. The purchase price was determined based on independent valuation
opinions. HSBC Finance retained the customer relationships and by agreement we will
purchase additional loan originations generated under existing and future accounts
from HSBC Finance on a daily basis at fair market value. HSBC Finance will continue
to service the GM and UP Portfolios for us for a fee. The loans purchased were
subject to the requirements of AICPA Statement of Position 03-3, "Accounting for
Certain Loans on Debt Securities Acquired in a Transfer," ("SOP 03-3") to the
extent there was evidence of deterioration of credit quality since origination and
for which it was probable, at acquisition, that all contractually required payments
would not be collected and that the associated line of credit had been closed. The
following table summarizes the outstanding loan balances, the cash flows expected
to be collected and the fair value of the loans to which SOP 03-3 has been
applied:
|
|
|
|
|
Outstanding
contractual
receivable
balance
at
acquisition
|
|
|
Cash
flows
expected
to
be
collected
at
acquisition
|
|
|
Basis
in
acquired
receivables
at
acquisition
|
|
|
The carrying amount of the loans to which SOP 03-3 has been applied at
March 31, 2009 totaled $107 million and $96 million for the GM and
UP Portfolios, respectively, and is included in credit card loans in the table
above. The outstanding contractual balance at March 31, 2009 for these
receivables is $198 million and $222 million for the GM and UP
Portfolios, respectively. At March 31, 2009, no credit loss reserves for these
credit card loans have been established as there has been no adverse change in
anticipated future cash flows since these loans were purchased. There were no
reclassifications to accretable yield from non-accretable yield during the three
months ended March 31, 2009 as there was no change in the estimated cash flows
to be collected on the underlying portfolios. The following summarizes the change
in accretable yield associated with the portion of the GM and UP Portfolios to
which SOP 03-3 has been applied in 2009:
|
|
|
|
Accretable
yield
at
beginning
of
period
|
|
Accretable
yield
amortized
to
interest
income
during
the
period
|
|
Reclassification
from
non-accretable
difference
|
|
Accretable
yield
at
end
of
period
|
|
In January 2009, we also purchased $3 billion of auto finance loans ("Acquired
Auto Finance Loans") from HSBC Finance with an aggregate outstanding principal
balance of $3.0 billion for a purchase price of $2.8 billion. HSBC
Finance will continue to service the Acquired Auto Finance Loans for us for a fee.
None of the Acquired Auto Finance Loans purchased were subject to the requirements
of SOP 03-3 as all of the loans were current at the time of purchase.
Troubled Debt Restructurings:
Provision for credit losses on loans for which we have modified the terms of the
loan as part of a troubled debt restructuring ("
TDR
Loans"), are determined in accordance with FASB Statement No. 114,
"Accounting by Creditors for Impairment of a Loan" which requires a discounted cash
flow analysis to assess impairment. Interest income on
TDR
Loans is recognized in the same manner as loans which are not TDRs. The
following table presents information about our
TDR
Loans:
|
|
|
|
|
|
|
|
|
|
|
Construction
and
other
real
estate
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for
credit
losses
for
TDR
Loans(1):
|
|
|
|
|
|
Construction
and
other
real
estate
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
Allowance
for
credit
losses
for
TDR
Loans
|
|
|
|
|
|
|
|
|
|
Average balance of
TDR
Loans
|
|
|
Interest
income
recognized
on
TDR
Loans
|
|
|
|
Included in the allowance for credit losses.
|
Concentrations of Credit Risk:
Certain residential mortgage loans have high loan-to-value ("
LTV
") ratios (loans on primary residences with
LTV
ratios equal to or exceeding 90 percent at the time of origination) and
no mortgage insurance, which could result in the potential inability to recover the
entire investment in loans involving foreclosed or damaged properties. We also
offer interest-only residential mortgage loans. These interest-only loans allow
customers to pay only the accruing interest for a period of time, which results in
lower payments during the initial loan period. Depending on a customer's financial
situation, the subsequent increase in the required payment attributable to loan
principal could affect a customer's ability to repay the loan at some future date
when the interest rate resets and/or principal payments are required. Outstanding
balances of high
LTV
and interest-only loans, including loans held for sale, are summarized in the
following table.
|
|
|
|
|
Residential
mortgage
loans
with
high
LTV
and
no
mortgage
insurance
|
|
|
Interest-only
residential
mortgage
loans
|
|
|
|
|
|
Concentrations of first and second liens within the residential mortgage loan
portfolio are summarized in the following table. Amounts in the table exclude loans
held for sale.
Adjustable rate residential mortgage loans include mortgage loans which allow us to
adjust pricing on the loan in line with market movements. At March 31, 2009
and December 31, 2008, we had approximately $9.5 billion and
$10.2 billion, respectively, in adjustable rate residential mortgage loans.
For the remainder of 2009, approximately $3.2 billion of adjustable rate
residential mortgage loans will experience their first interest rate reset. In
2010, approximately $1.3 billion of adjustable rate residential mortgage loans
will experience their first interest rate reset. A customer's financial situation
and the general interest rate environment at the time of the interest rate reset
could affect the customer's ability to repay or refinance the loan after the
adjustment.
6. Allowance for Credit Losses
An analysis of the allowance for credit losses is presented in the following table:
Three Months Ended March 31
|
|
|
|
|
Balance
at
beginning
of
period
|
|
|
Provision
charged
to
income
|
|
|
|
|
|
|
|
|
Allowance
related
to
bulk
loan
purchases
from
HSBC
Finance
|
|
|
|
|
|
Loans held for sale consisted of the following:
|
|
|
|
|
|
|
|
Construction and other real estate
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loans held for sale
|
|
|
We originate commercial loans in connection with our participation in a number of
leveraged acquisition finance syndicates. A substantial majority of these loans
were originated with the intent of selling them to unaffiliated third parties and
are classified as other commercial loans held for sale at March 31, 2009. The
fair value of commercial loans held for sale under this program were
$925 million and $874 million at March 31, 2009 and
December 31, 2008, respectively, all of which are recorded at fair value.
During the first quarter of 2009, the market value of these loans increased due to
narrowing credit spreads. Refer to Note 11, "Fair Value Option" of the
consolidated financial statements for additional information.
During the first quarter of 2009, we sold approximately $1.8 billion of prime
adjustable and fixed rate residential mortgage loans which resulted in gains of
$37 million. The gains and losses from the sale of residential mortgage loans
is reflected as a component of residential mortgage banking revenue in the
accompanying consolidated statement of (loss) income. We retained the servicing
rights in relation to the mortgages upon sale.
Residential mortgage loans held for sale include sub-prime residential mortgage
loans with a fair value of $1.0 billion and $1.2 billion at
March 31, 2009 and December 31, 2008, respectively, and were acquired
from unaffiliated third parties and from HSBC Finance, with the intent of
securitizing or selling the loans to third parties. Also included in residential
mortgage loans held for sale are first mortgage loans originated and held for sale
primarily to various governmental agencies.
Other consumer loans held for sale consist of student loans.
Excluding the commercial loans discussed above, loans held for sale are recorded at
the lower of cost or fair value. The book value of loans held for sale exceeded
fair value at March 31, 2009, resulting in an increase to the related
valuation allowance. This was primarily a result of adverse conditions in the
U.S.
residential mortgage markets. The valuation allowance related to loans held
for sale is presented in the following table.
Three Months Ended March 31
|
|
|
|
|
Balance
at
beginning
of
period
|
|
|
Increase
in
allowance
for
net
reductions
in
market
value
|
|
|
Releases
of
valuation
allowance
for
loans
sold
|
|
|
|
|
|
Loans held for sale are subject to market risk and interest rate risk, in that
their value will fluctuate as a result of changes in market conditions, as well as
the interest rate and credit environment. Interest rate risk for residential
mortgage loans held for sale is partially mitigated through an economic hedging
program to offset changes in the fair value of the mortgage loans held for sale.
Trading related revenues associated with this economic hedging program, which are
included in net interest income and trading (loss) revenues in the consolidated
statement of (loss) income, were gains of $28 million for the three months
ended March 31, 2009, compared with losses of $25 million for the three
months ended March 31, 2008.
Intangible assets consisted of the following:
|
|
|
|
|
Mortgage servicing rights
|
|
|
|
|
|
|
|
|
Mortgage Servicing Rights (
"
MSRs
"
)
A servicing asset is a contract under which estimated future revenues from
contractually specified cash flows, such as servicing fees and other ancillary
revenues, are expected to exceed the obligation to service the financial assets. We
recognize the right to service mortgage loans as a separate and distinct asset at
the time they are acquired or when originated loans are sold.
MSRs are subject to credit, prepayment and interest rate risk, in that their value
will fluctuate as a result of changes in these economic variables. Interest rate
risk is mitigated through an economic hedging program that uses securities and
derivatives to offset changes in the fair value of MSRs. Since the hedging program
involves trading activity, risk is quantified and managed using a number of risk
assessment techniques, which are addressed in more detail in the 2008
Form 10-K.
Residential Mortgage Servicing Rights
Residential MSRs are initially measured at fair value at the time that the related
loans are sold and are remeasured at fair value at each reporting date (the fair
value measurement method). Changes in fair value of the asset are reflected in
residential mortgage banking revenue in the period in which the changes occur. Fair
value is determined based upon the application of valuation models and other
inputs. The valuation models incorporate assumptions market participants would use
in estimating future cash flows. The reasonableness of these valuation models is
periodically validated by reference to external independent broker valuations and
industry surveys.
Fair value of residential MSRs is calculated using the following critical
assumptions:
|
|
|
Annualized
constant
prepayment
rate
(CPR)
|
|
|
|
|
|
|
|
|
Residential MSRs activity is summarized in the following table:
Three Months Ended March 31
|
|
|
|
|
|
|
|
|
|
|
Additions
related
to
loan
sales
|
|
|
Changes
in
fair
value
due
to:
|
|
|
Change
in
valuation
inputs
or
assumptions
used
in
the
valuation
models
|
|
|
Realization
of
cash
flows
|
|
|
|
|
|
Information regarding residential mortgage loans serviced for others, which are not
included in the consolidated balance sheet, is summarized in the following table:
|
|
|
|
|
Outstanding
principal
balances
at
period
end
|
|
|
Custodial
balances
maintained
and
included
in
noninterest
bearing
deposits
at
period
end
|
|
|
Servicing fees collected are included in residential mortgage banking revenue and
totaled $33 million and $31 million during the three months ended
March 31, 2009 and 2008, respectively.
Commercial Mortgage Servicing Rights
Commercial MSRs, which are accounted for using the lower of cost or fair value
method, totaled $7 million and $8 million at March 31, 2009 and
December 31, 2008, respectively.
Other intangible assets, which result from purchase business combinations, are
comprised of favorable lease arrangements of $23 million and $24 million
at March 31, 2009 and December 31, 2008, respectively, and customer lists
in the amount of $9 million at March 31, 2009 and December 31, 2008.
Goodwill was $2,647 million at March 31, 2009 and December 31, 2008.
As a result of the continued deterioration in economic and credit conditions in
the
U.S.
, we performed an interim impairment test of the goodwill of our Global Banking and
Markets reporting unit as of March 31, 2009. As a result of this test, the
fair value of our Global Banking and Markets reporting unit continues to exceed its
carrying value including goodwill. Our goodwill impairment testing performed for
our Global Banking and Markets reporting unit, however, is highly sensitive to
certain assumptions and estimates used. In the event of further significant
deterioration in the economic and credit conditions beyond the levels already
reflected in our cash flow forecasts occur, or changes in the strategy or
performance of our business or product offerings occur, an additional interim
impairment test will again be required.
10. Derivative Financial Instruments
In our normal course of business, we enter into derivative contracts for market
making and risk management purposes. For financial reporting purposes, a derivative
instrument is designated in one of following categories: (a) financial
instruments held for trading, (b) hedging instruments designated in a
qualifying FASB Statement No. 133, "Accounting for Derivative Instruments
and Hedging Activities ("SFAS 133") hedge or (c) a non-qualifying
economic hedge. The derivative instruments held are predominantly swaps, futures,
options and forward contracts. All freestanding derivatives including bifurcated
embedded derivatives are stated at fair value in accordance with SFAS 133.
Where we enter into enforceable master netting arrangements with counterparties,
the master netting arrangements permit us to net those derivative asset and
liability positions and to offset cash collateral held and posted with the same
counterparty.
Derivatives Held for Risk Management Purposes
Our risk management policy requires us to identify, analyze and manage risks
arising from the activities conducted during our normal course of business. We use
derivative instruments as an asset and liability management tool to manage our
exposures in interest rate, foreign currency and credit risks in existing assets
and liabilities, commitments and forecasted transactions. The accounting for
changes in fair value of a derivative instrument will depend on whether the
derivative has been designated and qualifies for SFAS 133 hedge accounting.
SFAS 133 hedge accounting requires detailed documentation that describes the
relationship between the hedging instrument and the hedged item, including, but not
limited to, the risk management objectives and hedging strategy, and the methods to
assess the effectiveness of the hedging relationship. We designate derivative
instruments to offset the fair value risk and cash flow risk arising from
fixed-rate and floating-rate assets and liabilities as well as forecasted
transactions. We assess the hedging relationships, both at the inception of the
hedge and on an ongoing basis, using a regression approach, to determine whether
the designated hedging instrument is highly effective in offsetting changes in the
fair value or cash flows of the hedged item. We discontinue hedge accounting when
we determine that a derivative is not expected to be effective going forward or has
ceased to be highly effective as a hedge, the hedging instrument is terminated, or
when the designation is removed by us.
Fair Value Hedges
In the normal course of business, we hold fixed-rate loans and securities and issue
fixed-rate senior and subordinated debt obligations. The fair value of fixed-rate
(USD and non-USD denominated) assets and liabilities fluctuates in response to
changes in interest rates or foreign currency exchange rates. We utilize interest
rate swaps, interest rate forward and futures contracts and foreign currency swaps
to minimize the effect on earnings caused by interest rate and foreign currency
volatility.
For SFAS 133 reporting purposes, changes in fair value of a derivative
designated in a qualifying fair value hedge, along with the changes in the fair
value of the hedged asset or liability that is attributable to the hedged risk, are
recorded in current period earnings. We recognized net gains (losses) of
approximately $4 million and $(0.3) million for the period ending
March 31, 2009 and 2008, respectively, reported as other income (loss) in the
consolidated statements of (loss) income, which represented the ineffective portion
of all fair value hedges.
The changes in fair value of the hedged item designated in a SFAS 133 hedge
are captured as an adjustment to the carrying value of the hedged item (basis
adjustment). If the hedging relationship is terminated and the hedged item
continues to exist, the basis adjustment is amortized over the remaining term of
the original hedge. We recorded basis adjustments for unexpired fair value hedges
which (decreased) increased the carrying value of our debt by $(75) million
and $38 million at March 31, 2009 and 2008, respectively. We amortized
$1 million of basis adjustments related to terminated and/or re-designated
fair value hedge relationships for the periods ending March 31, 2009 and 2008.
The following table presents the fair value of derivative instruments that are
designated and qualifying as fair value hedges and their location on the balance
sheet.
|
|
Derivative Liabilities(a)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivatives
in
Statement
133
Fair
Value
Hedging
Relationships
|
|
|
|
|
|
|
|
|
|
|
Interest,
taxes
&
other
liabilities
|
|
|
|
|
|
|
|
|
|
|
The derivative assets and derivative liabilities presented above may be
eligible for netting under FIN 39 and consequently may be shown
net against a different line item on the consolidated balance sheet.
The balance sheet categories in the above table represent the location
of the assets and liabilities absent the netting of the balances.
|
The following table presents the gains and losses on derivative instruments
designated and qualifying as hedging instruments in fair value hedges and their
locations on the consolidated statement of (loss) income.
|
|
|
|
Location of Gain or (Loss)
|
|
|
|
|
For the Period Ending March 31
|
|
|
|
|
|
|
Derivatives
in
Statement
133
Fair
Value
Hedging
Relationships
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The gains and losses associated with the contracts were presented in
multiple line on the consolidated statement of (loss) income as shown
above.
|
The following table presents information on gains and losses on the hedged items in
fair value hedges and their location on the consolidated statement of (loss)
income.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Period Ending March 31,
|
|
|
|
|
Interest rate contracts/
AFS
Securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
contracts/commercial loans
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
contracts/subordinated debt
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash Flow Hedges
We own or issue floating rate financial instruments and enter into forecasted
transactions that give rise to variability in cash flows. We also hedge the
variability in interest cash flows arising from on-line savings deposits. As a part
of our risk management strategy, we use interest rate swaps, currency swaps and
futures contracts to mitigate risk associated with variability in the cash flows.
Changes in fair value associated with the effective portion of a derivative
instrument designated as a cash flow hedge are recognized initially in other
comprehensive income (loss). When the cash flows for which the derivative is
hedging materialize and are recorded in income or expense, the associated gain or
loss from the hedging derivative previously recorded in other comprehensive income
(loss) is released into the corresponding income or expense account. If a cash flow
hedge of a forecasted transaction is de-designated because it is no longer highly
effective, or if the hedge relationship is terminated, the cumulative gain or loss
on the hedging derivative will continue to be reported in other comprehensive
income (loss) unless the hedged forecasted transaction is no longer expected to
occur, at which time the cumulative gain or loss is released into profit or loss.
For the three months ending March 31, 2009 and 2008, $17 million and
$19 million of losses, respectively, related to terminated and/or
re-designated cash flow hedge relationships were amortized to earnings from other
comprehensive income (loss). During the next twelve months, we expect to amortize
$38 million of remaining losses to earnings resulting from these terminated
and/or re-designated cash flow hedges.
The following table presents the fair value of derivative instruments that are
designated and qualifying as cash flow hedges and their location on the balance
sheet.
|
|
Derivative Liabilities(a)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivatives
in
Statement
133
Cash
Flow
Hedging
Relationships
|
|
|
|
|
|
|
|
|
|
|
Interest,
taxes
&
other
liabilities
|
|
|
|
|
|
|
|
|
|
|
The derivative assets and derivative liabilities presented above may be
eligible for netting under FIN 39 and consequently may be shown
net against a different line item on the consolidated balance sheet.
Balance sheet categories in the above table represent the location of
the assets and liabilities absent the netting of the balances.
|
The following table presents information on gains and losses on derivative
instruments designated and qualifying as hedging instruments in cash flow hedges
and their locations on the income statement.
|
|
|
|
|
|
For the Period Ending March 31
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading and Other Derivatives
We enter into derivative instruments for short-term profit taking purposes, to
repackage risks and structure trades to facilitate clients' needs for various risk
taking and risk modification purposes. We manage our risk exposure by entering into
offsetting derivatives with other financial institutions to mitigate the market
risks, in part or in full, arising from our trading activities with our clients. In
addition, we also enter into buy protection credit derivatives with other market
participants to manage our counterparty credit risk exposure. Where we enter into
derivatives for trading purposes, realized and unrealized gains and losses are
recognized as Trading (Loss) Revenue. Credit losses arising from counterparty risks
on over-the-counter derivative instruments and offsetting buy protection credit
derivative positions are recognized as an adjustment to the fair value of the
derivatives and are recorded in trading revenue (loss).
Derivative instruments designated as economic hedges that do not qualify for
SFAS 133 hedge accounting are recorded in a similar manner as derivative
instruments held for trading. Realized and unrealized gains and losses are
recognized in other income (loss) while the derivative asset or liability positions
are reflected as other assets or other liabilities. As of March 31, 2009, we
have entered into credit default swaps which are designated as economic hedges
against the credit risks within our loan portfolio and certain own debt issuances.
In the event of an impairment loss occurring in a loan that is economically hedged,
the impairment loss is recognized as provision for credit losses while the gain on
the credit default swap is recorded as other income (loss). In addition, we also
designated certain forward purchase or sale of to-be-announced (TBA) securities to
economically hedge mortgage servicing rights. Changes in the fair value of TBA
positions, which are considered derivatives, are recorded in residential mortgage
banking revenue.
The following table presents the fair value of derivative instruments held for
trading purposes and their location on the balance sheet.
|
|
Derivative Liabilities(a)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Derivatives
not
Designated
as
Hedging
Instruments
under
Statement
133
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign
exchange
contracts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Precious
Metals
contracts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table presents the fair value of derivative instruments held for
other purposes and their location on the balance sheet.
|
|
Derivative Liabilities(a)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
Derivatives
not
Designated
as
Hedging
Instruments
under
Statement
133
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign
exchange
contracts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The derivative assets and derivative liabilities presented above may be
eligible for netting under FIN 39 and consequently may be shown
net against a different line item on the consolidated balance sheet.
Balance sheet categories in the above table represent the location of
the assets and liabilities absent the netting of the balances.
|
The following table presents information on gains and losses on derivative
instruments held for trading purposes and their locations on the statement of
(loss) income.
|
|
|
|
|
|
|
|
|
For the Three Months Ended March 31,
|
|
|
|
|
|
Trading Derivatives not Designated as Hedging Instruments under
Statement 133
|
|
|
|
|
|
|
|
Foreign exchange contracts
|
|
|
|
|
|
|
|
Precious Metals contracts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The following table presents information on gains and losses on derivative
instruments held for other purposes and their locations on the statement of (loss)
income.
|
|
|
|
|
|
For the Three Months Ended March 31,
|
|
|
|
|
|
Other
Derivatives
not
Designated
as
Hedging
Instruments
under
Statement
133
|
|
|
|
|
|
|
|
Foreign
exchange
contracts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit-Risk-Related Contingent Features
We enter into total return swap, interest rate swap, cross-currency swap and
credit default swap contracts, amongst others which contain provisions that require
us to maintain a specific credit rating from each of the major credit rating
agencies. Sometimes the derivative instrument transactions are a part of broader
structured products transaction. As of March 31, 2009, we were given credit
ratings of AA and Aa3 by S&P and Moody's respectively. We were given a
short-term debt rating at March 31, 2009 of A-1+ and P-1 by S&P and
Moody's respectively. If our credit ratings were to fall below our current ratings,
the counterparties to our derivative instruments could demand additional collateral
to be posted with them. The amount of additional collateral required to be posted
will depend on whether we are downgraded by one or more notches as well as whether
the downgrade is in relation to our long-term or short-term ratings. The aggregate
fair value of all derivative instruments with credit-risk-related contingent
features that are in a liability position as of March 31, 2009, is
$18 billion for which we have posted collateral of $15 billion in the
normal course of business.
In the event of a credit downgrade, we do not expect our long-term ratings to go
below A2 and A+ and our short-term ratings to go below P-2 and A-1 by Moody's and
S&P, respectively. The following tables summarize our obligation to post
additional collateral (from the current collateral level) in certain hypothetical
"commercially reasonable" downgrade scenarios. It is not appropriate to accumulate
or extrapolate information presented in the table below to determine our total
obligation because the information presented to determine our obligation in
hypothetical rating scenarios is not mutually exclusive.
We would be required to post $488 million of additional collateral on a total
return swaps if we are not rated by any two of the rating agencies at least A-1
(Moody's), A+ (Fitch), A+ (S&P), or not rated A (high) by DBRS.
Notional Value of Derivative Contracts
The following table summarizes the notional values of derivative contracts.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Swaps,
futures
and
forwards
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodities,
equities
and
precious
metals:
|
|
|
Swaps,
futures
and
forwards
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
HSBC complies with International Financial Reporting Standards for its financial
reporting. We have elected to apply the fair value option to selected financial
instruments under FASB Statement No. 159, "The Fair Value Option for Financial
Assets and Financial Liabilities", ("SFAS No. 159") to align the
measurement attributes of those instruments under U.S. GAAP and IFRSs and to
simplify the accounting model applied to those financial instruments. We elected to
apply the fair value option ("FVO") reporting to commercial leveraged acquisition
finance loans and unfunded commitments which are classified as held for sale,
certain fixed rate long-term debt issuances, and hybrid instruments which include
all structured notes and structured deposits which contained embedded derivatives.
Changes in fair value for these assets and liabilities which are accounted for
under FVO are reported as a Gain on instruments at fair value and related
derivatives in the consolidated statement of (loss) income.
Loans
We elected to apply FVO to all commercial leveraged acquisition finance loans
and unfunded commitments. The election allows us to account for these loans and
commitments at fair value which is consistent with the manner in which the
instruments are managed. As of March 31, 2009, commercial leveraged
acquisition finance loans and unfunded commitments of $925 million carried at
fair value had an aggregate unpaid principal balance of $1,347 million. As of
December 31, 2008, commercial leveraged acquisition finance loans and unfunded
commitments of $874 million carried at fair value had an aggregate unpaid
principal balance of $1,320 million. These loans are included in loans held
for sale in the consolidated balance sheet. Interest from these loans is recorded
as interest income in the consolidated statement of (loss) income. Changes in fair
value of these loans resulted in a gain of $35 million and a loss of
$141 million during the three months ended March 31, 2009 and 2008,
respectively, which is included in gain on instruments designated at fair value and
related derivatives in the consolidated statement of (loss) income. Because
substantially all of the loans elected for the fair value option are floating rate
assets, changes in their fair value are primarily attributable to changes in
loan-specific credit risk.
As of March 31, 2009 and December 31, 2008, no loans for which the fair
value option has been elected are 90 days or more past due or are on
non-accrual status.
Long-Term Debt (Own Debt Issuances)
We elected to apply FVO for fixed rate long-term debt for which we had
applied SFAS 133 fair value hedge accounting. The election allows us to
achieve similar hedge accounting effect without meeting the vigorous SFAS 133
hedge accounting requirements. We measure the fair value of the debt issuances
based on inputs observed in the secondary market. Changes in fair value of these
instruments are attributable to changes of our own credit risk and the interest
rate.
Fixed rate debt accounted for under FVO at March 31, 2009 totaled
$1,466 billion and had an aggregate unpaid principal balance of
$1,750 million. Fixed rate debt accounted for under FVO at December 31,
2008 totaled $1,668 billion and had an aggregate unpaid principal balance of
$1,750 million.
During the three months ended March 31, 2009 and 2008, we recorded a gain of
$202 million and $56 million, respectively, resulting from changes in the
fair value of the fixed rate debt accounted for under FVO which is included in gain
on instruments designated at fair value and related derivatives in the consolidated
statement of (loss) income. Changes in our own credit risk accounted for
$111 million gain in addition to a $91 million gain attributable to
changes in the benchmark interest rate. Interest paid on the fixed rate debt
elected for FVO is recorded as interest expense in the consolidated statement of
(loss) income.
Hybrid Instruments
Upon adoption of SFAS No. 155, "Accounting for Certain Hybrid
Financial Instruments" ("SFAS No. 155"), we elected to measure all hybrid
instruments issued after January 1, 2006 that contain embedded derivatives
which should be bifurcated from the debt host at fair value. Such election has
reduced the differences between IFRSs and U.S. GAAP. SFAS No. 159
has incorporated accounting requirements similar to SFAS No. 155 and
because SFAS No. 159 has a broader application than
SFAS No. 155, we elected the fair value option available under
SFAS No. 159 to all hybrid instruments, inclusive of structured notes and
structured deposits, issued after January 1, 2006.
As of March 31, 2009, interest bearing deposits in domestic offices included
$2,548 million of structured deposits accounted for under FVO which had an
unpaid principal balance of $2,600 million. Long-term debt at March 31,
2009 included structured notes of $1,060 million accounted for under FVO which
had an unpaid principal balance of $1,338 million. As of December 31,
2008, interest bearing deposits in domestic offices included $2,293 million of
structured deposits accounted for under FVO which had an unpaid principal balance
of $2,386 million. Long-term debt at December 31, 2008 included
structured notes of $959 million accounted for under FVO which had an unpaid
principal balance of $1,242 million. Interest incurred was recorded as
interest expense in the consolidated statement of (loss) income. As a result of
remeasuring structured deposits and structured notes at fair value, we recorded a
gain of $16 million and $72 million during the three months ended
March 31, 2009 and 2008, respectively, as a component of gain on instruments
designated at fair value and related derivatives in the consolidated statement of
(loss) income. Changes in our own credit risk accounted for $28 million and
$37 million of the gain during the three months ended March 31, 2009 and
2008, respectively.
Components of Gain on instruments at fair value and related
derivatives
Gain on instruments at fair value and related hedges includes the changes in
fair value related to both interest and credit risk as well as the mark-to-market
adjustment on derivatives related to the debt designated at fair value and net
realized gains or losses on these derivatives. The components of gain on
instruments at fair value and related derivatives related to the changes in fair
value of fixed rate debt accounted for under FVO are as follows:
Three Months Ended March 31, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
mark-to-market
on
financial
instruments
designated
at
fair
value
|
|
|
|
|
Mark-to-market
on
the
related
derivatives
|
|
|
|
|
Net
realized
gain
(losses)
on
the
related
derivatives
|
|
|
|
|
Gain
(loss)
on
instruments
designated
at
fair
value
and
related
derivatives
|
|
|
|
|
Three Months Ended March 31, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
mark-to-market
on
financial
instruments
designated
at
fair
value
|
|
|
|
|
Mark-to-market
on
the
related
derivatives
|
|
|
|
|
Net
realized
gain
(losses)
on
the
related
derivatives
|
|
|
|
|
Gain
(loss)
on
instruments
designated
at
fair
value
and
related
derivatives
|
|
|
|
|
The following table presents our effective tax rates.
Three Months Ended March 31
|
|
|
Statutory federal income tax rate
|
|
|
|
|
Increase
(decrease)
in
rate
resulting
from:
|
|
|
|
|
State
and
local
taxes,
net
of
federal
benefit
|
|
|
|
|
Sale
of
minority
stock
interest
|
|
|
|
|
|
|
|
|
|
Validation
of
deferred
tax
balances
|
|
|
|
|
Low
income
housing
and
other
tax
credits
|
|
|
|
|
Effects
of
foreign
operations
|
|
|
|
|
|
|
|
|
|
IRS
Audit
Effective
Settlement
|
|
|
|
|
State
rate
change
effect
on
net
deferred
tax
assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In March, as part of a corporate restructuring within HSBC's Private Banking
business, our 5.24% indirect interest in HSBC Private Bank (Suisse)
S.A.
to HSBC Private Bank Holdings (Suisse)
S.A.
, the majority shareholder, for cash proceeds of $350 million. A gain of
$33 million was reported on the books. For
US
tax purposes, the transaction is treated as a dividend in the amount of the
sale proceeds to the extent of PBRS' earnings and profits.
The Internal Revenue Service's audit of our 2004 and 2005 federal income tax
returns was effectively settled during the quarter, resulting in an $8 million
decrease in tax expense. We are currently under audit by various state and local
tax jurisdictions, and although one or more of these audits may be concluded within
the next 12 months, it is not possible to reasonably estimate the impact on
our uncertain tax positions at this time. The Internal Revenue Service will begin
its audit of our 2006 and 2007 returns in the second quarter.
We recognize deferred tax assets and liabilities for the future tax consequences
related to differences between the financial statement carrying amounts of existing
assets and liabilities and their respective tax bases, and for tax credits and net
operating losses. Our net deferred tax assets, net of both deferred tax liabilities
and valuation allowances, totaled $1.5 billion and $1.4 billion as of
March 31, 2009 and December 31, 2008, respectively. We evaluate our
deferred tax assets for recoverability using a consistent approach which considers
the relative impact of negative and positive evidence, including our historical
financial performance, projections of future taxable income, future reversals of
existing taxable temporary differences, tax planning strategies and any carryback
availability. In evaluating the need for a valuation allowance, we estimate future
taxable income based on management approved business plans, future capital
requirements and ongoing tax planning strategies, including capital support from
HSBC necessary as part of such plans and strategies. This process involves
significant management judgment about assumptions that are subject to change from
period to period.
Based on our forecasts of future taxable income, which include assumptions about
the depth and severity of further home price depreciation and the
U.S. recession, including unemployment levels and their related impact on
credit losses, we currently anticipate that our results of future operations will
generate sufficient taxable income to allow us to realize substantially all of our
deferred tax assets. Since the recent market conditions have created significant
downward pressure and volatility on our near-term pre-tax book income, our analysis
of the realizability of the deferred tax assets significantly discounts any future
taxable income expected and relies to a greater extent on continued capital support
from our parent, HSBC, including tax planning strategies implemented in relation to
such support. HSBC has indicated they are fully committed and have the capacity to
provide such support. In considering only the expected benefits of tax planning
strategies, it is more likely than not that the deferred tax asset would be fully
realized before the end of the applicable carryforward period. Absent the capital
support from HSBC and implementation of the related tax planning strategies, we
would be required to record a valuation allowance against our deferred tax assets.
We are included in HSBC North America's consolidated Federal income tax return and
in various state income tax returns. We have entered into tax allocation agreements
with HSBC North America and its subsidiary entities included in the consolidated
return which govern the timing and the current amount of taxes to be paid or
received by the various entities. The evaluation of the recoverability of the
deferred tax assets is performed at the HSBC North America legal entity level and
considers our activities and performance together with the tax planning strategies
identified in reaching a conclusion on recoverability.
If future events differ from our current forecasts, a valuation allowance may need
to be established which could have a material adverse effect on our results of
operations, financial condition and capital position. We will continue to update
our assumptions and forecasts of future taxable income and assess the need for a
valuation allowance, including the consideration of the prudence and feasibility of
the various tax planning strategies, some of which rely on the level of capital
support from HSBC.
13. Pensions and other Post Retirement Benefits
The components of pension expense for the domestic defined benefit pension plan
reflected in our consolidated statement of income (loss) are shown in the table
below and reflect the portion of the pension expense of the combined HSBC North
America pension plan which has been allocated to HSBC USA Inc.:
Three Months Ended March 31,
|
|
|
|
|
Service
cost -
benefits
earned
during
the
period
|
|
|
Interest
cost
on
projected
benefit
obligation
|
|
|
Expected
return
on
assets
|
|
|
|
|
|
|
|
|
Pension expense increased during the first quarter of 2009 due to the amortization
of a portion of the actuarial losses incurred by the plan as a result of the
volatile capital markets that occurred in 2008.
Components of the net periodic benefit cost for our postretirement benefits other
than pensions are as follows:
Three Months Ended March 31,
|
|
|
|
|
Service
cost -
benefits
earned
during
the
period
|
|
|
|
|
|
|
|
|
Transition
amount
amortization
|
|
|
Net
periodic
postretirement
benefit
cost
|
|
|
14. Related Party Transactions
In the normal course of business, we conduct transactions with HSBC and its
subsidiaries. These transactions occur at prevailing market rates and terms. All
extensions of credit by HSBC Bank
USA
to other HSBC affiliates (other than FDIC-insured banks) are legally required
to be secured by eligible collateral. The following table presents related party
balances and the income and expense generated by related party transactions:
|
|
|
|
|
|
|
|
|
|
|
Interest
bearing
deposits
with
banks
|
|
|
Federal
funds
sold
and
securities
purchased
under
resale
agreements
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading assets and liabilities exclude the impact of netting in
accordance with FASB Interpretation No. 39 and FSP
FIN 39-1.
|
Three Months Ended March 31
|
|
|
|
|
|
|
|
|
|
|
Net interest income (loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
HSBC
Markets
(USA)
Inc.
("HMUS")
|
|
|
|
|
|
Gains
on
sales
of
refund
anticipation
loans
to
HSBC
Finance
|
|
|
Other
HSBC
affiliates
income
|
|
|
|
|
|
Support
services
from
HSBC
affiliates:
|
|
|
|
|
|
|
|
|
HSBC
Technology &
Services
(
USA
)
Inc.
("HTSU")
|
|
|
|
|
|
Total
support
services
from
HSBC
affiliates
|
|
|
Transactions Conducted with HSBC Finance Corporation
•
In January 2009, we purchased the GM and UP Portfolios from HSBC Finance with an
outstanding principal balance of $6.3 billion and $6.1 billion,
respectively, at the time of sale, at a total net premium of $113 million.
Premiums paid are amortized to interest income over the estimated life of the
receivables purchased. HSBC Finance retained the customer account relationships
associated with these credit card portfolios. On a daily basis we purchase all new
credit card loan originations for the GM and UP Portfolios from HSBC Finance.
During the three months ended March 31, 2009, we purchased $4.2 billion
of GM and UP loan originations at fair market value as determined by an independent
third party. HSBC Finance continues to service these credit card loans for a fee.
Fees paid relating to the servicing of these loans totaled $55 million for the
three months ended March 31, 2009. At March 31, 2009, HSBC Finance was
servicing GM and UP loans for us with an outstanding principal balance of
$5.9 billion and $6.0 billion, respectively.
•
In January 2009, we also purchased certain auto finance loans with an outstanding
principal balance of $3.0 billion from HSBC Finance at the time of sale, with
a total net discount of $226 million. Discounts are amortized to interest
income over the estimated life of the receivables purchased. HSBC Finance continues
to service the auto finance loans for us for a fee. Fees paid relating to the
servicing of these loans totaled $14 million for the three months ended
March 31, 2009. At March 31, 2009, HSBC Finance was servicing auto
finance loans for us of $2.6 billion.
•
We purchased $1 billion and $1.1 billion of other credit card receivables
originated by HSBC Finance during the three months ended March 31, 2009 and
2008, respectively, at fair market value, as determined by an independent third
party. Premiums paid are amortized to interest income over the estimated life of
the receivables purchased. HSBC Finance continues to service the customer
receivables and charges us a servicing fee. Fees paid relating to the servicing of
these credit card receivables during the three months ended March 31, 2009 and
2008 totaled $16 million and $11 million, respectively. At March 31,
2009 and December 31, 2008, HSBC Finance was servicing $1.9 billion and
$2.0 billion, respectively, of credit card receivables.
•
We purchased $3.6 billion and $4.5 billion of private label credit card
receivables originated by HSBC Finance during the three months ended March 31,
2009 and 2008, respectively, at fair market value, as determined by an independent
third party. Premiums paid are amortized to interest income over the estimated life
of the receivables purchased. HSBC Finance continues to service the customer
receivables and charge us a servicing fee. Fees paid relating to the servicing of
private label credit card receivables during the three months ended March 31,
2009 and 2008 totaled $93 million and $96 million, respectively. At
March 31, 2009 and December 31, 2008, HSBC Finance was servicing
$15.5 billion and $17.1 billion, respectively, of private label credit
card receivables.
•
Support services from HSBC affiliates include charges by HSBC Finance under various
service level agreements for loan origination and servicing, including the
servicing of the portfolios previously discussed, as well as other operational and
administrative support. Fees paid for these services totaled $189 million and
$121 million for the three months ended March 31, 2009 and 2008,
respectively.
•
In the second quarter of 2008, HSBC Finance launched a new program with HSBC
Bank
USA
to sell loans originated in accordance with the Federal Home Loan Mortgage
Corporation's ("
Freddie
Mac
") underwriting criteria to HSBC Bank
USA
who then sells them to
Freddie
Mac
under its existing
Freddie
Mac
program. During the three months ended March 31, 2009, $51 million
of real estate secured loans were purchased by HSBC Bank
USA
under this program, with a total premium of $1 million. This program was
discontinued in February 2009 as a result of the decision to discontinue new
receivable originations in HSBC Finance's Consumer Lending business.
•
At March 31, 2009 and December 31, 2008, HSBC Finance was servicing
$785 million and $877 million, respectively, of private label commercial
and closed end loans. HSBC Finance continues to service the customer receivables
and charge us a servicing fee. Fees paid relating to the servicing of private label
commercial and closed end loans receivables for the three months ended
March 31, 2009 and 2008 totaled $3 million and $4 million,
respectively.
•
Our wholly-owned subsidiaries, HSBC Bank
USA
and HSBC Trust Company (
Delaware
),
N.A.
("HTCD"), are the originating lenders for a federal income tax refund
anticipation loan program for clients of third party tax preparers, which are
managed by HSBC Finance. By agreement, HSBC Bank
USA
and HTCD process applications, fund and subsequently sell these loans to HSBC
Finance. HSBC Bank USA and HTCD originated approximately $9 billion and
$13 billion during the three months ended
March 31 2009
and 2008, respectively, that were sold to HSBC Finance. This resulted in
gains of $10 million and $12 million during the three months ended
March 31 2009
and 2008, respectively.
•
Certain of our consolidated subsidiaries have revolving lines of credit totaling
$1.0 billion with HSBC Finance. There were no balances outstanding under any
of these lines of credit at March 31, 2009 or December 31, 2008.
•
We extended a secured $1.5 billion uncommitted credit facility to HSBC Finance
in December 2008. This is a 364 day credit facility and there were no balances
outstanding at March 31, 2009 or December 31, 2008.
•
We extended a $1.0 billion committed credit facility to HSBC Bank
Nevada
, a subsidiary of HSBC Finance, in December 2008. This is a 364 day credit
facility and there were no balances outstanding at March 31, 2009 or
December 31, 2008.
•
We service a portfolio of residential mortgage loans owned by HSBC Finance with an
outstanding principal balance of $1.8 billion and $2.0 billion at
March 31, 2009 and
December 31 2008
, respectively. The related servicing fee income was $2 million and
3 million during the three months ended
March 31 2009
and 2008, respectively.
•
HSBC Finance services a portfolio of residential mortgage loans for us with an
outstanding principal balance of $2.0 billion and $2.1 billion at
March 31, 2009 and December 31, 2008, respectively. Fees paid relating to
the servicing of this portfolio totaled $1 million and $2 million for the
three months ended March 31, 2009 and 2008, respectively.
Transactions Conducted with HMUS
We utilize HSBC Securities (USA) Inc. ("
HSI
") for broker dealer, debt and preferred stock underwriting, customer referrals,
loan syndication and other treasury and traded markets related services, pursuant
to service level agreements. Fees charged by
HSI
for broker dealer, loan syndication services, treasury and traded markets
related services are included in support services from HSBC affiliates. Debt
underwriting fees charged by
HSI
are deferred as a reduction of long-term debt and amortized to interest
expense over the life of the related debt. Preferred stock issuance costs charged
by
HSI
are recorded as a reduction of capital surplus. Customer referral fees paid
to
HSI
are netted against customer fee income, which is included in other fees and
commissions.
We have extended loans and lines, some of them uncommitted, to HMUS and its
subsidiaries in the amount of $2.9 billion, of which $1.3 billion and
$1.5 billion was outstanding at March 31, 2009 and December 31,
2008, respectively. Interest income on these loans and lines for the three months
ended March 31, 2009 and 2008 totaled $11 million and $8 million,
respectively.
Other Transactions with HSBC Affiliates
In March 2009, we sold an equity investment in HSBC Private Bank (Suisse) SA
("PBRS") to another HSBC affiliate for cash, resulting in a gain of
$33 million in the first quarter of 2009.
We have an unused line of credit with HSBC Bank plc of $2.5 billion at
March 31, 2009 and December 31, 2008.
We have extended loans and lines of credit to various other HSBC affiliates
totaling $1.7 billion, of which $615 million and $715 million was
outstanding at March 31, 2009 and December 31, 2008, respectively.
Interest income on these lines for the three months ended March 31, 2009 and
2008 totaled $3 million and $1 million, respectively.
Historically, we have provided support to several HSBC affiliate sponsored asset
backed commercial paper (ABCP) conduits by purchasing A-1/P-1 rated commercial
paper issued by them. We have continued to provide support to these conduits by
purchasing ABCP. At March 31, 2009 and December 31, 2008, no ABCP was
held.
We utilize other HSBC affiliates primarily for treasury and traded markets services
and, to a lesser extent, for global resourcing initiatives. Fees billed to us for
these services are included in support services from HSBC affiliates and totaled
$72 million and $62 million during the three months ended March 31,
2009 and 2008, respectively.
We routinely enter into derivative transactions with HSBC Finance and other HSBC
affiliates as part of a global HSBC strategy to offset interest rate or other
market risks associated with debt issues and derivative contracts with unaffiliated
third parties. The notional value of derivative receivables related to these
contracts was approximately $760 billion and $904 billion at
March 31, 2009 and December 31, 2008, respectively. The net credit
exposure (defined as the recorded fair value of derivative receivables) related to
the contracts was approximately $25 billion and $32 billion at
March 31, 2009 and December 31, 2008, respectively. Our Global Banking
and Markets business accounts for these transactions on a mark to market basis,
with the change in value of contracts with HSBC affiliates substantially offset by
the change in value of related contracts entered into with unaffiliated third
parties.
In December 2008, HSBC Bank
USA
entered into derivative transactions with another HSBC affiliate to offset
the risk associated with the contingent "loss trigger" options embedded in certain
leveraged super senior (
LSS
) tranched credit default swaps. These transactions are expected to significantly
reduce income volatility for HSBC Bank
USA
by transferring the volatility to the affiliate.
Technology and some centralized operational services and beginning in January 2009,
human resources, corporate affairs and other shared services in
North America
are centralized within HSBC Technology and Services (USA) Inc. ("HTSU.")
Technology related assets and software purchased subsequent to January 1, 2004
are generally purchased and owned by HTSU. HTSU also provides certain item
processing and statement processing activities which are included in Support
services from HSBC affiliates in the consolidated statement of (loss) income.
Our domestic employees participate in a defined benefit pension plan sponsored by
HSBC North America. Additional information regarding pensions is provided in
Note 13, "Pension and Other Postretirement Benefits" of the consolidated
financial statements.
Employees participate in one or more stock compensation plans sponsored by HSBC.
Our share of the expense of these plans on a pre-tax basis was approximately
$18 million and $17 million for the three months ended March 31,
2009 and 2008, respectively. As of March 31, 2009, our share of compensation
cost related to nonvested stock compensation plans was approximately
$61 million, which is expected to be recognized over a weighted-average period
of 1.4 years. A description of these stock compensation plans can be found in
Note 24, "Share-based Plans," of the 2008 Form 10-K.
We have five distinct segments that we utilize for management reporting and
analysis purposes, which are generally based upon customer groupings, as well as
products and services offered.
Our segment results are presented under International Financial Reporting Standards
("IFRSs") (a non-U.S. GAAP financial measure) as operating results are
monitored and reviewed, trends are evaluated and decisions about allocating
resources, such as employees are made almost exclusively on an IFRSs basis since we
report results to our parent, HSBC in accordance with its reporting basis, IFRSs.
Net interest income of each segment represents the difference between actual
interest earned on assets and interest paid on liabilities of the segment, adjusted
for a funding charge or credit. Segments are charged a cost to fund assets (e.g.
customer loans) and receive a funding credit for funds provided (e.g. customer
deposits) based on equivalent market rates. The objective of these charges/credits
is to transfer interest rate risk from the segments to one centralized unit in
Global Banking and Markets and more appropriately reflect the profitability of
segments.
Certain other revenue and operating expense amounts are also apportioned among the
business segments based upon the benefits derived from this activity or the
relationship of this activity to other segment activity. For segment reporting
purposes, these inter-segment transactions are accounted for as if they were with
third parties and have not been eliminated.
Results for each segment on an IFRSs basis, as well as a reconciliation of total
results under IFRSs to U.S. GAAP consolidated totals, are provided in the
following tables. Descriptions of the significant differences between IFRSs and
U.S. GAAP that impact our results follow the tables.
|
IFRSs Consolidated Amounts
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended March 31, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income (loss)
|
|
|
|
|
|
|
|
|
|
|
|
Loan impairment charges(3)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit (loss) before tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at end of period:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended March 31, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating income (loss)
|
|
|
|
|
|
|
|
|
|
|
|
Loan impairment charges(3)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit (loss) before tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at end of period:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income of each segment represents the difference between
actual interest earned on assets and interest paid on liabilities of
the segment adjusted for a funding charge or credit. Segments are
charged a cost to fund assets (e.g. customer loans) and receive a
funding credit for funds provided (e.g. customer deposits) based on
equivalent market rates.
|
|
|
|
Expenses for the segments include fully apportioned corporate overhead
expenses.
|
|
|
|
The provision assigned to the segments is based on the segments' net
charge offs and the change in allowance for credit losses.
|
|
|
|
IFRS
Adjustments consist of the accounting differences between U.S.
GAAP and IFRSs which have been described more fully below.
|
|
|
|
Represents differences in balance sheet and income statement
presentation between IFRSs and U.S. GAAP.
|
Further discussion of the differences between IFRSs and U.S. GAAP are
presented in Item 2, "Management's Discussion and Analysis of Financial
Condition and Results of Operations" of this Form 10-Q under the caption
"Basis of Reporting." A summary of the significant differences between
U.S. GAAP and IFRSs as they impact our results are presented below:
Deferred loan origination costs and fees
- Certain loan fees and incremental direct loan costs, which would not have
been incurred but for the origination of loans, are deferred and amortized to
earnings over the life of the loan under IFRSs. Certain loan fees and direct
incremental loan origination costs, including internal costs directly attributable
to the origination of loans in addition to direct salaries, are deferred and
amortized to earnings under U.S. GAAP.
Loan origination deferrals under IFRSs are more stringent and result in lower costs
being deferred than permitted under U.S. GAAP. In addition, all deferred loan
origination fees, costs and loan premiums must be recognized based on the expected
life of the receivables under IFRSs as part of the effective interest calculation
while under U.S. GAAP they may be recognized on either a contractual or
expected life basis.
Under IFRSs, net interest income includes the interest element for derivatives
which corresponds to debt designated at fair value. For U.S. GAAP, this is
included in gain on financial instruments designated at fair value and related
derivatives which is a component of other revenues.
Other operating income (Total other revenues)
Derivatives
- Effective January 1, 2008, U.S. GAAP removed the observability
requirement of valuation inputs to recognize the difference between transaction
price and fair value as Day 1 profit and loss and permits recognition up front in
the consolidated statement of (loss) income. Under IFRSs, recognition is
permissible only if the inputs used in calculating fair value are based on
observable inputs. If the inputs are not observable, profit and loss is deferred
and is recognized: (1) over the period of contract, (2) when the data
becomes observable, or (3) when the contract is settled. This causes the net
income under U.S. GAAP to be different than under IFRSs.
Unquoted equity securities
- Under IFRSs, equity securities which are not quoted on a recognized
exchange (MasterCard Class B shares and Visa Class B shares), but for
which fair value can be reliably measured, are required to be measured at fair
value. Securities measured at fair value under IFRSs are classified as either
available for sale securities, with changes in fair value recognized in
shareholders' equity, or as trading securities, with changes in fair value
recognized in income. Under U.S. GAAP, equity securities that are not quoted
on a recognized exchange are not considered to have a readily determinable fair
value and are required to be measured at cost, less any provisions for known
impairment, in other assets.
Loans held for sale
- IFRSs requires loans designated as held for sale at the time of origination
to be treated as trading assets and recorded at their fair market value. Under
U.S. GAAP, loans designated as held for sale are reflected as loans and
recorded at the lower of amortized cost or fair value. Under IFRSs, the income and
expenses related to receivables held for sale are reported in net interest income
on trading. Under U.S. GAAP, the income and expenses related to receivables
held for sale are reported similarly to loans held for investment.
For loans transferred to held for sale subsequent to origination, IFRSs requires
these receivables to be reported separately on the balance sheet but does not
change the measurement criteria. Accordingly, for IFRSs purposes such loans
continue to be accounted for in accordance with IAS 39 with any gain or loss
recorded at the time of sale. U.S. GAAP requires loans that management intends
to sell to be transferred to a held for sale category at the lower of cost or fair
value. Under U.S. GAAP, the component of the lower of cost or fair value
adjustment related to credit risk is recorded in the consolidated statement of
(loss) income as provision for credit losses while the component related to
interest rates and liquidity factors is reported in the consolidated statement of
(loss) income in other revenues.
Fair value option -
LAF
loan reclass
- Certain Leverage Acquisition Finance (
LAF
) Loans were classified as "Trading Assets" for IFRSs and to be consistent, an
irrevocable fair value option was elected on these loans under U.S. GAAP on
January 1, 2008. These loans were classified to "loans and advances" as of
July 1, 2008 under IFRSs pursuant to an amendment to IAS 39. Under
U.S. GAAP, these loans are classified "held for sale" and carried at fair
value due to the irrevocable nature of the fair value option.
Servicing assets
- Under IAS 38, servicing assets are initially recorded on the balance sheet
at cost and amortized over the projected life of the assets. Servicing assets are
periodically tested for impairment with impairment adjustments charged against
current earnings. Under U.S. GAAP, servicing assets are initially recorded on
the balance sheet at fair value. All subsequent adjustments to fair value are
reflected in current period earnings.
Other-than-temporary impairment
- Effective January 1, 2009 under U.S. GAAP, the credit loss
component of an other-than-temporary impairment of a debt security is recognized in
earnings while the remaining portion of the impairment loss is recognized in other
comprehensive income provided a company concludes it does not intend to sell the
security and it is not more-likely-than-not that it will need to sell the security
prior to recovery. Under IFRSs, there is no bifurcation and the entire impairment
is recognized in earnings.
There are also other less significant differences in measuring other-than-temporary
impairment under IFRSs versus U.S. GAAP.
Loan impairment charges (Provision for credit losses)
IFRSs requires a discounted cash flow methodology for estimating impairment on
pools of homogeneous customer loans which requires the incorporation of the time
value of money relating to recovery estimates. Also under IFRSs, future recoveries
on charged-off loans are accrued for on a discounted basis and a recovery asset is
recorded. Subsequent recoveries are recorded to earnings under U.S. GAAP, but
are adjusted against the recovery asset under IFRSs. Interest is recorded based on
collectability under IFRSs.
As discussed above, under U.S. GAAP, the credit risk component of the lower of
cost or fair value adjustment related to the transfer of receivables to held for
sale is recorded in the consolidated statement of (loss) income as provision for
credit losses. There is no similar requirement under IFRSs.
Operating expenses (Total operating expenses)
Pension costs
- Costs under U.S. GAAP are higher than under IFRSs as a result of the
amortization of the amount by which actuarial losses exceed gains beyond the
10 percent "corridor."
Derivatives
- Under U.S. GAAP, derivative receivables and payables with the same
counterparty may be reported on a net basis in the balance sheet when there is an
executed International Swaps and Derivatives Association, Inc. (ISDA) Master
Netting Arrangement. In addition, under U.S. GAAP, fair value amounts
recognized for the obligation to return cash collateral received or the right to
reclaim cash collateral paid are offset against the fair value of derivative
instruments. Under IFRSs, these agreements do not necessarily meet the requirements
for offset, and therefore such derivative receivables and payables are presented
gross on the balance sheet.
Goodwill
- IFRSs and U.S. GAAP require goodwill to be tested for impairment at
least annually, or more frequently if circumstances indicate that goodwill may be
impaired. For IFRSs, goodwill was amortized until 2005, however goodwill was
amortized under U.S. GAAP until 2002, which resulted in a lower carrying
amount of goodwill under IFRSs.
Property
- Under IFRSs, the value of property held for own use reflects revaluation
surpluses recorded prior to January 1, 2004. Consequently, the values of
tangible fixed assets and shareholders' equity are lower under U.S. GAAP than
under IFRSs. There is a correspondingly lower depreciation charge and higher net
income as well as higher gains (or smaller losses) on the disposal of fixed assets
under U.S. GAAP. For investment properties, net income under U.S. GAAP
does not reflect the unrealized gain or loss recorded under IFRSs for the period.
Securities -
Under IFRSs, securities include HSBC shares held for stock plans which are recorded
at fair value through other comprehensive income. If it is determined these shares
have become impaired, the fair value loss is recognized in profit and loss and any
fair value loss recorded in other comprehensive income is reversed.
Some securities were reclassified from "trading assets" to "loans and receivables"
as of July 1, 2008 under IFRSs, pursuant to an amendment to IAS 39. In
November 2008, additional securities were similarly transferred to loans and
receivables. These securities continue to be classified as "trading assets" under
U.S. GAAP.
Capital amounts and ratios of HSBC USA Inc and HSBC Bank
USA
, calculated in accordance with current banking regulations, are summarized in the
following table.
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
HSBC USA Inc and HSBC Bank
USA
are categorized as "well-capitalized", as defined by their
principal regulators. To be categorized as well-capitalized under
regulatory guidelines, a banking institution must have the minimum
ratios reflected in the above table, and must not be subject to a
directive, order, or written agreement to meet and maintain specific
capital levels.
|
|
|
|
There is no Tier 1 leverage ratio component in the definition of a
well-capitalized bank holding company. The ratio shown is the minimum
required ratio.
|
In the first quarter of 2009, we received capital contributions from HSBC North
America Inc. (HNAI) in an aggregate amount of approximately $1.1 billion in
exchange for two shares of common stock. This amount, along with an additional
$0.6 billion received by us from HNAI in December 2008, was subsequently
contributed to our subsidiary, HSBC Bank
USA
, to provide capital support for receivables purchased from our affiliate, HSBC
Finance Corporation. Refer to Note 4 "Loans" for additional information.
As part of the regulatory approvals with respect to the aforementioned receivable
purchases completed in January 2009, HSBC Bank USA and its ultimate parent HSBC
committed that HSBC Bank USA will maintain a Tier 1 risk-based capital ratio
of at least 7.62 percent, a total capital ratio of at least 11.55 percent
and a Tier 1 leverage ratio of at least 6.45 percent for one year
following the date of transfer. In addition, HSBC Bank USA and HSBC made certain
additional capital commitments to ensure that HSBC Bank USA holds sufficient
capital with respect to the purchased receivables that are or become "low-quality
assets," as defined by the Federal Reserve Act.
In February 2009, the U.S. Treasury Department announced that U.S regulators
would conduct a stress test of all U.S. bank holding companies with assets in
excess of $100 billion. The results of these tests may cause additional
regulatory capital requirements for the companies that are subjected to the test.
As a result of foreign ownership, we are not included in the group of bank holding
companies subject to the regulatory stress test.
Regulatory guidelines impose certain restrictions that may limit the inclusion of
deferred tax assets in the computation of regulatory capital. Continued losses
coupled with bad debt provisions that exceed charge-offs which are creating
additional deferred tax assets, could lead to such an exclusion in future periods.
We closely monitor the deferred tax assets for potential limitations or exclusions
in future periods for capital planning purposes.
17. Special Purpose Entities
In the ordinary course of business, we organize special purpose entities ("SPEs")
primarily to structure financial products to meet our clients' investment needs and
to securitize financial assets held to meet our own funding needs. For disclosure
purposes, we aggregate SPEs based on the purpose of organizing the entities, the
risk characteristics and the business activities of the SPEs. Special purpose
entities can be a variable interest entity ("VIE"), a qualifying special purpose
entity ("QSPE") or neither. A VIE is an entity that lacks sufficient equity at risk
or whose equity investors do not have a controlling interest. A QSPE is an
unconsolidated off-balance sheet entity whose activities are restricted and limited
to holding and servicing financial assets and provided it meets the requirements of
FASB Statement No. 140, "Accounting for Transfers and Servicing of Financial
Assets and Extinguishments of Liabilities" ("SFAS 140").
Variable Interest Entities
We consolidate VIEs in which we hold variable interests that absorb a
majority of the risks and/or receive a majority of the benefits and therefore are
deemed to be the primary beneficiary. We take into account all of our involvements
in a VIE in identifying variable interests (explicit or implicit) that individually
or in the aggregate could be significant enough to warrant our designation as the
primary beneficiary and hence require us to consolidate the VIE or otherwise
require us to make appropriate disclosures under FIN 46(R). We consider our
involvement to be significant where we, among other things, (i) provide
liquidity put options or other liquidity facilities to support the VIE's debt
issuances, (ii) enter into derivative contracts to absorb the risks and
benefits from the VIE or from the assets held by the VIE, (iii) provide a
financial guarantee that covers assets held or liabilities issued and
(iv) help structure the transaction and retain a financial or servicing
interest in the VIE.
In most cases, a qualitative analysis of our involvement in the entity provides
sufficient evidence to determine whether we are the primary beneficiary. In rare
cases, a more detailed analysis to quantify the extent of variability to be
absorbed by each variable interest holder is required to determine the primary
beneficiary. The quantitative analysis provides probability-weighted estimates of a
range of potential outcomes and management judgment is required in determining the
primary beneficiary.
Consolidated VIEs
The following table summarizes the assets and liabilities of our consolidated
VIEs as of March 31, 2009 and December 31, 2008:
Securitization Vehicles
We utilize entities that are structured as trusts to securitize certain
private label and other credit card receivables where securitization provides an
attractive source of low cost funding. We transfer the credit card receivables to
the trusts which in turn issue debt instruments collateralized by the transferred
receivables. These trusts are considered VIEs and are consolidated as we are the
primary beneficiary at March 31, 2009 and December 31, 2008.
We held debt securities issued by these securitization vehicles at such a level
that we were deemed to be the primary beneficiary and, as such, we consolidated
these entities. At March 31, 2009 and December 31, 2008, the consolidated
assets of these trusts were $7,551 million and $1,588 million,
respectively and were reported in loans. Debt securities issued by these VIEs are
reported as secured financings in long-term debt.
Structured Note Vehicles
In the normal course of business, we enter into derivative transactions with
special purpose entities organized by HSBC affiliates and by third parties for the
purpose of issuing structured debt instruments to facilitate clients' investment
demand. These entities, which are deemed to be VIEs, are organized as trusts and
issue fixed or floating rate debt instruments backed by the financial assets they
hold. They were established to create investments with specific risk profiles for
investors.
At March 31, 2009 and December 31, 2008, we held all or substantially all
of the debt securities issued by several VIE trusts that were organized by an
affiliate and by third parties to issue structured notes. The consolidated assets
of these VIEs were $121 million and $147 million at March 31, 2009
and December 31, 2008, respectively, and are reported in trading assets. Debt
instruments issued by these VIEs and held by us were eliminated in consolidation.
Debt instruments issued by these VIEs and held by third parties were not material.
The assets of consolidated VIEs serve as collateral for the obligations of the
VIEs. The holders of debt instruments issued by consolidated VIEs have no recourse
to our general credit. There are no communications or contractual arrangements that
constitute an obligation by us to provide financial support to the VIEs or the
holders of debt securities issued by the VIEs.
Unconsolidated VIEs
We also had significant involvement with other VIEs that were not
consolidated at March 31, 2009 or December 31, 2008 because we were not
the primary beneficiary. The following table provides additional information on
those unconsolidated VIEs, the variable interests held by us and our maximum
exposure to loss arising from our involvements in those VIEs as of March 31,
2009 and December 31, 2008:
|
|
|
|
|
|
|
|
|
|
|
|
Asset-backed
commercial
paper
conduits
|
|
|
|
|
|
|
Structured
investment
vehicles
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Low
income
housing
partnerships
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Information on the types of variable interest entities with which we are involved,
the nature of our involvement and the variable interests held in those entities is
presented below.
Asset-Backed Commercial Paper Conduits
We provide liquidity facilities to a number of multi-seller and single-seller
asset-backed commercial paper conduits ("ABCP conduits") sponsored by HSBC
affiliates and by third parties. These conduits support the financing needs of
customers by facilitating the customers' access to commercial paper markets.
Customers sell financial assets, such as trade receivables, to ABCP conduits, which
fund the purchases by issuing short-term highly-rated commercial paper
collateralized by the assets acquired. In a multi-seller conduit, any number of
companies may be originating and selling assets to the conduit whereas a
single-seller conduit acquires assets from a single company. We, along with other
financial institutions, provide liquidity facilities to ABCP conduits in the form
of lines of credit or asset purchase commitments. Liquidity facilities provided to
multi-seller conduits support transactions associated with a specific seller of
assets to the conduit and we would only be required to provide support in the event
of certain triggers associated with those transactions and assets. Liquidity
facilities provided to single-seller conduits are not identified with specific
transactions or assets and we would be required to provide support upon occurrence
of certain triggers that generally affect the conduit as a whole. Our obligations
are generally pari passu with that of other institutions that also provide
liquidity support to the same conduit or for the same transactions. We do not
provide any program-wide credit enhancements to ABCP conduits.
Each seller of assets to an ABCP conduit typically provides collateral in the form
of excess assets and therefore bears the risk of first loss related to the specific
assets transferred. We do not transfer our own assets to the conduits. We have no
ownership interests in, perform no administrative duties for, and do not service
any of the assets held by the conduits. We are not the primary beneficiary and do
not consolidate any of the ABCP conduits to which we provide liquidity facilities.
Credit risk related to the liquidity facilities provided is managed by subjecting
them to our normal underwriting and risk management processes. The
$7,830 million maximum exposure to loss presented in the table above
represents the maximum amount of loans and asset purchases we could be required to
fund under the liquidity facilities. The maximum loss exposure is estimated
assuming the facilities are fully drawn and the underlying collateralized assets
are in default with zero recovery value.
Structured Investment Vehicles
We provide a liquidity facility to a single structured investment vehicle
("SIV") sponsored by a third party. This entity, which is deemed to be a VIE, seeks
to earn a profit by investing in mostly highly rated longer-dated fixed income
instruments and funding those investments by issuing cheaper short-term, highly
rated commercial paper and medium term notes. We do not transfer our own assets to
the SIV. We have no ownership interests in, perform no administrative duties for,
and do not service any of the assets the SIV holds. We are not the primary
beneficiary of the SIV and therefore do not consolidate the SIV. Credit risk
related to the liquidity facility provided is managed through our normal
underwriting and risk management processes. The maximum exposure to loss presented
in the preceding table represents a $32 million liquidity facility which was
fully funded, and is recorded as a loan, as of March 31, 2009. This loan was
considered in the determination of our allowance for loan losses and an
$3 million specific reserve has been established against this facility in
accordance with our credit policies.
Structured Note Vehicles
Our involvements in structured note vehicles include entering into derivative
transactions such as interest rate and currency swaps, and investing in their debt
instruments. With respect to several of these VIEs, we hold variable interests in
the form of total return swaps entered into in connection with the transfer of
certain assets to the VIEs. In these transactions, we transferred financial assets
from our trading portfolio to the VIEs and entered into total return swaps under
which we receive the total return on the transferred assets and pay a market rate
of return. The transfers of assets in these transactions do not qualify as sales
under the applicable accounting literature and are accounted for as secured
borrowings. Accordingly, the transferred assets continue to be recognized as
trading assets on our balance sheet and the funds received are recorded as
liabilities in long-term debt. As of March 31, 2009, we recorded approximately
$290 million of trading assets and $479 million of long-term liabilities
on our balance sheet as a result of "failed sale" accounting treatment for certain
transfers of financial assets. As of December 31, 2008, we recorded
approximately $539 million of trading assets and $829 million of
long-term liabilities on our balance sheet as a result of "failed sale" accounting
treatment. The financial assets and financial liabilities were not legally ours and
we have no control over the financial assets which are restricted solely to satisfy
the liability.
In addition to its variable interests, we also hold credit default swaps with these
structured note VIEs under which we receive credit protection on specified
reference assets in exchange for the payment of a premium. Through these
derivatives, the VIEs assume the credit risk associated with the reference assets
which is then passed on to the holders of the debt instruments they issue. Because
they create rather than absorb variability, the credit default swaps we hold are
not considered variable interests.
We record all investments in, and derivative contracts with, unconsolidated
structured note vehicles at fair value on our consolidated balance sheet. Our
maximum exposure to loss is limited to the recorded amounts of these instruments.
Low Income Housing Partnerships
We invest as a limited partner in a number of low-income housing partnerships
that operate qualified affordable housing projects and generate tax benefits,
including federal low-income housing tax credits, for investors. Some of the
partnerships are deemed to be VIEs because they do not have sufficient equity
investment at risk or are structured with non-substantive voting rights. We are not
the primary beneficiary of these VIEs and do not consolidate them.
Our investments in low-income housing partnerships are recorded using the equity
method of accounting and are included in other assets on the consolidated balance
sheet. The maximum exposure to loss shown in the table represents the recorded
investment net of estimated expected reductions in future tax liabilities and
potential recapture of tax credits allowed in prior years.
We organize special purpose entities to securitize residential mortgage loans. In
these cases, we purchase and transfer residential mortgage loans into a trust which
is designed and structured as a QSPE. The QSPE issues debt securities to investors
to finance the purchase of the residential mortgage loans. The securitizations are
non-recourse in that the risk of future loss in the transferred residential
mortgages has been transferred to the investors and the investors' recourse is
limited to the transferred assets. The transfers are accounted for as sales in
accordance with SFAS 140.
Neither the transferor nor its consolidated affiliates have any continuing
involvement with the transferred assets. We do not provide any liquidity
arrangement or financial support (through written or unwritten communications) to,
enter into any derivative transactions with, or have any obligation to repurchase
financial assets from the QSPE or the investors. Neither the transferor nor its
consolidated affiliates retains any residual interests in the transferred financial
assets. On limited occasions, we transfer residential mortgage loans we originated
to the QSPE and retain the right to service the transferred assets. In those cases,
the transferred residential mortgages for which we retain the servicing rights
represent an insignificant portion of the entire transferred asset portfolio.
18. Guarantee Arrangements and Pledged Assets
As part of our normal operations, we enter into various off-balance sheet guarantee
arrangements with affiliates and third parties. These arrangements arise
principally in connection with our lending and client intermediation activities and
include standby letters of credit and certain credit derivative transactions. The
contractual amounts of these arrangements represent our maximum possible credit
exposure in the event that we are required to fulfill the maximum obligation under
the contractual terms of the guarantee.
The following table presents total carrying value and contractual amounts of our
major off-balance sheet guarantee arrangements as of March 31, 2009 and
December 31, 2008. Following the table is a description of the various
arrangements.
|
|
|
|
|
|
|
|
|
|
Credit
derivatives(1),(3)
|
|
|
|
|
Financial
standby
letters
of
credit,
net
of
participations(2),(4)
|
|
|
|
|
Performance
(non-financial)
guarantees
|
|
|
|
|
Liquidity
asset
purchase
agreements(3)
|
|
|
|
|
|
|
|
|
|
|
Includes $74,264 million and $103,409 million issued for the
benefit of HSBC affiliates at March 31, 2009 and December 31,
2008, respectively.
|
|
|
|
Includes $736 million and $732 million issued for the benefit
of HSBC affiliates at March 31, 2009 and December 31, 2008,
respectively.
|
|
|
|
For standby letters of credit and liquidity asset purchase agreements,
maximum loss represents losses to be recognized assuming the letter of
credit and liquidity facilities have been fully drawn and the obligors
have defaulted with zero recovery.
|
|
|
|
For credit derivatives, the maximum loss is represented by the notional
amounts without consideration of mitigating effects from collateral or
recourse arrangements.
|
Credit-Risk Related Guarantees:
Credit Derivatives
Credit derivatives are financial instruments that transfer the credit risk of
a reference obligation from the credit protection buyer to the credit protection
seller who is exposed to the credit risk without buying the reference obligation.
We sell credit protection on underlying reference obligations (such as loans or
securities) by entering into credit derivatives, primarily in the form of credit
default swaps, with various institutions. We account for all credit derivatives at
fair value. Where we sell credit protection to a counterparty that holds the
reference obligation, the arrangement is effectively a financial guarantee on the
reference obligation. Although we do not specifically identify whether the
derivative counterparty retains the reference obligation, we have disclosed
information about all credit derivatives that could meet the accounting definition
of a financial guarantee. Under a credit derivative contract, the credit protection
seller will reimburse the credit protection buyer upon occurrence of a credit event
(such as bankruptcy, insolvency, restructuring or failure to meet payment
obligations when due) as defined in the derivative contract, in return for a
periodic premium. Upon occurrence of a credit event, we will pay the counterparty
the stated notional amount of the derivative contract and receive the underlying
reference obligation. The recovery value of the reference obligation received could
be significantly lower than its notional principal amount when a credit event
occurs.
Certain derivative contracts are subject to master netting arrangements and related
collateral agreements. A party to a derivative contract may demand that the
counterparty post additional collateral in the event its net exposure exceeds
certain predetermined limits and when the credit rating falls below a certain
grade. We set the collateral requirements by counterparty such that the collateral
covers various transactions and products, and is not allocated to specific
individual contracts. The collateral amount presented in the table above only
includes those derivative contracts or transactions where specific collateral can
be identified.
We manage our exposure to credit derivatives using a variety of risk mitigation
strategies where we enter into offsetting hedge positions or transfer the economic
risks, in part or in entirety, to investors through the issuance of structured
credit products. We actively manage the credit and market risk exposure in the
credit derivative portfolios on a net basis and, as such, retain no or a limited
net sell protection position at any time. The following table summarizes our net
credit derivative positions as of March 31, 2009 and December 31, 2008:
|
|
|
|
|
|
|
|
|
|
Sell-protection
credit
derivative
positions
|
|
|
|
|
Buy-protection
credit
derivative
positions
|
|
|
|
|
|
|
|
|
|
Standby Letters of Credit
A standby letter of credit is issued to a third party for the benefit of a
customer and is a guarantee that the customer will perform or satisfy certain
obligations under a contract. It irrevocably obligates us to pay a specified amount
to the third party beneficiary if the customer fails to perform the contractual
obligation. We issue two types of standby letters of credit: performance and
financial. A performance standby letter of credit is issued where the customer is
required to perform some nonfinancial contractual obligation, such as the
performance of a specific act, whereas a financial standby letter of credit is
issued where the customer's contractual obligation is of a financial nature, such
as the repayment of a loan or debt instrument. As of March 31, 2009, the total
amount of outstanding financial standby letters of credit (net of participations)
and performance guarantees were $4,464 million and $3,736 million,
respectively. As of December 31, 2008, the total amount of outstanding
financial standby letters of credit (net of participations) and performance
guarantees were $4,444 million and $3,800 million, respectively.
The issuance of a standby letter of credit is subject to our credit approval
process and collateral requirements. We charge fees for issuing letters of credit
commensurate with the customer's credit evaluation and the nature of any
collateral. Included in other liabilities are deferred fees on standby letters of
credit, which represent the fair value of the stand-ready obligation to perform
under these guarantees, amounting to $34 million and $33 million at
March 31, 2009 and December 31, 2008, respectively. Also included in
other liabilities is an allowance for credit losses on unfunded standby letters of
credit of $32 million and $30 million at March 31, 2009 and
December 31, 2008, respectively.
Pursuant to FSP SFAS 133-1 and FIN 45-4, below is a summary of the credit
ratings of credit risk related guarantees including the credit ratings of
counterparties against which we sold credit protection and financial standby
letters of credit as of March 31, 2009 as an indicative proxy of payment risk:
|
|
Credit Ratings of the Obligors or the
|
|
|
|
|
|
|
|
|
Notional/Contractual Amounts
|
|
|
|
|
|
|
Self-protection Credit Derivatives(a)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financial Standby Letters of Credit(b)
|
|
|
|
|
|
|
|
|
|
|
The credit ratings in the table represent external credit ratings for
classification as investment grade and non-investment grade.
|
|
|
|
External ratings for most of the obligors are not available. Presented
above are the internal credit ratings which are developed using similar
methodologies and rating scale equivalent to external credit ratings
for purposes of classification as investment grade and non-investment
grade.
|
Our internal groupings are determined based on our risk rating systems and
processes which assign a credit grade based on a scale which ranks the risk of loss
from a customer as either low risk, satisfactory risk, fair risk, watch,
substandard, doubtful or loss. The groupings are determined and used for managing
risk and determining level of credit exposure appetite based on the customer's
operating performance, liquidity, capital structure and debt service ability. In
addition, we also incorporate subjective judgments into the risk rating process
concerning such things as industry trends, comparison of performance to industry
peers and perceived quality of management. We compare our internal risk ratings to
outside external rating agencies benchmarks, where possible, at the time of formal
review and regularly monitor whether our risk ratings are comparable to the
external ratings benchmark data.
Written Put Options, Non Credit-Risk Related Guarantees and Indemnity
Arrangements:
Liquidity Asset Purchase Agreements
We provide liquidity facilities to a number of multi-seller and single-seller
asset-backed commercial paper conduits sponsored by affiliates and third parties.
The conduits finance the purchase of individual assets by issuing commercial paper
to third party investors. Each liquidity facility is transaction specific and has a
maximum limit. Pursuant to the liquidity agreements, we are obligated, subject to
certain limitations, to purchase the eligible assets from the conduit at an amount
not to exceed the face value of the commercial paper in the event the conduit is
unable to refinance its commercial paper. A liquidity asset purchase agreement is
essentially a conditional written put option issued to the conduit where the
exercise price is the face value of the commercial paper. As of March 31, 2009
and December 31, 2008, we have issued $7,830 million and
7,782 million, respectively, of liquidity facilities to provide liquidity
support to the commercial paper issued by various conduits.
Principal Protected Products
We structure and sell products that guarantee the return of principal to
investors on a future date. These structured products have various reference assets
and we are obligated to cover any shortfall between the market value of the
underlying reference portfolio and the principal amount at maturity. We manage such
shortfall risk by, among other things, establishing structural and investment
constraints. Additionally, the structures require liquidation of the underlying
reference portfolio when certain pre-determined triggers are breached and the
proceeds from liquidation are required to be invested in zero-coupon bonds that
would generate sufficient funds to repay the principal amount upon maturity. We may
be exposed to market (gap) risk at liquidation and, as such, may be required to
make up the shortfall between the liquidation proceeds and the purchase price of
the zero coupon bonds. These principal protected products are accounted for on a
fair value basis. The notional amounts of these principal protected products were
not material as of March 31, 2009 and December 31, 2008, respectively. We
have not made any payment under the terms of these structured products and we
consider the probability of payments under these guarantees to be remote.
Sale of Mortgage Loans
We originate and sell mortgage loans to government sponsored entities and
provide various representations and warranties related to, among other things, the
ownerships of the loans, the validity of the liens, the loan selection and
origination process, and the compliance to the origination criteria established by
the agencies. In the event of a breach of our representations and warranties, we
may be obligated to repurchase the loans with identified defects or to indemnify
the buyers. Our contractual obligation arises only when the representations and
warranties are breached. A liability was recorded for our obligations arising from
the breach of representations and warranties, however it was not material as of
March 31, 2009 or December 31, 2008.
Visa Covered Litigations
We are an equity member of Visa Inc. ("Visa"). Prior to its initial public
offering ("IPO") on March 19, 2008, Visa completed a series of transactions to
reorganize and restructure its operations and to convert membership interests into
equity interests. Pursuant to the restructuring, we, along with all the
Class B shareholders, agreed to indemnify Visa for the claims and obligations
arising from certain specific covered litigations. Class B shares are
convertible into listed Class A shares upon (i) settlement of the covered
litigations or (ii) the third anniversary of the IPO, whichever is earlier.
The indemnification is subject to the accounting and disclosure requirements under
FIN No. 45. Visa used a portion of the IPO proceeds to establish a
$3.0 billion escrow account to fund future claims arising from those covered
litigations (the escrow was subsequently increased to $4.1 billion). In the
event the escrow is insufficient to satisfy the legal claims, Visa may raise funds
from a secondary offering and seek reimbursement from the Class B shareholders
by reducing the conversion ratio into Class A shares. As of March 31,
2009, we do not expect the indemnity obligation to result in a material adverse
effect on our liquidity position.
Clearinghouses and Exchanges
We are a member of various exchanges and clearinghouses that trade and clear
securities and/or futures contracts. As a member, we may be required to pay a
proportionate share of the financial obligations of another member who defaults on
its obligations to the exchange or the clearinghouse. Our guarantee obligations
would arise only if the exchange or clearinghouse had exhausted its resources. Any
potential contingent liability under these membership agreements cannot be
estimated. However, we believe that any potential requirement to make payments
under these agreements is remote.
Pledged assets included in the consolidated balance sheet are summarized in the
following table.
|
|
|
|
|
Interest
bearing
deposits
with
banks
|
|
|
|
|
|
Securities
available
for
sale(2)
|
|
|
Securities
held
to
maturity
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading assets are primarily pledged against liabilities associated
with consolidated variable interest entities.
|
|
|
|
Securities available for sale are primarily pledged against various
short-term borrowings.
|
|
|
|
Loans are primarily private label and other credit card receivables
pledged against long-term secured borrowings and residential mortgage
loans pledged against long-term borrowings from the Federal Home Loan
Bank.
|
|
|
|
Other assets represent cash on deposit with non-banks related to
derivative collateral support agreements.
|
19. Fair Value Measurements
FASB Statement No. 157, "Fair Value Measurements," ("SFAS 157")
provides a framework for measuring fair value and focuses on an exit price in the
principal (or alternatively, the most advantageous) market accessible in an orderly
transaction between willing market participants. SFAS No. 157 establishes
a three-tiered fair value hierarchy with Level 1 representing quoted prices
(unadjusted) in active markets for identical assets or liabilities. Fair values
determined by Level 2 inputs are inputs that are observable for the asset or
liability, either directly or indirectly. Level 2 inputs include quoted prices
for similar assets or liabilities in active markets, quoted prices for identical or
similar assets or liabilities in markets that are not active, and inputs other than
quoted prices that are observable for the asset or liability, such as interest
rates and yield curves that are observable at commonly quoted intervals.
Level 3 inputs are unobservable inputs for the asset or liability and include
situations where there is little, if any, market activity for the asset or
liability.
Assets and Liabilities Recorded at Fair Value on a Recurring
Basis
The following table presents information about our assets and liabilities measured
at fair value on a recurring basis as of March 31, 2009 and December 31,
2008, and indicates the fair value hierarchy of the valuation techniques utilized
to determine such fair value.
|
Fair Value Measurements on a Recurring Basis as of
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
U.S.
Treasury. U.S. Government agencies and sponsored enterprises
|
|
|
|
|
|
|
Obligations of
U.S.
states and political subdivisions
|
|
|
|
|
|
|
Residential mortgage-backed securities
|
|
|
|
|
|
|
Commercial mortgage-backed securities
|
|
|
|
|
|
|
Collateralized debt obligations
|
|
|
|
|
|
|
Other asset-backed securities
|
|
|
|
|
|
|
Other domestic debt securities
|
|
|
|
|
|
|
Debt Securities issued by foreign entities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities available for sale:
|
|
|
|
|
|
|
U.S.
Treasury. U.S. Government agencies and sponsored enterprises
|
|
|
|
|
|
|
Obligations of
U.S.
states and political subdivisions
|
|
|
|
|
|
|
Residential mortgage-backed securities
|
|
|
|
|
|
|
Commercial mortgage-backed securities
|
|
|
|
|
|
|
Collateralized debt obligations
|
|
|
|
|
|
|
Other asset-backed securities
|
|
|
|
|
|
|
Other domestic debt securities
|
|
|
|
|
|
|
Debt Securities issued by foreign entities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits in domestic offices(6)
|
|
|
|
|
|
|
Trading liabilities,excluding derivatives(2)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Represents counterparty and cash collateral netting permitted under FIN
39, "Offsetting of Amounts Relating to Certain Contracts," as amended
by FSP-FIN 39-1.
|
|
|
|
Refer to Note 3, "Trading Assets and Liabilities" of the
consolidated financial statements for the composition and discussion of
trading assets and liabilities.
|
|
|
|
As of March 31, 2009, includes trading derivatives assets
($18,251 million) and trading derivative liabilities
($10,266 million) as well as derivatives held for hedging and
commitments accounted for as derivatives.
|
|
|
|
Includes leveraged acquisition finance and other commercial loans held
for sale or risk-managed on a fair value basis for which we have
elected to apply the fair value option. See Note 7, "Loans Held
for
Sale
," of the consolidated financial statements for further
information.
|
|
|
|
Represents residential mortgage servicing rights. See Note 8,
"Intangible Assets," of the consolidated financial statements for
further information on residential mortgage servicing rights.
|
|
|
|
Represents structured deposits risk-managed on a fair value basis for
which we have elected to apply the fair value option.
|
|
|
|
Includes structured notes and own debt issuances which we have elected
to measure on a fair value basis.
|
|
Fair Value Measurements on a Recurring Basis as of
December 31, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading
assets,
excluding
derivatives(2)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available
for
sale
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits
in
domestic
offices(6)
|
|
|
|
|
|
|
Trading
liabilities,
excluding
derivatives(2)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Represents counterparty and cash collateral netting permitted under FIN
39, "Offsetting of Amounts Relating to Certain Contracts," as amended
by FSP-FIN 39-1.
|
|
|
|
Refer to Note 3, "Trading Assets and Liabilities" of the
consolidated financial statements for the composition and discussion of
trading assets and liabilities.
|
|
|
|
As of December 31, 2008, includes trading derivative assets
(21,274 million) and trading derivative liabilities
($14,318 million) as well as derivatives held for hedging and
commitments accounted for as derivatives.
|
|
|
|
Includes leveraged acquisition finance and other commercial loans held
for sale or risk-managed on a fair value basis for which we have
elected to apply the fair value option. See Note 7, "Loans Held
for
Sale
," of the consolidated financial statements for further
information.
|
|
|
|
Represents residential mortgage servicing rights. See Note 8,
"Intangible Assets," of the consolidated financial statements for
further information on residential mortgage servicing rights.
|
|
|
|
Represents structured deposits risk-managed on a fair value basis for
which we have elected to apply the fair value option.
|
|
|
|
Includes structured notes and own debt issuances which we have elected
to measure on a fair value basis.
|
The following table summarizes additional information about changes in the fair
value of Level 3 assets and liabilities during the three months ended
March 31, 2009 and 2008. The fair value measurement of a Level 3 asset or
liability and related changes in fair value may be determined based on observable
and unobservable inputs. As a risk management practice, we may risk manage the
Level 3 assets and liabilities, in whole or in part, using securities and
derivative positions that are classified as Level 1 or Level 2
measurements within the fair value hierarchy. Since those Level 1 and
Level 2 risk management positions are not included in the table below, the
information provided does not reflect the effect of the risk management activities
related to the Level 3 assets and liabilities.
|
|
Total Gains and (Losses) Included in(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading
assets,
excluding
derivatives
|
|
|
|
|
|
|
|
|
U.S.
Treasury.
U.S.
Government
agencies
and
sponsored
enterprises
|
|
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
Residential
mortgage-backed
securities
|
|
|
|
|
|
|
|
|
Commercial
mortgage-backed
securities
|
|
|
|
|
|
|
|
|
Collateralized
debt
obligations
|
|
|
|
|
|
|
|
|
Other
asset-backed
securities
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
Debt
Securities
issued
by
foreign
entities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available
for
sale
|
|
|
|
|
|
|
|
|
U.S.
Treasury.
U.S.
Government
agencies
and
sponsored
enterprises
|
|
|
|
|
|
|
|
|
Obligations
of
U.S.
states
and
political
subdivisions
|
|
|
|
|
|
|
|
|
Residential
mortgage-backed
securities
|
|
|
|
|
|
|
|
|
Commercial
mortgage-backed
securities
|
|
|
|
|
|
|
|
|
Collateralized
debt
obligations
|
|
|
|
|
|
|
|
|
Other
asset-backed
securities
|
|
|
|
|
|
|
|
|
Other
domestic
debt
securities
|
|
|
|
|
|
|
|
|
Debt
Securities
issued
by
foreign
entities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
assets,
excluding
derivatives(4)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits
in
domestic
offices
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Gains and Losses(1) Included in
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading
assets,
excluding
derivatives
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities
available
for
sale
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
assets,
excluding
derivatives(4)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits
in
domestic
offices
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Includes realized and unrealized gains and losses.
|
|
|
|
Level 3 net derivatives at March 31, 2008 included
derivative assets of $7,262 million and derivative liabilities of
$2,575 million.
|
|
|
|
Includes Level 3 corporate lending activities risk-managed on a
fair value basis for which we have elected the fair value option.
|
|
|
|
Represents residential mortgage servicing activities. Refer to
Note 6. Intangible Assets, beginning on page 12 of this
Form 10-Q.
|
Assets and Liabilities Recorded at Fair Value on a Non-recurring
Basis
Certain assets are measured at fair value on a non-recurring basis and
therefore, are not included in the tables above. These assets include
(a) mortgage and consumer loans classified as held for sale reported at the
lower of cost or fair value and (b) impaired assets that are written down to
fair value based on the valuation of underlying collateral during the period. These
instruments are not measured at fair value on an ongoing basis but are subject to
fair value adjustment in certain circumstances (e.g., impairment). The following
table presents the fair value hierarchy level within which the fair value of the
financial assets has been recorded as of March 31, 2009 and 2008. The gains
(losses) for the three ended March 31, 2009 and 2008 are also included.
|
|
|
|
Non-Recurring Fair Value Measurements as
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential mortgage loans held for sale(1)
|
|
|
|
|
|
Other consumer loans held for sale(1)
|
|
|
|
|
|
|
|
|
|
|
|
Total assets at fair value on a non-recurring basis
|
|
|
|
|
|
|
|
|
|
Non-Recurring Fair Value Measurements as
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential mortgage loans held for sale(1)
|
|
|
|
|
|
|
|
|
|
|
|
Total assets at fair value on a non-recurring basis
|
|
|
|
|
|
|
As of March 31, 2009 and March 31, 2008, the fair value of
the loans held for sale was below cost.
|
|
|
|
Represents impaired commercial loans. We use the fair value estimate of
the underlying collateral to approximate the fair value of the
commercial loans.
|
Valuation Methodologies and Assumptions
Following is a description of valuation methodologies used for assets and
liabilities recorded at fair value and for estimating fair value for financial
instruments not recorded at fair value for which we disclose fair value as required
under FASB Statement No. 107, "Disclosures about Fair Value of Financial
Instruments ("SFAS No. 107").
Short-term financial assets and liabilities -
For SFAS 107 disclosure purposes, the carrying value of certain financial
assets and liabilities recorded at cost is considered to approximate fair value
because they are short-term in nature, bear interest rates that approximate market
rates, and generally have negligible credit risk. These items include cash and due
from banks, interest bearing deposits with banks, accrued interest receivable,
customer acceptance assets and liabilities, short-term borrowings, and interest,
taxes and other liabilities.
Federal funds sold and purchased and securities purchased and sold under resale
and
repurchase agreements -
Federal funds sold and purchased and securities purchased and sold under
resale and repurchase agreements are recorded at cost. A significant majority of
these transactions are short-term in nature and, as such, the recorded amounts
approximate fair value in the SFAS 107 disclosure. For transactions with
long-dated maturities, fair value is based on dealer quotes for instruments with
similar characteristics
.
Loans
- Except for leveraged loans and selected commercial loans, we do not record
loans at fair value on a recurring basis. From time to time, we record on a
non-recurring basis negative adjustment to loans. The write-downs can be based on
observable market price of the loan or the underlying collateral value.
•
Mortgage Loans Held for
Sale
- Certain U.S. subprime whole loans are classified as held for sale and
are recorded at the lower of cost or fair value. As of March 31, 2009, the
fair value of these loans is below their amortized cost. The fair value of these
mortgage loans is determined based on the valuations of mortgage-backed securities
that would be observed in a hypothetical securitization. Where securitizations of
mortgage loans may not regularly occur, alternative information referenced to
different exit markets are utilized. The determination of fair value for mortgage
whole loans takes into account factors such as the location of the collateral, the
loan-to-value ratio, the estimated rate and timing of default, the probability of
foreclosure and loss severity if foreclosure does occur.
•
Leveraged Loans - We record leveraged loans and revolvers held for sale at
fair value. Where available, market consensus pricing obtained from independent
sources are used to estimate the fair value of the leveraged loans and revolvers.
In determining the fair value, we take into consideration the number of
participants submitting pricing information, the range of pricing information and
distribution, the methodology applied by the pricing services to cleanse the data
and market liquidity. Where consensus pricing information is not available, fair
value is estimated using observable market prices of similar instruments or inputs,
including bonds, credit derivatives, and loans with similar characteristics. Where
observable market parameters are not available, fair value is determined based on
contractual cash flows adjusted for defaults and recoveries, discounted at the rate
demanded by market participants under current market conditions. In those cases, we
also consider the specific loan characteristics and inherent credit risk and risk
mitigating factors such as collateral arrangements in determining fair value.
For SFAS 107 disclosure purposes, fair value estimates are determined based on
the product type, financial characteristics, pricing features and maturity. Similar
loans are grouped based on loan types and maturities and fair values are estimated
on a portfolio basis.
•
Commercial Loans - Commercial loans and commercial real estate loans are
valued by discounting the contractual cash flows, adjusted for prepayments and
borrower's credit risks, using a discount rate that reflects the current rates
offered to borrowers of similar credit standing for the remaining term to maturity
and our own estimate of liquidity premium.
•
Consumer Loans - The estimated fair value of our consumer loans were
determined by developing an estimated range of value from a mix of various sources
as appropriate for the respective pool of assets. These sources included,
inter alia
, value estimates from an HSBC affiliate which reflects current estimated rating
agency credit tranching levels with the associated benchmark credit spreads,
forward looking discounted cash flow models using assumptions we believe are
consistent with those which would be used by market participants in valuing such
receivables, trading input from market participants which includes observed primary
and secondary trades, and general discussions held directly with potential
investors.
Model inputs relate to interest rates, prepayment speeds, loss curves and market
discount rates reflecting management's estimate of the rate that would be required
by investors in the current market given the specific characteristics and inherent
credit risk of the receivables. Some of these inputs are influenced by home price
changes and unemployment rates. To the extent available, such inputs are derived
principally from or corroborated by observable market data by correlation and other
means. We perform periodic validations of our valuation methodologies and
assumptions based on the results of actual sales of such receivables. In addition,
from time to time, we will engage a third party valuation specialist to measure the
fair value of a pool of receivables. Portfolio risk management personnel provide
further validation through discussions with third party brokers and other market
participants. Since an active market for these receivables does not exist, the fair
value measurement process uses unobservable significant inputs which are specific
to the performance characteristics of the various receivable portfolios.
Lending-related Commitments
- The fair value of commitments to extend credit, standby letters of credit
and financial guarantees is not included in the table. The majority of the lending
related commitments are not carried at fair value on a recurring basis nor are they
actively traded. These instruments generate fees, which approximate those currently
charged to originate similar commitments, which are recognized over the term of the
commitment period. Deferred fees on commitments and standby letters of credit
totaled $33 million and $25 million at December 31, 2008 and 2007,
respectively. The carrying value of the deferred fees is a reasonable estimate of
the fair value of the commitments.
Securities
- Where available, debt and equity securities are valued based on quoted
market prices. If a quoted market price for the identical security is not
available, the security is valued based on quotes from similar securities, where
possible. For certain securities, internally developed valuation models are used to
determine fair values or validate quotes obtained from pricing services. The
following summarizes the valuation methodology used for our major security types:
•
U.S. Treasury, U.S. Government agency issued or guaranteed and
Obligations of U.S. state and political subdivisions - As these
securities transact in an active market, fair value measurements are based on
quoted prices for the identical security or quoted prices for similar securities
with adjustments as necessary made using observable inputs which are market
corroborated.
•
U.S. Government sponsored enterprises - For certain government sponsored
mortgage-backed securities which transact in an active market, fair value
measurements are based on quoted prices for the identical security or quoted prices
for similar securities with adjustments as necessary made using observable inputs
which are market corroborated. For government sponsored mortgage-backed securities
which do not transact in an active market, fair value is determined using
discounted cash flow models and inputs related to interest rates, prepayment
speeds, loss curves and market discount rates that would be required by investors
in the current market given the specific characteristics and inherent credit risk
of the underlying collateral.
•
Asset-backed securities - Fair value is primarily determined based on pricing
information obtained from independent pricing services adjusted for the
characteristics and the performance of the underlying collateral. We determine
whether adjustments to independent pricing information are necessary as a result of
investigations and inquiries about the reasonableness of the inputs used and the
methodologies employed by the independent pricing services.
•
Other domestic debt and Foreign debt securities - Fair non-callable corporate
securities, a credit spread scale is created for each issuer. These spreads are
then added to the equivalent maturity U.S. Treasury yield to determine current
pricing. Credit spreads are obtained from the new market, secondary trading levels
and dealer quotes. For securities with early redemption features, an option
adjusted spread ("OAS") model is incorporated to adjust the spreads determined
above. Additionally, we survey the broker/dealer community to obtain relevant trade
data including benchmark quotes and updated spreads.
•
Equity securities - Since most of our securities are transacted in active
markets, fair value measurements are determined based on quoted prices for the
identical security.
We perform periodic validation of the fair values obtained from independent pricing
services. Such validations primarily include sourcing security price form other
independent pricing services or broker quotes. As the pricing for mortgage and
other asset-backed securities became less transparent during the credit crisis, we
have developed internal valuation techniques to validate the fair value. The
internal validation techniques utilize inputs derived form observable market data,
make reference to external analysts' estimates such as probability of default, loss
recovery and prepayment speeds and apply discount rates that would be demanded by
investors under the current market conditions given the specific characteristics an
inherent risks of the underlying collateral. In addition, we also consider whether
the volume and level of activity for a security has significantly decreased and
whether the transaction is orderly. Depending on the results of the validation,
additional information may be gathered form other market participants to support
the fair value measurements. A determination is made as to whether adjustments to
the observable input are necessary as a result of investigations and inquiries
about the reasonableness of the inputs used and the methodologies employed by the
independent pricing services.
Derivatives
- Derivatives are recorded at fair value. Asset and liability positions in
individual derivatives that are covered by legally enforceable master netting
agreements, including cash collateral are offset and presented net in accordance
with FSP FIN No. 39-1.
Derivatives traded on an exchange are valued using quoted prices. OTC derivatives,
which comprise a majority of derivative contract positions, are valued using
valuation techniques. Valuation models calculate the present value of expected
future cash flows based on "no arbitrage" principles. The fair value for the
majority of our derivative instruments are determined based on internally developed
models that utilize independently-sourced market parameters, including interest
rate yield curves, option volatilities, and currency rates. For complex or
long-dated derivative products where market data is not available, fair value may
be affected by the choice of valuation model and the underlying assumptions about,
among other things, the timing of cash flows and credit spreads. The fair values of
certain structured derivative products are sensitive to unobservable inputs such as
default correlations and volatilities. These estimates are susceptible to
significant change in future periods as market conditions change.
The company may adjust valuations derived using the methods described above in
order to ensure that those values represent appropriate estimates of fair value.
These adjustments, which are applied consistently over time, are generally required
to reflect factors such as bid-ask spreads and counterparty credit risk that can
affect prices in arms-length transactions with unrelated third parties.
Mortgage Servicing Rights
- We elected to measure residential mortgage servicing rights, which are
classified as intangible assets, at fair value when we adopted FASB Statement
No. 156, "Accounting for Servicing of Financial Assets," ("SFAS 156").
The fair value for the residential mortgage servicing rights is determined based on
an option adjusted approach which involves discounting servicing cash flows under
various interest rate projections at risk- adjusted rates. The valuation model also
incorporates our best estimate of the prepayment speed of the mortgage loans and
discount rates. As changes in interest rates is a key factor affecting the
prepayment speed and hence the fair value of the mortgage servicing rights, we use
various interest rate derivatives and forward purchase contracts of mortgage-backed
securities to risk-manage the mortgage servicing rights. Refer to Note 13,
"Intangible Assets" for discussions on the accounting and reporting of mortgage
servicing rights.
Structured Notes
- Certain structured notes were elected to be measured at fair value in their
entirety under SFAS No. 159. As a result, derivative features embedded in
the structured notes are included in the valuation of fair value. Cash flows of the
funded notes are discounted at the appropriate rate for the applicable duration of
the instrument adjusted for our own credit spreads. The credit spreads applied to
these instruments are derived from the spreads at which institutions of similar
credit standing would offer for issuing similar structured instruments as of the
measurement date. The market spreads for structured notes are generally lower than
the credit spreads observed for plain vanilla debt or in the credit default swap
market.
Long-term Debt
- We elected to apply fair value option to certain own debt issuances for
which fair value hedge accounting were applied. These own debt issuances elected
under FVO are traded in secondary markets and, as such, the fair value is
determined based on observed prices for the specific instrument. The observed
market price of these instruments reflects the effect of our own credit spreads.
For long-term debt recorded at cost, fair value is determined for
SFAS No. 107 disclosure purposes based on quoted market prices where
available. If quoted market prices are not available, fair value is based on dealer
quotes, quoted prices of similar instruments, or internally developed valuation
models adjusted for own credit risks.
Deposits
- For SFAS No. 107 disclosure purposes, the carrying amount of
deposits with no stated maturity (e.g., demand, savings, and certain money market
deposits), which represents the amount payable upon demand, is considered to
approximate fair value. For deposits with fixed maturities, fair value is estimated
by discounting cash flows using market interest rates currently offered on deposits
with similar characteristics and maturities.
Valuation Adjustments
- Due to judgment being more significant in determining the fair value of
Level 3 instruments, additional factors for Level 3 instruments are
considered that may not be considered for Level 1 and Level 2 valuations
and we record additional valuation adjustments as a result of these considerations.
Some of the valuation adjustments are:
Credit risk adjustment - an adjustment to reflect the creditworthiness of the
counterparty for OTC products where the market parameters may not be indicative of
the creditworthiness of the counterparty. For derivative instruments, the market
price implies parties to the transaction have credit ratings equivalent to AA.
Therefore, we will make an appropriate credit risk adjustment to reflect the
counterparty credit risk if different from an AA credit rating.
Market data/model uncertainty - an adjustment to reflect uncertainties in the
fair value measurements determined based on unobservable market data inputs. Since
one or more significant parameters may be unobservable and must be estimated, the
resultant fair value estimates have inherent measurement risk. In addition, the
values derived from valuation techniques are affected by the choice of valuation
model. When different valuation techniques are available, the choice of valuation
model can be subjective and in those cases, an additional valuation adjustment may
be applied to mitigate the potential risk of measurement error. In most cases, we
perform analysis on key unobservable inputs to determine the appropriate parameters
to use in estimating the fair value adjustments.
Liquidity adjustment - a type of bid-offer adjustment to reflect the
difference between the mark-to-market valuation of all open positions in the
portfolio and the close out cost. The liquidity adjustment is a portfolio level
adjustment and is a function of the liquidity and volatility of the underlying risk
positions.
Fair Value of Financial Instruments
In accordance with SFAS No. 107, on a quarterly basis we report the
fair value of all financial instruments in our consolidated balance sheet,
including those financial instruments carried at cost. The fair value estimates,
methods and assumptions set forth below for our financial instruments are made
solely to comply with the requirements of SFAS 107 and should be read in
conjunction with the financial statements and notes included in this quarterly
report. The following table summarizes the carrying value and estimated fair value
of our financial instruments at March 31, 2009 and December 31, 2008.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term
financial
assets
|
|
|
|
|
Federal
funds
sold
and
securities
purchased
under
resale
agreements
|
|
|
|
|
Non-derivative
trading
assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commercial
loans,
net
of
allowance
for
credit
losses
|
|
|
|
|
Consumer
loans,
net
of
allowance
for
credit
losses
|
|
|
|
|
|
|
|
|
|
Short-term
financial
liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-derivative
trading
liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Receivable values presented in the table above were determined using the framework
for measuring fair value as prescribed by SFAS No. 157, which is based on
our best estimate of the amount within a range of value we believe would be
received in a sale as of the balance sheet date (i.e. exit price). The
unprecedented developments in the mortgage lending industry and the current
economic conditions have resulted in a significant reduction in the secondary
market demand for assets not guaranteed by the Federal government or a governmental
agency. The estimated fair values at March 31, 2009 and December 31, 2008
for our receivables reflect this marketplace turmoil which typically assume a
significantly higher charge-off level than what we, as the servicer of these
receivables, believe will ultimately be the case, and reflects a significant
pricing discount resulting from the lack of liquidity available to most buyers of
whole loan assets. This creates a value that is substantially lower than would
otherwise be reported under more normal marketplace conditions.
20. New Accounting Pronouncements
In December 2007, the FASB issued Statement of Financial Accounting Standards
No. 141 (Revised), "Business Combinations" ("SFAS No. 141(R)"). The
new standard requires an acquirer to recognize all the assets acquired, liabilities
assumed and any noncontrolling interest in the acquiree at fair value as of the
date of acquisition. SFAS No. 141(R) also changes the recognition and
measurement criteria for certain assets and liabilities including those arising
from contingencies, contingent consideration, and bargain purchases. In addition,
it requires the expensing of acquisition related structuring and transaction costs.
SFAS No. 141(R) is effective for business combinations with an effective
date in 2009.
In December 2007, the FASB issued Statement of Financial Accounting Standards
No. 160, "Noncontrolling Interests in Consolidated Financial Statements"
("SFAS No. 160"). SFAS No. 160 amends ARB 51 and requires
entities to report noncontrolling interests in subsidiaries as equity in the
consolidated financial statements and to account for the transactions with
noncontrolling interest owners as equity transactions provided the parent retains
controlling interest in the subsidiary. SFAS No. 160 requires disclosure
of the amounts of consolidated net income attributable to the parent and to the
noncontrolling interest on the face of the consolidated statement of (loss) income.
SFAS No. 160 also requires expanded disclosures that identify and
distinguish between parent and noncontrolling interests. SFAS No. 160 is
effective from fiscal years beginning on or after December 15, 2008. The
adoption of SFAS No. 160 did not have a material impact on our financial
position or results of operations.
In February 2008, the FASB issued FASB Staff Position SFAS No. 140-3,
"Accounting for Transfers of Financial Assets and Repurchase Financing
Transactions" ("FSP SFAS No. 140-3"). Under FSP SFAS No. 140-3,
the initial transfer of a financial asset and a repurchase financing involving the
same asset that is entered into contemporaneously with, or in contemplation of, the
initial transfer is presumptively to be linked and are considered part of the same
arrangement under SFAS No. 140. The initial transfer and subsequent
financing transaction will be considered separate transactions under
SFAS No. 140 if certain conditions are met. FSP SFAS No. 140-3
is effective for new transactions entered into in fiscal years beginning after
November 15, 2008. The adoption of FSP SFAS No. 140-3 did not have a
material impact on our financial position or results of operations.
In March 2008, the FASB issued Statement of Financial Accounting Standards
No. 161, "Disclosures about Derivative Instruments and Hedging
Activities - an amendment of FASB Statement No. 133"
("SFAS No. 161"). SFAS No. 161 requires enhanced disclosures
about an entity's derivative and hedging activities and attempts to improve
transparency in financial reporting. SFAS No. 161 requires entities to
provide enhanced disclosures about (a) how and why an entity uses derivative
instruments; (b) how derivative instruments and related hedged items are
accounted for under SFAS No. 133 and its related interpretations; and
(c) how derivative instruments and related hedge items affect an entity's
financial position, financial performance and cash flows. It is effective for
fiscal years beginning after November 15, 2008 with early adoption encouraged.
SFAS No. 161 encourages, but does not require, comparative disclosures
for earlier periods at initial adoption. We adopted the disclosure requirements of
SFAS No. 161 effective January 1, 2009. See Note 10,
"Derivative Financial Instruments," in these consolidated financial statements.
In May 2008, the FASB issued Statement of Financial Accounting Standards
No. 163, "Accounting for Financial Guarantee Insurance Contracts - an
interpretation of FASB Statement No. 60" ("SFAS No. 163").
SFAS No. 163 applies to financial guarantee insurance (and reinsurance)
contracts issued by enterprises that are included within the scope of
paragraph 6 of Statement 60 and that are not accounted for as derivative
instruments. It clarifies how Statement 60 applies to financial guarantee insurance
contracts, including the recognition and measurement of premium revenue and claim
liabilities. This statement requires expanded disclosures about financial guarantee
insurance contracts. SFAS No. 163 is effective for financial statements
issued for fiscal years beginning after December 15, 2008, and all interim
periods within those fiscal years. The adoption of SFAS No. 163 did not
have a material impact on our financial position or our results of operations.
In December 2008, the Financial Accounting Standard Board issued FSP
SFAS 132(R)-1, "Employers' Disclosures about Postretirement Benefit Plan
Assets" ("FSP SFAS No. 132(R)-1"). FSP SFAS No. 132(R)-1
applies to an employer that is subject to the disclosure requirements of Statement
132(R). It requires entities to provide disclosures about employer's defined
benefit plans and other postretirement plans that would help users of the financial
statements to understand how investment allocation decisions are made, the major
categories of plan assets, the inputs and the valuation techniques used to measure
the fair value of plan assets, the effect of fair value measurements using
significant unobservable inputs (Level 3) on changes in plan assets for
the period and significant concentrations of risk within plan assets. FSP
SFAS No. 132(R)-1 is applicable for the first fiscal year ending after
December 15, 2009.
In April 2009, the Financial Accounting Standard Board issued FASB Staff Position
(FSP) FAS 141(R)-1, "Accounting for Assets Acquired and Liabilities Assumed in
a Business Combination That Arise from Contingencies' ("FSP
SFAS No. 141(R)-1"). FSP SFAS No. 141(R)-1 amends and clarifies
SFAS No. 141(R), "Business Combinations," to address initial and subsequent
accounting and measurement, and disclosure of assets and liabilities arising from
contingencies in a business combination. It requires all contingent assets and
liabilities acquired in a business combination that would be within a scope of
SFAS 5, if not acquired or assumed in a business combination, to be recognized
at fair value at the acquisition date. If the acquisition date measurement can not
be determined, the asset or a liability is to be recognized if certain conditions
are met. It also amended the subsequent measurement requirement from SFAS 141
(R) and provided flexibility in developing a basis for subsequent measurement. This
FSP is applicable for the first annual reporting period beginning on or after
December 15, 2008 and did not have a material impact on our financial position
or results of operations.
In April 2009, the Financial Accounting Standard Board amended FASB Statement
No. 107, "Disclosures about Fair Value of Financial Instruments," and APB
Opinion No. 28, "Interim Financial Reporting", by issuing FASB Staff Position
(FSP) SFAS 107-1 and APB 28-1, "Interim Disclosures about Fair Value of
Financial Instruments" ("FSP SFAS No. 107-1 and APB 28-1"). FSP
FAS No. 107-1 and APB 28-1 require entities to disclose fair value of
financial instruments for all interim reporting periods ending after June 15,
2009 with earlier application permitted. We have adopted the disclosure
requirements of this FSP effective January 1, 2009. See Note 19, "Fair
Value Measurements", in these consolidated financial statements.
The Financial Accounting Standard Board issued FASB Staff Position (FSP)
SFAS 157-4, "Determining Fair Value When the Volume and Level of Activity for
the Asset or Liability Have Significantly Decreased and Identifying Transactions
That are not Orderly in April 2009", ("FSP SFAS No. 157-4") to provide
additional guidance for estimating fair value in accordance with FASB Statement
No. 157, "Fair Value Measurements" ("SFAS No. 157"). FSP
SFAS No. 157-4 provides additional guidance in determining fair value
when the volume and level of activity for the asset and liability have
significantly decreased and also on identifying circumstances that indicate a
transaction is not orderly. It also amends SFAS No. 157 to require
enhanced disclosures about the inputs and valuation techniques for measuring fair
value along with changes in the valuation methodologies and related inputs and
requires further disclosures for debt and equity securities. This FSP is effective
for the reporting period ending after June 15, 2009 with earlier adoption
permitted. We have adopted this FSP effective January 1, 2009. See
Note 19, "Fair Value Measurements", in these consolidated financial statements
for further disclosure.
In April 2009, the Financial Accounting Standard Board issued FASB Staff Position
(FSP) SFAS 115-2 and 124-2, "Recognition and Presentation of
Other-Than-Temporary Impairments", ("FSP SFAS No. 115-2 and 124-2") to
amend the recognition and presentation of other-than-temporary impairments for debt
securities. Under this guidance, if we do not have the intention to sell and it is
more-likely-than-not that we will not be required to sell the debt security, FSP
SFAS No. 115-2 and 124-2 requires segregating the difference between fair
value and amortized cost into credit losses and other losses with only the credit
loss recognized in earnings and other losses recorded to other comprehensive
income. Where our intent is to sell the debt security or where it is more likely
than not that we will be required to sell the debt security, the entire difference
between the fair value and the amortized cost basis is recognized in earnings. FSP
SFAS No. 115-2 and 124-2 also requires disclosure of the reasons for
recognizing a portion of impairment in other comprehensive income and the
methodology and significant inputs used to calculate the credit loss component. FSP
SFAS No. 115-2 and 124-2 is effective for all the reporting periods
ending after June 15, 2009 with earlier adoption permitted. We have adopted
FSP SFAS No. 115-2 and 124-2 effective January 1, 2009. The
cumulative effect of applying FSP SFAS No. 115-2 and 124-2 was recorded
to opening retained earnings for 2009. As a result, on January 1, 2009 we
reclassified $15 million, net of taxes, from retained earnings to accumulated
other comprehensive income (loss) related to the non-credit loss components of
other-than-temporary impairments on debt securities. See Note 4, "Securities,"
in these consolidated financial statements for additional information on
other-than-temporary impairments.
Item 2. Management's Discussion and Analysis of Financial
Condition and
Results of Operations
Forward-Looking Statements
Management's Discussion and Analysis of Financial Condition and Results of
Operations ("MD&A") should be read in conjunction with the consolidated
financial statements, notes and tables included elsewhere in this report and with
our Annual Report on Form 10-K for the year ended December 31, 2008 (the
"2008 Form 10-K"). MD&A may contain certain statements that may be
forward-looking in nature within the meaning of the Private Securities Litigation
Reform Act of 1995. In addition, we may make or approve certain statements in
future filings with the
SEC
, in press releases, or oral or written presentations by representatives of HSBC
USA Inc. that are not statements of historical fact and may also constitute
forward-looking statements. Words such as "may", "will", "should", "would",
"could", "intend", "believe", "expect", "estimate", "target", "plan", "anticipate",
"goal" and similar expressions are intended to identify forward-looking statements
but should not be considered as the only means through which these statements may
be made. These matters or statements will relate to our future financial condition,
results of operations, plans, objectives, performance or business developments and
will involve known and unknown risks, uncertainties and other factors that may
cause our actual results, performance or achievements to be materially different
from that which was expressed or implied by such forward-looking statements.
Forward-looking statements are based on our current views and assumptions and speak
only as of the date they are made. HSBC USA Inc. undertakes no obligation to update
any forward-looking statement to reflect subsequent circumstances or events.
HSBC USA Inc. is an indirect wholly owned subsidiary of HSBC Holdings plc ("HSBC").
HSBC USA Inc. may also be referred to in MD&A as "we", "us", or "our".
During the first quarter of 2009, economic conditions in the
U.S.
continued to deteriorate as a result of tighter credit conditions, slower
economic growth and continued declines in the housing market. The on-going
financial market disruptions continue to impact credit spreads and liquidity.
U.S.
unemployment rates increased to 8.5 percent in March 2009, an increase
of 130 basis points during the quarter. Unemployment rates in 19 states
are greater than the
U.S.
national average and 18 states report unemployment rates at or above
9 percent. Additionally, personal bankruptcy filings increased during the
quarter. This has resulted in higher provisions for credit losses in our loan
portfolio and in loan portfolios across the industry. Concerns about the future of
the
U.S.
economy, including the length and depth of the current economic recession,
consumer confidence, volatility in energy prices, adverse developments in the
credit markets and mixed corporate earnings continue to negatively impact the
U.S.
economy and the capital markets. These adverse conditions continue to impact
the carrying value of several asset classes including asset backed securities held
for both trading purposes and as available for sale, subprime residential mortgage
loans held for sale and credit derivative products including derivative products
with monoline insurance companies, although the dollar magnitude of these
writedowns has slowed considerably during the first quarter. Despite this slowing
however, we remain cautious as volatility with respect to certain capital markets
activities remains elevated and we expect these conditions to continue to impact
our results in 2009.
Performance, Developments and Trends
Our loss before income tax expense was $48 million during the three months
ended March 31, 2009 compared to a loss before income tax benefit of
$442 million in the prior year quarter. Our results for the first quarter of
2009 were positively impacted by an $85 million
gain relating to the resolution
of a lawsuit whose proceeds will be used to redeem the 100 preferred shares
issued to CT Financial Services, Inc. as provided under the terms of the preferred
shares as well as a $33 million gain on the sale of an equity interest in HSBC
Private Bank (Suisse) S.A. which collectively increased other income and reduced
pre-tax loss by $118 million during the quarter. Similarly, our results for
the first quarter of 2008 were positively impacted by a gain from the sale of a
portion of our investment in Visa Class B shares and the release of a
litigation accrual which collectively reduced our pre-tax loss by
$120 million. Excluding the impact of these items from both periods, we
incurred a loss before income tax of $166 million during the first quarter of
2009, an improvement from the prior year loss before income tax expense of
$562 million. Although our results for the first quarter of 2009 were impacted
by reductions to other revenues, largely trading revenue associated with credit
derivative products due to the adverse financial market conditions discussed above,
the magnitude of such write- downs declined from the prior year period. However in
2009, we also recognized higher securities losses due to other-than-temporary
impairment charges, as well as a higher provision for credit losses and higher
operating expenses. Partially offsetting the negative impacts to revenue were
increased payments and cash management revenues, increased foreign exchange and
interest rate trading revenue and increased fees from the credit card receivable
portfolio. We also recognized higher gains during the first quarter of 2009 on the
fair value of financial instruments and related derivative contracts accounted for
under fair value option accounting ("FVO"). Partially offsetting these negative
trends during the quarter was higher net interest income due to higher net interest
margin driven by a lower cost of funds and higher levels of loans outstanding.
A summary of the significant valuation adjustments associated with these market
disruptions which impacted revenue for the three month periods ended March 31,
2009 and 2008 are presented in the following table.
Three Months Ended March 31,
|
|
|
|
|
Insurance
monoline
structured
credit
products
|
|
|
Other
structured
credit
products
|
|
|
Mortgage
loans
held
for
sale
|
|
|
Other
than
temporary
impairment
on
securities
available
for
sale
|
|
|
Leverage
acquisition
finance
loans
held
for
sale
|
|
|
|
|
|
The recent market events have created stress for certain counterparties with whom
we conduct business as part of our lending and client intermediation activities. We
assess, monitor and control credit risk with formal standards, policies and
procedures that are designed to ensure credit risks are assessed accurately,
approved properly, monitored regularly and managed actively. Consequently, we
believe any loss exposure related to counterparties with whom we conduct business
has been adequately reflected in our financial statements at March 31, 2009.
Our provision for credit losses increased $676 million during the first
quarter of 2009 as compared to the year-ago quarter, primarily due to the purchase
of the General Motors and
AFL
-CIO Union Plus credit card receivable portfolios (the "GM and UP Portfolios") from
HSBC Finance, growing delinquencies and charge-offs within the private label credit
card portfolio as well as higher delinquency and credit loss estimates relating to
prime residential mortgage loans as conditions in the housing markets worsened and
the U.S. economy deteriorated. Provisions for credit losses also increased for
both loans and loan commitments in the commercial loan portfolio due to higher
levels of criticized assets caused by customer credit downgrades and deteriorating
economic conditions, particularly in real estate lending.
Net interest income was $1,348 million during the first quarter of 2009, an
increase of 40 percent over the year-ago period. This increase primarily
resulted from higher balance sheet management income due in large part to positions
taken in expectation of decreased funding rates, as well as the impact of higher
credit card receivable levels due to the purchase of the GM and UP Portfolios in
January 2009 and a reduction in the amortization of private label credit card
premium amortization due to lower premiums being paid. These increases were
partially offset by narrowing of interest rate spreads on deposit products
primarily due to lower market interest rates, competitive pressures as customers
migrated to higher yielding deposit products, higher amortization of credit card
premium due to the purchase of the GM and UP portfolios and the runoff of the
residential mortgage and other consumer loan portfolios.
Operating expenses totaled $972 million in the first quarter of 2009.
Excluding the impact of the reduction to the VISA litigation reserve in 2008,
operating expenses increased 13 percent over 2008. Lower salaries and employee
benefit expense due to continued cost management efforts which have resulted in
lower headcount including the impact of global resourcing initiatives were more
than offset by higher servicing fees paid to HSBC Finance as a result of the
purchase of the GM and UP Portfolios, higher fees paid to HTSU and higher FDIC
assessment fees.
Our efficiency ratio was 46.33 percent for the three months ended
March 31, 2009 as compared to 93.59 in the year-ago period. The improvement in
the efficiency ratio in the first quarter of 2008 resulted primarily from an
increase in revenues as compared to the year ago period as discussed above.
In January 2009, we purchased a $6.3 billion portfolio of General Motors
MasterCard receivables, a $6.1 billion portfolio of
AFL
-CIO Union Plus MasterCard/Visa credit card receivables and a $3 billion
portfolio of auto finance receivables (the "Acquired Auto Finance Loans") from HSBC
Finance for an aggregate purchase price of $15.0 billion, which included the
assumption of approximately $6.1 billion of indebtedness. HSBC Finance
retained the customer account relationships associated with the credit card
portfolios. We will purchase additional credit card loan originations generated
under new and existing accounts on a daily basis at fair market value. HSBC Finance
will service the purchased portfolios for a fee. The purchases help maximize the
efficient use of liquidity at both entities. The consideration was determined based
upon an independent valuation opinion. In connection with the purchases, we
received capital contributions from HNAI in an aggregate amount of approximately
$1.1 billion in January 2009. This amount, along with an additional
$0.6 billion received by us from HNAI in December 2008, was subsequently
contributed to our subsidiary, HSBC Bank
USA
, to provide capital support for the receivables purchased.
The financial information set forth below summarizes selected financial highlights
of HSBC USA Inc. as of March 31, 2009 and December 31, 2008 and for the
three month periods ended March 31, 2009 and 2008.
Three Months Ended March 31,
|
|
|
|
(dollars are in millions)
|
|
|
|
Total
shareholders'
equity
to
total
assets
|
|
|
Total
capital
to
risk
weighted
assets
|
|
|
Tier 1
capital
to
risk
weighted
assets
|
|
|
Rate
of
return
on
average
:
|
|
|
|
|
|
Total
common
shareholder's
equity
|
|
|
Net
interest
margin
to
average
earning
assets
|
|
|
|
|
|
Commercial
allowance
as
a
percent
of
loans(1)
|
|
|
Commercial
net
charge-off
ratio(1)
|
|
|
Commercial
two-months-and-over
contractual
delinquency
|
|
|
Consumer
allowance
as
a
percent
of
loans(1)
|
|
|
Consumer
net
charge-off
ratio(1)
|
|
|
Consumer
two-months-and-over
contractual
delinquency
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Excludes loans held for sale.
|
Loans excluding loans held for sale were $88.5 billion at March 31, 2009,
$81.1 billion at December 31, 2008 and $87.9 billion at
March 31, 2008. The increase in comparison with both prior periods was
primarily driven by higher consumer loans due to the purchase of the GM and UP
Portfolios and the auto finance loans described above as well as growth in the
co-brand MasterCard/Visa portfolio. These increases were partially offset by the
sale of approximately $8.8 billion of prime adjustable and fixed rate
residential mortgage loans since March 31, 2008, ($1.8 billion since
December 31, 2008), and other initiatives to reduce risk in our loan
portfolio, including tightening of underwriting criteria for private label credit
card receivables. Commercial loans are lower compared to the year-ago periods as a
result of increased paydowns on loans across all commercial businesses as well as
lower overdraft balances. See "Balance Sheet Review" for a more detailed discussion
of the changes in loan balances.
Our allowance for credit losses as a percentage of total loans increased during the
three months ended March 31, 2009 as compared to both the prior quarter and
the year-ago quarter. The increase in our allowance reflects higher levels of
credit card receivables due to the purchase of the GM and UP Portfolios as well as
a higher allowance on our private label and other credit card portfolios due in
part to higher delinquency and charge-off levels as a result of portfolio
seasoning, increased levels of personal bankruptcy filings, continued deterioration
in the U.S. economy including rising unemployment levels and lower recovery
rates on defaulted loans. Our allowance for credit losses on residential mortgage
loans also increased due to the continued deterioration of the housing market,
particularly as it relates to our prime residential mortgage loans, as did our
allowance on commercial loans, including our commercial real estate portfolio due
to customer credit downgrades and economic pressures. The increase in this ratio
was partially offset by the impact of applying the provisions of AICPA
SOP 03-3, "Accounting for Certain Loans or Debt Securities Acquired in a
Transfer" ("SOP 03-3") to certain delinquent loans in the acquired GM and UP
Portfolio which resulted in no allowance for credit losses being established on
this portion of the portfolio as our investment was recorded based on the net cash
flows expected to be collected.
Our consumer two-months-and-over contractual delinquency ratio increased compared
to both the prior year quarter and prior quarter due to continued deterioration in
the
U.S.
economy including continued declines in the housing markets and rising
unemployment rates. Commercial two-months-and-over contractual delinquency
increased due to continued deterioration of economic conditions. See "Credit
Quality" for a more detailed discussion of the increase in our delinquency ratios.
Net charge-offs as a percentage of average loans ("Net Charge-off Ratio") for the
three months ended March 31, 2009 increased compared to both the prior quarter
and prior year quarter due to the factors described above. The net charge-off ratio
for our credit card portfolio was positively impacted by the GM and UP portfolio
acquired from HSBC Finance, a portion of which was subject to the reporting
requirements of SOP 03-3. Criticized asset balances also increased
$1.2 billion during the first quarter of 2009 to $8.4 billion largely due
to deteriorating economic conditions. See "Credit Quality" for a more detailed
discussion of the increase in the Net Charge-off Ratio and criticized asset
balances.
Capital amounts and ratios are calculated in accordance with current banking
regulations. Our Tier 1 capital ratio was 7.86 percent at March 31,
2009 and 7.60 percent at December 31, 2008. Our capital levels remain
well above levels established by current banking regulations as "well capitalized."
We received capital contributions from our immediate parent, HSBC North America
Inc. ("HNAI") of $1.1 billion for the three months ended March 31, 2009
as compared to $1.0 billion in the same prior year period.
As part of the regulatory approvals with respect to the aforementioned receivable
purchases completed in January 2009, we and our ultimate parent HSBC committed that
HSBC Bank USA will maintain a Tier 1 risk-based capital ratio of at least
7.62 percent, a total capital ratio of at least 11.55 percent and a
Tier 1 leverage ratio of at least 6.45 percent for one year following the
date of transfer. In addition, we and HSBC have made certain additional capital
commitments to ensure that HSBC Bank
USA
holds sufficient capital with respect to purchased receivables that are or
may become "low-quality assets," as defined by the Federal Reserve Act.
In March 2009, Moody's Investors Services ("Moody's) downgraded the long-term debt
ratings of both HUSI and HSBC Bank
USA
by one level to A1 and Aa3, respectively and reaffirmed the short-term
ratings for each entity at Prime-1.
Moody
's also changed their outlook for both entities from "stable" to "negative." In
April 2009, DBRS re-affirmed the long and short-term debt ratings of HUSI and HSBC
Bank
USA
at AA and R-1, respectively, with a "negative" outlook.
Income Before Income Tax Expense - Significant Trends
Income before income tax expense, and various trends and activity affecting
operations, are summarized in the following table.
Three Months Ended March 31,
|
|
|
|
|
(Loss)
income
before
income
tax
from
prior
year
|
|
|
Increase
(decrease)
in
income
before
income
tax
expense
attributable
to:
|
|
|
Balance
sheet
management
activities(1)
|
|
|
Trading
related
activities(2)
|
|
|
|
|
|
Residential
mortgage
banking
related
revenue(4)
|
|
|
Gain
on
instruments
at
fair
value
and
related
derivatives(5)
|
|
|
Provision
for
credit
losses(6)
|
|
|
|
|
|
|
|
|
(Loss)
before
income
tax
for
current
year
|
|
|
(1) Balance sheet management activities are comprised primarily of net
interest income and, to a lesser extent, gains on sales of investments and trading
revenues, resulting from management of interest rate risk associated with the
repricing characteristics of balance sheet assets and liabilities. Refer to
commentary regarding Global Banking and Markets net interest income, trading
revenues, and the Global Banking and Markets business segment beginning on
page 86 of this Form 10-Q, respectively.
(2) Refer to commentary regarding trading (loss) revenue beginning on
page 76 of this Form 10-Q.
(3) Refer to commentary regarding loans held for sale beginning on
page 20 of this Form 10-Q.
(4) Refer to commentary regarding residential mortgage banking revenue
beginning on page 78 of this Form 10-Q.
(5) Refer to commentary regarding fair value option and fair value measurement
beginning on page 50 of this Form 10-Q.
(6) Refer to commentary regarding provision for credit losses beginning on
page 41 of this Form 10-Q.
(7) Represents other core banking activities.
Our consolidated financial statements are prepared in accordance with accounting
principles generally accepted in the
United States
("U.S. GAAP"). Certain reclassifications have been made to prior year
amounts to conform to the current year presentation.
In addition to the U.S. GAAP financial results reported in our consolidated
financial statements, MD&A includes reference to the following information
which is presented on a non-U.S. GAAP basis:
International Financial Reporting Standards (
"
IFRSs
"
)
Because HSBC reports results in accordance with IFRSs and IFRSs results are
used in measuring and rewarding performance of employees, our management also
separately monitors net income under IFRSs. The following table reconciles our net
income on a U.S. GAAP basis to net income on an
IFRS
basis.
Three Months Ended March 31
|
|
|
|
|
Net
loss -
U.S.
GAAP
basis
|
|
|
|
|
|
Unquoted
equity
securities
|
|
|
Fair
value
option -
LAF
loan
reclass
|
|
|
|
|
|
Other-than-temporary
impairment
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Purchased
loan
portfolios
|
|
|
|
|
|
|
|
|
Total
adjustments,
net
of
tax
|
|
|
|
|
|
A summary of the significant differences between U.S. GAAP and IFRSs as they
impact our results are presented below:
Unquoted equity securities
- Under IFRSs, equity securities which are not quoted on a recognized
exchange (MasterCard Class B shares & Visa Class B shares), but
for which fair value can be reliably measured, are required to be measured at fair
value. Securities measured at fair value under IFRSs are classified as either
available for sale securities, with changes in fair value recognized in
shareholders' equity, or as trading securities, with changes in fair value
recognized in income. Under U.S. GAAP, equity securities that are not quoted
on a recognized exchange are not considered to have a readily determinable fair
value and are required to be measured at cost, less any provisions for known
impairment, in other assets.
Fair value option -
LAF
loan reclass
- Certain Leverage Acquisition Finance (
LAF
) loans were classified as "Trading Assets" for IFRSs and to be consistent, an
irrevocable fair value option was elected on these loans under U.S. GAAP on
January 1, 2008. These loans were reclassified to "loans and advances" as of
July 1, 2008 under IFRSs pursuant to an amendment to IAS 39. Under
U.S. GAAP, loans are classified as "held for sale" and carried at fair value
due to the irrevocable nature of the fair value option.
Securities
- Certain securities were reclassified from "trading assets" to "loans and
receivables" under IFRSs as of July 1, 2008 pursuant to an amendment to IAS
39, and are no longer marked to market. In November 2008, additional securities
were similarly transferred to loans and receivables. These securities continue to
be classified as "trading assets" under U.S. GAAP.
Under IFRSs, securities also include HSBC shares held for stock plans at fair
value. These shares held for stock plans are recorded at fair value through other
comprehensive income. If it is determined these shares have become impaired, the
fair value loss is recognized in profit and loss and any fair value loss recorded
in other comprehensive income is reversed.
Other-than-temporary impairment
- Effective January 1, 2009 under U.S. GAAP, the credit loss
component of an other-than-temporary impairment of a debt security is recognized in
earnings while the remaining portion of the impairment loss is recognized in other
comprehensive income provided a company concludes it neither intends to sell the
security nor concludes that it is more-likely-than-not that it will have to sell
the security prior to recovery. Under IFRSs, there is no bifurcation of
other-than-temporary impairment and the entire portion is recognized in earnings.
There are also less significant differences in measuring other-than-temporary
impairment under IFRSs versus U.S. GAAP.
Derivatives
- Effective January 1, 2008, U.S. GAAP removed the observability
requirement of valuation inputs to allow up-front recognition of the difference
between transaction price and fair value in the consolidated statement of income
(loss). Under IFRSs, recognition is permissible only if the inputs used in
calculating fair value are based on observable inputs. If the inputs are not
observable, profit and loss is deferred and is recognized 1) over the period
of contract, 2) when the data becomes observable, or 3) when the contract
is settled. In the current period this has caused the net income under
U.S. GAAP to be higher than under IFRSs.
Loan impairment
- IFRSs requires a discounted cash flow methodology for estimating impairment
on pools of homogeneous consumer loans which requires the incorporation of the time
value of money relating to recovery estimates. Also under IFRSs, future recoveries
on charged-off loans are accounted for on a discounted basis and a recovery asset
is recorded. Subsequent recoveries are recorded to earnings under U.S. GAAP,
but are adjusted against the recovery asset under IFRSs. Interest is recorded based
on collectability under IFRSs.
Under U.S. GAAP the credit risk component of the lower of cost or fair value
adjustment related to the transfer of receivables to held for sale is recorded in
the consolidated statement of (loss) income as provision for credit losses. There
is no similar requirement under IFRSs.
Property
- Under IFRSs, the value of property held for own use reflects revaluation
surpluses recorded prior to January 1, 2004. Consequently, the values of
tangible fixed assets and shareholders' equity are lower under U.S. GAAP than
under IFRSs. There is a correspondingly lower depreciation charge and higher net
income as well as higher gains (or smaller losses) on the disposal of fixed assets
under U.S. GAAP. For investment properties, net income under U.S. GAAP
does not reflect the unrealized gain or loss recorded under IFRSs for the period.
Pension costs
- Net income under U.S. GAAP is lower than under IFRSs as a result of
the amortization of the amount by which actuarial losses exceed gains beyond the
10 percent "corridor".
Purchased Loan Portfolios
- Under US GAAP, purchased loans are recorded at fair value persuant to
SOP 03-3 only to the extent there has been evidence of credit deterioration at
the time of acquisition. This generally results in only a portion of the loans in
the acquired portfolio being recorded at fair value. Under IFRSs, the entire
purchased portfolio is recorded at fair value.
Servicing assets
- Under IAS 38, servicing assets are initially recorded on the balance sheet
at cost and amortized over the projected life of the assets. Servicing assets are
periodically tested for impairment with impairment adjustments charged against
current earnings. Under U.S. GAAP, we generally record servicing assets on the
balance sheet at fair value. All subsequent adjustments to fair value are reflected
in current period earnings.
Other
- In 2008, other includes the impact of differences associated with a timing
difference with respect to the adoption of SFAS 157 for U.S. GAAP which
resulted in the recognition of $10 million of net income relating to
structured products. Other also includes the net impact of certain adjustments
which represent differences between U.S. GAAP and IFRSs that were not
individually material for the three month periods ended March 31, 2009 and
2008, including deferred loan origination costs and fees.
We utilize deposits and borrowings from various sources to provide liquidity, fund
balance sheet growth, meet cash and capital needs, and fund investments in
subsidiaries. Balance sheet totals at March 31, 2009, and movements in
comparison with prior periods, are summarized in the following table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-Term Investments
Short-term investments include cash and due from banks, interest bearing deposits
with banks, Federal funds sold and securities purchased under resale agreements.
Loans, Net
Loan balances at March 31, 2009, and movements in comparison with prior years,
are summarized in the following table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential mortgages, excluding HELOCs and home equity mortgages
|
|
|
|
|
|
HELOCs and home equity mortgages
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for credit losses
|
|
|
|
|
|
|
|
|
|
|
|
Commercial loans are lower compared to the year-ago periods as a result of
increased paydowns on loans across all commercial businesses as well as lower
overdraft balances.
Residential mortgage loans have decreased as compared to both the prior year
quarter and prior quarter. As a result of balance sheet initiatives to reduce
prepayment risk and improve the structural liquidity of HSBC Bank
USA
, we sell a majority of our new residential loan originations through the secondary
markets and have allowed the existing loan portfolio to run off, resulting in
reductions in loan balances throughout 2008 and continuing into the first quarter
of 2009. Additionally, lower residential mortgage loan balances reflect the sale of
approximately $8.8 billion of prime adjustable and fixed rate residential
mortgage loans since March 31, 2008, including $1.8 billion sold in the
first quarter of 2009. Also in the first quarter of 2009, we transferred
approximately $1.9 billion of residential mortgage loans to loans held for
sale.
Higher credit card receivable balances from December 31, 2008 and
March 31, 2008 are largely due to the purchase of the GM and UP Portfolios,
with an outstanding principal balance of $12.4 billion at the time of purchase
in January 2009 from HSBC Finance as discussed above, as well as the expansion of
the co-brand MasterCard/Visa portfolio. Lower balances related to private label
credit cards from December 31, 2008 and March 31, 2008 are due primarily
to the tightening of underwriting criteria to lower the risk profile of the
portfolio, the termination of unprofitable retail partners and as compared to
December 31, 2008, normal seasonal run-off.
Auto finance loans have increased as a result of the purchase of $3.0 billion
of auto finance loans in January 2009 from HSBC Finance as discussed above. This
increase was partially offset by the continued run-off of our indirect auto
financing loans which we no longer originate.
Other consumer loans have decreased since December 31, 2008 and March 31,
2008 primarily due to the discontinuation of originations of student loans.
Loans Held for
Sale
Loans held for sale at March 31, 2009 and movements in comparison with prior
years are summarized in the following table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loans held for sale
|
|
|
|
|
|
We originate commercial loans in connection with our participation in a number of
leveraged acquisition finance syndicates. A substantial majority of these loans
were originated with the intent of selling them to unaffiliated third parties and
are classified as other commercial loans held for sale. Commercial loans held for
sale under this program were approximately $925 million, $874 million and
$1,797 million at March 31, 2009, December 31, 2008 and
March 31, 2008, respectively, all of which are recorded at fair value.
Although Commercial loan balances decreased from the year-ago quarter due to
$648 million of leveraged acquisition finance loans being converted to
corporate bonds since March 31, 2008,they increased from December 31,
2008 primarily due to an increase in the fair value of the loans.
Residential mortgage loans held for sale include sub-prime residential mortgage
loans of $1.0 billion, $1.2 billion, and $1.7 billion at
March 31, 2009, December 31, 2008, and March 31, 2008, respectively,
that were acquired from unaffiliated third parties and from HSBC Finance with the
intent of securitizing or selling the loans to third parties. Also included in
residential mortgage loans held for sale are first mortgage loans originated and
held for sale primarily to various governmental agencies. In the first quarter of
2009, we sold approximately $1.8 billion of prime adjustable and fixed rate
residential mortgage loans which resulted in a $37 million gain. The gains and
losses from the sale of residential mortgage loans is reflected as a component of
residential mortgage banking revenue in the accompanying consolidated statement of
(loss) income. We retained the servicing rights in relation to the mortgages upon
sale. Also in the first quarter of 2009, we transferred approximately
$1.9 billion of residential mortgage loans to loans held for sale.
Other consumer loans held for sale consist primarily of student loans.
Residential mortgage and other consumer loans held for sale are recorded at the
lower of cost or market value. The cost of loans held for sale exceeded market
value at March 31, 2009, resulting in an increase to the related valuation
allowance during the three months ended March 31, 2009. This was primarily a
result of adverse conditions in the
U.S.
residential mortgage markets.
Trading Assets and Liabilities
Trading assets and liabilities balances at March 31, 2009, and movements in
comparison with prior periods, are summarized in the following table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair value of derivatives
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities sold, not yet purchased
|
|
|
|
|
|
Payables for precious metals
|
|
|
|
|
|
Fair value of derivatives
|
|
|
|
|
|
|
|
|
|
|
|
|
Includes U.S. Treasury securities, securities issued by U.S. Government
agencies and U.S. Government sponsored enterprises, other asset backed
securities, corporate bonds and debt securities.
|
Decreased securities balances from December 31, 2008 and March 31, 2008
resulted primarily from sales and, to a lesser extent, write-downs on securities,
as spreads have continued to widen and underlying collateral has continued to
deteriorate. Higher precious metals balances at March 31, 2009 as compared to
December 31, 2008 were primarily due to higher prices on all metals. Lower
precious metals balances at
March 31 2009
as compared to March 31, 2008 were primarily a result of lower market
prices for most precious metals and lower inventories.
Changes in derivative assets and liabilities balances from December 31, 2008
were impacted by market volatilities which have led to spreads tightening in the
consumer and energy sectors offset by widening of curves in the financial and
insurance sectors. Changes from March 31, 2008 were largely due to increased
values on various derivative products including credit default swaps, foreign
currency forward contracts and total return swaps as a result of movements in
credit spreads and currency curves.
Deposits
Deposit balances by major depositor categories at March 31, 2009, and
movements in comparison with the prior quarter and year-ago quarter, are summarized
in the following table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
Partnerships and corporations
|
|
|
|
|
|
Domestic and foreign banks
|
|
|
|
|
|
U.S. Government, states and political subdivisions
|
|
|
|
|
|
Foreign government and official institutions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
We monitor "core deposits" as a key measure for assessing results of
our core banking network. Core deposits generally include all domestic
demand, money market and other savings accounts, as well as time
deposits with balances not exceeding $100,000.
|
Deposits continued to be a significant source of funding during the first quarter
of 2009. However total deposits decreased three percent during the three months
ended March 31, 2009 as a result of the maturing of several large time
deposits which were not renewed. Deposits by foreign and domestic banks and
financial institutions as well as foreign government and official institution
deposits have decreased. Additionally, given our overall liquidity position, we
have managed down low margin deposits to maximize profitability. This was partially
offset by growth in the online and branch based savings products as well as the
expansion of the core retail banking business.
We maintain a growth strategy for our core banking network, which includes building
deposits and wealth management across multiple markets and segments, utilizing
multiple delivery systems. This strategy includes various initiatives, such as:
•
HSBC Premier, HSBC's global banking service which offers affluent customers a
seamless international service and a personal relationship manager;
•
Internet based products offered through HSBC Direct, particularly Online Savings
and Online Certificate of Deposit accounts. Since their introduction in 2005,
internet savings balances have grown to $15.6 billion at March 31, 2009,
of which $1.2 billion was growth in the first quarter of 2009. Internet
certificates of deposit have increased slightly during the first quarter of 2009 to
$1 billion at March 31, 2009; and
•
Retail branch expansion in existing and new geographic markets.
Short-Term Borrowings
Increased retail deposits and transaction banking sweeps reduced the need for
short-term borrowings during the first quarter of 2009. Balances for securities
sold under repurchase agreements and precious metals borrowings continued to
decrease during the first quarter of 2009.
Long-Term Debt
Incremental borrowings from the $40 billion HSBC Bank USA Global Bank Note
Program were $21 million during the first quarter of 2009. Total borrowings
outstanding under this program were $7 billion at March 31, 2009 and
December 31, 2008.
Incremental long-term debt borrowings from our shelf registration statement with
the Securities and Exchange Commission totaled $282 million during the three
months ended March 31, 2009. There were no new securities issued during the
first quarter of 2009 as part of the FDIC's Debt Guarantee Program. Total long-term
debt borrowings outstanding under this shelf were $6.2 billion and
$6.0 billion at March 31, 2009 and December 31, 2008. Total long
term debt and preferred stock outstanding under this shelf were $6.6 billion
and $6.4 billion at March 31, 2009 and December 31, 2008.
We had borrowings from the Federal Home Loan Bank ("FHLB") of $1.0 billion and
$2.0 billion at March 31, 2009 and December 31, 2008, respectively.
At March 31, 2009 we had access to an additional secured borrowing facility of
$3.8 billion from the FHLB.
In January 2009 as part of the purchase of the GM and UP Portfolio from HSBC
Finance, we assumed $6.1 billion of securities backed by credit card
receivables which were accounted for as secured financings.
Beginning in 2005, we entered into a series of transactions with Variable Interest
Entities (VIEs) organized by HSBC affiliates and unrelated third parties. We are
the primary beneficiary of these VIEs under the applicable accounting literature
and, accordingly, we have consolidated the assets and debt of the VIEs. Debt
obligations of the VIEs totaling $6.3 billion and $1.2 billion were
included in long-term debt at March 31, 2009 and December 31, 2008,
respectively. Refer to Note 17, "Special Purpose Entities" of the accompanying
consolidated financial statements for additional information regarding VIE
arrangements.
Net Interest Income
An analysis of consolidated average balances and interest rates on a taxable
equivalent basis is presented on page
116
of this Form 10-Q. Significant components of our net interest margin are
summarized in the following table.
Three Months Ended March 31,
|
|
|
Yield
on
total
earning
assets
|
|
|
Rate
paid
on
interest
bearing
liabilities
|
|
|
|
|
|
Benefit
from
net
non-interest
earning
or
paying
funds
|
|
|
Net
interest
margin
to
earning
assets(1)
|
|
|
|
Selected financial ratios are defined in the Glossary of Terms in our
2008 Form 10-K.
|
Significant trends affecting the comparability of 2009 and 2008 net interest
income and interest rate spread are summarized in the following table. Net interest
income in the table is presented on a taxable equivalent basis.
Three Months Ended March 31,
|
|
|
|
(dollars are in millions)
|
Net
interest
income/interest
rate
spread
from
prior
year
|
|
|
Increase
(decrease)
in
net
interest
income
associated
with:
|
|
|
Trading
related
activities
|
|
|
Balance
sheet
management
activities(1)
|
|
|
Private
label
credit
card
portfolio
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
interest
income/interest
rate
spread
for
current
year
|
|
|
|
Represents our activities to manage interest rate risk associated with
the repricing characteristics of balance sheet assets and liabilities.
Interest rate risk, and our approach to manage such risk, are described
under the caption "Risk Management" in this Form 10-Q.
|
Trading Related Activities
Net interest income for trading related activities increased in during the
three months ended March 31, 2009 primarily due to decreased funding
costs.
Balance Sheet Management Activities
Higher net interest income from balance sheet management activities during
the three months ended March 31, 2009 was due primarily to positions taken in
expectation of decreasing short-term rates.
Private Label Credit Card Portfolio
Higher net interest income on private label credit card receivables during
the three months ended March 31, 2009 resulted from lower funding costs and
lower amortization of premiums on the initial purchase as well as lower daily
premiums.
Credit Card Portfolios
Higher net interest income on credit card receivables during the three months
ended March 31, 2009 primarily reflects the impact of the purchase of the GM
and UP Portfolios from HSBC Finance.
Commercial Loans
Higher net interest income on commercial loans is primarily due to lower
funding costs on these loans.
Deposits
Lower interest income related to deposits is primarily due to spread
compression on core banking activities in the PFS and
CMB
business segments. These segments have been affected by falling interest
rates, growth in customer deposits in higher yielding deposit products, such as
online savings and premier investor accounts, and a more competitive retail market
.
Other Activity
Lower net interest income from other activity during the three months ended
March 31, 2009 is related to lower commercial and residential mortgage loan
balances which was partially offset by increased margins on consumer loans due to
lower funding costs as well as interest income on a portfolio of auto finance loans
purchased in January 2009.
Provision for Credit Losses
The provision for credit losses associated with various loan portfolios is
summarized in the following table.
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
Residential mortgages, excluding HELOCs and home equity
|
|
|
|
|
HELOCs and home equity mortgages
|
|
|
|
|
Private label card receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total provision for credit losses
|
|
|
|
|
Provision expense on residential mortgages increased $130 million for the
three months ended March 31, 2009 as compared with the year-ago period. The
increase was attributable to increased delinquencies within the prime residential
first mortgage loan portfolio, due primarily to the continued deterioration in real
estate values in certain markets. Also contributing to this increase to a lesser
extent is a portfolio of nonconforming residential mortgage loans which we
purchased from HSBC Finance in 2003 and 2004.
Provision expense associated with private label and other credit card receivables
collectively increased $463 million for the three months ended March 31,
2009 as compared with the year-ago period. Provision expense associated with credit
card receivables was significantly impacted by the purchase of the GM and UP
Portfolios as previously discussed. Excluding these portfolios, provision expense
remained higher, primarily from higher delinquencies and charge offs within the
private label and co-brand credit card portfolios due to higher levels of personal
bankruptcy filings, lower recovery rates and the impact from a continued weakening
of the
U.S.
economy.
Provision expense associated with our auto finance portfolio increased mainly due
to the acquisition of the $3 billion auto finance loan portfolio from HSBC
Finance in January 2009.
Commercial loan provision expense increased for the three months ended
March 31, 2009 as compared with the year-ago period. Provisions on commercial
real estate, middle market and corporate banking portfolios increased as a result
of higher criticized asset levels reflecting customer downgrades due to
deteriorating economic conditions. Increased provision in our commercial real
estate portfolio was largely due to problems in the condominium construction market
in South Florida and
California
.
Other Revenues (Losses)
The components of other revenues are summarized in the following tables.
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
Other
fees
and
commissions
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
other-than-temporary
impairment
losses
|
|
|
|
|
Other
securities
gain,
net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
mortgage
banking
revenue
|
|
|
|
|
Gain
on
instruments
at
fair
value
and
related
derivatives(1)
|
|
|
|
|
|
|
|
|
|
Valuation
of
loans
held
for
sale
|
|
|
|
|
|
|
|
|
|
Earnings
from
equity
investments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
other
revenues
(losses)
|
|
|
|
|
|
Includes gains and losses associated with financial instruments elected
to be measured at fair value under SFAS 159, and the associated
economically hedging derivatives. Refer to Note 11, "Fair Value
Option" of the consolidated financial statements for additional
information.
|
Credit Card Fees
Higher credit card fees during the three months ended March 31, 2009 were due
primarily to substantially higher outstanding credit card balances due to the
purchase of the GM and UP Portfolios as previously discussed. Also contributing to
the increase were higher late fees from increased delinquencies and growth of the
co-brand portfolio, partially offset by higher fee charge-offs due to increased
loan defaults.
Other Fees and Commissions
Other fee-based income increased during the three month period ended March 31,
2009 due to higher customer referral fees, commercial loan commitment fees, loan
syndication fees and fees generated by the Payments and Cash Management business.
Trust Income
Trust income declined slightly primarily due to margin pressure as money market
assets have shifted from higher fee asset classes to lower fee institutional class
funds.
Trading (Loss) Revenue
Trading (loss) revenue is generated by participation in the foreign exchange,
rates, credit and precious metals markets.
The following table presents trading related (loss) revenue by business. The data
in the table includes net interest income earned on trading instruments, as well as
an allocation of the funding benefit or cost associated with the trading positions.
The trading related net interest income (loss) component is included in net
interest income on the consolidated statement of (loss) income. Trading revenues
related to the mortgage banking business are included in residential mortgage
banking (loss) revenue.
|
|
|
|
Three Months Ended March 31,
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
Trading related (loss) revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Treasury (primarily securities)
|
|
|
|
|
Foreign exchange and banknotes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading related (loss) revenue
|
|
|
|
|
Trading (loss) revenue during the first quarter of 2009 continued to be affected by
reduced liquidity, widening spreads and volatility in the credit markets although
the magnitude of such impacts was not as severe when compared to the prior year
quarter.
Trading losses related to derivatives improved during the three months ended
March 31, 2009. Structured credit products sustained total losses of
approximately $357 million during the current quarter, as compared to
$715 million in the year-ago period, as the rate of additional provision
applied to monolines and losses associated with correlation trading decreased.
Provisions recorded for monolines were approximately $164 million during the
three months ended March 31, 2009, as compared to $488 million for the
year-ago period. Correlation trading sustained losses of $176 million during
the three months ended March 31, 2009, as compared to $248 million in the
year ago period.
Trading income related to securities improved to $12 million during the three
months ended March 31, 2009 as compared to a loss of $109 million in the
year-ago period, as the widening of credit spreads on asset backed securities held
for trading purposes slowed.
Partially offsetting the above noted losses from structured credit products, our
foreign exchange and interest rate trading businesses continued to contribute
increased revenues during the first quarter of 2009 as a result of ongoing market
volatility and increased customer activity.
Other trading losses primarily relate to losses on corporate bonds which is
attributable to increased credit risk on these bonds.
Net Other-Than-Temporary Impairment Losses
During the three months ended March 31, 2009, nine debt securities were
determined to be other-than-temporarily impaired pursuant to
SFAS No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." Consistent with
FSP
SFAS
115-2 and 124-2, "Recognition and Presentation of Other-Than-Temporary
Impairments," only the credit loss component is shown in earnings effective
January 1, 2009. The following table presents the various components of
other-than-temporary impairment.
Three Months Ended March 31
|
|
|
|
|
Total
other-than-temporary
impairment
losses
|
|
|
Portion
of
loss
recognized
in
other
comprehensive
income
(before
taxes)
|
|
|
Net
other-than-temporary
impairment
losses
recognized
in
earnings
|
|
|
Other Securities Gains, Net
We maintain various securities portfolios as part of our balance sheet
diversification, liquidity management and risk management strategies. The following
table summarizes the net Other securities (loss) gain resulting from various
strategies.
Three Months Ended March 31
|
|
|
|
|
Sale
of
MasterCard
or
Visa
Class B
Shares
|
|
|
Balance
sheet
diversity
and
reduction
of
risk
|
|
|
Other
securities
gains,
net
|
|
|
HSBC Affiliate Income
Affiliate fees and commissions were lower during the three months ended
March 31, 2009 due to lower gains on tax refund anticipation loans due to
lower origination volumes as well as lower gains on the sale of mortgages to HSBC
Markets (USA) Inc. ("HMUS") resulting from decreased activity under the programs
driven by illiquidity in the credit and sub-prime markets causing a decrease in
loans sold. These decreases were partially offset by higher customer referral fees
and other fees received from other HSBC affiliates.
Residential Mortgage Banking Revenue
The following table presents the components of residential mortgage banking
revenue. The net interest income component of the table is included in net interest
income in the consolidated statements of (loss) income and reflects actual interest
earned, net of interest expense and corporate transfer pricing.
|
|
|
|
Three Months Ended March 31,
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
Servicing
related
income:
|
|
|
|
|
|
|
|
|
|
Changes
in
fair
value
of
MSRs
due
to:
|
|
|
|
|
Changes
in
valuation
inputs
or
assumptions
used
in
valuation
model
|
|
|
|
|
Realization
of
cash
flows
|
|
|
|
|
Trading -
Derivative
instruments
used
to
offset
changes
in
value
of
MSRs
|
|
|
|
|
|
|
|
|
|
Originations
and
sales
related
income:
|
|
|
|
|
Gains
on
sales
of
residential
mortgages
|
|
|
|
|
Trading
and
hedging
activity
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
residential
mortgage
banking
revenue
included
in
other
revenues
|
|
|
|
|
Total
residential
mortgage
banking
related
revenue
|
|
|
|
|
Average
residential
mortgage
loans
|
|
|
|
|
Increased net interest income during the three months ended March 31, 2009
resulted from lower amortization of deferred expenses (lower prepayment levels on
lower outstandings) as well as reduced funding costs due to lower short term rates.
We have continued to sell the majority of new loan originations to government
sponsored enterprises and private investors and allow existing loans to
runoff.
Higher servicing fee income in the current quarter resulted from a rising volume of
our average serviced loans portfolio, as we have continued to sell the majority of
new loan originations to government sponsored enterprises as discussed above, but
continue to retain servicing rights for the loans sold. The average serviced loans
portfolio increased approximately 22 percent since March 31, 2008. The
increased serviced loans portfolio, and its positive impact on service fee income,
was partially offset by unfavorable net hedged MSR performance during the first
quarter of 2009 primarily from increased market volatility in the mortgage market.
Originations and sales related income increased during the first quarter of 2009 as
compared to the year-ago period. The increase was largely attributable to loan
sales in the first quarter of 2009 of $1.8 billion which resulted in a gain of
$37 million.
Gain on Instruments Designated at Fair Value and Related Derivatives
We have elected to apply the fair value option to commercial leveraged
acquisition finance loans, unfunded commitments, certain fixed-rate debt issuances
and all structured notes and structured deposits issued after January 1, 2006
that contain embedded derivatives. We also use derivatives to economically hedge
the interest rate risk associated with certain financial instruments for which fair
value has been elected. For the three months ended March 31, 2009, we
recognized a gain of $253 million representing a net change in fair value of
all instruments indicated above and a loss of $141 million on the related
derivatives. For the three months ended March 31, 2008, we recognized a gain
of $32 million representing a net change in fair value of all instruments and
a gain of $25 million on the related derivatives. Refer to Note 11, Fair
Value Option for additional information.
Valuation on Loans Held for Sale
Continued deterioration in the U.S. mortgage markets have resulted in
negative valuation adjustments on loans held for sale during the first quarter of
2009 although the severity of the valuation adjustments improved as compared to the
prior year quarter. Valuations on loans held for sale relate primarily to
residential mortgage loans purchased from third parties and HSBC affiliates with
the intent of securitization or sale. Included in this portfolio are sub-prime
residential mortgage loans with a fair value of approximately $1.0 billion as
of March 31, 2009. Loans held for sale are recorded at the lower of their
aggregate cost or market value, with adjustments to market value being recorded as
a valuation allowance. Overall weakness and illiquidity in the
U.S. residential mortgage market and continued delinquencies, particularly in
the sub-prime market, resulted in valuation adjustments totaling $86 million
being recorded on these loans during the three months ended March 31, 2009 as
compared with $117 million during the year-ago period. Valuations on
residential mortgage loans we originate are recorded as a component of residential
mortgage banking revenue in the consolidated statement of income (loss).
Other Income (Loss)
The increase in other income (loss) during the first quarter of 2009 as
compared to the year-ago period, is primarily due to an $85 million
gain relating to the resolution
of a lawsuit whose proceeds will be used to redeem the 100 preferred shares
issued to CT Financial Services, Inc. and a $33 million gain on the sale of an
equity interest in HSBC Private Bank (Suisse) S.A.
The obligation to redeem the preferred shares upon our receipt of the proceeds from
the litigation settlement represented a contractual arrangement established in
connection with our purchase of a community bank from CT Financial Services
Inc. in 1997 at which time this litigation remained outstanding. The
$85 million we received, net of applicable taxes, was remitted in
April
to Toronto Dominion, who now holds beneficial ownership interest in
CT Financial Services Inc., and the preferred shares were redeemed.
Operating Expenses
The components of operating expenses are summarized in the following tables.
|
|
|
|
Three Months Ended March 31,
|
|
|
|
|
|
(dollars are in millions)
|
Salaries
and
employee
benefits:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
salaries
and
employee
benefits
|
|
|
|
|
|
|
|
|
|
Support
services
from
HSBC
affiliates:
|
|
|
|
|
Fees
paid
to
HSBC
Finance
for
loan
servicing
and
other
administrative
support
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fees
paid
to
other
HSBC
affiliates
|
|
|
|
|
Total
support
services
from
HSBC
affiliates
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Postage,
printing
and
office
supplies
|
|
|
|
|
Off-balance
sheet
credit
reserves
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Personnel -
average
number
|
|
|
|
|
|
|
|
|
|
|
See Note , "Goodwill," of the accompanying
consolidated financial statements for additional information.
|
Salaries and Employee Benefits
Lower salaries and employee benefits expense during the three months ended
March 31, 2009 as compared to the year-ago period is mainly due to the
transfer of support services employees, as described below, to an affiliate as well
as continued cost management efforts which have resulted in lower headcount
including the impact of global resourcing initiatives undertaken by
management.
Occupancy Expense, Net
Lower occupancy expense in the first quarter of 2009 is due to the transfer of
shared services employees and their related workspace expenses to an affiliate as
discussed below. This was partially offset by expansion of the core banking and
commercial lending networks within the PFS and
CMB
business segments, a key component of recent business expansion initiatives.
Subsequent to March 31, 2008, we opened 10 new branches resulting in higher
rental expenses, depreciation of leasehold improvements, utilities and other
occupancy expenses.
Support services from HSBC affiliates
includes technology and some centralized operational services and beginning in
January 2009, human resources, corporate affairs and other shared services charged
to us by HTSU. Support services from HSBC affiliates also includes services charged
to us by an HSBC affiliate located outside of the United States which provides
operational support to our businesses, including among other areas, customer
service, systems, collection and accounting functions.
Higher expenses in the first quarter of 2009 is primarily due to higher servicing
fees paid to HSBC Finance largely as a result of the purchase of the GM and UP
Portfolios as well as certain auto finance loans purchased from HSBC Finance in
early January 2009 and higher fees paid to HTSU. Support services from HSBC
affiliates also includes servicing fees paid to HSBC Finance for servicing private
label credit card receivables and certain other credit card and nonconforming
residential mortgage loans.
Marketing Expenses
Lower marketing and promotional expenses during the first quarter of 2009 resulted
from general cost saving initiatives. This was partially offset by a continuing
investment in HSBC brand activities, promotion of the internet savings account and
marketing support for branch expansion initiatives, primarily within the PFS
business segment.
Other Expenses
Other expenses increased primarily as a result of higher FDIC assessment fees,
higher corporate insurance costs and higher debit card fraud expenses. This was
partially offset by a release of off balance sheet reserve related to an advance by
a large corporate customer.
Efficiency Ratio
Our efficiency ratio, which is the ratio of total operating expenses, reduced by
minority interests, to the sum of net interest income and other revenues, was
46.33 percent and 93.59 percent for the three months ended March 31,
2009 and 2008, respectively. An improved efficiency ratio during the first quarter
of 2009 resulted primarily from an increase in other revenues and net interest
income as compared to the year-ago period.
Segment Results - IFRSs Basis
We have five distinct segments that are utilized for management reporting and
analysis purposes. The segments, which are based upon customer groupings as well as
products and services offered, are described under Item 1, "Business" in our
2008 Form 10-K. There have been no changes in the basis of segmentation or
measurement of segment profit (loss) as compared with the presentation in our 2008
Form 10-K.
Our segment results are presented on an IFRSs Basis (a non-U.S. GAAP financial
measure) as operating results are monitored and reviewed, trends are evaluated and
decisions about allocating resources such as employees are made almost exclusively
on an IFRSs basis since we report to our parent, HSBC, who prepares its
consolidated financial statements in accordance with IFRSs. However, we continue to
monitor capital adequacy, establish dividend policy and report to regulatory
agencies on a U.S. GAAP basis. The significant differences between
U.S. GAAP and IFRSs as they impact our results are summarized in Note 15,
"Business Segments," in the accompanying consolidated financial statements and
under the caption "Basis of Reporting" in the MD&A section of this
Form 10-Q.
Personal Financial Services (
"
PFS
"
)
Resources continued to be directed towards expansion of the core retail banking
business, including investment in the HSBC brand and expansion of the branch
network in existing areas, as well as growth of HSBC Premier, HSBC's global banking
service which offers customers a seamless international service and HSBC Direct,
the online deposit gathering channel. As a result, at March 31, 2009, total
average personal deposits increased 15.6 percent including a 32 percent
increase in online savings account balances as compared to the year-ago period.
Some of the increase in deposits was likely the result of customers moving funds to
larger, well-capitalized institutions as a result of the volatile market conditions
experienced in 2008 and early 2009. Net interest income, however, declined during
the first quarter of 2009 compared with the year-ago period due to narrowing of
deposit spreads driven by competitive pricing pressures and declines in market
rates. Additionally, deterioration in credit quality, particularly on Home Equity
Lines of Credit and Home Equity Loans, credit cards and prime residential mortgage
loans has negatively impacted results.
We continue to sell the majority of new residential mortgage loan originations to
government sponsored enterprises and private investors and to allow the existing
balance sheet to run-off. As a result, average residential mortgage loans at
March 31, 2009 decreased approximately 34 percent as compared to
March 31, 2008. In September 2008, we entered into long-term standby
commitments with the Federal National Mortgage Association (FNMA) and the Federal
Home Loan Mortgage Corporation (FHLMC) for the transfer of credit risk relating to
approximately $3.8 billion of our residential mortgage loans, for which we pay
an annual guarantee fee. Of this amount, $2 billion was included in the
$7 billion of residential mortgage loans sold in 2008 and the remainder was
sold in the first quarter of 2009. During the first quarter of 2009, we sold
approximately $1.8 billion of prime adjustable and fixed rate residential
mortgage loans which resulted in gains of $39 million. We retained the
servicing rights in relation to the mortgages upon sale.
In November 2008, we announced that we would exit the wholesale/correspondent and
time-share origination channels of our mortgage business and focus attention,
resources and investment on our retail sales channel. In the second quarter of
2008, we discontinued originations of education loans and, accordingly, during the
first quarter of 2009 the portfolio of loans has continued to runoff.
The following table summarizes the IFRSs Basis results for our PFS segment:
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss)
profit
before
income
tax
(benefit)
expense
|
|
|
|
|
Income
tax
(benefit)
expense
|
|
|
|
|
|
|
|
|
|
Net interest income decreased during the three months ended March 31, 2009
primarily due to narrowing of interest rate spreads driven by the declining rate
environment and competitive pricing pressures on savings and certificate of deposit
products. This was partially offset by widening interest rate spreads on credit
card balances due to reduced funding costs in the lower short term rate
environment. Interest income from first and second mortgages was largely unchanged
from the first quarter of 2008 versus the first quarter of 2009. The impact of
lower interest income related to mortgage sales of approximately $8.8 billion
since March 31, 2008 was largely offset by lower funding costs on the loans
available for sale, widening spreads on the remaining adjustable rate portfolio and
lower amortization of deferred origination cost amortization. Additionally, spreads
have narrowed on both home equity line and loan products since March 31,
2008.
Other operating income decreased during three months ended March 31, 2009
primarily due to a $102 million intersegment charge from the Global Banking
and Markets segment relating to the cost associated with early termination of the
funding associated with mortgage loan sales in the first quarter, which was
partially offset by a net gain on the sale of these residential mortgage loans of
$39 million. There were also lower revenues in the first quarter of 2009 due
to higher mortgage reinsurance costs and lower personal service charges, ATM and
other fees. Additionally, the year-ago period benefited from a $83 million
gain on the sale of Visa Class B shares recorded in the first quarter of 2008.
Higher loan impairment charges were driven by an increase in delinquencies which
resulted in significantly increased loan loss reserves as well as increased charge
offs within the Home Equity Line of Credit (HELOC), Home Equity Loan and the
Residential first mortgage loan portfolios due to increased loss severities as real
estate values continued to deteriorate in certain markets. Loan impairment charges
on credit card receivables and other consumer loans have also risen. Increased
levels of personal bankruptcy filings and a deteriorating
U.S.
economy, including rising unemployment rates and lower recovery rates, have
driven higher delinquencies across all products.
Increased operating expenses in during the first quarter of 2009 were primarily
related to higher FDIC assessment fees. Additionally, the year-ago period benefited
from a recovery of $37 million related to the Visa legal accrual set up in
2007. Customer loyalty program expenses for credit cards were included in operating
expense in the prior year period but were reclassified as contra revenue in the
current quarter. Excluding these two items, expenses have improved since prior year
driven by efficiency programs in the branch network that more than offset growth in
costs from branch expansion initiatives and higher pension costs.
Recent regulatory activity in the mortgage lending environment is expected to have
an impact on criteria for determining affordable and sustainable mortgage loan
modifications. Implementation of revised policies may have an adverse effect on our
results of operations.
Consumer Finance (
"
CF
"
)
The CF segment includes the private label and co-brand credit cards, as well as
other loans acquired from HSBC Finance or its correspondents, including the GM and
UP Portfolios and auto finance loans purchased in January 2009 and portfolios of
nonconforming residential mortgage loans (the "HMS Portfolio") purchased in 2003
and 2004. Results of the CF segment have been negatively impacted by significantly
higher loan impairment charges relating to the private label and, to a lesser
extent, the HMS Portfolios.
On January 6, 2009 we received regulatory approval to purchase the General
Motors ("GM") MasterCard receivables portfolio, the
AFL
-CIO Union Plus ("UP") MasterCard/Visa portfolio and certain auto finance
receivables from HSBC Finance. As a result, the following transactions occurred:
•
GM Portfolio and UP Portfolio.
On January 8, 2009, we purchased the GM receivables portfolio from HSBC
Finance for aggregate consideration of approximately $6.2 billion, which
included the assumption of approximately $2.7 billion of indebtedness. The GM
receivables portfolio purchased consisted of receivables with an aggregate balance
of approximately $6.3 billion. On January 9, 2009, we purchased the UP
receivables portfolio from HSBC Finance for aggregate consideration of
approximately $6.0 billion, which included the assumption of approximately
$3.4 billion of indebtedness. The UP receivables portfolio purchased consisted
of receivables with an aggregate balance of approximately $6.1 billion. HSBC
Finance retained the customer account relationships and now sells additional
receivable originations generated under existing and future GM and UP accounts to
us daily at fair market value.
•
Auto Finance Receivables.
On January 9, 2009, we purchased auto finance receivables with an
aggregate balance of approximately $3.0 billion from HSBC Finance for an
aggregate purchase price of approximately $2.8 billion.
The consideration for each purchase was determined on the basis of an independent
valuation opinion. HSBC Finance services the receivables purchased for a fee.
The following table summarizes the IFRSs Basis results for our CF segment:
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit before income tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income increased during the three months ended March 31, 2009 due
to higher levels of receivables, lower amortization of premiums paid on the initial
bulk and subsequent purchases of receivables associated with the private label
portfolio. The original bulk purchase premium was fully amortized during 2008. Net
interest income was also higher during the first quarter of 2009 due to a declining
interest rate environment. The higher levels of receivables was a result of the
credit card and auto finance receivable purchases described more fully below.
Other operating income decreased during the three months ended March 31, 2009
primarily due to increased servicing fees on portfolios purchased from and serviced
by our affiliate, HSBC Finance Corporation as well as the charge off of fees
relating to private label credit cards which have been deemed uncollectible. This
was partially offset by higher late fees on higher delinquencies in the private
label and credit card portfolios, including co-brand credit cards, as well as
higher credit card fees associated with the purchase of the GM and UP credit card
portfolios and the growing co-brand credit card portfolio.
Loan impairment charges associated with credit card receivables increased during
the three months ended March 31, 2009 due to higher receivable balances as
previously discussed, increased delinquencies and higher net charge-offs including
lower recoveries of previously charged-off balances, and higher levels of personal
bankruptcy filings and the impact of a weakening
U.S.
economy. Provisions relating to the HMS portfolio also increased due to
deterioration in the
U.S.
housing markets.
Operating expenses decreased primarily due to a change in the way we report
expenses related to real estate owned, which is now accounted for as a reduction to
income which was partially offset by higher expenses related to the higher
receivable levels and increased collection costs on late stage delinquent accounts.
On December 18, 2008, the Federal Reserve Board, the Office of Thrift
Supervision and the National Credit Union Administration jointly issued a final
rule ("UDAP") that will be effective July 1, 2010 and will among other things,
place restrictions on applying interest rate increases on new and existing
balances, require changes to deferred interest plans, prescribe the manner in which
payments may be allocated to amounts due and penalty rates may be charged on past
due balances, and limit certain fees. We are already compliant with some of its
provisions. We currently believe implementation of these rules may have a material
adverse effect on our results of operations. Legislation has been approved by
Congressional committees that would accelerate the effective date of the Federal
Reserve rules described above and would impose additional requirements. It is
unclear at this time whether any legislation will be adopted by Congress and if
adopted, what the content of such legislation will be.
Commercial Banking (
"
CMB
"
)
Despite the declining interest rate environment negatively impacting income growth
as deposit spreads have narrowed significantly, operating income driven by
increased income from loans and fees is marginally higher than 2008. Loan
impairment charges have increased due to higher levels of criticized assets and
overall deterioration in the credit environment which has led to customer
downgrades across all commercial business lines.
Despite tightened credit standards, balanced growth between the established
footprint in
New York
State
and expansion markets in the West Coast,
Midwest
and the Southeast has led to a 22 percent increase in lending and a
14 percent increase in customer deposits to middle market customers at
March 31, 2009 as compared to the same 2008 period. The small business loan
portfolio has seen more moderate growth due to tightened credit standards and the
competitive environment while small business customer deposits grew 11 percent
during the first quarter of 2009 compared to the same 2008 period. The commercial
real estate business continues to focus on deal quality and portfolio management
rather than volume.
Average customer deposit balances across all
CMB
business lines increased nine percent during the first quarter of 2009 as
compared to the same 2008 period and average loans increased 12 percent during
the first quarter of 2009 as compared to the same 2008 period.
The following table summarizes the IFRSs Basis results for the
CMB
segment.
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit before income tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income decreased in the three months ended March 31, 2009
primarily due to narrower spreads on deposits partially offset by double digit
growth in loan balances and wider loan spreads.
Other operating income increased during the current quarter, due mainly to a
combination of increased community investment activities, higher syndications
business, increased cross-sales of capital markets products and higher service
fees.
Loan impairment charges increased during the three months ended March 31, 2009
due to worsening economic conditions, leading to customer credit downgrades across
all commercial business lines. Net charge-offs have increased in the small and
middle market businesses, with a di minimus increase in the commercial real estate
business.
Operating expenses increased during the current quarter due primarily to higher
FDIC insurance premiums and allocated infrastructure costs, partially offset by
reduced staff costs and efficiency savings.
Global Banking and Markets
During the first quarter of 2009, the Global Banking and Markets segment benefitted
from the low interest rate environment and high market volatility in currencies
which contributed to higher revenues in balance sheet management and foreign
exchange trading. Results continued to be affected by reduced market liquidity,
widening spreads and volatility in the corporate credit and residential mortgage
lending markets, which has resulted in reductions to other operating income
although the magnitude of such reductions declined as compared with the year-ago
period. This impacted trading revenue in mortgage backed securities, and credit
derivatives in particular, and has led to counterparty credit reserves for monoline
exposure and valuation losses being taken in both the Trading and Available
for
Sale
securities portfolios.
On October 11, 2008, the International Accounting Standards Board (IASB)
issued an amendment to IAS 39 (Financial Instruments: Recognition and Measurement),
which permits entities to transfer financial assets from the Trading classification
into the Available for Sale or Loans and Receivables classifications if the entity
has the intention and ability to hold the assets for the foreseeable future or
until maturity. Temporary changes in the market value of re-classified assets will
no longer impact current period earnings. Instead, these assets will only be
marked-to-market (through other comprehensive income) if classified as Available
for Sale Securities and will be subject to on-going impairment tests.
Following careful analysis of the implications and with consideration given to
industry and peer practices, we elected to re-classify $1.8 billion in
leveraged loans and high yield notes and $892 million in securities held for
balance sheet management purposes from Trading Assets to Loans and Available for
Sale Investment Securities, effective July 1, 2008. In November 2008,
$967 million in additional securities were also transferred from Trading
Assets to Available for Sale Investment Securities. If these
IFRS
reclassifications had not been made, our profit before tax would have been
$19 million lower during the three months ended March 31, 2009.
We have previously reported our continuing review of the strategies and scope of
our Global Banking and Markets businesses. In the first quarter of 2009, we shifted
the focus of this review towards more robust management of our client database in
order to concentrate on our more strategic customer relationships. Accordingly, the
review of potential transfers of businesses and activities to affiliates within the
HSBC Group has been deemphasized at present.
The following table summarizes IFRSs Basis results for the Global Banking and
Markets segment.
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
Other
operating
income
(loss)
|
|
|
|
|
Total
operating
income
(loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit
(loss)
before
income
tax
expense
(benefit)
|
|
|
|
|
Income
tax
expense
(benefit)
|
|
|
|
|
|
|
|
|
|
Increased net interest income during the three months ended March 31, 2009 was
due primarily to balance sheet management initiatives to position for lower rates
and wider credit spreads on our commercial loan portfolio.
Other operating income increased partially due to the strong performance in foreign
exchange products, as well as from higher corporate banking fees, and gains on
securities held for sale. However, other operating income overall continued to be
affected by adverse market conditions, but to a lesser extent than prior year.
Additionally, revenues in the first quarter of 2009 were higher than the year ago
period due to the reclassification of assets from trading to available for sale
assets and to loans and receivables under the IAS 39 amendment as was previously
discussed.
Other income (loss) reflects losses on structured credit products of
$256 million during the three months ended March 31, 2009 as compared to
$714 million in the year-ago period, as the widening of credit spreads slowed
resulting in losses from hedging activity and counterparty exposures. Exposure to
monolines continued as asset levels continued to fall and deterioration in
creditworthiness persisted, although the pace of such deterioration slowed
significantly, resulting in a loss of $164 million during the three months
ended March 31, 2009 as compared to $488 million in the year-ago period.
Correlation trading sustained losses of $176 million during the three months
ended March 31, 2009, as compared to $248 million in the year-ago period.
Valuation losses of $86 million and $117 million during the three months
ended March 31, 2009 and 2008, respectively, were also recorded against the
fair values of sub-prime residential mortgage loans held for sale. There were no
fair value adjustments on the leveraged loan portfolio in the first quarter of
2009, which reflects the classification of substantially all leveraged loans as
held to maturity, compared to a loss of $141 million during the three months
ended March 31, 2008, which reflects the loans at fair value.
During the first quarter of 2009, securities determined to be
other-than-temporarily impaired resulted in an other-than-temporary impairment
charge of $143 million during the three months ended March 31, 2009 on
these investments. There were no similar charges recorded in the same year ago
period.
Loan impairment charges increased primarily due to exposure in the Automotive
industry and other downgrades on specific accruing loans.
Partially offsetting the above mentioned declines, other operating income also
benefited from intersegment income from PFS of $102 million in 2009 relating
to the fee charged for the early termination of funding associated with the sale of
the residential mortgage loans.
Operating expenses were lower during the three months ended March 31, 2009
primarily resulting from lower salary and other staff costs due to a decreased
overall number of employees from our ongoing efficiency initiatives substantially
offset by higher performance related compensation costs due to improved revenues.
Private Banking (
"
PB
"
)
Resources continue to be dedicated to expand products and services provided to high
net worth customers served by the PB business segment.
The level of client deposits remained stable as clients sought safety and
liquidity. In contrast, total average loans (mostly domestic consumer) were 13%
lower during the first quarter of 2009 as compared with prior year period,
reflective of lower client demand. Despite substantial reductions affected by a
challenging economic environment, assets under management were also unchanged.
Inflows from custody clients offset the decline in market value of securities.
The following table summarizes IFRSs Basis results for the PB segment.
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit before income tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net interest income was lower during the three months ended March 31, 2009
primarily as a result of narrowing interest rate spreads due to declining market
rates and lower outstanding loan balances.
During the first quarter of 2009, other revenues were lower than the same period in
2008 primarily due to lower performance fee from equity investments, lower managed
products, recurring fund fees and insurance commissions.
Loan impairment charges in the first quarter of 2009 and 2008 respectively were
unchanged. Net reversals of credit reserves in both periods resulted from a
portfolio upgrade and a reversal of a cross border exposure provision.
Operating expenses decreased as a result of lower staff costs due to lower
headcount resulting from efficiency initiatives. Technology, marketing and
communications costs were also lower, offset by higher FDIC assessment fees.
The Other segment primarily includes adjustments made at the corporate level for
fair value option accounting related to certain debt issued, as well as any
adjustments to the fair value on HSBC shares held for stock plans. The results also
include earnings on an equity investment in HSBC Private Bank (Suisse) S.A, which
was sold in March 2009 to another HSBC affiliate for a gain.
The following table summarizes IFRSs Basis results for the Other segment.
|
|
|
|
Three Months Ended March 31
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit before income tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other operating income in the three months ended March 31, 2009 included an
$85 millio
n gain related to the resolution
of a lawsuit whose proceeds will be used to redeem preferred stock issued to
CTUS Inc. and a $43 million gain on the sale of an equity interest as well as
increases in the fair value of certain debt instruments to which fair value option
accounting is applied due to narrowing credit spreads. The 2008 results included
substantial income from increases in the fair value of certain debt instruments to
which fair value option accounting is applied due to narrowing credit spreads.
We enter into a variety of transactions in the normal course of business that
involve both on and off-balance sheet credit risk. Principal among these activities
is lending to various commercial, institutional, governmental and individual
customers. We participate in lending activity throughout the
U.S.
and, on a limited basis, internationally.
Our allowance for credit losses methodology and our accounting policies related to
the allowance for credit losses are presented in Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations in our
2008 Form 10-K under the caption "Critical Accounting Policies and Estimates"
and in Note 2, "Summary of Significant Accounting Policies and New Accounting
Pronouncements," of the consolidated financial statements included in our 2008
Form 10-K. Our approach toward credit risk management is summarized in
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations in our 2008 Form 10-K under the caption "Risk
Management." There have been no material revisions to policies or methodologies
during the first quarter of 2009, although we continue to monitor current market
conditions and will adjust credit policies as deemed necessary.
Allowance for Credit Losses
Changes in the allowance for credit losses by general loan categories are
summarized in the following table:
|
|
|
|
|
(dollars are in millions)
|
Allowance
balance
at
beginning
of
quarter
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
mortgages,
excluding
HELOCs
and
home
equity
|
|
|
|
HELOCs
and
home
equity
mortgages
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
mortgages,
excluding
HELOCs
and
home
equity
|
|
|
|
HELOCs
and
home
equity
mortgages
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
related
to
bulk
loan
purchase
from
HSBC
Finance
|
|
|
|
Provision
charged
to
income
|
|
|
|
Allowance
balance
at
end
of
quarter
|
|
|
|
Ratio
of
Allowance
for
Credit
Losses
to:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
mortgages,
excluding
HELOCs
and
home
equity
|
|
|
|
HELOCs
and
home
equity
mortgages
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Quarter-to-date net charge-offs, annualized.
|
|
|
|
Ratio excludes loans associated with loan portfolios which are
considered held for sale as these loans are carried at the lower of
cost or market.
|
Changes in the allowance for credit losses by general loan categories for the three
months ended March 31, 2009 and 2008 are summarized in the following
table:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balances at January 1, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision charged to income
|
|
|
|
|
|
|
|
|
Allowance related to bulk loan purchases
|
|
|
|
|
|
|
|
|
Balance at March 31, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at January 1, 2008
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Provision charged to income
|
|
|
|
|
|
|
|
|
Balance at March 31, 2008
|
|
|
|
|
|
|
|
|
|
Components of the commercial allowance for credit losses, including
exposure relating to off-balance sheet credit risk, and the movements
in comparison with prior years, are summarized in the following
table:
|
|
|
|
|
|
|
On-balance sheet allowance:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total on-balance sheet allowance
|
|
|
|
Off-balance sheet allowance
|
|
|
|
Total commercial allowances
|
|
|
|
An allocation of the allowance for credit losses by major loan categories is
presented in the following table:
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Residential
mortgages,
excluding
HELOCs
and
home
equity
mortgages
|
|
|
|
|
|
|
HELOCs
and
home
equity
mortgages
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Excludes loans held for sale.
|
The allowance for credit losses increased $1,068 million, or 45 percent,
during the three months ended March 31, 2009. Reserve levels for all loan
categories were impacted by the following:
•
Continued deterioration in the
U.S.
economy, including rising unemployment rates;
•
For consumer loans, higher levels of personal bankruptcy filings; and
•
Lower recovery rates on previously charged-off private label card and credit card
balances.
The increase in the allowance for credit losses associated with our credit card
portfolio reflects the purchase of the GM and UP Portfolio in January 2009. This
increase was tempered by the impact of applying the requirements of SOP 03-3
to certain delinquent loans which resulted in no allowance for loan losses being
established for these loans as our investment in these loans was recorded at fair
value. We anticipate an increase in the allowance for credit losses in future
periods as the GM and UP credit card receivables we acquired which did not show any
evidence of credit deterioration at the time of the acquisition, and as such were
not subject to the requirements of SOP 03-3, season.
The increase in the allowance for credit losses associated with residential
mortgages was driven largely by increased delinquencies and higher loss estimates
in our prime residential first mortgage loan portfolio due to deteriorating
conditions in the housing markets and rising unemployment levels. Loan allowances
for commercial loans were higher at March 31, 2009 due to higher criticized
loan balances caused by further downgrades in finance institution and automotive
industry counterparties as well as real estate and middle market customers. The
downgrades resulted, in part, from continued deterioration of economic conditions
and changes in financial conditions of specific customers within these portfolios.
The allowance for credit losses as a percentage of total loans increased to
3.91 percent at March 31, 2009 as compared to 2.96 percent at
December 31, 2008 and 1.80 percent at March 31, 2008. The increase
in our allowance reflects higher levels of credit card receivables due to the
purchase of the GM and UP Portfolios as well as a higher allowance on our private
label and other credit card portfolios due in part to higher delinquency and
charge-off levels as a result of portfolio seasoning, increased levels of personal
bankruptcy filings, continued deterioration in the U.S. economy including
rising unemployment levels and lower recovery rates on defaulted loans. Our
allowance for credit losses on residential mortgage loans also increased due to the
continued deterioration of the housing market, particularly as it relates to our
prime residential mortgage loans, as did our allowance on commercial loans,
including our commercial real estate portfolio due to customer credit downgrades
and economic pressures. The increase in this ratio was partially offset by the
impact of applying the provisions of AICPA SOP 03-3, "Accounting for Certain
Loans or Debt Securities Acquired in a Transfer" ("SOP 03-3") to certain
delinquent loans in the acquired GM and UP Portfolio which resulted in no allowance
for credit losses being established on this portion of the portfolio as our
investment was recorded based on the net cash flows expected to be collected.
The allowance for credit losses as a percentage of net charge-offs
(quarter-to-date, annualized) increased to 157.36 percent at March 31,
2009 as compared to 136.04 percent at December 31, 2008 and
119.65 percent at March 31, 2008, as the increase in the allowance for
credit losses outpaced the increase in net charge-offs due largely to the
acquisition of the GM and UP Portfolios and higher commercial reserve levels as
discussed above.
Reserves for Off-Balance Sheet Credit Risk
We also maintain a separate reserve for credit risk associated with certain
off-balance sheet exposures, including letters of credit, unused commitments to
extend credit and financial guarantees. This reserve, included in other
liabilities, was $164 million, $168 million and $111 million at
March 31, 2009, December 31, 2008 and March 31, 2008, respectively.
The related provision is recorded as a miscellaneous expense and is a component of
operating expenses. Off-balance sheet exposures are summarized in Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" of our 2008 Form 10-K under the caption "Off-Balance Sheet
Arrangements and Contractual Obligations."
The following table summarizes dollars of two-months-and-over contractual
delinquency and two-months-and-over contractual delinquency as a percent of total
loans and loans held for sale ("delinquency ratio"):
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our total delinquency ratio increased 22 basis points compared to the prior
quarter. The overall increase in delinquency level was due to the following:
•
Continued deterioration in the
U.S.
economy;
•
Significantly higher unemployment rates during the quarter; and
•
Higher levels of personal bankruptcy filings.
In addition to the above, our residential mortgage portfolio has continued to
experience higher delinquency ratios as a result of continued weakening in the
housing industry. Higher dollars of delinquency associated with our credit card
portfolios also reflect the impact of the GM and UP Portfolios purchased in January
2009.
Our commercial portfolio experienced higher delinquency ratios due to continued
deterioration of economic conditions.
Compared to March 31, 2008, our delinquency ratio increased 162 basis points
at March 31, 2009, largely due to higher residential mortgage, private label
card and credit card delinquencies for the reasons discussed above.
The following table summarizes net charge-off dollars as well as the net charge-off
of loans for the quarter, annualized, as a percent of average loans, excluding
loans held for sale, ("net charge-off ratio"):
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Our net charge-off ratio as a percentage of average loans increased 34 basis
points compared to the prior quarter primarily due to higher residential mortgage
and private label card charge-offs. Higher net charge-off levels are a result of
the following:
•
Higher delinquency levels migrating to charge-off due to:
-
Continued deterioration in the U.S economy and housing markets;
-
Significantly higher unemployment rates; and
•
Higher levels of bankruptcy filings;
•
Higher loss severities for secured loans; and
•
Lower recovery rates on private label card receivables.
Charge-off dollars and ratios increased in the residential mortgage portfolio
reflecting continued weakening in the housing and mortgage industry, including
marked decreases in home values in certain markets.
Charge-off levels in our credit card portfolio were positively impacted by the GM
and UP Portfolio purchased from HSBC Finance a portion of which were subject to the
requirements of SOP 03-3 and recorded at fair value, net of anticipated future
losses at the time of acquisition. This resulted in a substantial increase in
average credit card receivables outstanding during the quarter without a
corresponding increase in credit card charge-offs. As a result, we anticipate
higher levels of net charge-offs in this portfolio in future periods as the GM and
UP credit card receivables we purchased in January 2009 which were not subject to
the requirements of SOP 03-3.
Our auto finance net charge-off ratio benefited from the purchase of
$3.0 billion of non-delinquent auto finance receivables from HSBC Finance.
Our net charge-off ratio increased 86 basis points compared to the prior year
quarter primarily due to higher charge-offs in our residential mortgage and private
label credit card receivables as discussed above. Commercial charge-off dollars and
ratios increased due to a higher level of losses in the small business portfolio
and a modest increase in losses in the middle market and commercial real estate
portfolios.
Nonperforming assets are summarized in the following table.
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
Construction
and
other
real
estate
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nonaccrual
loans
held
for
sale
|
|
|
|
|
|
|
|
Accruing
loans
contractually
past
due
90 days
or
more:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accruing
loans
contractually
past
due
90 days
or
more
held
for
sale
|
|
|
|
Total
accruing
loans
contractually
past
due
90 days
or
more
|
|
|
|
Total
nonperforming
loans
|
|
|
|
Other
real
estate
and
owned
assets
|
|
|
|
Total
nonperforming
assets
|
|
|
|
Allowance
for
credit
losses
as
a
percent
of
nonperforming
loans(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
Ratio excludes nonperforming loans associated with loan portfolios
which are considered held for sale as these loans are carried at the
lower of cost or market.
|
Increases in nonperforming loans at March 31, 2009 as compared to both the
prior year and prior quarter are primarily related to increases in accruing loans
past due 90 days or more due to our acquisition of the GM and UP Portfolios
and to residential mortgages, due largely to deterioration in the housing markets.
This increase also relates to a portfolio of higher quality nonconforming
residential mortgage loans that we purchased from HSBC Finance in 2003 and 2004 in
order to hold in the residential mortgage loan portfolio. Deterioration in
the
U.S.
economy, including rising unemployment rates, also contributed to the
increase in nonperforming loans. Commercial non-accrual loans also increased as
compared to both the prior year and prior year quarter largely due to increases in
commercial real estate due to continued deterioration of economic conditions and
changes in the financial condition of specific customers. Our policies and
practices for problem loan management and placing loans on nonaccrual status are
summarized in Note 2, "Summary of Significant Accounting Policies and New
Accounting Pronouncements," in our 2008 Form 10-K.
Interest that has been accrued but unpaid on loans placed on nonaccrual status
generally is reversed and reduces current income at the time loans are so
categorized. Interest income on these loans may be recognized to the extent of cash
payments received. In those instances where there is doubt as to collectability of
principal, any cash interest payments received are applied as reductions of
principal. Loans are not reclassified as accruing until interest and principal
payments are brought current and future payments are reasonably assured.
Impaired Commercial Loans
A commercial loan is considered to be impaired when it is deemed probable that all
principal and interest amounts due, according to the contractual terms of the loan
agreement, will not be collected. Probable losses from impaired loans are
quantified and recorded as a component of the overall allowance for credit losses.
Generally, impaired commercial loans include loans in nonaccrual status, loans that
have been assigned a specific allowance for credit losses, loans that have been
partially or wholly charged off and loans designated as troubled debt
restructurings. Impaired commercial loan statistics are summarized in the following
table:
|
|
|
|
|
(dollars are in millions)
|
Impaired commercial loans:
|
|
|
|
|
|
|
|
Amount with impairment reserve
|
|
|
|
|
|
|
|
Criticized asset classifications are based on the risk rating standards of our
primary regulator. Problem loans are assigned various criticized facility grades
under our allowance for credit losses methodology. The following facility grades
are deemed to be criticized. Criticized assets are summarized in the following
table.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The increase in criticized commercial loans resulted mainly from further customer
credit downgrades in financial institution counterparties as well as well as real
estate and middle market customers. Higher substandard consumer loans were largely
driven by our acquisition of the GM and UP Portfolios.
Geographic Concentrations
Regional exposure at March 31, 2009 for certain loan portfolios is summarized
in the following table.
|
|
|
|
|
|
|
|
North
Central United States
|
|
|
|
North Eastern
United States
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liquidity and Capital Resources
Effective liquidity management is defined as making sure we can meet customer loan
requests, customer deposit maturities/withdrawals and other cash commitments
efficiently under both normal operating conditions and under unpredictable
circumstances of industry or market stress. To achieve this objective, we have
guidelines that require sufficient liquidity to cover potential funding
requirements and to avoid over-dependence on volatile, less reliable funding
markets. Guidelines are set for the consolidated balance sheets of both HSBC USA
Inc. and HSBC Bank
USA
to ensure that we are a source of strength for our regulated, deposit-taking
banking subsidiaries, as well to address the more limited sources of liquidity
available to us. Cash flow analysis, including stress testing scenarios, forms the
basis for liquidity management and contingency funding plans.
During 2008 and continuing into the first quarter of 2009, financial markets were
extremely volatile. New issue term debt markets were extremely challenging with
issues attracting substantially higher rates of interest than had historically been
experienced. Credit spreads for all issuers continued to trade at historically wide
levels with the most pressure on financial sector spreads. Liquidity for asset
backed securities remained tight as spreads remained high, negatively impacting the
ability to securitize credit card receivables. The Federal Reserve Board introduced
the Term Asset Backed Securities Loan Facility Program ("TALF") in late 2008 to
improve liquidity in asset backed securities. While corporate spreads remain at
historically wide levels, the significant level of Federal Reserve Bank, FDIC and
U.S. Treasury intervention appears to be having an impact on the debt markets
in early 2009. In 2009, several large financial institutions have been able to
issue longer term debt without government guarantees.
During 2008 and continuing into the first quarter of 2009, we witnessed the
systemic reduction in available liquidity in the market and took steps to reduce
our reliance on debt capital markets and to increase deposits. After adjusting for
the $6.1 billion of debt acquired with the credit card transfers, we re
duced our long term debt by $2.9
billion, during the three months ended March 31, 2009. In the latter
part of 2008, we had grown deposits in anticipation of the asset transfers
and
December 31, 2008
balances also benefitted from clients choosing to place their surplus
liquidity into banks. Subsequent to December 31, we managed our overall
balance sheet downward by reducing low margin investments and deposits, and
continuing to de-risk the overall balance sheet.
Interest bearing deposits with banks
totaled $6.3 billion and $16 billion at March 31, 2009 and
December 31, 2008, respectively.
Federal funds sold and securities purchased under agreements to
resell
totaled $15.7 billion and $10.8 billion at March 31, 2009 and
December 31, 2008, respectively. Balances increased during the three months
ended March 31, 2009 as we redeployed surplus liquidity using repurchase
agreements.
Short-term borrowings
totaled $9.8 billion and $10.5 billion at March 31, 2009 and
December 31, 2008, respectively. See "Balance Sheet Review" for further
analysis and discussion on short-term borrowing trends.
Deposits
decreased to $115 billion at March 31, 2009 from $119 billion
at December 31, 2008. See "Balance Sheet Review" for further analysis and
discussion on deposit trends.
Long-term debt
increased to $25 billion at March 31, 2009 from $22 billion at
December 31, 2008. The increase in long-term debt during the first quarter of
2009 was due to the assumption of debt from HSBC Finance relating to the credit
card receivable purchases. The following table summarizes issuances and retirements
of long term debt during the three months ended March 31, 2009 and 2008:
Three Months Ended March 31,
|
|
|
|
|
|
|
|
|
|
|
Net long-term debt retired
|
|
|
Issuances of long-term debt during the first quarter of 2009 included
$0.3 billion of medium term notes, 21 million of which was issued by HSBC
Bank
USA
.
Additionally as part of the purchase of the UP and GM Portfolio from HSBC Finance
in January 2009, we assumed $6.1 billion of indebtedness accounted for as
secured financings.
Under our shelf registration statement on file with the Securities and Exchange
Commission, we may issue debt securities or preferred stock. The shelf has no
dollar limit, but the ability to issue debt is limited by the issuance authority
granted by the Board of Directors. We are currently authorized to issue up to
$12 billion, of which $5 billion is available. HSBC Bank
USA
also has a $40 billion Global Bank Note Program of which
$20.4 billion is available.
As a member of the New York Federal Home Loan Bank (FHLB), we have a secured
borrowing facility which is collateralized by residential mortgage loans and
investment securities. At March 31, 2009 and December 31, 2008, the
facility included $1.0 billion and $2.0 billion, respectively, of
borrowings included in long-term debt. The facility also allows access to further
borrowings of up to $3.8 billion based upon the amount pledged as collateral
with the FHLB.
At March 31, 2009 and December 31, 2008 we had a $2.5 billion unused
line of credit with HSBC Bank, plc, an HSBC U.K. based subsidiary to support
issuances of commercial paper.
Preferred Equity
In April 2009, the preferred stock issued to CT Financial Services Inc. in
1997 was redeemed. Refer to Note 20, "Preferred Stock," of the consolidated
financial statements included in our 2008 Form 10-K for information regarding
all outstanding preferred share issues.
Common Equity
During the three months ended March 31, 2009, HNAI made two capital
contributions to us totaling $1.1 billion in exchange for two shares of our
common stock. Subsequently, we contributed $1.7 billion to HSBC Bank
USA
in exchange for two shares of HSBC Bank
USA
's common stock. These capital contributions were to support ongoing operations,
including the credit card receivables purchased from HSBC Finance and to maintain
capital at levels we believe are prudent in current market conditions.
Selected Capital Ratios
Capital amounts and ratios are calculated in accordance with current banking
regulations. In managing capital, we develop targets for Tier 1 capital to
risk weighted assets and Tier 1 capital to average assets. Our targets may
change from time to time to accommodate changes in the operating environment or
other considerations such as those listed above. Selected capital ratios are
summarized in the following table:
|
|
|
Tier 1
capital
to
risk
weighted
assets
|
|
|
Tier 1
capital
to
average
assets
|
|
|
Total
equity
to
total
assets
|
|
|
We maintain rolling 12 month capital forecasts on a consolidated basis, and
for our banking subsidiary. Target capital ratios approved by the board of
directors are set above levels established by regulators as "well capitalized", and
are partly based on a review of peer banks. Dividends are generally paid to our
parent company, HNAI when available capital exceeds target levels.
HSBC USA Inc. and HSBC Bank
USA
are required to meet minimum capital requirements by their principal
regulators. Risk-based capital amounts and ratios are presented in Note 16,
"Regulatory Capital," in the accompanying consolidated financial statements.
We issued securities backed by dedicated receivables of $.7 billion during the
three months ended December 31, 2008. We also assumed $6.1 billion of
securities backed by credit card receivables in the first quarter of 2009 as part
of the credit card receivables purchase from HSBC Finance. For accounting purposes,
these transactions were structured as secured financings. Therefore, the
receivables and the related debt remain on our balance sheet. At March 31,
2009, private label and other credit card receivables
totaling $7.6 billion secured $6.3 billion of outstanding debt. At
December 31, 2008, private label receivables totaling $1.6 billion
secured $1.2 billion of outstanding debt. At March 31, 2009, we had
conduit credit facilities with commercial and investment banks under which our
operations may issue securities backed with up to $4.5 billion of private
label and credit card receivables. The facilities are renewable at the providers'
option. Our total conduit capacity increased by $3.3 billion during the three
months ended March 31, 2009. The increase is primarily the result of the GM
and UP credit card receivable purchase and related secured financing conduit
facilities completed in the first quarter of 2009. At March 31, 2009, private
label and credit card receivables were used to collateralized $3.5 billion of
funding transactions structured as secured financings under these funding programs.
We also anticipate there may be a further reduction in the available conduit credit
facilities as they mature over the remainder of 2009 due to continuing market
turbulence and general concerns about credit quality. For the conduit credit
facilities that have renewed, credit performance requirements have been more
restrictive and pricing has increased to reflect the perceived quality of the
underlying assets.
The securities issued in connection with collateralized funding transactions may
pay off sooner than originally scheduled if certain events occur. Early payoff of
securities may occur if established delinquency or loss levels are exceeded or if
certain other events occur. For all other transactions, early payoff of the
securities begins if the annualized portfolio yield drops below a base rate or if
certain other events occur. Presently we do not anticipate that any early payoff
will take place. If early payoff were to occur, our funding requirements would
increase. These additional requirements could be met through issuance of various
types of debt or borrowings under existing back-up lines of credit. We believe we
would continue to have adequate sources of funds if an early payoff event were to
occur. Further, we have significantly reduced our overall dependence on these
sources as we shift to more stable sources while reducing our overall cost of
funding.
In 2008 and the first quarter of 2009, the market for new securities backed by
receivables essentially disappeared as spreads rose to historic highs. Factors
affecting our ability to structure collateralized funding transactions as secured
financings going forward or to do so at cost-effective rates, include the overall
credit quality of our securitized loans, the stability of the securitization
markets, the securitization market's view of our desirability as an investment, and
the legal, regulatory, accounting and tax environments governing collateralized
funding transactions.
HSBC Bank
USA
is subject to restrictions that limit the transfer of funds from it to us and
our nonbank subsidiaries (including affiliates) in so-called "covered
transactions." In general, covered transactions include loans and other extensions
of credit, investments and asset purchases, as well as certain other transactions
involving the transfer of value from a subsidiary bank to an affiliate or for the
benefit of an affiliate. Unless an exemption applies, covered transactions by a
subsidiary bank with a single affiliate are limited to 10% of the subsidiary bank's
capital and surplus and, with respect to all covered transactions with affiliates
in the aggregate, to 20% of the subsidiary bank's capital and surplus. Also, loans
and extensions of credit to affiliates generally are required to be secured in
specified amounts. A bank's transactions with its nonbank affiliates are also
generally required to be on arm's length terms.
As part of the regulatory approvals with respect to the aforementioned receivable
purchases completed in January 2009. we and our ultimate parent, HSBC, committed
that HSBC Bank USA will maintain a Tier 1 risk-based capital ratio of at least
7.62 percent, a total capital ratio of at least 11.55 percent and a
Tier 1 leverage ratio of at least 6.45 percent for one year following the
date of transfer. In addition, we and HSBC made certain additional capital
commitments to ensure that HSBC Bank
USA
holds sufficient capital with respect to the purchased receivables that are
or become "low-quality assets," as defined by the Federal Reserve Act.
2009 Funding Strategy
Our current range of estimates for funding needs and sources for 2009 are
summarized in the following table.
|
|
|
|
|
|
|
|
|
|
Net
loan
growth
(attrition),
excluding
asset
transfers
|
|
|
|
|
|
|
|
Long-term
debt
maturities
|
|
|
|
Secured
financings,
including
conduit
facility
maturities
|
|
|
|
|
|
|
|
|
|
|
|
Retail
deposit
growth
(attrition)
|
|
|
|
|
|
|
|
|
|
|
|
Short-term
funding/investments
|
|
|
|
Secured
financings,
including
conduit
facility
renewals
|
|
|
|
Other,
including
capital
infusions
|
|
|
|
|
|
|
|
The above table reflects a long-term funding strategy. Should market conditions
worsen, we have contingency plans to generate additional liquidity through the
sales of assets or financing transactions. As previously discussed, our prospects
for growth are dependent upon access to the global capital markets and our ability
to attract and retain deposits. We are participants in the FDIC's Debt Guarantee
Program, under which we may issue long-term debt with the approval of the FDIC.
Deposits are expected to grow as we continue to expand our core domestic banking
network. We also hope to receive customer and business deposits as customers move
funds to larger, well-capitalized institutions due to a volatile market.
In January 2009, we purchased a $6.3 billion portfolio of
General
Motors
MasterCard
receivables, a $6.1 billion portfolio of
AFL
-CIO Union Plus MasterCard/Visa receivables and a $3.0 billion auto loan
portfolio from HSBC Finance. Related funding of $6.1 billion and equity of
$1.1 billion was also transferred as part of the purchase.
We will continue to sell a majority of new mortgage loan originations to government
sponsored enterprises and private investors.
The 2009 Full Year Estimate in the table above reflects current market conditions.
The 2009 Full Year Estimate in our 2008 10-K reflected market conditions existing
at the time of its Publication. For further discussion relating to our sources of
liquidity and contingency funding plan, see the caption "Risk Management" in the
MD&A of this Form 10-Q.
Off-Balance Sheet Arrangements
As part of our normal operations, we enter into various off-balance sheet
arrangements with affiliates and third parties. These arrangements arise
principally in connection with our lending and client intermediation activities and
involve primarily extensions of credit and guarantees.
As a financial services provider, we routinely extend credit through loan
commitments and lines and letters of credit and provide financial guarantees,
including derivative transactions that meet the definition of a guarantee under
FIN 45. The contractual amounts of these financial instruments represent our
maximum possible credit exposure in the event that a counterparty draws down the
full commitment amount or we are required to fulfill our maximum obligation under a
guarantee.
The following table provides maturity information related to our off-balance sheet
arrangements. Many of these commitments and guarantees expire unused or without
default. As a result, we believe that the contractual amount is not representative
of the actual future credit exposure or funding requirements. Descriptions of these
arrangements are found in Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations" of our 2008 Form 10-K under the
caption "Off-Balance Sheet Arrangements and Contractual Obligations."
|
Balance at March 31, 2009
|
|
|
|
|
|
|
|
|
|
Standby
letters
of
credit,
net
of
participations(1)
|
|
|
|
|
|
Commercial
letters
of
credit
|
|
|
|
|
|
Credit
derivatives
considered
guarantees(2)
|
|
|
|
|
|
Other
commitments
to
extend
credit:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Includes $736 million and $732 million issued for the benefit
of HSBC affiliates at March 31, 2009 and December 31, 2008,
respectively.
|
|
|
|
Includes $74,264 million and $103,409 million issued for the
benefit of HSBC affiliates at March 31, 2009 and December 31,
2008, respectively.
|
We provide liquidity support to a number of multi-seller and single seller asset
backed commercial paper conduits ("ABCP conduits"). The tables below present
information on our liquidity facilities with ABCP conduits at March 31, 2009.
The maximum exposure to loss presented in the first table represents the maximum
contractual amount of loans and asset purchases we could be required to make under
the liquidity agreements. This amount does not reflect the funding limits discussed
above and also assumes that we suffer a total loss on all amounts advanced and all
assets purchased from the ABCP conduits. As such, we believe that this measure
significantly overstates its expected loss exposure. See Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations" of our
2008 Form 10-K under the caption "Off-Balance Sheet Arrangements and
Contractual Obligations" for additional information on these ABCP conduits.
|
|
|
|
|
|
|
(dollars are in millions)
|
HSBC
affiliate
sponsored
(multi-seller)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) Credit quality is based on Standard and Poor's ratings at March 31,
2009 except for loans and trade receivables held by single-seller conduits, which
are based on our internal ratings. For the single-seller conduits, external ratings
are not available; however, our internal credit ratings were developed using
similar methodologies and rating scales equivalent to the external credit ratings.
|
|
|
|
|
Average Credit Quality(1)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt securities backed by:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Auto dealer floor plan loans
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt securities backed by:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loans and trade receivables:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Credit quality is based on Standard and Poor's ratings at
March 31, 2009 except for loans and trade receivables held by
single-seller conduits, which are based on our internal ratings. For
the single-seller conduits, external ratings are not available;
however, our internal credit ratings were developed using similar
methodologies and rating scales equivalent to the external credit
ratings.
|
We receive fees for providing these liquidity facilities. Credit risk on these
obligations is managed by subjecting them to our normal underwriting and risk
management processes.
During the first quarter of 2009,
U.S.
asset backed commercial paper volumes declined as large bank multi-seller
conduit sponsors rationed available liquidity and some smaller banks and non-bank
sponsors exited the market. The decline in ABCP outstandings has led to greater
investor liquidity for the large bank sponsors that are attracting demand from
active money fund investors. The improved demand for higher quality ABCP program
has led to an improved tone in the market and less volatility in issuance spreads.
Less liquid ABCP issuers have made use of government-provided support programs like
the Asset-Backed Commercial Paper Money Market Fund Liquidity Facility
("AMLF") and the Commercial Paper Funding Facility ("CPFF") or relied on bank
balance sheet funding.
The preceding tables do not include information on liquidity facilities that we
previously provided to certain Canadian multi-seller ABCP conduits that have been
subject to restructuring agreements. As a result of specific difficulties in the
Canadian asset backed commercial paper markets, we entered into various agreements
during the second half of 2007 modifying obligations with respect to these
facilities.
Under one of these agreements, known as the Montreal Accord, a restructuring
proposal to convert outstanding commercial paper into longer term securities was
approved by ABCP noteholders during the second quarter of 2008 and endorsed by the
Canadian justice system during the third quarter of 2008. The restructuring plan
was formally executed during the first quarter of 2009. As part of the enhanced
collateral pool established for the restructuring, we are providing a
$329 million Margin Funding Facility to new
Master
Conduit
Vehicles
, which is currently undrawn. HBUS derivatives transactions with the previous
conduit vehicles have been assigned to new
Master
Conduit
Vehicles
. Under the restructuring, collateral provided to us to mitigate the derivatives
exposures is significantly higher than it was previously.
Also in
Canada
but separately from the Montreal Accord, as part of an ABCP conduit
restructuring executed in the second quarter of 2008, we hold $246 million of
long term securities and provide an $82 million Margin Funding Facility. As of
March 31, 2009, approximately $75 million of the Margin Funding Facility
was drawn and the $246 million of securities were still held. As of
December 31, 2008, approximately $77 million of the Margin Funding
Facility was drawn and the $246 million of securities were still held.
As of March 31, 2009 and December 31, 2008, other than the Margin Funding
Facilities referenced above, we no longer have outstanding liquidity facilities to
Canadian ABCP conduits subject to the Montreal Accord or other agreements
referenced. However, we hold $10 million of long term securities that were
converted from a liquidity drawing which fell under the Montreal Accord
restructuring agreement.
In addition to the facilities provided to ABCP conduits, we also provide a
$32 million liquidity facility to a third-party sponsored multi-seller
structured investment vehicle (SIV). This SIV and our involvement with it is more
fully described in Note 17, "Special Purpose Entities," of the accompanying
consolidated financial statements. At March 31, 2009 and December 31,
2008, this facility was fully funded and is recorded in loans on our balance sheet.
The funded amount related to this liquidity facility was considered in the
determination of our allowance for loan losses and a specific reserve has been
established against this facility in accordance with our credit policies.
We have established and manage a number of constant net asset value ("CNAV") money
market funds that invest in shorter-dated highly-rated money market securities to
provide investors with a highly liquid and secure investment. These funds price the
assets in their portfolio on an amortized cost basis, which enables them to create
and liquidate shares at a constant price. The funds, however, are not permitted to
price their portfolios at amortized cost if that amount varies by more than
50 basis points from the portfolio's market value. In that case, the fund
would be required to price its portfolio at market value and consequently would no
longer be able to create or liquidate shares at a constant price. We do not
consolidate the CNAV funds as they are not VIEs and we do not hold a majority
voting interest.
SFAS 157 requires a company to take into consideration its own credit risk in
determining the fair value of financial liabilities. The incorporation of own
credit risk accounted for a decrease of $139 million and $174 million in
the fair value of financial liabilities for the three months ended March 31,
2009 and 2008, respectively.
Net income volatility arising from changes in either interest rate or credit
components of the mark-to-market on debt designated at fair value and related
derivatives affects the comparability of reported results between periods.
Accordingly, gain on debt designated at fair value and related derivatives for the
three months ended March 31, 2009 should not be considered indicative of the
results for any future period.
Control Over Valuation Process and Procedures
A control framework has been established which is designed to ensure that fair
values are either determined or validated by a function independent of the
risk-taker. To that end, the ultimate responsibility for the determination of fair
values rests with Treasury finance. Treasury finance establishes policies and
procedures to ensure appropriate valuations. For fair values determined by
reference to external quotations on the identical or similar assets or liabilities,
an independent price validation process is utilized. For price validation purposes,
quotations from at least two independent pricing sources are obtained for each
financial instrument, where possible. We consider the following factors in
determining fair values:
•
similarities between the asset or the liability under consideration and the asset
or liability for which quotation is received;
•
consistency among different pricing sources;
•
the valuation approach and the methodologies used by the independent pricing
sources in determining fair value;
•
the elapsed time between the date to which the market data relates and the
measurement date; and
•
the source of the fair value information.
Greater weight is given to quotations of instruments with recent market
transactions, pricing quotes from dealers who stand ready to transact, quotations
provided by market-makers who originally structured such instruments, and market
consensus pricing based on inputs from a large number of participants. Any
significant discrepancies among the external quotations are reviewed by management
and adjustments to fair values are recorded where appropriate.
For fair values determined by using internal valuation techniques, valuation models
and inputs are developed by the business and are reviewed, validated and approved
by the Derivative Model Review Group ("DMRG") or other independent valuation
control teams within Finance. Any subsequent material changes are reviewed and
approved by the Valuation Committee which is comprised of representatives from the
business and various control groups. Where available, we also participate in
pricing surveys administered by external pricing services to validate our valuation
models and the model inputs. The fair values of the majority of financial assets
and liabilities are determined using well developed valuation models based on
observable market inputs. The fair value measurements of these assets and
liabilities require less judgment. However, certain assets and liabilities are
valued based on proprietary valuation models that use one or more significant
unobservable inputs and judgment is required to determine the appropriate level of
adjustments to the fair value to address, among other things, model and input
uncertainty. Any material adjustments to the fair values are reported to
management.
SFAS 157 establishes a fair value hierarchy structure that prioritizes the
inputs to determine the fair value of an asset or liability. SFAS 157
distinguishes between inputs that are based on observed market data and
unobservable inputs that reflect market participants' assumptions. It emphasizes
the use of valuation methodologies that maximize observable market inputs. For
financial instruments carried at fair value, the best evidence of fair value is a
quoted price in an actively traded market (Level 1). Where the market for a
financial instrument is not active, valuation techniques are used. The majority of
our valuation techniques use market inputs that are either observable or indirectly
derived from and corroborated by observable market data for substantially the full
term of the financial instrument (Level 2). Because Level 1 and
Level 2 instruments are determined by observable inputs, less judgment is
applied in determining their fair values. In the absence of observable market
inputs, the financial instrument is valued based on valuation techniques that
feature one or more significant unobservable inputs (Level 3). The
determination of the level of fair value hierarchy within which the fair value
measurement of an asset or a liability is classified often requires judgment and
may change over time as market conditions evolve. We consider the following factors
in developing the fair value hierarchy:
•
whether the asset or liability is transacted in an active market with a quoted
market price;
•
the level of bid-ask spreads;
•
a lack of pricing transparency due to, among other things, complexity of the
product and market liquidity;
•
whether only a few transactions are observed over a significant period of time;
•
whether the pricing quotations vary substantially among independent pricing
services;
•
whether inputs to the valuation techniques can be derived from or corroborated with
market data; and
•
whether significant adjustments are made to the observed pricing information or
model output to determine the fair value.
Level 1 inputs are unadjusted quoted prices in active markets that the
reporting entity has the ability to access for identical assets or liabilities. A
financial instrument is classified as a Level 1 measurement if it is listed on
an exchange or is an instrument actively traded in the over-the-counter ("OTC")
market where transactions occur with sufficient frequency and volume. We regard
financial instruments such as equity securities and derivative contracts listed on
the primary exchanges of a country to be actively traded. Non-exchange-traded
instruments classified as Level 1 assets include securities issued by the
U.S. Treasury or by other foreign governments, to-be-announced ("TBA")
securities and non-callable securities issued by
U.S.
government sponsored entities.
Level 2 inputs are inputs that are observable either directly or indirectly
but do not qualify as Level 1 inputs. We classify mortgage pass-through
securities, agency and certain non-agency mortgage collateralized obligations,
certain derivative contracts, asset-backed securities, corporate debt, preferred
securities and leveraged loans as Level 2 measurements. Where possible, at
least two quotations from independent sources are obtained based on transactions
involving comparable assets and liabilities to validate the fair value of these
instruments. Where significant differences arise among the independent pricing
quotes and the internally determined fair value, we investigate and reconcile the
differences. If the investigation results in a significant adjustment to the fair
value, the instrument will be classified as Level 3 within the fair value
hierarchy. In general, we have observed that there is a correlation between the
credit standing and the market liquidity of a non-derivative instrument. Most of
the Level 2 asset-backed and mortgage-backed securities have credit ratings of
AAA for which the market has maintained a certain degree of liquidity.
Level 2 derivative instruments are generally valued based on discounted future
cash flows or an option pricing model adjusted for counterparty credit risk and
market liquidity. The fair value of certain structured derivative products is
determined using valuation techniques based on inputs derived from observable
benchmark index tranches traded in the OTC market. Appropriate control processes
and procedures have been applied to ensure that the derived inputs are applied to
value only those instruments that share similar risks to the relevant benchmark
indices and therefore demonstrate a similar response to market factors. In
addition, a validation process has been established, which includes participation
in peer group consensus pricing surveys, to ensure that valuation inputs
incorporate market participants' risk expectations and risk premium.
Level 3 inputs are unobservable estimates that management expects market
participants would use to determine the fair value of the asset or liability. That
is, Level 3 inputs incorporate market participants' assumptions about risk and
the risk premium required by market participants in order to bear that risk. We
develop Level 3 inputs based on the best information available in the
circumstances. As of March 31, 2009 and December 31, 2008, our
Level 3 instruments included the following: collateralized debt obligations
("CDOs") and collateralized loan obligations ("CLOs") for which there is a lack of
pricing transparency due to market illiquidity, certain structured credit and
structured equity derivatives where significant inputs (e.g., volatility or default
correlations) are not observable, credit default swaps with certain monoline
insurers where the deterioration in the creditworthiness of the counterparty has
resulted in significant adjustments to fair value, U.S. subprime mortgage
whole loans and subprime related asset-backed securities, mortgage servicing
rights, and derivatives referenced to illiquid assets of less desirable credit
quality.
The following table provides information about Level 3 assets/liabilities in
relation to total assets/liabilities measured at fair value as of March 31,
2009 and December 31, 2008.
|
|
|
|
(dollars are in millions)
|
|
|
|
Total
assets
measured
at
fair
value(3)
|
|
|
|
|
|
Total
liabilities
measured
at
fair
value(1)
|
|
|
Level 3
assets
as
a
percent
of
total
assets
measured
at
fair
value
|
|
|
Level 3
liabilities
as
a
percent
of
total
liabilities
measured
at
fair
value
|
|
|
|
Presented without FIN 39, "Offsetting of Amounts Relating to
Certain Contracts," netting.
|
|
|
|
Includes $10,206 million of recurring Level 3 assets and
$1,251 million of non-recurring Level 3 assets at
March 31, 2009 and $10,670 million of recurring Level 3
assets and $1,411 million of non-recurring Level 3 assets at
December 31, 2008.
|
|
|
|
Includes $168,133 million of assets measured on a recurring basis
and $1,974 million of assets measured on a non-recurring basis at
March 31, 2009 and $189,152 million of non-recurring
Level 3 assets and $2,466 million of non-recurring
Level 3 assets at December 31, 2008.
|
Material Changes in Fair Value for Level 3 Assets and
Liabilities
Derivative Assets and Counterparty Credit Risk
We have entered into credit default swaps with monoline insurers to hedge our
credit exposure in certain asset-backed securities and synthetic CDOs. Beginning in
2007 and continuing into the first quarter of 2009, the creditworthiness of the
monoline insurers has deteriorated significantly. As a result, we made a
$164 million and $488 million negative credit risk adjustment to the fair
value of our credit default swap contracts which is reflected in trading (losses)
revenues for the three months ended March 31, 2009 and 2008, respectively. We
have recorded a cumulative credit adjustment reserve of $1,013 million against
our monoline exposure.
Loans
As of March 31, 2009 and December 31, 2008, we have classified
$1,109 million and $1,278 million, respectively, of mortgage whole loans
held for sale as a non-recurring Level 3 financial asset. These mortgage loans
are accounted for on a lower of cost or fair value basis. Based on our assessment,
we recorded a loss of $89 million and $118 million for such mortgage
loans during the three months ended March 31, 2009 and 2008. The changes in
fair value are recorded as other revenues (losses) in the consolidated statement of
(loss) income.
Material Additions to and Transfers Into (Out of) Level 3
Measurements
In the first quarter of 2009, we transferred $264 million of mortgage and
other asset backed securities and $27 million of corporate bonds from
Level 2 to Level 3 as the availability of observable inputs continued to
decline. In addition, we transferred $55 million of credit derivatives from
Level 2 to Level 3. See Note 19, "Fair Value Measurements" in the
accompanying consolidated financial statements for information on additions to and
transfers into (out of) Level 3 measurements during the three months ended
March 31, 2008 as well as for further details including the classification
hierarchy associated with assets and liabilities measured at fair value.
Credit Quality of Assets Underlying Asset-backed Securities
The following tables summarize the types and credit quality of the assets
underlying our asset-backed securities as well as certain collateralized debt
obligations and collateralized loan obligations held as of March 31, 2009:
Asset-backed securities backed by consumer finance collateral:
|
|
|
|
|
Credit quality of collateral:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Collateralized debt obligations (
CDO
) and collateralized loan obligations (CLO):
Credit quality of coll
ateral:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total asset-backed securities
|
|
|
|
|
|
|
Effect of Changes in Significant Unobservable Inputs
The fair value of certain financial instruments is measured using valuation
techniques that incorporate pricing assumptions not supported by, derived from or
corroborated by observable market data. The resultant fair value measurements are
dependent on unobservable input parameters which can be selected from a range of
estimates and may be interdependent. Changes in one or more of the significant
unobservable input parameters may change the fair value measurements of these
financial instruments. For the purpose of preparing the financial statements, the
final valuation inputs selected are based on management's best judgment that
reflect the assumptions market participants would use in pricing similar assets or
liabilities.
The unobservable input parameters selected are subject to the internal valuation
control processes and procedures. When we perform a test of all the significant
input parameters to the extreme values within the range at the same time, it could
result in an increase of the overall fair value measurement of approximately
$738 million or a decrease of the overall fair value measurement of
approximately $797 million as of March 31, 2009. The effect of changes in
significant unobservable input parameters are primarily driven by mortgage whole
loans held for sale or securitization, certain asset-backed securities including
CDOs, and the uncertainty in determining the fair value of credit derivatives
executed against monoline insurers.
Overview
Some degree of risk is inherent in virtually all of our activities. For the
principal activities undertaken, the following are considered to be the most
important types of risks:
•
Credit risk
is the potential that a borrower or counterparty will default on a credit
obligation, as well as the impact on the value of credit instruments due to changes
in the probability of borrower default.
•
Liquidity risk
is the potential that an institution will be unable to meet its obligations as they
become due or fund its customers because of inadequate cash flow or the inability
to liquidate assets or obtain funding itself.
•
Market risk
is the potential for losses in daily mark to market positions (mostly trading) due
to adverse movements in money, foreign exchange, equity or other markets and
includes both interest rate risk and trading risk.
•
Operational risk
technically includes legal and compliance risk.
•
Fiduciary risk
is the risk associated with offering services honestly and properly to clients in a
fiduciary capacity in accordance with Regulation 12
CFR
9, Fiduciary Activity of National Banks.
•
Reputational risk
involves the safeguarding of our reputation and can arise from social, ethical or
environmental issues, or as a consequence for operations risk events.
In the first quarter of 2009, significant steps were undertaken to further
strengthen our risk management organization, including the appointment of an HSBC
North America Holdings Inc. Chief Risk Officer and the creation of a distinct,
cross-disciplinary risk organization and integrated risk function. Otherwise, there
were no significant changes to the policies or approach for managing various types
of risk as disclosed in our 2008 Form 10-Q, although we continue to monitor
current market conditions and will adjust risk management policies and procedures
as deemed necessary. See "Risk Management" in Item 7. Management's Discussion
and Analysis of Financial Condition and Results of Operations in our 2008
Form 10-K for a more complete discussion of the objectives of our risk
management system as well as our risk management policies and practices. Our risk
management process involves the use of various simulation models. We believe that
the assumptions used in these models are reasonable, but actual events may unfold
differently than what is assumed in the models. Consequently, model results may be
considered reasonable estimates, with the understanding that actual results may
vary significantly from model projections.
Credit Risk Management
Credit risk is the potential that a borrower or counterparty will default on
a credit obligation, as well as the impact on the value of credit instruments due
to changes in the probability of borrower default.
Credit risk is inherent in various on- and off-balance sheet instruments and
arrangements, such as:
•
in investment portfolios;
•
in unfunded commitments such as letters of credit and lines of credit that
customers can draw upon; and
•
in treasury instruments, such as interest rate swaps which, if more valuable today
than when originally contracted, may represent an exposure to the counterparty to
the contract.
While credit risk exists widely in our operations, diversification among various
commercial and consumer portfolios helps to lessen risk exposure. Day to day
management of credit risk is administered by the Co-Chief Credit Officers who
report to the HSBC North America Holdings Inc. Chief Risk Officer. Further
discussion of credit risk can be found under the "Credit Quality" caption in this
Form 10-Q.
Credit risk associated with derivatives is measured as the net replacement cost in
the event the counterparties with contracts in a gain position to us fail to
perform under the terms of those contracts. In managing derivative credit risk,
both the current exposure, which is the replacement cost of contracts on the
measurement date, as well as an estimate of the potential change in value of
contracts over their remaining lives are considered. Counterparties to our
derivative activities include financial institutions, foreign and domestic
government agencies, corporations, funds (mutual funds, hedge funds, etc.),
insurance companies and private clients as well as other HSBC entities. These
counterparties are subject to regular credit review by the credit risk management
department. To minimize credit risk, we enter into legally enforceable master
netting agreements which reduce risk by permitting the closeout and netting of
transactions with the same counterparty upon occurrence of certain events. In
addition, we reduce credit risk by obtaining collateral from counterparties. The
determination of the need for and the levels of collateral will vary based on an
assessment of the credit risk of the counterparty.
The total risk in a derivative contract is a function of a number of variables,
such as:
•
volatility of interest rates, currencies, equity or corporate reference entity used
as the basis for determining contract payments;
•
current market events or trends;
•
maturity and liquidity of contracts;
•
credit worthiness of the counterparties in the transaction;
•
the existence of a master netting agreement among the counterparties; and
•
existence and value of collateral received from counterparties to secure exposures.
The table below presents total credit risk exposure measured using rules contained
in the risk-based capital guidelines published by
U.S.
banking regulatory agencies. Risk-based capital guidelines recognize that
bilateral netting agreements reduce credit risk and, therefore, allow for
reductions of risk-weighted assets when netting requirements have been met. As a
result, risk-weighted amounts for regulatory capital purposes are a portion of the
original gross exposures.
The risk exposure calculated in accordance with the risk-based capital guidelines
potentially overstates actual credit exposure, because: the risk-based capital
guidelines ignore collateral that may have been received from counterparties to
secure exposures; and the risk-based capital guidelines compute exposures over the
life of derivative contracts. However, many contracts contain provisions that allow
us to close out the transaction if the counterparty fails to post required
collateral. In addition, many contracts give us the right to break the transactions
earlier than the final maturity date. As a result, these contracts have potential
future exposures that are often much smaller than the future exposures derived from
the risk-based capital guidelines.
|
|
|
|
|
Risk
associated
with
derivative
contracts:
|
|
|
Total
credit
risk
exposure
|
|
|
Less:
collateral
held
against
exposure
|
|
|
|
|
|
Liquidity Risk Management
There have been no material changes to our approach towards market risk
management during the first quarter of 2008. See "Risk Management" in Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations in our 2008 Form 10-K for a more complete discussion of our
approach to liquidity risk.
We have been continuously monitoring the impact of recent market events on our
liquidity positions. In general terms, the strains due to the credit crisis have
been concentrated in the wholesale market as opposed to the retail market (the
latter being the market from which we source core demand and time deposit
accounts). Financial institutions with less reliance on the wholesale markets were
in many respects less affected by the recent conditions. Our limited dependence
upon the wholesale markets for funding has been a significant competitive advantage
through the recent period of financial market turmoil.
Our liquidity management approach includes increased deposits, potential sales
(e.g. residential mortgage loans), and securitizations/conduits (e.g. credit cards)
in liquidity contingency plans. Total deposits decreased $3,708 million during
the three months ended March 31, 2009 as compared to an increase of
$3,972 million during the year-ago period. Online savings account growth was
$1,095 million and $224 million during the three months ended
March 31, 2009 and 2008, respectively. Online certificate of deposit growth
was $72 million and $7 million during the three months ended
March 31, 2009 and 2008, respectively. Online certificate of deposit is a new
product introduced in September of 2007.
Our ability to regularly attract wholesale funds at a competitive cost is enhanced
by strong ratings from the major credit ratings agencies. At March 31, 2009,
we and HSBC Bank
USA
maintained the following long and short-term debt ratings:
* Dominion
Bond
Rating
Service.
In March 2009, Moody's Investors Services ("Moody's) downgraded the long-term debt
ratings of both HUSI and HSBC Bank
USA
by one level to A1 and Aa3, respectively and reaffirmed the short-term
ratings for each entity at Prime-1.
Moody
's also changed their outlook for both entities from "stable" to "negative." In
April 2009, DBRS re-affirmed the long and short-term debt ratings of HUSI and HSBC
Bank
USA
at AA and R-1, respectively, with a "negative" outlook.
Interest Rate Risk Management
Various techniques are utilized to quantify and monitor risks associated with
the repricing characteristics of our assets, liabilities and derivative contracts.
Our approach to managing interest rate risk is summarized in Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations in our 2008 Form 10-K under the caption "Risk Management." There
have been no material changes to our approach towards liquidity risk management
during the first quarter of 2008.
Present Value of a Basis Point
("PVBP") is the change in value of the balance sheet for a one basis point upward
movement in all interest rates. The following table reflects the PVBP position at
March 31, 2009 and December 31, 2008.
|
|
|
|
|
Institutional PVBP movement limit
|
|
|
PVBP position at period end
|
|
|
Economic value of equity
is the change in value of the assets and liabilities (excluding capital and
goodwill) for either a 200 basis point immediate rate increase or decrease.
The following table reflects the economic value of equity position at
March 31, 2009 and December 31, 2008.
|
|
|
|
|
Institutional
economic
value
of
equity
limit
|
|
|
Projected
change
in
value
(reflects
projected
rate
movements
on
January 1,
2009):
|
|
|
Change
resulting
from
an
immediate
200 basis
point
increase
in
interest
rates
|
|
|
Change
resulting
from
an
immediate
200 basis
point
decrease
in
interest
rates
|
|
|
The loss in value for a 200 basis point increase or decrease in rates is a
result of the negative convexity of the residential whole loan and mortgage backed
securities portfolios. If rates decrease, the projected prepayments related to
these portfolios will accelerate, causing less appreciation than a comparable term,
non-convex instrument. If rates increase, projected prepayments will slow, which
will cause the average lives of these positions to extend and result in a greater
loss in market value.
Dynamic simulation modeling techniques
are utilized to monitor a number of interest rate scenarios for their impact on net
interest income. These techniques include both rate shock scenarios, which assume
immediate market rate movements by as much as 200 basis points, as well as
scenarios in which rates rise or fall by as much as 200 basis points over a
twelve month period. The following table reflects the impact on net interest income
of the scenarios utilized by these modeling techniques.
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
Projected
change
in
net
interest
income
(reflects
projected
rate
movements
on
January 1,
2009):
|
|
|
|
|
Institutional
base
earnings
movement
limit
|
|
|
|
|
Change
resulting
from
a
gradual
100 basis
point
increase
in
the
yield
curve
|
|
|
|
|
Change
resulting
from
a
gradual
100 basis
point
decrease
in
the
yield
curve
|
|
|
|
|
Change
resulting
from
a
gradual
200 basis
point
increase
in
the
yield
curve
|
|
|
|
|
Change
resulting
from
a
gradual
200 basis
point
decrease
in
the
yield
curve
|
|
|
|
|
Other
significant
scenarios
monitored
(reflects
projected
rate
movements
on
January 1,
2009):
|
|
|
|
|
Change
resulting
from
an
immediate
100 basis
point
increase
in
the
yield
curve
|
|
|
|
|
Change
resulting
from
an
immediate
100 basis
point
decrease
in
the
yield
curve
|
|
|
|
|
Change
resulting
from
an
immediate
200 basis
point
increase
in
the
yield
curve
|
|
|
|
|
Change
resulting
from
an
immediate
200 basis
point
decrease
in
the
yield
curve
|
|
|
|
|
The projections do not take into consideration possible complicating factors such
as the effect of changes in interest rates on the credit quality, size and
composition of the balance sheet. Therefore, although this provides a reasonable
estimate of interest rate sensitivity, actual results will vary from these
estimates, possibly by significant amounts.
Capital Risk/Sensitivity of Other Comprehensive Income
Large movements of interest rates could directly affect some reported capital
balances and ratios. The mark-to-market valuation of available for sale securities
is credited on a tax effective basis to accumulated other comprehensive income.
Although this valuation mark is excluded from Tier 1 and Tier 2 capital
ratios, it is included in two important accounting based capital ratios: the
tangible common equity to tangible assets and the tangible common equity to risk
weighted assets. As of March 31, 2009, we had an available for sale securities
portfolio of approximately $23 billion with a net negative mark-to-market of
$570 million included in tangible common equity of $10 billion. An
increase of 25 basis points in interest rates of all maturities would lower
the mark to market by approximately $169 million to a net loss of
$739 million with the following results on the tangible capital ratios. As of
December 31, 2008, we had an available for sale securities portfolio of
approximately $25 billion with a net negative mark-to-market of
$651 million included in tangible common equity of $9 billion. An
increase of 25 basis points in interest rates of all maturities would lower
the mark to market by approximately $137 million to a net loss of
$788 million with the following results on the tangible capital ratios.
|
|
|
|
|
|
|
|
Tangible
common
equity
to
tangible
assets
|
|
|
|
|
Tangible
common
equity
to
risk
weighted
assets
|
|
|
|
|
(1) Proforma percentages reflect a 25 basis point increase in interest
rates.
Market Risk Management
There have been no material changes to our approach towards market risk management
during the first quarter of 2008. See "Risk Management" in Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations in our 2008 Form 10-K for a more complete discussion of our
approach to market risk.
Value at Risk ("
VAR
") is a technique that estimates the potential losses that could occur 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.
VAR
calculations are performed for all material trading activities and as a tool
for managing interest rate risk inherent in non-trading activities. We
calculate
VAR
daily for a one-day holding period to a 99 percent confidence level. At
a 99 percent confidence level for a two-year observation period, we are
setting as our limit the fifth worst loss performance in the last 500 business
days.
VAR
- Trading Activities
Our management of market risk is based on a policy of restricting individual
operations to trading within a list of permissible instruments authorized,
enforcing rigorous new product approval procedures and restricting trading in the
more complex derivative products to offices with appropriate levels of product
expertise and robust control systems. Market making and proprietary position-taking
is undertaken within Global Banking and Markets.
In addition, at both portfolio and position levels, market risk in trading
portfolios is monitored and controlled using a complementary set of techniques,
including
VAR
and various techniques for monitoring interest rate risk as discussed above.
These techniques quantify the impact on capital of defined market movements.
Trading portfolios reside primarily within the Markets unit of the Global Banking
and Markets business segment, which include warehoused residential mortgage loans
purchased with the intent of selling them, and within the mortgage banking
subsidiary included within the PFS business segment. Portfolios include foreign
exchange, derivatives, precious metals (i.e., gold, silver, platinum), equities and
money market instruments including "repos" and securities. Trading occurs as a
result of customer facilitation, proprietary position taking, and economic hedging.
In this context, economic hedging may include, for example, forward contracts to
sell residential mortgages and derivative contracts which, while economically
viable, may not satisfy the hedge requirements of Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities" ("SFAS 133").
The trading portfolios have defined limits pertaining to items such as permissible
investments, risk exposures, loss review, balance sheet size and product
concentrations. "Loss review" refers to the maximum amount of loss that may be
incurred before senior management intervention is required.
The following table summarizes trading
VAR
for the first quarter of 2009:
|
|
Three Months Ended March 31, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest
rate
directional
and
credit
spread
|
|
|
|
|
|
The following table summarizes the frequency distribution of daily market
risk-related revenues for Treasury trading activities during calendar year 2008.
Market risk-related Treasury trading revenues include realized and unrealized gains
(losses) related to Treasury trading activities, but exclude the related net
interest income. Analysis of the gain (loss) data for the three months ended
March 31, 2009 shows that the largest daily gain was $83 million and the
largest daily loss was $42 million.
Ranges of Daily Treasury Trading Revenue Earned from Market
Risk-Related Activities
|
|
|
|
|
|
|
|
Number of trading days market risk-related revenue was within the
stated range
|
|
|
|
|
|
VAR
- Non-trading Activities
Interest rate risk in non-trading portfolios arises principally from mismatches
between the future yield on assets and their funding cost, as a result of interest
rate changes. Analysis of this risk is complicated by having to make assumptions on
embedded optionality within certain product areas such as the incidence of mortgage
repayments, and from behavioral assumptions regarding the economic duration of
liabilities which are contractually repayable on demand such as current accounts.
The prospective change in future net interest income from non-trading portfolios
will be reflected in the current realizable value of these positions, should they
be sold or closed prior to maturity. In order to manage this risk optimally, market
risk in non-trading portfolios is transferred to Global Markets or to separate
books managed under the supervision of the local Asset and Liability Committee ("
ALCO
"). Once market risk has been consolidated in Global Markets or
ALCO
-managed books, the net exposure is typically managed through the use of interest
rate swaps within agreed limits.
The following table summarizes non-trading
VAR
for the first quarter of 2009, assuming a 99% confidence level for a two-year
observation period and a one-day "holding period".
|
|
Three Months Ended March 31, 2009
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trading Activities
- HSBC Mortgage Corporation (USA) HSBC Mortgage Corporation (
USA
) is a mortgage banking subsidiary of HSBC Bank
USA
. Trading occurs in mortgage banking operations as a result of an economic hedging
program intended to offset changes in value of mortgage servicing rights and the
salable loan pipeline. Economic hedging may include, for example, forward contracts
to sell residential mortgages and derivative instruments used to protect the value
of MSRs.
MSRs are assets that represent the present value of net servicing income (servicing
fees, ancillary income, escrow and deposit float, net of servicing costs). MSRs are
separately recognized upon the sale of the underlying loans or at the time that
servicing rights are purchased. MSRs are subject to interest rate risk, in that
their value will decline as a result of actual and expected acceleration of
prepayment of the underlying loans in a falling interest rate environment.
Interest rate risk is mitigated through an active hedging program that uses trading
securities and derivative instruments to offset changes in value of MSRs. Since the
hedging program involves trading activity, risk is quantified and managed using a
number of risk assessment techniques.
Modeling techniques, primarily rate shock analyses, are used to monitor certain
interest rate scenarios for their impact on the economic value of net hedged MSRs,
as reflected in the following table.
|
|
|
|
|
Projected
change
in
net
market
value
of
hedged
MSRs
portfolio
(reflects
projected
rate
movements
on
April
1):
|
|
|
Value
of
hedged
MSRs
portfolio
|
|
|
Change
resulting
from
an
immediate
50 basis
point
decrease
in
the
yield
curve:
|
|
|
Change
limit
(no
worse
than)
|
|
|
Calculated
change
in
net
market
value
|
|
|
Change
resulting
from
an
immediate
50 basis
point
increase
in
the
yield
curve:
|
|
|
Change
limit
(no
worse
than)
|
|
|
Calculated
change
in
net
market
value
|
|
|
Change
resulting
from
an
immediate
100 basis
point
increase
in
the
yield
curve:
|
|
|
Change
limit
(no
worse
than)
|
|
|
Calculated
change
in
net
market
value
|
|
|
The economic value of the net, hedged MSRs portfolio is monitored on a daily basis
for interest rate sensitivity. If the economic value declines by more than
established limits for one day or one month, various levels of management review,
intervention and/or corrective actions are required.
The following table summarized the frequency distribution of the weekly economic
value of the MSR asset during calendar year 2008. This includes the change in the
market value of the MSR asset net of changes in the market value of the underlying
hedging positions used to hedge the asset. The changes in economic value are
adjusted for changes in MSR valuation assumptions that were made during the course
of the year.
Ranges of Mortgage Economic Value from Market Risk-Related
Activities
|
|
|
|
|
|
|
|
Number
of
trading
weeks
market
risk-related
revenue
was
within
the
stated
range
|
|
|
|
|
|
Operational Risk
There have been no material changes to our approach towards operational risk
management during the first quarter of 2009.
Fiduciary Risk
There have been no material changes to our approach towards fiduciary risk
management during the first quarter of 2009.
Reputational Risk
There have been no material changes to our approach towards reputational risk
management during the first quarter of 2009.
CONSOLIDATED AVERAGE BALANCES
AND
INTEREST RATES
The following table shows the quarter to date average balances of the principal
components of assets, liabilities and shareholders' equity together with their
respective interest amounts and rates earned or paid, presented on a taxable
equivalent basis.
|
Three Months Ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
(dollars are in millions)
|
|
|
|
|
|
|
|
Interest
bearing
deposits
with
banks
|
|
|
|
|
|
|
Federal
funds
sold
and
securities
purchased
under
resale
agreements
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
HELOCs
and
home
equity
mortgages
|
|
|
|
|
|
|
Private
label
card
receivables
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance
for
credit
losses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities
and
Shareholders'
Equity
|
|
|
|
|
|
|
Deposits
in
domestic
offices:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deposits
in
foreign
offices:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other
interest
bearing
deposits
|
|
|
|
|
|
|
Total
interest
bearing
deposits
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
interest
bearing
liabilities
|
|
|
|
|
|
|
Net
interest
income/Interest
rate
spread
|
|
|
|
|
|
|
Noninterest
bearing
deposits
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
shareholders'
equity
|
|
|
|
|
|
|
Total
liabilities
and
shareholders'
equity
|
|
|
|
|
|
|
Net
interest
margin
on
average
earning
assets
|
|
|
|
|
|
|
Net
interest
margin
on
average
total
assets
|
|
|
|
|
|
|
* Rates are calculated on unrounded numbers.
Total weighted average rate earned on earning assets is interest and fee earnings
divided by daily average amounts of total interest earning assets, including the
daily average amount on nonperforming loans. Loan interest for the three months
ended March 31, 2009 and 2008 included fees of $12 million and
$7 million, respectively.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Refer to Item 2, Management's Discussion and Analysis of Financial Condition
and Results of Operations, under the captions "Interest Rate Risk Management" and
"Trading Activities" of this Form 10-Q.
Item 4. Controls and Procedures
We maintain a system of internal and disclosure controls and procedures designed to
ensure that information required to be disclosed by HSBC USA Inc. in the reports we
file or submit under the Securities Exchange Act of 1934, as amended, (the
"Exchange Act"), is recorded, processed, summarized and reported on a timely basis.
Our Board of Directors, operating through its audit committee, which is composed
entirely of independent outside directors, provides oversight to our financial
reporting process.
We conducted an evaluation, with the participation of the Chief Executive Officer
and Chief Financial Officer, of the effectiveness of our disclosure controls and
procedures as of the end of the period covered by this report. Based upon that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded that
our disclosure controls and procedures were effective as of the end of the period
covered by this report so as to alert them in a timely fashion to material
information required to be disclosed in reports we file under the Exchange Act.
There has been no significant change in our internal control over financial
reporting that occurred during the three months ended March 31, 2009 that has
materially affected, or is reasonably likely to materially affect, our internal
control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We are parties to various legal proceedings resulting from ordinary business
activities relating to our current and/or former operations. Due to uncertainties
in litigation and other factors, we cannot be certain that we will ultimately
prevail in each instance. We believe that our defenses to these actions have merit
and any adverse decision should not materially affect our consolidated financial
condition. However, losses may be material to our results of operations for any
particular future period depending on our income level for that period.
Since June 2005, HBUS, HSBC Finance Corporation, HSBC North America and HSBC, as
well as other banks and Visa Inc. and MasterCard Incorporated, were named as
defendants in four class actions filed in Connecticut and the Eastern District of
New York:
Photos Etc.
Corp. et al. v. Visa U.S.A., Inc., et al.
(D. Conn. No. 3:05-CV-01007 (WWE));
National Association of Convenience Stores, et
al. v. Visa U.S.A., Inc., et al.
(E.D.N.Y. No. 05-CV 4520 (JG));
Jethro
Holdings, Inc., et al. v. Visa U.S.A., Inc. et al.
(E.D.N.Y. No. 05-CV-4521 (JG)); and
American Booksellers Ass'n v. Visa U.S.A.,
Inc. et al.
(E.D.N.Y. No. 05-CV-5391 (JG)). Numerous other complaints containing similar
allegations (in which no HSBC entity is named) were filed across the country
against Visa Inc., MasterCard Incorporated and other banks. These actions
principally allege that the imposition of a no-surcharge rule by the associations
and/or the establishment of the interchange fee charged for credit card
transactions causes the merchant discount fee paid by retailers to be set at
supracompetitive levels in violation of the Federal antitrust laws. These suits
have been consolidated and transferred to the Eastern District of New York. The
consolidated case is:
In re Payment Card Interchange Fee and Merchant Discount
Antitrust Litigation
, MDL 1720, E.D.N.Y. A consolidated, amended complaint was filed by the plaintiffs
on April 24, 2006 and a second consolidated amended complaint was filed on
January 29, 2009. The parties are engaged in discovery and motion practice. At
this time, we are unable to quantify the potential impact from this action, if any.
HSBC Bank USA and HSBC North America are among the more than 50 defendants named in
an action filed in the U.S. District Court for the Eastern District of Texas:
DataTreasury Corporation v. Wells Fargo, et al. This suit alleges that the
named entities infringed certain DataTreasury Corporation patents, including
patents covering image capture, centralized processing and electronic storage of
document and check information. DataTreasury Corporation sought unspecified damages
and injunctive relief in both cases. In the first quarter of 2009, we settled Data
Treasury Corporation's claims against HSBC Bank
USA
and HSBC North America. The settlement did not have a material impact on
HUSI's consolidated results.
Exhibits included in this Report:
|
Computation of Ratio of Earnings to
Fixed Charges and Earnings to Combined
Fixed Charges and Preferred Stock
Dividends.
|
|
Certification of Chief Executive Officer
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
Certification of Chief Financial Officer
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
Certification of Chief Executive Officer
pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
|
Certification of Chief Financial Officer
pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
Executive Vice President and Controller
|
Computation of Ratio of Earnings to
Fixed Charges and Earnings to Combined
Fixed Charges and Preferred Stock
Dividends.
|
|
Certification of Chief Executive Officer
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
Certification of Chief Financial Officer
pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
Certification of Chief Executive Officer
pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
|
Certification of Chief Financial Officer
pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
AND
TO
COMBINED FIXED CHARGES
AND
PREFERRED STOCK DIVIDENDS
Three Months Ended March 31
|
|
|
|
|
Ratios excluding interest on deposits:
|
|
|
Net (loss)
|
$(89)
|
$(278)
|
Income tax expense(benefit)
|
41
|
(164)
|
Less: Undistributed equity earnings
|
—
|
—
|
Fixed charges:
|
|
|
Interest on:
|
|
|
Borrowed funds
|
19
|
99
|
Long-term debt
|
237
|
303
|
One third of rents, net of income from subleases
|
|
|
Total fixed charges, excluding interest on deposits
|
261
|
408
|
Earnings before taxes and fixed charges, net of undistributed
equity earnings
|
|
|
Ratio of earnings to fixed charges
|
|
|
Total preferred stock dividend factor(1)
|
|
|
Fixed charges, including the preferred stock dividend factor
|
|
|
Ratio of earnings to combined fixed charges and preferred
stock dividends
|
|
|
Ratios including interest on deposits:
|
|
|
Total fixed charges, excluding interest on deposits
|
$261
|
$408
|
Add: Interest on deposits
|
|
|
Total fixed charges, including interest on deposits
|
|
|
Earnings before taxes and fixed charges, net of undistributed
equity earnings
|
$213
|
$(34)
|
Add: Interest on deposits
|
|
|
Total
|
|
|
Ratio of earnings to fixed charges
|
|
|
Fixed charges, including the preferred stock dividend factor
|
$271
|
$443
|
Add: Interest on deposits
|
|
|
Fixed charges, including the preferred stock dividend factor and
interest on deposits
|
|
|
Ratio of earnings to combined fixed charges and preferred
stock dividends
|
|
|
|
Preferred stock dividends grossed up to their pretax equivalents.
|
Certification of Chief Executive Officer and Chief Financial Officer
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
Certification of Chief Executive Officer
I,
Paul
J.
Lawrence
, President and Chief Executive Officer of HSBC USA Inc., certify that:
1. I have reviewed this report on Form 10-Q of HSBC USA Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of
a material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as of,
and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over
financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for
the registrant and we have:
a) designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision, to
provide reasonable assurance regarding the reliability of financial reporting and
the preparation of financial statements for external purposes in accordance with
generally accepted accounting principles;
c) evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness of
the disclosure controls and procedures, as of the end of the period covered by this
report based on such evaluation; and
d) disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent fiscal
quarter that has materially affected, or is reasonably likely to materially affect,
the registrant's internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies and material weaknesses in the design or
operation of internal controls over financial reporting which are reasonably likely
to adversely affect the registrant's ability to record, process, summarize and
report financial information; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control over
financial reporting.
President and Chief Executive Officer
Certification of Chief Financial Officer
I,
Gerard
Mattia
,
Senior
Executive Vice President and Chief Financial Officer of HSBC USA Inc.,
certify that:
1. I have reviewed this report on Form 10-Q of HSBC USA Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of
a material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as of,
and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over
financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for
the registrant and we have:
a) designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision, to
provide reasonable assurance regarding the reliability of financial reporting and
the preparation of financial statements for external purposes in accordance with
generally accepted accounting principles;
c) evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness of
the disclosure controls and procedures, as of the end of the period covered by this
report based on such evaluation; and
d) disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent fiscal
quarter that has materially affected, or is reasonably likely to materially affect,
the registrant's internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies and material weaknesses in the design or
operation of internal controls over financial reporting which are reasonably likely
to adversely affect the registrant's ability to record, process, summarize and
report financial information; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control over
financial reporting.
Senior Executive Vice President and
Certification of Chief Executive Officer and Chief Financial Officer
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
Certification pursuant to 18 U.S.C. Section 1350, as Adopted pursuant
to
Section 906 of the Sarbanes-Oxley Act of 2002
The certification set forth below is being submitted in connection with the HSBC
USA Inc. Quarterly Report on Form 10-Q for the period ending March 31,
2008 as filed with the Securities and Exchange Commission on the date hereof (the
"Report") for the purpose of complying with Rule 13a-14(b) or
Rule 15d-14(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and
Section 1350 of Chapter 63 of Title 18 of the United States Code.
I,
Paul
J.
Lawrence
, President and Chief Executive Officer of HSBC USA Inc., certify that:
1. the Report fully complies with the requirements of Section 13(a) or
15(d) of the Exchange Act; and
2. the information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of HSBC USA Inc.
President and Chief Executive Officer
Certification Pursuant to 18 U.S.C. Section 1350,
As Adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
The certification set forth below is being submitted in connection with the HSBC
USA Inc. Quarterly Report on Form 10-Q for the period ending March 31,
2008 as filed with the Securities and Exchange Commission on the date hereof (the
"Report") for the purpose of complying with Rule 13a-14(b) or
Rule 15d-14(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and
Section 1350 of Chapter 63 of Title 18 of the United States Code.
I,
Gerard
Mattia
,
Senior
Executive Vice President and Chief Financial Officer of HSBC USA Inc.,
certify that:
1. the Report fully complies with the requirements of Section 13(a) or
15(d) of the Exchange Act; and
2. the information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of HSBC USA Inc.
Senior Executive Vice President and
This certification accompanies each Report pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the
Sarbanes-Oxley Act of 2002, be deemed filed by HSBC USA Inc. for purposes of
Section 18 of the Securities Exchange Act of 1934, as amended.
Signed originals of these written statements required by Section 906 of the
Sarbanes-Oxley Act of 2002 have been provided to HSBC USA Inc. and will be retained
by HSBC USA Inc. and furnished to the Securities and Exchange Commission or its
staff upon request.
SIGNATURE
Pursuant to the requirements of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized.
HSBC Holdings plc
By:
Name: P A Stafford
Title: Assistant Group Secretary
Date:
11 May 2009