18. Quantitative information. Quantitative information about derivatives activities should address the following broad areas:

• credit risk
• liquidity risk
• market risk of trading and derivatives activities
• effect on earnings

Recognising that exchange-traded and OTC derivatives generally differ in their credit risk, liquidity risk and the potential for complexity, the overall reporting framework distinguishes between exchange-traded and OTC derivatives in identifying information needed for supervisory assessment. Each of the four broad areas is discussed in greater detail in sections 1 to 4 below.

19. In addition, quantitative information about derivatives activities should enable institutions and their supervisors to monitor the volume of these activities and identify broad trends in how derivatives are used by the organisation. For example, when properly categorised, summary information on notional amounts of derivatives can be helpful in identifying trends in an institution's involvement with various types of derivatives (e.g., swaps, futures, forwards, and options), whether derivatives are exchange-traded or over-the-counter (OTC), the broad risk categories with which they are associated (e.g., interest rate risk, foreign exchange risk, commodities risk, equity risk), and their maturity ⁷. Moreover, notional amounts can be used to identify broad purposes for derivatives activity, such as whether derivatives are held for trading or other purposes. Since exchange-traded derivatives, such as futures and options, may not have market values disclosed in financial statements due to the frequency of settlement of exposures and variation margin payments required by the exchange clearing houses, information on the notional amounts of these derivatives can be particularly helpful in identifying a build-up in such contracts. Information on market values provides supervisors with an alternative to notional amounts for gauging an institution's involvement in OTC derivatives markets.

20. In assessing the risk categories mentioned above, supervisors should consider the impact of internal deals on the risk profile and profitability of institutions.

21. Qualitative information. In order to effectively evaluate banks' and securities firms' derivatives activities and related risks, supervisors should assess qualitative information about institutions' systems, internal controls, policies and practices for measuring and managing the risks of derivatives. This includes, for example, information on the risk limits that banks and securities firms use to manage their exposures and any changes in these limits. The risk management guidelines for derivatives, which were issued by the two Committees in July 1994 and which highlight key attributes of the risk management systems of banks and securities firms, may be used as a guide in requesting information on institutions' systems, policies and practices ⁸. In addition, in September 1997 the Basle Committee issued principles for the management of interest rate risk. This guidance may be helpful to bank supervisors in requesting information on institutions' systems, policies, and practices for managing interest rate risk and their use of derivatives for this purpose.

22. The quality of the institution's risk management processes and internal controls for derivatives activities (including the quality of related regulatory reports) may be evaluated in reports prepared by the institutions' independent risk management/control units, internal auditors, external auditors, consultants and other experts. Supervisors can gain important insights into the quality of risk management and internal controls, and reported information about risk profiles by reviewing reports on these topics.

23. The following sections describe in greater detail the different elements of the framework for supervisory information about derivatives activities. The narrative discussion is summarised in tabular form in Annex 1. In Annex 1, two columns are provided for each of the major risk categories. The first column identifies a supervisory concern or use, and the second column describes the information that could be applicable to that use. Explanations follow that summarise how each data item might be used or why it is important from a supervisory perspective. In general, the data and related explanations reflect widely accepted concepts and techniques for measurement of risk exposure that are based on new developments in practice. Some information elements address multiple supervisory uses listed in the first column of Annex 1. To summarise such overlaps, Annex 2 cross-references the information elements with the supervisory uses that have been identified.

Footnotes:

7. While helpful for these purposes, aggregate notional amounts are not measures of the derivatives' risk exposures.

8. "Risk Management Guidelines for Derivatives", Basle Committee on Banking Supervision, July 1994 and "Operational and Financial Risk Management Control Mechanisms for Over-the-Counter Derivatives Activities of Regulated Securities Firms", Technical Committee of IOSCO, July 1994.

1. Credit risk

2. Liquidity risk

3. Market risk

4. Earnings