Risk management tools

It is our policy to constantly review the adequacy and reliability of the quantitative measures and measurement tools so that we can adapt them to changing market conditions when needed. Listed below are the key quantitative measures and metrics we currently use to measure, manage and report risks:

– ECONOMIC CAPITAL. Economic capital is a measure of the amount of equity needed to absorb extreme unexpected losses from our portfolio. “Extreme” here means that the calculated economic capital with a probability of 99.98% covers the unexpected losses aggregated within one year. We calculate the economic capital for default risk, transfer risk and settlement risk – as components of credit risk – as well as for market risk, operational risk and general business risk. We use economic capital to summarize the Bank’s risk exposures, from individual business lines to the corporate level. We also use the economic capital (as well as goodwill and other non-depreciable intangible assets) to allocate the book capital to the business lines. This allows us to assess the risk-adjusted performance of each business unit, which is central to controlling our financial resources to maximize value for our shareholders. In addition, we use economic capital – especially for credit risk – to measure the risk-adjusted profitability of our customer relationships. For a quantitative presentation of our economic capital requirements, see also section “Overall Risk Position”.

– EXPECTED LOSS. We use the expected loss to measure default, transfer and settlement risks in the context of credit risk. The expected loss measures the loss of our loan portfolio, which is expected to be within one year based on historical loss data. The calculation of expected loss takes into account credit risk ratings, collateral received, maturities and average statistical procedures to capture the risk characteristics of our different types of exposures and facilities. All parameter assumptions are based on statistical averages of our historically suffered losses and losses as well as on external benchmarks. We use expected loss as an instrument in our risk management processes and it is also part of our management reporting system. The relevant results of the expected loss calculation are also considered in the determination of the other inherent loss provisions included in our financial statements. In this context, relevant outcomes are those used to estimate the inherent losses on loans and contingent liabilities, other than those that have been included in our individual allowances or our standardized homogeneous loan impairment allowances.

– VALUE AT RISK. We use a value-at-risk approach to derive a quantitative measure of our market risk in the trading book under normal market conditions. The value-at-risk values are the basis for both internal and external (regulatory) reporting. For a given portfolio, value-at-risk measures the potential future loss (in terms of market value) that, under normal market conditions, will not be exceeded at a predefined confidence level in a given period. The value-at-risk for an overall portfolio measures our diversified market risk (aggregated using previously determined correlations) in this portfolio.

– STRESS TESTS. We supplement our analysis of credit, market, operational and liquidity risks with stress tests. For market risk management, we conduct stress tests, as the value-at-risk calculation is based on relatively short-term historical data, only identifies risks up to a certain confidence level and assumes that the assets can be utilized to good effect. The value-at-risk calculation therefore only reflects the loss potential under relatively normal market conditions. Stress tests help us assess the impact of potential extreme market movements on the value of our market risk-sensitive assets. This applies to both our highly liquid and less liquid trading positions and our investments. We use stress tests to determine the amount of economic capital needed to cover market risks in extreme market conditions. For credit risk management, we conduct stress tests to assess the impact of changes in the economic environment on our credit exposure or parts thereof. For operational risk management, we conduct stress tests on our economic capital model to assess its sensitivity to changes in key model components. Among other things, the results of these stress tests allow us to assess the impact of material changes in the frequency and / or severity of operational risk events on our operational risk needs for operational risk. For liquidity risk management, we use stress tests and scenario analyzes to investigate the impact of sudden stress events on our liquidity position.

– REGULATORY RISK POSITION. The assessment of the bank’s risk-bearing capacity by the German supervisory authorities is carried out using various parameters, which are explained in more detail in note [22] of the consolidated financial statements.

CREDIT RISK

Credit risk is our biggest risk. We measure and control it according to the following principles:

– Uniform standards are applied to the respective lending decisions in all divisions.

– The approval of counterparty credit limits and the management of our individual credit exposures must be within our portfolio guidelines and credit strategies. In addition, every decision includes a risk-return analysis.

– Any grant of credit to a counterparty and any material change to a credit facility (such as maturity, collateral structure or important contractual terms) against it require credit approval through an appropriate level of competence.

– Credit approval powers are given to employees with appropriate qualifications, experience and training. These credit skills are reviewed regularly.

– Our credit exposures to a borrower group are summarized on a consolidated basis. “Borrower Group” means borrowers who are bound by at least one of our criteria, such as equity participation, voting rights, obvious control or other evidence of affiliation, or who are jointly and severally liable for all or part of our granted credit.

CREDIT RISK RATINGS

An important element of the credit approval process is a detailed risk assessment of each credit exposure of a business partner. When assessing the risk, we take into account both the creditworthiness of the counterparty and the risks relevant to the credit facility or credit exposure. The resulting risk rating not only impacts the structuring of the transaction and the credit decision, but also determines the credit capability needed to extend or extend or substantially change the loan, and sets the scope of supervision for the engagement.

We have internal valuation methods, score cards and a rating scale to assess the creditworthiness of our business partners. Our 26-step rating scale is calibrated with the measure of probability of default formed on the basis of statistical analysis of historical defaults in our portfolio. This scale enables us to compare our internal ratings with market practice and to improve the comparability of our various sub-portfolios. Our credit exposures are typically rated individually, but occasionally we use risk-weighted average ratings. In determining the internal risk classifications, we compare our estimates as far as possible with the external risk ratings issued by leading international rating agencies for our business partners.

CREDIT LIMITS

Credit limits set the upper limit for credit exposures that we are prepared to enter for specific periods. They relate to products, terms of engagement and other factors. Our credit policies also provide for certain procedures (including lower approval thresholds and higher levels of competency) for exceptional cases where we may engage beyond the limits set. These exemptions give us flexibility to perceive exceptional business opportunities, new market trends, and similar factors.

MONITORING OF FAILURE RISK

Our credit exposures are constantly monitored using the risk management tools described above. In addition, we have procedures at our disposal to identify credit exposures at an early stage, which may be exposed to increased credit risk. Business associates who use our risk management tools to create the impression that problems may arise are identified early to effectively manage their credit exposure and maximize returns. The purpose of this early-warning system is to address potential issues as long as adequate alternative courses of action are still available. This early detection of potential problem loans is a fundamental principle of our credit culture and serves to ensure that greater attention is paid to such exposures. If we identify borrowers who could cause problems, the affected exposures are placed on a watch list.

LOAN EXPOSURE MANAGEMENT GROUP

Within the framework of our overall risk management, the Loan Exposure Management Group (LEMG) is primarily responsible for managing the credit risk for loans and off-balance sheet commitments in the international investment grade credit portfolio and the portfolio of loans to German SMEs within the Corporate Division and Investment Bank.

As the central price reference point, LEMG provides the respective business units of the Corporate and Investment Bank Corporate Division with the corresponding observed or derived capital market conditions for new loan applications. However, the decision on lending by the business unit remains reserved for credit risk management.

Within this credit risk concept, LEMG focuses on two key initiatives designed to improve risk management discipline, improve returns and increase capital efficiency:

– Reduction of single-sector and sector-specific credit risk concentrations within the loan portfolio, as well as

Active management of credit exposures through the use of techniques such as loan sales, securitization of credit claims via secured credit securitization and single-name and portfolio credit default swaps.