APS330: Capital Adequacy and Risk Management Disclosure - 2008

BASEL II PILLAR 3
APS 330: CAPITAL ADEQUACY & RISKMANAGEMENT IN ANZ
Year ended 30 September 2008

1

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Important NoticeThis document has been prepared by Australia & New Zealand Banking Group Ltd (ANZ, or the Group) to meet
its annual disclosure obligations under the Australian Prudential Regulation Authority (APRA) APS 330 Capital
Adequacy: Public Disclosure of Prudential Information.
This annual disclosure was prepared as at 30 September 2008. ANZ has a continuous disclosure policy, underwhich ANZ will immediately notify the market of any material price sensitive information concerning the Group,in accordance with legislative and regulatory disclosure requirements.

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Table of Contents
Chapter 1. Introduction.................................................................................5
Chapter 2. Scope of Application.....................................................................6
Chapter 3. Capital..........................................................................................8
Chapter 4. Risk Management Governance in ANZ ..........................................16
Chapter 5. Credit Risk Management ..............................................................17
Chapter 6. Operational Risk Management .....................................................38
Chapter 7. Market Risk Management .............................................................40
Chapter 8: Interest Rate Risk in the Banking Book........................................43
Chapter 9. Equities ........................................................................................45
Appendix 1. APS 330 Reference ....................................................................46
Glossary ........................................................................................................47

Table of Figures
Figure 1

Capital Structure ...................................................................................................... 9 & 10

Figure 2

Capital Adequacy ........................................................................................................... 13

Figure 3

Regulatory Credit Exposure ............................................................................................ 18

Figure 4

Geographic Distribution of Regulatory Credit Exposure ................................................. 18

Figure 5

Residual Contractual Maturity Breakdown of Regulatory Credit Exposure ...................... 19

Figure 6

Industry Distribution of Regulatory Credit Exposure ...................................................... 19

Figure 7

Impaired Assets and Past Due Loans by Geography ....................................................... 21

Figure 8

Impaired Assets and Past Due Loans by Industry .......................................................... 21

Figure 9

Reconciliation of Changes in Provisions for Credit Impairment ...................................... 21

Figure 10

Actual Losses during the Reporting Period ..................................................................... 22

Figure 11

Advanced IRB Regulatory Credit Exposures ................................................................... 27

Figure 12

Credit Risk Disclosures Subject to IRB – Non Retail ....................................................... 28

Figure 13

Credit Risk Disclosures Subject to IRB –Retail ............................................................... 29

Figures 14a & b

Credit Risk Mitigation ..................................................................................................... 31

Figures 15a & b

Credit Risk Standardised ................................................................................................ 32

Figure 16

Traditional Securitisations ............................................................................................. 35

Figure 17

Synthetic Securitisations ................................................................................................ 35

Figure 18

Aggregated Securitisations ............................................................................................ 36

Figure 19

Impaired and Past Due Loans Relating to ANZ Originated Securitisations ..................... 36

Figure 20

Securitisation Exposures by Facility ............................................................................... 36

Figure 21

Securitisation Exposures by Risk Weight ....................................................................... 36

Figure 22

Securitisation Activity by Asset Type ............................................................................. 37

Figure 23

Securitisation Activity by Facility ................................................................................... 37

Figure 24

Value at risk analysis for market risk ............................................................................. 41

Figure 25

Capital requirements for market risk components under standardised approaches ....... 42

Figure 26

Effect of standard rate shock on interest rate risk in the banking book ......................... 44

Figure 27

Equity investment disclosures ........................................................................................ 45

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 1. Introduction
Purpose of this Document
This document has been prepared in accordance with the Australian Prudential Regulation Authority (APRA)
Australian Prudential Standard (APS) APS 330 Capital Adequacy: Public Disclosure of Prudential Information(APS 330).
APS 330 mandates the release to the investment community and general public of information relating to
ANZ’s capital adequacy and risk measurement practices. APS 330 has been established to implement Pillar 3of the international framework for bank capital adequacy, known as ‘Basel II’ 1 .
In simple terms, Basel II consists of three mutually reinforcing ‘pillars’:• Pillar 1 covers the rules for calculating the minimum capital required for a bank’s credit, operational andmarket risk. There is a range of approaches that may be adopted by banks, ranging from simple tomore sophisticated risk measurement and management approaches.
• Pillar 2 covers a review of the adequacy of the Pillar 1 capital, taking into account all the rest of the risksa bank faces, as well as current economic conditions, future growth plans and likely stress scenarios.
• Pillar 3 seeks to harness the power of market discipline to supplement regulatory supervision of banks.
To achieve this, an informed market is required – hence the disclosure of the information contained inthis document. The information to be disclosed is tied to the risk measurement and management
approaches approved under Pillar 1.
Basel II in ANZAPRA has been a strong supporter of the Basel II process and has adopted it for use by banks in Australia.
Preparation for Basel II has taken banks several years, as the new rules have touched many policies,
processes and systems. In December 2007, ANZ received accreditation for the most advanced approaches for
credit and operational risk, complementing its existing accreditation for market risk. ANZ is one of very few
banks in the world to have accreditation at the most advanced level for all three key risk types.
APS 330 requires the publication of information on a quarterly, semi-annual and annual basis. This document
is the annual disclosure, which contains the most comprehensive information.
In addition to releasing APS 330 for Pillar 3, APRA has revised several existing standards and published a newsuite of prudential standards to implement the rest of Basel II. The standards that relate to ANZ are:Existing Standards• APS 110: Capital Adequacy (APS 110)
• APS 111: Capital Adequacy: Measurement of Capital (APS 111)
New Standards• APS 113: Capital Adequacy: Internal Ratings-based Approach to Credit Risk (and to a limited
extent, APS 112: Capital Adequacy: Standardised Approach to Credit Risk) (APS 113)
• APS 115: Capital Adequacy: Advanced Measurement Approaches to Operational Risk (APS 115)• APS 116: Capital Adequacy: Market Risk (APS 116)• APS 117: Capital Adequacy: Interest Rate Risk in the Banking Book (APS 117)• APS 120: Securitisation (APS 120)
Pillar 2 has no separate prudential standard, as it is strictly for supervisors. However, APRA has published an
information paper on its proposed approach.
Verification of Disclosures
These disclosures have been appropriately verified internally but have not been audited by ANZ’s external
auditor. However, they have been prepared to ensure consistency with the financial disclosures contained in
ANZ’s Annual Report.
Reconciliation to Annual Report
These disclosures have been produced in accordance with regulatory capital adequacy concepts and rules,
rather than in accordance with International Financial Reporting Standards. As such, there will be differencesin some common areas of disclosures.
These differences will be most pronounced in the credit risk disclosures, several of which are made on thebasis of Exposure at Default (EAD – refer chapter 5) which includes undrawn amounts of commitments andcontingent exposures. A number of the disclosures are made at the regulatory ‘asset class’ level (refer chapter5), a classification scheme that traverses multiple areas of ANZ’s internal organisation.
Unless otherwise stated, all amounts are rounded to AUD millions.

1

Basel Committee on Banking Supervision, International Convergence of Capital Measurement and CapitalStandards: A Revised Framework, 2004
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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 2. Scope of Application
Top Corporate Entity in ANZ
The top corporate entity in the Group is Australia and New Zealand Banking Group Limited.
Consolidation
For financial reporting purposes, ANZ consolidates its financial statements and all of its controlled entities
where it is determined that there is a capacity to control. Control means the power to govern directly or
indirectly the financial and operating policies of an entity so as to obtain benefits from its activities.
In relation to special purpose entities, such control is deemed to exist where:• In substance, the majority of the residual risks and rewards from their activities accrue to the Group;or,• In substance, the Group controls their decision making powers so as to obtain the majority of the risks
and rewards from their activities.
For the purpose of determining ANZ’s capital adequacy at the consolidated banking Group, ANZ includes all
controlled subsidiary entities except for those involved in the following business activities, as required by APS
110:• Insurance businesses (including friendly societies and health funds);• Acting as manager, responsible entity, approved trustee, trustee or similar role in relation to funds
management;• Non-financial (commercial) operations; and• Securitisation special purpose vehicles to which assets have been transferred in accordance with APRA's
requirements as set out in APS 120.
Investments in entities deconsolidated for prudential purposes are deducted from regulatory capital and theassets of those entities are excluded from aggregate Risk Weighted Assets (RWA). For consolidated banking
group reporting, all investments in subsidiaries are either eliminated on consolidation or deducted from thecapital base where deconsolidation for prudential purposes is required.

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The material controlled entities of the Group are:
Name
Amerika Samoa BankANZ Capel Court Limited
ANZ Capital Funding Pty Ltd
ANZ Capital Hedging Pty Ltd
ANZ Commodity Trading Pty Ltd
ANZcover Insurance Pty Ltd
ANZ Trustees Limited
ANZ Funds Pty Ltd
ANZ Bank (Europe) Limited
ANZ Bank (Samoa) Limited
ANZ Holdings (New Zealand) Limited
ANZ National Bank Limited
ANZ Investment Services (New Zealand) Limited
ANZ National (Int’l) Limited
Awarata Finance Limited
Arawata Trust
Arawata Holdings Limited
Harcourt Corporation Limited
Arawata Trust Company
Endeavour Finance Limited
Tui Endeavour Limited
Private Nominees Limited
UDC Finance Limited
ANZ International (Hong Kong) Limited
ANZ Asia Limited
ANZ Bank (Vanuatu) Limited
ANZ International Private Limited
ANZ Singapore Limited
ANZ Royal Bank (Cambodia) Limited
Bank of Kiribati Ltd
LFD Limited
Minerva Holdings Limited
Upspring Limited
Votraint No. 1103 Pty. Ltd
ANZ Lenders Mortgage Insurance Pty Limited
ANZ Nominees Limited
ANZ Orchard Investments Pty Ltd
Australia and New Zealand Banking Group (PNG) Limited
Citizens Bancorp Inc
Citizens Security Bank (Guam) Inc
Esanda Finance Corporation Limited
ETRADE Australia Limited
Omeros II Trust
PT ANZ Panin BankANZ Vientiane Commercial Bank Limited

Deducted from
capital?
No
No
No
No
No
No
Yes
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
No
Yes
No
No
No
No
No
No
No
Yes
No
No

Business
Banking
Investment Banking
Funding
Hedging
Finance
Captive-Insurance
Trustee/Nominee
Investment
Banking
Banking
Holding Company
Banking
Fund Manager
FinanceFinanceFinance
Holding Company
Investment
FinanceFinanceFinance
NomineeFinance
Holding Company
Banking
Banking
Holding Company
Merchant Banking
Banking
Banking
Holding Company
Holding Company
Finance
Investment
Mortgage Insurance
Nominee
Holding Company
Banking
Holding Company
Banking
General Finance
Online Stockbroking
Securitisation
Banking
Banking

Restrictions on Transfers of Funds within the GroupANZ operates branches and locally incorporated subsidiaries in many countries. These operations arecapitalised at an appropriate level to cover the risks in the business (economic capital) and to meet local
prudential requirements. This minimum level may be enhanced to meet local taxation and operational
requirements. Any repatriation of capital from subsidiaries or branches is subject to meeting the requirementsof the local prudential regulator and/or the local central bank requirements. Apart from ANZ’s operations in
New Zealand, local country capital requirements do not impose any material call on the Group’s capital base.
ANZ undertakes banking activities in New Zealand through its wholly owned subsidiary, ANZ National Bank
Limited (ANZ National), which is subject to minimum capital requirements as set by the Reserve Bank of New
Zealand (RBNZ). The Reserve Bank of New Zealand (RBNZ) has adopted the Basel II framework, effectivefrom 1 January 2008, and ANZ National has been accredited to use the advanced approaches for the
calculation of credit and operational risk. This closely aligns the capital required for ANZ National to the levelof capital required under the Group’s methodology. However, ANZ National maintains a buffer above theminimum capital base as required by the RBNZ. This capital buffer has been calculated via the Internal Capital
Adequacy Assessment Process (ICAAP 2 ), undertaken for ANZ National, to ensure ANZ National is appropriately
capitalised under stressed economic scenarios.
Capital Deficiencies in Non-Consolidated Subsidiaries
The aggregate amount of any under-capitalisation of any non-consolidated subsidiary (or subsidiaries) that isrequired to be deducted from capital is zero.

2
Internal Capital Adequacy Assessment Process is discussed in detail within the Capital Adequacy section ofthis document.

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 3. Capital
Capital Structure
ANZ’s regulatory capital calculation is governed by APRA’s Prudential Standards which adopt a risk-based
capital assessment framework based on the Basel II capital measurement standards. This risk based approachrequires eligible capital to be divided by total RWA, with the resultant ratio being used as a measure of abank’s capital adequacy. APRA determines Prudential Capital Ratios (PCRs) for Tier 1 and Total Capital, withcapital as the numerator and Risk Weighted Asset (RWA) as the denominator.
Regulatory capital is divided into Tier 1, carrying the highest capital elements, and Tier 2, which has lower
capital elements, but still adds to the overall strength of the entity.
Tier 1 capital is comprised of ‘Fundamental’ capital and ‘Residual’ capital, and Tier 1 deductions. Fundamental
capital comprises shareholder’s equity adjusted for items which APRA does not allow as regulatory capital orclassifies as lower forms of regulatory capital. The following adjustments are made to fundamental capital:• Reserves exclude the hedging reserve and the available-for-sale revaluation reserve;• Retained earnings excludes reserves of insurance, funds management and securitisation entities andassociates and includes deferred fees forming part of loan yields; and• Current year earnings is net of the dividends paid during the current year and the expected final
dividend payment, net of the expected dividend reinvestment under the Dividend Reinvestment Planand excludes profits of insurance, funds management and securitisation entities and associates.
Residual capital covers non-innovative and innovative hybrid Tier 1 instruments with limits restricting thevolume that can be counted as Tier 1 capital. Tier 1 deductions include amounts deducted solely from Tier 1,
mainly intangible assets, and deductions taken 50% from Tier 1 and 50% from Tier 2, which mainly includes
the tangible component of investment in other entities regulated by APRA, or their overseas equivalent, andthe amount of Expected Losses (EL) in excess of Eligible Provisions net of tax.
Tier 2 capital is comprised of Upper and Lower Tier 2 capital less capital deductions taken 50% from Tier 2
capital. Upper Tier 2 capital mainly comprises perpetual debt instruments whilst Lower Tier 2 includes dated
subordinated debt instruments which have a minimum term of five years.
Total Capital is the sum of Tier 1 capital and Tier 2 capital.

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The following table summarises ANZ’s capital position as at 30 September 2008.
Figure 1: Capital Structure
Fundamental Tier 1 capital$m

Paid-up ordinary share capital

12,566

Foreign currency translation reserve
Share and share option reserve

(816)
107

Reserves(709)

Retained earnings including current year earnings
less : Accumulated retained profits and reserves of insurance, funds
management and securitisation entities and associates
Dividend not provided for
add : Deferred fee revenue including fees deferred as part of loan
yields
Accrual for Dividend Reinvestment Plans

13,772(841)(1,511)
351
453

Prudential retained earnings

12,224

Minority interests

62

Fundamental Tier 1 capital

24,143Innovative Tier 1 capital

2,847

Non-innovative Tier 1 capital

2,095

Gross Tier 1 capital

29,085

Deductions from Tier 1 capital
Goodwill(3,064)

Intangible component of investments in non-consolidated subsidiaries
and other non-Level 2 entities
Other deductions from Tier 1 capital only

Refer to following tables

50/50 deductions from Tier 1 capital

Refer to following tables(1,773)(1,813)(1,206)

Total Tier 1 capital deductions(7,856)

NET TIER 1 CAPITAL

21,229Tier 2 capital
Upper Tier 2 capital

Refer to following tables

1,377

Lower Tier 2 capital

9,195

Gross Tier 2 capital

10,572

Deductions from Tier 2 capital
Upper and lower Tier 2 capital deductions(28)

50/50 deductions from Tier 2 capital(1,206)

Total Tier 2 capital deductions(1,234)

NET TIER 2 CAPITAL

9,338

TOTAL CAPITAL BASE

30,567

9APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Figure 1: Capital Structure (cont) 3
Other Deductions from Tier 1 capital$m

Capitalised software and other intangible assets(677)

Capitalised expenses including loan and lease origination fees,
capitalised securitisation establishment costs and costs associated withdebt raisings.

(642)

Applicable deferred tax assets (excluding the component relating to thegeneral reserve for impairment of financial assets)

(92)
(117)

Earnings not recognised for prudential purposes
Other

(285)

Total

(1,813)

Deductions taken 50% from Tier 1 and 50% from Tier 2

GrossInvestment in ANZ Lenders Mortgage Insurance

(131)

(65)

Investment in Funds Management and Securitisation entities

(68)

(34)

Investment in joint ventures with ING in Australia and New Zealand

(524)

(262)

Investment in other commercial operations(1,219)
(72)

(610)
(36)

Expected loss in excess of eligible provsions

(334)

(167)

Other

(64)

(32)

Total

(2,412)(1,206)

Investment in other Authorised Deposit Taking Institutions and overseas
equivalents

50%

Details of Upper Tier 2 Capital
Eligible component of post acquisition earnings and reserves inassociates and joint ventures
Perpetual subordinated notes
General reserve for impairment of financial assets net of attributable
deferred tax asset
Total

248
1,075
54
1,377

3

Under Basel II, ‘General reserve for impairment of financial assets net of attributable deferred tax asset’
consists of the surplus of the general reserve for impairment of financial assets net of tax and/or the provisions
attributable to the standardised portfolio.
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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Hybrid Tier 1 Capital Instruments
The Group has on issue two outstanding non-innovative Residual Tier 1 Capital instruments:• ANZ Convertible Preference Shares. On 30 September 2008 ANZ raised AUD1,081m of convertible
preference shares which will mandatorily convert into ordinary shares on 16 June 2014, subject tocertain conditions being satisfied. They may convert earlier under certain circumstances. The
distributions are preferred, non-cumulative, based on the quarterly Bank Bill Rate subject to Directors
resolving to pay in their absolute discretion and other payment tests being satisfied. In a winding-up of
ANZ, the instrument will rank equal with other preference shares, but behind all depositors andcreditors and ahead of ordinary shareholders.
• UK Stapled Securities. On 15 June 2007 ANZ raised GBP450m of non-cumulative mandatory
convertible stapled securities. On 15 June 2012, or an earlier date under certain circumstances, the UK
Stapled Securities will mandatorily convert into ordinary shares. The distributions are non-cumulative at
a fixed rate of 6.54% payable semi-annually. In a winding-up the ANZ preference shares forming part of
the ANZ Stapled Securities will rank equal with other preference shares, but behind all depositors andcreditors and ahead of ordinary shareholders.
The Group has on issue three innovative Tier 1 Capital instruments:• US Trust Securities. On 27 November 2003, ANZ raised USD1,100m of loan capital in two tranches of
USD350m with an initial call date of 15 January 2010 at a coupon rate of 4.48%, and USD750m with an
initial call date of 15 December 2015 and a coupon rate of 5.36%. On these dates ANZ has thediscretion to redeem the US Trust Securities for cash, subject to APRA approval. If it does not exercise
this discretion, the investor is entitled to require ANZ to exchange the US Trust Securities into ordinary
shares. The distributions are non-cumulative payable half yearly in arrears. In a winding-up of ANZ the
ANZ preference shares forming part of the US Trust Securities will rank equal with other preference
shares, but behind all depositors and creditors and ahead of ordinary shareholders.
• Convertible Notes. On 26 September 2008, ANZ raised AUD600m of perpetual, subordinated,unsecured, interest bearing convertible notes. The convertible notes are convertible into ordinary shareson 26 September 2009 at the holder’s option and on each third interest payment date thereafter. ANZ
has call rights for face value on various dates including each interest payment date on or after 26
December 2008 subject to APRA approval. Distributions are non-cumulative, payable monthly in arrears
based on the 30 day bank bill rate plus 200 basis points. In a winding-up of ANZ the instrument will
rank equal with preference shares, but behind all depositors and creditors and ahead of ordinary
shareholders.
• Euro Trust Securities. On 24 September 2004, ANZ issued EUR500m of preference share raising
AUD871m, at the spot rate on the date of issue. Distributions are non-cumulative payable quarterly inarrears based upon the three month EURIBOR rate plus a margin of 66 basis points up until 15
December 2014, at which date ANZ has a call right for cash (subject to APRA approval). After this date,the distribution rate is a rate is based on the three month EURIBOR rate plus a margin of 166 basis
points. In a winding-up of ANZ the ANZ preference shares forming part of the Euro Trust securities will
rank equal with other preference shares, but behind all depositors and creditors and ahead of ordinary
shareholders.
For more information on these instruments please refer to the Loan Capital and Share Capital notes (Notes 27
and 28 respectively) in the 2008 ANZ Annual Report.
Upper Tier 2 Capital Instruments
Upper Tier 2 capital instruments comprise perpetual subordinated notes. The ANZ Group has two instrumentsthat qualify as Upper Tier 2 capital which are a USD300m instrument issued by ANZ on 30 October 1986 whichpays a rate of LIBOR plus 15 basis points and a NZD835m instrument issued by ANZ National Bank Limited on
17 April 2008 which pays a fixed rate of 9.66% for five years payable semi-annually in arrears. At the first calldate of 18 April 2013 the interest rate resets to the five year swap rate plus 200 basis points.
Lower Tier 2 Capital Instruments
Lower Tier 2 capital instruments include subordinated notes which have a fixed term. To qualify as lower Tier 2
capital the instrument must have a minimum term of five years and the amount eligible for inclusion in capitalis amortised on a straight line basis at a rate of 20% per annum over the last four years to maturity.
For more details on these Tier 2 capital instruments, please refer to the Subordinated Notes section (Note 27)of the Loan Capital section within the 2008 ANZ Annual Report.

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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Capital Adequacy
ANZ is required to hold capital to ensure that it can support its current and forecast growth rates, and survive
unexpected losses (to a given confidence level). The process to establish how much capital is required isreferred to as capital adequacy. From a regulatory capital perspective, the cornerstone of this process is the‘risk weighting’ of the Group’s assets and the requirement to hold capital as a minimum percentage of the total
RWA.
As described in the Introduction, the Basel II Pillar 1 rules for calculating RWA (APS 112, 113, 115-117) are
the starting point for regulatory capital adequacy, as banks must then take a broader perspective of the rangeof risks and the range of likely growth/stress scenarios they face.
ANZ’s ICAAP conforms with the Basel II Pillar 2 capital adequacy regime, and in particular the capital adequacy
planning process. It aligns capital levels and targets to risk appetite and outlines processes by which theGroup identifies, measures, monitors and manages risks, thereby ensuring that the Group’s capitalisation isappropriate.
Capital Planning and Targets
Annually, ANZ conducts a detailed strategic planning process over a three-year time horizon, the outcome ofwhich is embodied in the Strategic Plan. This process involves ANZ Economics forecasting key economic
growth rates which ANZ Divisions use to determine key financial data for their existing business. New strategic
initiatives to be undertaken over the planning period and their financial impact are then determined. These
processes are used to:• Review capital ratios, targets and levels against the Group’s risk profile and appetite outlined in theStrategic Plan. The Group’s capital targets reflect such factors as APRA’s minimum PCRs, maintenanceof ANZ’s preferred credit rating and the desire to ensure that under stressed economic scenarios that
capital levels are sufficient to remain above both Economic Capital and PCR requirements;• Perform stress-tests of those outcomes under different economic conditions and reassess the Group’s
capital position both before and after mitigating actions;• Identify the level of capital generated organically and hence determine current and future capitalrequirements for the Group (Level 2) and the Extended Licensed Entity (ELE 4 ) (Level 1); and• Identify strategies to maintain capital flexibility to fund unplanned events.
From this process, a Capital Plan is developed which identifies the capital issuance and maturity profile, options
around capital products, timing, markets and strategies under differing market and economic conditions toraise the required capital and contingent capital options.
The Capital Plan is maintained and updated through a monthly review of forecast financial performance,
economic conditions and development of business initiatives and strategies.
Under a Basel II regulatory capital regime, movements in counterparty creditworthiness result in increased
volatility of a bank’s RWA compared to the previous Basel I regulatory capital regime. For example, thedowngrading of a bank’s borrowers to reflect an underlying weakening in credit worthiness will result in an
increase in a bank’s RWA and capital requirements. At the same time, a bank’s capital base may be reduced
through loan losses. This has led to the observation that Basel II is ‘pro-cyclical’.
Accordingly, under Basel II, a bank’s capital position should be expected to exhibit greater volatility comparedto Basel I rules. As noted above, ANZ conducts stress tests to determine the level of additional capital (the‘capital buffer’ above Pillar 1 minimum capital) needed to absorb losses experienced during an economic
downturn.
Target ratios are set to be consistent with the Group’s risk appetite and Economic Capital methodology, plus
an allowance for the impact of stress testing on the capital position. The approach was developed to ensure
capital requirements are manageable and consistent with credit ratings and minimum requirements - even inperiods of stress.
APRA has established a regulatory capital floor for AIRB and AMA banks 5 during a transition period startingfrom the commencement of the AIRB and AMA on 1 January 2008. The regulatory capital floor calculation
involves the calculation of RWA and gross capital under both Basel I and Basel II rules. Reductions in capital
may be available, provided that a bank maintains its prudential capital ratio, subject to a floor of 90% of thetransitional regulatory floor calculation. APRA has not announced an end date for the transition period.

4

The Extended Licensed Entity (ELE) comprises the Company and any subsidiary not regulated by APRA or any
equivalent overseas regulator that may be treated as an extension of ANZ itself for the purposes of measuring
capital adequacy and exposures to related entities. To be included in the ELE, the subsidiary must meet thecriteria detailed APS 110 and the inclusion must be approved in writing by APRA.

5Refer to Chapter 5 for an explanation of AIRB and Chapter 6 for an explanation of AMA.
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APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The following table summarises the risk weighted assets by major risk class.
Figure 2: Capital Adequacy 6 7 8
Risk Weighted Assets$m
Subject to Advanced IRB approach
Corporate

127,365

Sovereign

2,079

Bank

12,624

Residential Mortgage

33,727

Qualifying revolving retail (credit cards)

8,703

Other retail

14,218Credit risk weighted assets subject to Advanced IRB approach
Credit Risk Specialised lending (SL) exposures subject to slotting criteria

198,716
30,250Subject to Standardised approach
Corporate

13,348

Sovereign

0

Bank

21

Residential Mortgage
Credit risk weighted assets subject to standardised approach

344
13,713Credit risk weighted assets relating to securitisation exposures

4,271

Credit risk weighted assets relating to equity exposures

1,146

Other assets
Total credit risk weighted assets

2,654
250,750

Market risk weighted assets

2,609

Operational risk weighted assets

18,017

Interest rate risk weighted assets in the banking book
TOTAL RISK WEIGHTED ASSETS

4,058
275,434

Capital ratios (%)
Level 2 Total capital ratio
Level 2 Tier 1 capital ratio
Level 1: Australia and New Zealand Banking Group Limited extended licensed entity Total capital ratio

11.1%
7.7%
11.6%

Level 1: Australia and New Zealand Banking Group Limited extended licensed entity Tier 1 capital ratio

8.4%

Other significant ADI or overseas bank subsidiary: ANZ National Bank Limited Group Total capital ratio

11.6%

Other significant ADI or overseas bank subsidiary: ANZ National Bank Limited Group Tier 1 capital ratio

8.1%

6
Other assets category is in line with the definition of other assets per APS 113 attachment E paragraphs 5, 9,
10 & 13.
7

The risk weighted assets disclosed in this table for the AIRB approach include the regulatory scalar factor of
1.06. The scalar factor was introduced by the Basel Committee as a means to retain the pre-Basel II level ofregulatory capital in the global banking system.

8Standardised exposures to all private sector counterparties (other than banks and residential mortgages)
have been classified in the ‘Corporate’ category as they do not meet the requirements for other AIRB asset
classes. The main categories of the exposures are Business Lending, Margin Lending and Other Personal
Lending.
13

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

In relation to the Basel asset classes outlined above, the following table details the types of exposures in each
asset class.
Basel Asset Class

Typical Types of Exposure

Corporate

Individually rated and managed exposures not covered under othercategories - mainly lending and off-balance sheet facilities provided to larger
companies, partnerships and other bodies

Sovereign

Exposures to sovereigns and central banks. Includes direct exposures e.g.
bond holdings and indirect e.g. exposures guaranteed by sovereign Export
Credit Agencies ("ECAs")Bank

Exposures to non-Group bank counterparties. Includes bond holdings anddeposits with other banks, trade finance exposures and guarantees provided
by other banks

Residential Mortgage

Retail exposures secured by residential properties - mainly home loans,investment loans & equity manager facilities

Qualifying Revolving
RetailRetail managed consumer credit card exposures with customer limits lessthan $100k

Other Retail

Retail managed exposures other than mortgage and qualifying revolving includes personal loans, consumer and small business leasing, retail small
business lending

Specialised Lending
subject to slotting
approach

Exposures where the main servicing and repayment is from the asset being
financed. Includes specified commercial property development/investment
lending, project finance and object financeStandardised

Lending exposures where IRB models cannot be applied - mainly local
business lending and personal lending in Asia and the Pacific

Securitisation

Exposures to securitisation vehicles - mainly liquidity and funding facilities
provided to third party securitisations and securitisation bond exposures

EquityHoldings of third party equities where not consolidated or deducted from
capitalOther Assets

Mainly fixed assets

14

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

International Comparisons
One of the main purposes of the Pillar 3 disclosures is to facilitate comparisons of banks, both within andacross jurisdictions.
International investors should be aware that there are a number of features of APRA’s implementation of BaselII that have the effect of making key capital adequacy ratios appear lower than would be the case if they were
calculated under the rules in other jurisdictions. The following table shows ANZ’s estimation of its Tier 1 andCore Tier 1 capital adequacy ratios under British rules (set by the Financial Services Authority (FSA) and underCanadian rules (set by the Office of the Superintendent of Financial Institutions (OSFI)) 9 :ANZ under
APRA rules

ANZ under
FSA rules

ANZ under
OSFI rules

Actual average for
Canadian AA banks

Tier 1

7.7%~10.0%~10.7%

9.7%

Core Tier 1

5.9%

~8.0%

~8.7%

7.4%

The results for Canadian AA banks have been included to provide some perspective, as AA rated banks would
be assumed to have similar capital levels in order to retain their ratings.
For capital, the major reasons for the differences are that FSA and OSFI:•

Do not require a deduction for accrued dividends (although APRA does give credit for expected shares
to be issued under a dividend reinvestment plan);•

Do not require a Tier 1 deduction for certain capitalised expenses and deferred tax assets;•

Allow the comparison of expected loss to eligible provisions to be made on a gross basis before
considering any tax effect, whereas APRA require general reserves for credit losses (net of tax) to becompared with expected loss; and•Have a more favourable treatment for investments in associates (which would include ING joint
ventures), and insurance and funds management subsidiaries.

For RWA, the major reasons for the differences are:•

APRA has set a 20% floor on the downturn LGD for mortgages (as compared with the 10% minimum
set by the FSA and OSFI);•

FSA and OSFI do not require Interest Rate Risk (IRR) in the Banking Book (IRRBB) to be a Pillar I
requirement (so it is excluded from regulatory capital adequacy ratios); and•Differences in the treatment of specialised property lending, equity and margin lending products.

The Australian Bankers’ Association has released a detailed fact sheet 10 documenting the differences between
the Australian and British rules and the implications for regulatory capital ratios.

9

These estimates have been developed to incorporate the major differences, and have been developed with
input from Ernst & Young.

10

www.bankers.asn.au
15

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 4. Risk Management Governance in ANZ
Risk Management Committees
The ANZ Board has two Board sub-committees that supervise risk management within ANZ.
• The Risk Committee – The purpose of the Risk Committee is to assist the Board of Directors in theeffective discharge of the Board’s responsibilities for business, market, credit, equity and otherinvestment, financial, operational, liquidity and reputational risk management and for the managementof the Group’s compliance obligations; and• The Audit Committee – In addition to its role reviewing financial reporting principles and policies,
controls and procedures, the Audit Committee also reviews the effectiveness of ANZ's internal control
and risk management framework.
Executive management committees provide the means by which the Risk Committee is able to fulfil its
responsibilities and are responsible for co-ordination of risk matters for each of the areas of risk management.
These executive management committees and their main functions are:
• The Group Asset and Liability Committee (GALCO) – is responsible for coordinating risk matters relating
to balance sheet risk within global policies and limits established by the Risk Committee. The role of
GALCO is to direct and coordinate balance sheet management globally. GALCO is supported by aspecialist committee that covers capital requirements, and regional asset and liability management
committees;• The Operational Risk Executive Committee (OREC) – is the primary senior executive management forum
responsible for oversight of operational risk. OREC’s role is to approve the Operational Risk Framework
and risk mitigation associated with operational risk events, monitor the state of operational risk
management and approve ANZ’s approach to emerging operational risks; and• The Credit and Trading Risk Committee (CTC) – is the senior executive management forum responsible
for the oversight and control of credit and trading risk and, as a delegation from GALCO, non-tradedrisk. For risk grading governance, the CTC is supported by two other executive committees to supervise
and approve risk grading methodology – one for Wholesale and one for Retail. They receive reports
demonstrating the accuracy and reliability of the risk grading system, set performance standards and if
necessary, recommend any remediation activities.
The Audit Committee is supported by Internal Audit, whose role is to provide independent and objective
assurance around ANZ’s operations. Internal Audit’s primary reporting line is to the Audit Committee.
The structure of the above committees is depicted in the following diagram:
ANZ Board

Audit Committee

Risk Management
Committee
Risk Committeewith polices
andregulations
Reviewfinancialreportingprinciples and policies aswell as the effectiveness of
ANZ's internal control andrisk management framework•• Oversees
Oversees policy,
policy, strategy/processes
strategy / processes• Authorises Group’s Limits Framework• Authorises Group’s Limits framework• Authorises limit approvals of the CTC• Authorises limit approvals of the CTC
Four independent directors, CEO, CFO,
CRO, General Counsel

Group Asset & Liability Committee (GALCO)
•
•
•
•
•
•
•
•

Non-traded interest rate risk
Liquidity & funding
Balance sheet structure
Structural foreign exchange exposures(excluding traded FX exposures)
Capital Management
ICAAP assurance
Funds transfer pricing
Policy, control, and compliance activities forall balance sheet risks and operations.

CEO, CFO(C), CRO, Senior MD, Group Treasurer,
Head of Market Risk, Group MDs: Institutional,
Personal & Asia Pac, Chief Economist, CEO –ANZ National
GALCO meets quarterly(RMC)

Risk Committee
at least
fourannuallytimes annually
RMC
meets at meetsleast fourtimes

Operational Risk Executive Committee(OREC)•• Operational Risk

Credit & Trading Risk Committee (CTC)••AssetPolicywriting strategies• Portfolio• Major lending decision• Traded risk
• Asset writing strategies• Compliance• Portfolio• Traded and Non-Traded risk
Corporate and SME, GM Wholesale Risk
• ALCO review/oversight responsibilities(monthly) between meetings
CEO, CRO (C), CFO, Senior Managing Director,
Chief Wholesale Credit Officer, Chief Retail Credit
Officer, at least two Divisional MDs• Information Security
Core members are CFO, Senior MD, CRO(C), GM Human Resources, GM Internal
Audit, GM Compliance, Group Head OR
and Divisional MDs. Quorum of 6
required.
OREC meets six times annually

Key:(C) = Chairman(JC) = Joint Chairman

CTC meets weekly

Risk Management Functions
ANZ’s risk management is viewed as a core competency of the organisation and to ensure that risks are
identified, assessed and managed in an accurate and timely manner, ANZ has:
• An independent risk management function, with both central functions (which typically cover suchfunctions as risk measurement, reporting and portfolio management), together with embedded risk
managers within the businesses; and• Developed frameworks to provide structured and disciplined processes for managing key risks. Theseframeworks include articulation of the appetite for these risks, portfolio direction, policies, structures,
limits and discretions.
16

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 5. Credit Risk Management
Definition of Credit Risk
Within ANZ, credit risk is defined as the risk of financial loss resulting from the failure of the Group’s customers
to honour or perform fully the terms of a loan or contract.
Regulatory Approval to use the Advanced Internal Ratings-Based Approach
ANZ has been given approval by APRA to use the Advanced Internal Ratings-Based approach (AIRB) to credit
risk, under APS 113 Capital Adequacy: Advanced Internal Ratings-Based Approach to Credit Risk.
There are several small portfolios where ANZ applies the standardised approach to credit risk, under APS 112
Capital Adequacy: Standardised Approach to Credit Risk.
Credit Risk Appetite
The credit risk appetite for ANZ has been set as ‘Medium’. This means risk concentrations must be mitigatedby having a diversified portfolio, and the Group must focus on the risk/reward trade off that underpins credit
risk.
Credit Risk Management Framework
As described in Chapter 4, ANZ has developed a comprehensive framework to manage credit risk.
The framework is supported by a comprehensive policy library, covering all aspects of the credit life cycle(such as transaction structuring, risk grading, initial approval, ongoing management and problem debt
management). The policy library also includes specialist policy topics. The policy library is structured tosupport ANZ’s lending businesses.
Credit Risk Organisation
As described in the preceding chapter, the CTC is the Group’s most senior executive level credit risk
committee. It provides the ongoing monitoring of the link between the risk appetite and the asset writing
strategies, portfolio reviews, identification, monitoring and measurement of current and emerging risks andrisk controls (such as portfolio caps, risk triggers, high level credit policies and single customer concentration
tolerance).
An independent risk management function, at Group, divisional and business unit levels, is staffed by risk
specialists. The primary responsibility for prudent and profitable management of credit risk assets andcustomer relationships rests with the business units. In addition to providing independent credit assessment
on lending decisions, Risk Management also performs key roles in portfolio management by development andvalidation of credit risk measurement systems, loan asset quality reporting, and development of credit
standards and policies.
The authority to make credit decisions is delegated by the Board through the Board Risk Committee to the CTC
and executive management. The CTC in turn delegates some of its credit discretion to individuals as part of a‘cascade’ of authority from senior to the most junior credit officers. Within ANZ, credit approval for almost all
non-retail lending is made on a ‘dual approval’ basis, jointly by the business writer in the Business Unit and therespective independent credit risk officer. For retail lending, highly automated risk assessment processes
mean that sole credit discretions are the norm, with assessors reviewing the output of decision tools.
Individuals must complete appropriate training in order to be granted a credit discretion.
Portfolio Direction and Performance
The credit risk management framework contains several important portfolio direction and performance tools
which enable Risk Management to play a fundamental role in monitoring the direction and performance of theportfolio. These include:• Asset writing strategies that are prepared by the businesses and set out planned portfolio growth,
capital usage and risk/return profile, and also identify areas that require attention to mitigate andimprove risk management;• Regular portfolio reviews; and• Exposure concentration limits, covering single customers, industries and cross border risk, to ensure adiversified portfolio.

17

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

In supporting portfolio monitoring and analysis, ANZ uses tools, technologies and techniques to assist withportfolio risk assessment and management. These help to:• Monitor, analyse and report the Group’s credit risk profile and progress in meeting portfolio objectives;• Calculate and report the Group’s Collective Provision, Economic Capital, Expected Loss, regulatory RWA
and regulatory Expected Loss;• Develop and maintain the Group's credit risk measurement and policy framework; and• Validate rating/scoring tools and credit estimates.
Risk Reporting
Management information systems (MIS), reporting and analysis for credit risk are managed centrally and at
the Business Unit level.
Periodic reporting provides confirmation of the effectiveness of processes, highlights emerging issues requiring
attention and allows monitoring of portfolio trends by Business Units, Divisions, Group and the Board.
Examples of reports include risk grade profiles, credit rating migrations, large exposure reporting and credit
watch and control lists. Within the Retail segments, monthly reporting packs are prepared that focus on suchaspects as scoring and delinquency/slippage monitoring.
General Credit Disclosures
The following tables disclose the gross credit exposure broken down by geography, industry and residual
contractual maturity. Basel asset class is a combination of standardised and IRB approaches. Securitisation,other assets and equity are excluded.
Figure 3: Regulatory Credit Exposure
Regulatory credit
exposure$mBasel Asset Class
Corporate

239,996

Sovereign

9,350

Bank

50,827

Residential Mortgage

187,263

Qualifying revolving retail (credit cards)

23,458Other retail

26,708

Total exposures

537,602

Figure 4: Geographic Distribution of Regulatory Credit Exposure
Basel Asset Class

Australia$m

New Zealand
$m

Other
$m

Total
$m

Corporate

149,489

53,49837,009239,996

Sovereign

2,440

3,678

3,232

9,350

Bank

20,425

5,091

25,31150,827

Residential Mortgage

140,769

45,569925

187,263

Qualifying revolving retail (credit cards)

19,1064,352

023,45821,844354,073

4,864
117,052

066,477

26,708537,602

Other retail
Total exposures

18

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Figure 5: Residual Contractual Maturity Breakdown of Regulatory Credit Exposure 11<= 12 mths
$m

1 to 5 years$mMore than 5
years
$m

No Maturity
Specified
$m

Total
$m

Corporate

107,831102,874

26,517

2,774

239,996

Sovereign

6,968

1,557

825

0

9,350

Bank

37,23011,6501,929

1850,827

Residential Mortgage

2,103

4,655

155,795

24,710187,26300023,45823,4586,830
160,962

13,498134,234

6,232
191,298

148
51,10826,708537,602

Basel Asset Class

Qualifying revolving retail (credit cards)
Other retail
Total exposures

Figure 6: Industry Distribution of Regulatory Credit Exposure

Basel Asset Class

Agriculture,
Forestry, Fishing
Business Services& Mining$m$m

Construction$mEntertainment,
Leisure &Tourism$m

Financial,
Investment &Insurance$m
28,894

Corporate

37,939

9,392

5,879

9,978

Sovereign

0

0

0

0

6,101

Bank

0

4

0

99

50,082

Residential Mortgage

0

0

0

0

0

Qualifying revolving retail (credit cards)

0

0

0

0

0

2,257

1,548

2,268

758

277

Total exposures

40,196

10,944

8,147

10,83585,354Basel Asset Class

Government andOfficial
Institutions$m

Manufacturing$m

Personal$m

Property
Services$m

Wholesale Trade$m

Corporate

5,563

29,621

8,452

41,805

19,604

Sovereign

2,819

161

0

10

46

Bank

0

11

22

6

44

Residential Mortgage

00187,26300Qualifying revolving retail (credit cards)

0023,4580

0

Other retail

14

832

12,250923

622

Total exposures

8,396

30,625

231,445

42,744

20,316

Basel Asset Class

Retail Trade$mTransport &Storage
$m

Other
$m

Total
$m

Corporate

13,336

9,739

19,794

239,996

Sovereign

0

0

213

9,350

Bank

0

41

518

50,827

Residential Mortgage

0

0

0

187,263

Qualifying revolving retail (credit cards)

0

0

0

23,458

2,029

1,007

1,923

26,70815,365

10,78722,448537,602

Other retail

Other retail
Total exposures

11
No Maturity Specified predominately includes credit cards, margin lending and residential mortgage equity
manager accounts.

19

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Past Due and Impaired Assets
Past Due Loans
Exposures that are deemed past due are those where a contractual payment arrangement has not been met or
the customer is outside of contractual arrangements. Typically, past due items include facilities operating inexcess of approved arrangements or loans where scheduled repayments are outstanding. Exposures that are
90 days or more past due can be defined as either portfolio managed or individually managed. Portfolio
managed are typically unsecured credit card and personal loan facilities which are allowed to be retained on an
accrual basis for up to 180 days past due. The remainder of 90 day past due accounts are held on an accrualbasis having been assessed as well secured. Facilities that are 90 days past due and are neither portfolio
managed or well secured, are treated and recorded as impaired.
Impaired Assets and Individual Provisions
Irrespective of whether a facility is 90 days past due, individually managed facilities are classified as impaired
when there is doubt as to whether the contractual amounts due, including interest and other payments, will be
met in a timely manner. Individual provisions are assessed for all individually managed impaired assets on acase-by-case basis taking into consideration factors such as the realisable value of security (or other credit
mitigants), the likely return available upon liquidation or bankruptcy, legal uncertainties, estimated costs
involved in recovery, the market price of the exposure in secondary markets and the amount and timing of
expected receipts and recoveries.
When a loan is uncollectible, either partially or in full, it is written-off against the related provision for
impairment. Portfolio facilities are normally written-off when they become 180 days past due or earlier in theevent of the customer’s bankruptcy or similar legal release from the obligation. A certain level of recoveries is
expected after write-off, which is reflected in the amount of the provision for credit losses. In the case of
secured facilities, remaining balances are typically written-off after proceeds from the realisation of collateral
have been received if there is a shortfall.
Where individual provisions recognised in previous periods have subsequently decreased or no longer exist,
such impairment losses are reversed in the current income statement.
Collective Provisions
As well as holding individual provisions for credit loss, the Group also holds a collective provision to covercredit losses which have been incurred but have not yet been specifically identified.
Exposures that are assessed collectively are placed in pools of similar assets with similar risk characteristics.
The required provision is estimated on the basis of historical loss experience for assets with credit risk
characteristics similar to those in the collective pool. The historical loss experience is adjusted based on
current observable data such as changed economic conditions. The provision also takes account of the impact
of inherent risk of large concentrated losses within the portfolio.
ANZ’s collective provisioning methodology is predominantly based around the product of an exposure’s
Probability of Default (PD) multiplied by Loss Given Default (LGD) multiplied by Exposure at Default (EAD) 12 .
ANZ uses slightly different PD, LGD and EAD factors in the calculation of regulatory capital and expected loss
(EL), due to the different requirements of APRA and accounting standards. The key differences are:
• ANZ must use more conservative LGD assumptions for regulatory capital purposes, such as the 20%
LGD floor for retail mortgages and ‘downturn’ LGD factors; and• ANZ must use ‘cycle adjusted’ PDs for regulatory capital purposes, but uses ‘point in time’ estimates tocalculate provisions.
In simple terms, these differences reflect the effects of the credit cycle on credit losses. ‘Point in time’ refers
to losses at any given point in the credit cycle, ‘cycle adjusted’ refers to adjusting estimates to reflect a fullcredit cycle and ‘downturn’ refers to losses at the worst of the cycle and is the most conservative estimate touse. Regardless of the adjustments, the starting point for all estimates is the output of the rating/scoringmodels and tools to satisfy the ‘in use’ test 13 .
APRA has agreed that ANZ’s Collective Provision is equal to the General Reserve for Credit Losses.

12

PD, LGD and EAD are explained in the following section.

13

One of the key criteria for regulatory acceptance of a rating model is that the outputs must be used in awide range of ongoing management activities, to demonstrate that the model is used in day to day
management of exposures and not just for regulatory capital calculation.

20

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Impairment Disclosures 14 15
The following tables disclose the past due and impaired assets broken down by industry and geography, in
addition to a reconciliation of changes in the provisions for credit impairment.
Figure 7: Impaired Assets and Past Due Loans by Geography
Geographic Region

Impaired asssets$mAustralia
New Zealand
Other
Total

2,224
279
170
2,673

Past due loans ≥ 90 Individual provision General reserve fordays
balancecredit losses
$m
$m
$m
776
516
2,149
259
111
447
25
48
225
1,060
675
2,821

Figure 8: Impaired Assets and Past Due Loans by Industry 16
Impaired
assets$m
121

Past dueloans ≥ 90
days
$m
39

Individual
provisionbalance$m
50

Charges forindividual
provision$m
55

Write-offs$m
20

Business Services

56

23

42

71

36

Construction

32

13

12

12

6

Entertainment Leisure & Tourism

30

20

18

15

6

Financial, Investment & Insurance

601

104

146

189

53

Industry Sector
Agriculture, forestry, fishing & mining

Government & Official Institutions

0

0

0

0

0

Manufacturing

161

19

67

44

44

Personal

230

458

127

349

367

Property Services

887

73

15

18

4

Retail Trade

37

30

20

7

9

Transport & Storage

54

7

24

33

19

Wholesale Trade

181

231

64

124

92

Other

283

43

90

115

43

Total

2,673

1,060

675

1,032

699

Figure 9: Reconciliation of Changes in Provisions for Credit Impairment
General Reserve for Credit Losses
Balance at start of period

$m
1,992

Total charge against profit and loss

818

Adjustments for exchange rate fluctuations and otherTotal General Reserve for Credit Losses

11
2,821

Individual Provisions
Balance at start of period

270

Net transfer from general reserve for credit losses
Total charge against profit and loss

0
1,032

Adjustments for exchange rate fluctuations

0

Discount Unwind(28)

Write-offs(699)

Recoveries

100

Total Individual Provision

675

Total Provisions

14

General Reserve for Credit Losses is equivalent to Collective Provision.

15

Past due loans larger than 90 days is made up of $945 million well secured loans.

3,496

16

Impaired assets includes restructured items for customer facilities which for reason of financial difficulty
have been re-negotiated on terms which the Bank considers as uncommercial but necessary in thecircumstances, and are not considered non-performing. Includes both on and off balance sheet exposures.
21

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Figure 10: Actual Losses During Reporting Period 17
Basel Asset Class
Corporate

Regulatory Expected
Loss Estimate$mCharges for individual
provision$m

Write-offs
$m
160

1,097

480

Specialised Lending

590

0

0

Sovereign

10

0

0

Bank

91

45

6

Residential Mortgage

391

40

45

Qualifying revolving retail (credit cards)

363

219

270

Other retail

510

214

189

3,052

998

670

0

34

29

3,052

1,032

699

Total excluding standardisedStandardised
TOTAL

Regulatory Expected Loss adjustment to Capital$m

Total Eligible Provisions
Collective Provision Component
Other Eligible Provisions

1,919
799

less
Regulatory Expected Loss Estimate
Net Surplus / (Deficit) applied to Capital(50/50 tier 1 / Tier 2)

3,052
(334)

17
The Collective Provision Component comprises the Collective Provision balance $1,973 (net of tax), less theamount relating to Standardised exposures of $54 million (after tax).

22

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Credit Risk (Advanced Internal Ratings-Based Approach)Portfolios Subject to the AIRB Approach
The following table summarises the coverage of ANZ’s AIRB portfolios:
IRB Asset Class

Borrower type

Rating Approach

Sovereign

Central governments
Central banks
Certain multilateral banks

AIRB

Bank

Banks 18
In Australia only, other authorised deposit taking
institutions (ADI) incorporated in Australia

AIRB

Corporate

Corporations, partnerships or proprietorships that do not fit
into any other asset class

AIRB

Specialised Lending

Income Producing Real Estate
Project FinanceObject Finance

AIRB - Slotting 19

Residential Mortgages

Exposures secured by residential property

AIRB

Qualifying Revolving
RetailConsumer credit cards <$100k limit

AIRB

Other Retail

Small business lending
Other lending to consumers

AIRB

EquityOther assets

AIRB – fixed risk
weights
All other assets not falling into the above classes e.g.
margin lending, fixed assets etc

AIRB – fixed risk
weights

In addition, ANZ has applied the standardised approach to some portfolio segments where currently available
data does not enable development of advanced internal models for PD, LGD and EAD estimates. This is
usually because the individual segments are small in volume e.g. new products, so that default and loss events
are scarce and distinctive in nature and existing IRB models cannot be applied. ANZ applies its full normal risk
measurement and management framework to these segments however the credit rating tools may not havereceived AIRB approval. Where possible, standardised segments will be migrated to AIRB.
Standardised segments make up approximately 2.5% of the Group’s EAD and approximately 5% of RWA. The
material standardised segments are Retail/Local corporate in Asia-Pacific. This segment is standardised due todata volume constraints for credit rating model validation.
ANZ has not applied the foundation IRB approach to any portfolios.
The ANZ Rating System
As an AIRB bank, ANZ’s internal models generate the inputs into regulatory capital adequacy (to determine therisk weighted exposure calculations for both on and off-balance sheet exposures, including undrawn portions ofcredit facilities, committed and contingent exposures) and expected loss calculations. The Group’s internal
models are used to generate the three key risk components that serve as inputs to the IRB approach to credit
risk, namely:• PD;• EAD; and• LGD
Effective maturity is also calculated as an input to the risk weighted exposure calculation for bank, sovereign
and corporate Basel asset classes.

18

Excludes investment banks.

19

Under ‘slotting’, ANZ uses its internal models to generate a PD, which is mapped to conservative regulatory
risk weights used to calculate RWA for these exposures. The specific capital functions for slotted assets areused for regulatory capital calculation purposes.
23

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

PD is an estimate of the level of the risk of borrower default. Borrower ratings are derived by way of rating
models used both at loan origination and for ongoing monitoring.
LGD is an estimate of the potential economic loss on a credit exposure, incurred as a consequence of obligor
default and expressed as a percentage of the facility’s EAD. When measuring economic loss, all relevant
factors are taken into account, including material discount effects and material direct and indirect costs
associated with collecting on the exposure, including realisation of collateral.
EAD is defined as the expected facility exposure at the date of default.
ANZ’s rating system has two separate and distinct dimensions that:1.

Measure the PD, which is expressed by the Customer Credit Rating (CCR), reflecting the ability toservice and repay debt; and2.

Measure the LGD as expressed by the Security Indicator (SI) ranging from A to G. The SI iscalculated by reference to the ‘percentage of loan covered’ by tangible security which the Bank canrealise in the event of default. This calculation uses standard ratios to adjust the current market
value of collateral items to allow for historical realisation outcomes. Besides the tangible securityrelated SIs, there is a range of specialised SIs also available, covering such factors as cash cover,mezzanine finance, intra-Group guarantees and sovereign backing as ANZ’s LGD research indicatesthat these transaction characteristics have different recovery outcomes.

ANZ’s corporate PD masterscale is made up of 27 rating grades. Each level/grade is separately defined andhas a range of default probabilities attached to it. The PD masterscale enables ANZ’s rating system to bemapped to the gradings of external rating agencies, using the PD as a common element after ensuring that
default definitions and other key attributes are aligned. The following table demonstrates this alignment:

Moody’sStandard &Poor’sPD Range

0+ to 1-

Aaa to <Aa3

AAA to <A+

0.00-0.03%

2+ to 3+

A1 to <Baa2

A+ to <BBB

0.03-0.16%

3= to 4=

Baa2 to <Ba1

BBB to <BB+

0.16-0.51%

4- to 6-

Ba1 to <B1

BB+ to <B+

0.51-3.49%

7+ to 8+

B1 to <Caa

B+ to <CCC

3.49-10.09%

8=

Caa

CCC

10.09-99.99%

8-, 9 and 10

Default

Default

100%

ANZ CCR

In the retail asset classes, most facilities utilise credit rating ‘scores’. The scores are calibrated to PD, so the
PD masterscale gives ANZ a common language to understand and discuss credit risk. For retail asset classexposures, the LGD dimension is recognised through the process of pooling retail exposures into homogenous
groups.
ANZ also uses two specialised PD masterscales for the mapping of sovereign and bank PDs to external rating
agency ratings.
Use of Internal Estimates Other Than For Regulatory Capital Purposes
ANZ’s rating system is a fundamental part of credit management and plays a key role in:• Lending discretions;• Minimum origination standards;• Concentration limits;• Portfolio reporting;• Customer profitability measurement;• Collective provision measurement;• Management of deteriorating customers (where certain CCR/SI combinations trigger increasing
scrutiny); and• Pricing decisions.
PD/LGD/EAD are used in the calculation of economic capital and in the collective provisioning process.
However, there are some differences between the factors used for regulatory and economic capital processes
despite being calculated from the same data sources and starting from the same basis. This is because forregulatory capital purposes, several aspects of ANZ’s rating system are adjusted in accordance with APRA
requirements. The most material of these are the use for regulatory capital purposes of downturn LGDs, theimposition of a 20% LGD for exposures secured by Australian residential real estate and the mandatory use of24

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

the supervisory slotting approach for project finance and most commercial real estate exposures. These all
have the effect of increasing regulatory capital to reflect APRA imposed requirements.
Controls Surrounding the Ratings System
All material aspects of the rating system and credit risk estimates are governed by the Board’s Risk Committee
and the CTC. These committees receive reporting on the operation of the rating system. Risk grades are an
integral part of reporting to the Board and executives.
ANZ’s rating systems are governed by a comprehensive framework of controls that operate at the business
unit and back-office levels, and through central audit and validation processes.
All policies, model designs, model reviews, methodologies, validations, responsibilities, systems and processes
supporting the ratings systems are documented.
Credit risk models are subjected to regular monitoring by the relevant business and validated on an annual
basis by a specialist Group-level function that is independent of the business units. This unit is responsible foroverseeing the design, implementation and performance of all credit risk rating models in the Group.
Rating Process by Asset ClassANZ categorises the risk of customers over a wide range of market segments encompassing both Retail andWholesale. The Retail segment comprises the traditional Credit Cards, Personal Loans, Mortgages, Asset
Finance, Consumer Overdrafts, Micro/Small Business and Rural sub-segments. The Wholesale segment
comprises traditional larger Business Bank customers and the Corporate and Institutional sub-segments aswell as the specialised sub-segments including Project Finance.
Building reliable and accurate rating tools is a challenging process where many factors must be balanced, suchas data availability (external data may be used in some circumstances, where it is relevant), the size of thesegment (the larger the segment, the more likely that statistically reliable models can be built), and the need
to be able to validate the model. Within ANZ, the rating tool approaches include:• Statistical models producing a PD/LGD;• Statistical models producing a rating;• Hybrid statistical and expert models producing a rating; and• Expert models/processes that produce a rating, including external rating agency replication models.
Ongoing data collection and testing processes ensure enhanced or new models are introduced regularly to
improve the accuracy and reliability of rating processes.
Regardless of what credit risk rating tool is used, lending staff rating a customer are expected to review themodel generated PD (or CCR) and take into account any out-of-model factors or policy overlays to decide
whether or not to override the model rating. Overrides of a rating model to a better rating require dual
approval with the independent credit stream. The significance of ‘the model’ for risk grading varies with thecustomer segment: models will dominate risk grading of homogenous, simple and data-rich segments such as
in Retail, however for complex, specialised business segments expert knowledge and the highly customised
nature of transactions will influence the rating outcome.

25

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The following table summarises the types of internal rating approaches used in ANZ:IRB Asset Class

Borrower type

Rating Approach

Sovereign

Central governments
Central banks
Certain multilateral banks

External rating and review of all
relevant and material information

Bank

Banks
In Australia only, other ADIs incorporated inAustralia

Statistically-based external rating
agency replication models
Review of all relevant and material
information including externalratings

Corporate

Corporations, partnerships or proprietorshipsthat do not fit into any other asset class

Mainly statistical models
Some use of expert models andpolicy processes

Specialised Lending 20

Income Producing Real Estate
Project FinanceObject FinanceHybrid statistical and expert model
Expert models

Residential Mortgages

Exposures secured by residential property

Statistical models

Qualifying Revolving
RetailConsumer credit cards <$100k limit

Statistical models

Other Retail

Small business lending
Other lending to consumers

Statistical models

For the retail asset class (residential mortgages, qualifying revolving retail and other retail exposures) the
large number of relatively homogenous exposures enable the development of statistically robust application
scoring models for use at origination and behavioural scoring for ongoing management. LGD is recognised
through the process of pooling retail exposures into homogenous groups.
Estimation of LGD and EAD
ANZ’s LGD modelling takes into account the following main factors:• Secured recovery rates;• Unsecured recovery rates and debt seniority;• Geography; and• Internal management costs.
LGD estimates have been based on several major data sources. Internal data is used as the basis for LGD
estimation in the retail asset class, and is supplemented by external data for the corporate asset class. Given
the scarcity of internal data for bank and sovereign asset classes, LGD modelling for these classes is primarily
based on external data.
EAD is defined as the expected facility exposure at the date of default, including post-default drawings forfacilities where the additional post-default drawings were legally committed to prior to default. This reflects thepossibility of additional drawings by the borrower up to and after the time a default event is triggered for someproduct types. Uncommitted post default drawings are netted against cash recoveries and are included in the
LGD estimates.
In simple terms, EAD consists of the current outstandings and accrued interest and fees, plus an adjustment
factor for the undrawn component of the facility.

20

Note that Specialised Lending exposures are rated with internal rating tools to produce a PD and LGD.
These are used in internal processes, but not for regulatory capital purposes where the exposures are mapped
to supervisory risk weight categories.
26

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The following table discloses total advanced exposures by Basel asset class. Securitisation, other assets andequity are excluded.
Figure 11: Advanced IRB Regulatory Credit Exposure21
Regulatory Credit Exposure$mAdvanced IRB
Corporate

225,169

Sovereign

9,350

Bank

50,799Residential Mortgage

186,287

Qualifying revolving retail (credit cards)

23,458Other retail
Total Advanced IRB

26,708521,771

The following table discloses total exposures by PD band for the non-retail portfolios subject to AIRB.
Figure 12: Credit Risk Disclosures Subject to IRB – Non Retail 21 22
AAA< A+
Regulatory Credit Exposure
Corporate

A+
< BBB

BBB
< BB+

BB+
< B+

B+
< CCC

CCC

Default

$m

$m

$m

$m

$m

$m

$m

17,321

39,76958,27373,003

3,706

2,097

1,829

Sovereign

6,892

658

2

1,768

26

0

4

Bank

43,064

3,313

2,083

1,959

244

35

101

Total

67,27743,74060,35876,730

3,976

2,132

1,934

Corporate

4,738

16,277

15,664

15,415

529

462

217

Sovereign

651

125

2

105

0

0

1

Bank

3,342

251

42

61

6

1

85

Total

8,731

16,65315,70815,581

535

463

303

0.701

Undrawn commitments (inc above)

Exposure average EAD
Corporate

1.436

2.081

0.689

0.315

0.321

0.178

Sovereign

16.89014.0080.666

41.118

0.494

0.000

0.185

Bank

13.896

2.152

2.902

1.555

1.296

0.262

20.125

Corporate

62.1%

58.5%

49.4%

39.5%

40.5%

48.0%

47.7%

Sovereign

3.3%

4.3%

2.0%

58.5%

58.8%

0.0%

59.0%

Bank

62.8%

64.4%

64.8%

56.9%

55.1%

67.6%

64.2%

Corporate

19.6%

37.1%

57.0%

84.3%

135.2%

227.3%

258.1%

Sovereign

0.6%

2.2%

1.6%

110.3%

168.0%

0.0%

710.9%

Bank

17.1%

27.1%

62.4%

119.7%

180.4%

328.6%

160.5%

Exposure-weighted average LGD

Exposure weighted-average risk weight

21

Specialised lending is included in the corporate asset class in Figure 11, but excluded from Figure 12 as it
follows the regulatory slotting treatment. A specialised lending breakdown is shown in Figure 15a.
22
Exposure average EAD is calculated as total EAD divided by the total number of credit risk generating
exposures.

27

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The following table discloses total exposures by PD band for the retail portfolios subject to AIRB.
Figure 13: Credit Risk Disclosures Subject to IRB – Retail 23
0.00% <
0.11%
Regulatory Credit Exposure

0.11% <
0.30%

0.30% <
0.51%

0.51% <
3.49%

3.49% < 10.09% <10.09% 100.00 %Default

$m

$m

$m

$m

$m

$m

$m

Residential Mortgage

1,524

110,11325,807

38,639

5,772

3,633

799

Qualifying revolving retail (credit cards)

10,556

2,155

2,018

5,439

2,203

947

140

Other retail

1,259

2,714

1,425

15,420

4,865

634

391

13,339114,982

29,25059,498

12,840

5,214

1,330

Total
Undrawn commitments (inc above)
Residential Mortgage
Qualifying revolving retail (credit cards)
Other retail
Total

244

11,218

2,608

2,390

206

93

10

8,368

1,837

1,392

2,789

766

126

19

409

701

805

1,537

452

48

8

9,021

13,756

4,805

6,716

1,424

267

37

Exposure average EAD
Residential Mortgage

0.025

0.177

0.115

0.157

0.163

0.158

0.196

Qualifying revolving retail (credit cards)

0.010

0.010

0.008

0.007

0.007

0.006

0.006

Other retail

0.030

0.023

0.005

0.019

0.010

0.006

0.018

Exposure-weighted average LGD
Residential Mortgage

20.0%

20.1%

21.9%

20.9%

20.6%

20.6%

21.3%

Qualifying revolving retail (credit cards)

73.9%

79.4%

74.1%

74.3%

73.7%

73.7%

73.9%

Other retail

22.4%

19.9%

35.1%

38.0%

46.1%

54.4%

51.6%

Exposure weighted-average risk weight
Residential Mortgage

5.1%

6.9%

14.6%

30.5%

74.6%

112.0%

267.6%

Qualifying revolving retail (credit cards)

4.9%

8.4%

13.9%

39.0%

111.4%

207.1%

846.3%

Other retail

4.2%

9.1%

23.6%

51.2%

72.1%

129.3%

348.8%

23
Exposure average EAD is calculated as total EAD divided by the total number of credit risk generating
exposures.

28

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Credit Risk Mitigation
The Main Types of Collateral Taken by ANZ
Collateral is used to mitigate credit risk, as the ‘second way out’ in case the counterparty cannot meet its
contractual obligations of principal and interest payments 24 .
Types of collateral typically accepted by ANZ include, but are not limited to:• Real estate security over residential, commercial, industrial or rural property;• Fixed and floating charges over business assets;• Security over specific plant and equipment;• Charges over listed shares, bonds or securities;• Charges over cash deposits; and• Guarantees and pledges.
In some cases, such as where the customer risk profile is considered very sound (or by the nature of the
product, for instance small limit products such as credit cards), a transaction may not be collateralised.
Credit policy sets out the acceptable types of collateral, and also has a process by which additional instruments
and/or asset types can be considered for approval.
ANZ’s credit risk modelling areas use historical internal loss data and other relevant external data to help
determine acceptable asset types, and the discount that these asset types would be expected to incur in aforced sale. These discounts are used to scale the value of collateral items pledged; the discounted value isused in determining the SI for LGD purposes.
Besides tangible security and guarantee support as described above, credit risk mitigation also can befurthered by prudent transaction structuring and restrictions on the term of loans. For example, in project
finance, risk can be mitigated by lending covenants, loan syndication and political risk insurance.
Policies and Processes for Collateral Valuation and Management
ANZ has well established policies and processes around collateral valuation and management. The concepts oflegal enforceability, certainty and accurate valuation are central to collateral management.
In order to achieve legal enforceability and certainty, ANZ has standard collateral instruments, and where
possible, security interests are registered. The use of collateral management systems also provides certainty
that the collateral has been properly taken, registered and stored.
In order to rely on the valuation of collateral assets, ANZ has developed comprehensive rules aroundacceptable types of valuations (including who may value an asset), the frequency of revaluations and standard
extension ratios for typical asset types. Upon receipt of a new valuation, the information is used to recalculate
the SI (or to reassess the adequacy of the provision, in the case of an impaired asset), thereby ensuring thatthe exposure has an updated LGD attached to it for risk quantification purposes.
Guarantee Support
Guarantee support for lending proposals are an integral component in transaction structuring for ANZ. The
guarantee of a financially strong party can help improve the risk grading rating of a transaction through its
explicit support of the borrower.
Guarantees that are recognised for risk grading purposes may be provided by parties that include, but are notlimited to, associated entities, banks, sovereigns or individuals. Credit policy provides threshold parameters todetermine acceptable entities to achieving risk grade enhancement of the transaction where guarantees areprovided by other banks.
The suitability of the guarantor is determined by risk grading the guarantor and not all guarantees arerecognised for risk grade enhancement purposes.

24

Note that for some products, the collateral provided is fundamental to its structuring so is not strictly the‘second way out’. For example, lending secured by trade receivables is typically repaid by the collection of
those receivables.
29

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Use of Credit Derivatives for Risk Mitigation
Within ANZ, the use of ‘bought’ credit derivatives helps to mitigate credit risk by lowering exposures toreference entities that:• Generate high concentration risk exposures; or to,• Improve risk return performance.
Only certain credit derivatives such as ‘plain vanilla’ credit default swaps (CDS) are recognised for regulatory
capital purposes. A CDS entails the payment by one party in exchange for credit default protection payment if
a credit default event on a reference asset occurs. Standard, legally enforceable documentation applies.
In addition, ANZ only recognises protection using credit derivatives where they meet several policy hurdles
around the strength of the protection offered (such as being irrevocable).
A CDS may only be transacted with bank counterparties, ANZ-related conduits and non-bank financial
institutions that have been credit assessed and approved by a specific specialist credit point. All parties mustmeet minimum credit standards and be allocated a related credit limit.
Concentrations of Credit Risk Mitigation
Taking collateral raises a theoretical possibility that a bank may inadvertently increase its risk by becoming
exposed to collateral concentrations. For example, in the same way that an over-exposure to a particularindustry may mean that a bank is more sensitive to the fortunes of that industry, an over-exposure to aparticular collateral asset type may make a bank more sensitive to the performance of that asset type.
ANZ does not believe that it has any material concentrations of collateral types, given the well diversified
nature of its portfolio and conservative asset extension ratios.
The Use of On-balance Sheet and Off-balance Sheet Netting
Netting is a form of credit risk mitigation in that it reduces EAD, in simple terms by offsetting a customer’s
positive and negative balances with the Group.
In order to apply on-balance sheet netting, the arrangement must be specifically documented with thecustomer and meet a number of legally enforceable requirements – reliance on ANZ’s common law right of set
off is not sufficient to be recognised for regulatory capital purposes.
Netting is also used for the credit exposure that arises from off balance sheet market related transactions. For
close-out netting to be utilised with counterparties, a legally enforceable eligible netting agreement (in an
acceptable jurisdiction) must be in place. This means that each transaction is aggregated into a single net
amount and transactions are netted to arrive at a single overall sum.

30

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

The following table discloses the amount of total exposure covered by eligible financial collateral or othereligible collateral for standardised exposures.
Figure 14a: Credit Risk Mitigation 25 26
Total
Exposure$mEligible Other Eligible
Financial
CollateralCollateral$m$m% Coverage

Standardised
Corporate

15,467

640

0

4.1%

Sovereign

0

0

0

0.0%

Bank

28

0

0

0.0%

Residential Mortgage

994

18

0

1.8%

16,489

658

0

4.0%

Total

The following table discloses the amount of total exposure covered by guarantees or credit derivatives.
Figure 14b: Credit Risk Mitigation 27 28

Total Exposure$m

Exposures
Covered by
Guarantees$mExposures
Covered by
CreditDerivatives$m% Coverage

Standardised
Corporate

15,46700

0.0%

Sovereign

0

0

0

0.0%

Bank

28

0

0

0.0%

Residential Mortgage

994

0

0

0.0%

Other retail

0

0

0

0.0%

16,48900

0.0%

Corporate

227,266

7,720

821

3.8%

Sovereign

8,912

58

0

0.7%

Bank

49,96100

0.0%

Residential Mortgage

186,287

0

0

0.0%

Qualifying revolving retail (credit cards)

23,45800

0.0%

Other retail

26,70800

0.0%

522,592

7,778

821

1.6%

Total
Advanced IRB

Total

25

In order to show the cover provided by the disclosed mitigants, the exposure amount is prior to theapplication of eligible risk mitigation. Excluding mitigants, the standardised exposure amount is $15,831m.
26
In addition to financial collateral, the range of collateral recognised in the Standardised approach is very
limited, for example, real estate security and charges over company assets are excluded.
27

Guarantee coverage for corporate exposures can originate from corporate, sovereign or bank counterparties.
Figure 14b shows the original exposure amount by asset class prior to the impact of the guarantee; forexample, a corporate exposure guaranteed by a bank is shown above as a corporate, however it will appear inother tables in this document as a bank exposure i.e. post the effect of the guarantee.

28

The total exposure amount in Figure 14b has been grossed up for the mitigant value of CDS.
31APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Credit Risk (Standardised)
ANZ has not used external ratings as an input into risk weighting for portfolios under the standardised
approach. This is because customers that are externally rated (banks, sovereigns, and large corporates) will
typically be rated by our internal models and treated under an IRB approach.
Figure 15a: Credit Risk Disclosures for Portfolios subject to the Standardised Approach andSupervisory Risk Weights in the IRB Approaches 29 30
Risk weight

Regulatory credit
exposure$mStandardised approach exposures
0%

0

20%

1,845

35%

971

50%

23

75%

0

100%

12,992

150%

0

>150%

0

Capital Deductions
Total

0
15,831Other Assets
0%

0

20%

0

35%

0

50%

0

75%

0

100%

2,654

150%

0

>150%

0

Capital Deductions
Total

0
2,654

Specialised lending exposures subject to supervisory slotting
0%

125

70%

9,794

90%

9,667

115%

6,866

250%

2,719

Total

29,171Equity exposures
300%

0

400%

286

Total

286

Figure 15b: Standardised Credit ExposureStandardised
Corporate

Regulatory Credit Exposure$m
14,827

Sovereign

0

Bank

28

Residential Mortgage

976

Other retail
Total Standardised

015,831

29
Other assets category is in line with the definition of other assets per APS 113 attachment E paragraphs 5,
9, 10 & 13.
30

Standardised exposures to all private sector counterparties (other than banks and residential mortgages)
have been classified in the ‘Corporate’ category as they do not meet the requirements for other AIRB asset
classes. The main categories of the exposures are Business Lending, Margin Lending and Other Personal
Lending.
32

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Market Related Counterparty Credit Risk
Definition of Market Related Counterparty Credit Risk
Counterparty credit risk in this context refers to the credit risk present in market instruments (derivatives andforward contracts), arising from settlement risk (default at the end of the contract) or market replacement risk
(default at any time during the life of the contract). Actual and potential market movements determine thereplacement rate or ANZ credit exposure, so in the AIRB setting for credit risk, counterparty credit risk
requires a different way to calculate EAD.
The markets covered by this treatment include interest rate, foreign exchange, equity and commodities.
Market Related Counterparty Credit Risk Governance
The Market Risk unit is responsible for the methodology and day-to-day capture of relevant transactions in the
counterparty credit risk management system and the calculation of counterparty credit risk.
As described in Chapter 7, Market Risk provides regular reporting to the CTC, ANZ’s most senior executive
credit and trading risk committee.
Market Related Counterparty Credit Risk Measurement and Reporting
As noted above, the treatment for counterparty credit risk is to provide the EAD for exposures, which is usedwith the other factors e.g. the customer’s PD, in the AIRB credit model for capital calculations.
For counterparty credit risk, in simple terms the general approach is to calculate the exposure as the sum of
the mark-to-market value of the exposure, plus the sum of the notional principal multiplied by the potential
credit risk exposure (PCRE) for the exposure.
• The mark-to-market is essentially the current replacement cost of the contract, and can be positive or
negative. Where it is positive, i.e. ‘in the money’, ANZ has a credit exposure against the counterparty;
if it is negative i.e. ‘out of the money’, the value used in the calculation is zero; and• The PCRE factors recognise that prices change over the remaining period to maturity, and that riskincreases with time. The PCRE factors are mandated for regulatory capital purposes. For internal
economic capital purposes, more granular PCRE factors, based on observed historic volatilities are used.
The economic capital treatment also takes concentrations into account.
For certain non-standard products where regular PCRE factors do not apply, ANZ uses a specialist credit
system to apply a Monte Carlo simulation to calculate the potential credit exposure.
The PCRE factors are also used by lending officers when they establish limits for their customers, to ensurethat credit assessment recognises the potential volatility of the transactions.
In terms of reporting, counterparty credit risk is calculated daily and excesses above approved limits arereported to account controllers and risk officers for action.
ANZ’s measurement process for counterparty credit risk also recognises the possibility of ‘wrong way’ risk
arising. Wrong way risk emerges when a counterparty’s probability of default is positively correlated withmarket risk factors. For example, fluctuations in interest rates will cause changes in the value of interest rate
derivatives and potentially also impact the creditworthiness of counterparties.
Counterparty Credit Risk Mitigation
ANZ’s primary tools to mitigate counterparty credit risk are netting, collateral and a rigorous control system.
Close-out netting agreements reduce the risk of loss by reducing all eligible transactions with a single
counterparty to a single net figure i.e. both in and out of the money positions.
In some transactions, the counterparty may be required to lodge collateral. Standard market documentation
governs the amount of collateral required and the re-margining frequency between counterparties. There is alink between the amount of collateral required and external ratings, in that thresholds and minimum transfer
amounts are linked to external ratings. This means that in the event that ANZ’s external rating wasdowngraded, ANZ would be likely to need to lodge additional collateral with counterparties to support thetransactions. The amount required would depend upon the underlying instruments and the state of themarkets, so would be different at each re-margining interval.
The control system, with the system of counterparty limits and independent calculation and reporting ofexcesses, has been described above.

33

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Securitisation
Definition of Securitisation
Securitisation is a financing technique whereby a Special Purpose Vehicle (SPV) holds assets (or interests inassets) and issues debt instruments (notes) to investors, supported by the value and cash flows from thoseassets. The effect is to insulate the assets from the bankruptcy of the seller or servicer of those assets.
Principal and interest are paid to the investors from realisation (or regular cash flows) of the assets held in the
SPV. The notes are commonly referred to as asset backed securities (ABS) and residential mortgage backed
securities (RMBS).
Besides ‘traditional’ securitisations as described above, there are also ‘synthetic’ securitisations. A synthetic
securitisation is a structure with at least two different stratified risk positions or tranches that reflect different
degrees of credit risk where credit risk of an underlying pool of exposures is transferred, in whole or in part,through the use of funded e.g. credit-linked notes or unfunded e.g. credit default swaps, credit derivatives orguarantees that serve to hedge the credit risk of the portfolio.
Regulatory Capital Approaches Used in ANZ’s Securitisation Activities
For securitisation exposures held in ANZ’s banking book 31 , ANZ applies an Internal Ratings-Based approach (asoutlined in APS 120 Capital Adequacy: Securitisation) to determine the regulatory capital charge related tobanking book securitisation exposures.
For securitisation exposures held in ANZ’s trading book, regulatory capital is calculated under market risk
rules.
ANZ’s Involvement in Securitisation Activities
ANZ is involved in four main types of securitisation activities:• Securitisation of ANZ-originated assets - The securitisation of ANZ-originated assets provides diversity
in the funding base of the Group and may be traditional or synthetic. Such securitisations may or may
not involve the transfer of credit risk and as such, may or may not provide regulatory capital relief;• Securitisation of third-party originated assets;• Facilities and services provided to securitisations - ANZ provides various facilities to securitisations,
including: liquidity; funding; credit support; and services including structuring and arranging, conduit
management and (via ANZ Capel Court Limited) trust management; and• Investment in securities - ANZ purchases notes issued from securitisation programs for trading or
liquidity purposes.
Governance of Securitisation Activities
ANZ’s Board Risk Committee’s risk appetite for securitisation is encompassed within the credit risk and market
risk frameworks.
The range of securitisation activities means that there are potentially many ANZ areas involved insecuritisation activities.
For origination and structuring, ANZ has a specialist securitisation team withindependent risk personnel overseeing operations. Credit decisions require joint risk and business approval.
The securitisation team must be involved in all non-trading securitisation transactions, which ensuresconsistent expert treatment.
When ANZ is investing in securitisations, the Markets division manages them as they do any other part of the
trading or liquidity portfolios.
Risk Measurement of Securitisation Exposures
In accordance with APS 120, ANZ has a hierarchy of approaches that can be used to quantify the credit risk of
securitisation exposures in the banking book. The most common approach used is the Internal Assessment
Approach, whereby ANZ uses a rating agency-type methodology which takes into account historicalperformance of assets and other (asset-specific) considerations such as underwriting standards.
From an economic capital perspective, the rating derived from the above processes is used, together with aconservative LGD and EAD.

31

Bank exposures are classified into either the trading book or the banking book. In general terms, thetrading book consists of positions in financial instruments and commodities held with trading intent or in orderto hedge other elements of the trading book. In simple terms, the banking book contains all other exposures.
Banking book exposures are typically held to maturity, in contrast to the shorter term, trading nature of the
trading book.
34

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

All facilities for securitisation vehicles are reviewed at least annually, including the risk grade. The reliance on
external rating agency ratings and/or methodology means that ANZ must periodically review the methodology
to ensure that it remains appropriate.
Reporting of Securitisation Exposures
The type and frequency of reporting for ANZ’s securitisation exposures is a function of the nature of those
exposures:• Facilities to securitisation vehicles are reported using standard credit reporting systems, distinguishedby appropriate product codes. The regular reporting frequency for most of these systems is monthly;• In addition, all exposures to SPVs are reported to the CTC on a six-monthly basis. Utilisation of liquidity
facilities are reported internally on a weekly basis;• Securitised exposures are reported to the trust managers; and• Investments in securitisations will be reported through the trading book or other investment reporting
systems.
ANZ’s Accounting Policies for Securitisation Activities
Where the Group has established securitisation SPVs which are controlled by the Group to facilitatetransactions undertaken for Group purposes, these are consolidated in the Group’s financial statements.
Control is assessed under the requirements of AASB Interpretation 112 Consolidation – Special Purpose
Entities, which is based on the concepts of risk and rewards.
Financial instruments held and issued from SPVs which are consolidated by the Group are valued using theprinciples of AASB 139 Financial Instruments: Recognition and Measurement. In the case of a synthetic
securitisation, any transferred credit exposure is recognised through the fair value measurement of thesegregated embedded or stand-alone credit derivative established within the structure.
Where a securitisation SPV is not consolidated, derecognition of any ANZ originated assets transferred isdetermined based on the derecognition principles of AASB 139 using a risks and rewards model.
External Rating Agencies
ANZ uses Standard & Poor’s, Moody's Investor Services and Fitch Ratings for securitisations.
agencies are used across a variety of asset classes.

These rating

Aggregate exposures to securitisations are broken into traditional and synthetic methods by type of underlying
asset. The following tables disclose aggregate, traditional and synthetic methods:
Figure 16: Traditional securitisations
Regulatory credit
exposure
Underlying asset
Residential mortgage

ANZ originated$m

Third party
originated$m

Other Services Facilities provided
$m
$m

371

0

0

Credit cards and other personal loans

0

0

0

3,467
0

Auto and equipment finance

0

0

0

1,480

Commercial loans

0

0

0

807

Other

0

0

0

6,819

Total

371

0

0

12,573Figure 17: Synthetic securitisations
Regulatory credit
exposure
Underlying asset
ANZ originated$m

Third party
originated$m

Other Services Facilities provided$m$m

Residential mortgage

0

0

0

Credit cards and other personal loans

0

0

0

0

Auto and equipment finance

0

0

0

0

Commercial loans

0

2,200

0

0

0

Other

0

0

0

1,667

Total

2,200

0

0

1,667

35

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Figure 18: Aggregate of traditional and synthetic securitisations 32
Regulatory credit
exposure
Underlying asset
ANZ originated$m

Third party
originated$m

Residential mortgage

Other Services Facilities provided
$m
$m

371

0

0

Credit cards and other personal loans

0

0

0

0

Auto and equipment finance

0

0

0

1,480

Commercial loans

3,467

2,200

0

0

807

Other

0

0

0

8,486

Total

2,571

0

0

14,240

Value as at 30th September 2008

Half year value

Figure 19: Impaired and Past Due Loans relating to ANZ Originated Securitisations

Underlying asset

ANZ originated$m

Impaired$m

Past due$m0

Residential Mortgage

Lossesrecognised
$m
0

371

0

Credit cards and other personal loans

0

0

0

0

Auto and equipment finance

0

0

0

0

Commercial loans

2,200

0

0

0

Other

0

0

0

0

Total

2,571

0

0

0

Figure 20: Securitisation Exposure by Facility 33

Facilities provided

Regulatory credit
exposure$mLiquidity facilities

5,732

Funding facilities

5,792

Underwriting facilities

0

Lending facilities

0

Credit enhancements

122

Holdings of securities (excluding trading book)

2,639

Other

0

Total

14,285Figure 21: Securitisation by Risk Weight
Securitisation risk weights

Regulatory credit
exposure$m

Risk weighted
assets$m

11,5691,528>25 ≤ 35%

736

257

>35 ≤ 50%137

64

>50 ≤ 75%1

1

>75 ≤ 100%

1,644

1,643

>100 ≤ 650%

183

778

1250% (Deduction)
Total

15

0

14,285

4,271

≤ 25%

32
Total regulatory credit exposure of synthetic and traditional securitisation tables varies from total regulatory
credit exposure for securitisation presented in remaining tables by $45 million. Where the asset is ANZ
originated and disclosed within the ANZ originated component of the table, regulatory credit exposure is not
additionally disclosed in the ‘Facilities Provided’ column.
33

These exposures are second loss facilities and benefit from credit enhancement provided by a third party
first loss provider.
36

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Disclosure of ANZ originated securitisations where deductions from capital have been applied is not applicable
to ANZ. Additionally, disclosure relating to early amortisation treatment and to securitisations calculated under
the standardised approach is not applicable. ANZ has no exposures meeting any of these criteria.
Figure 22: Securitisation activity by Underlying Asset Type – Half Year to Date (Apr 08 to Sept 08) 34
Original value securitised

ANZ originated$m

Third party
originated$m

Recognised gainor loss on sale$m

Residential mortgage

0

0

0

Credit cards and other personal loans

0

0

0

Auto and equipment finance

0

2,041

0

Commercial loans

0

0

0

Other

0

4,833

0

Total

0

6,874

0

Underlying asset

Figure 23: Securitisation activity by Facilities Provided – Half Year to Date (Apr 08 to Sept 08)
Facilities provided

Notional amount$m

Liquidity facilities

334

Funding facilities

2,902

Underwriting facilities

0

Lending facilities

0

Credit enhancements0

Holdings of securities (excluding trading book)

0

Other

0

Total

3,236

34
Note that the value above in the "Third Party Originated" column represents the total original assets of the
securitisation and is not representative of ANZ's exposure.

37

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 6. Operational Risk Management
Definition of Operational Risk
Within ANZ, operational risk is defined as the risk of loss resulting from inadequate or failed internal processes,
people and systems or from external events. This definition includes legal risk, and the risk of reputationalloss 35 or damage arising from inadequate or failed internal processes, people and systems, but excludes
strategic risk.
Regulatory Approval to use the Advanced Measurement Approach
ANZ has been given approval by APRA to use the Advanced Measurement Approach (AMA), under APS 115
Capital Adequacy: Advanced Measurement Approaches to Operational Risk.
The approved AMA applies across all of ANZ and does not comprise ‘partial use’.
Operational Risk Appetite
The ANZ Board has set a ‘Low’ risk appetite for operational risk, meaning there is a low tolerance of
operational risk exposure. Management discretions, accountabilities and approval structures are formalised toensure timely escalation of operational risk events, significant risks and supporting treatment plans.
Compliance
The ANZ Board requires regular reviews and reports on the effectiveness of the ANZ compliance program. The
Board requires business units to identify all regulatory compliance obligations, and to escalate when breaches
occur.
Operational Risk Governance and Structure
The ANZ Board Risk Committee oversees risk management, supported by executive level risk committees
which co-ordinate each area of risk management. The Operational Risk Executive Committee (OREC)
undertakes oversight of operational risk. In addition to OREC, ANZ divisional and business unit level risk
committee charters include operational risk. These risk committees manage and maintain oversight ofoperational risks supported by thresholds for escalation and monitoring.
Personnel who undertake operational risk activities are located within business units to assist them to fulfil
their accountability for day-to-day management of operational risk. This includes implementation of theoperational risk framework and involvement in decision making processes concerning all material operationalrisk matters. Divisional risk personnel provide oversight of operational risk undertaken in the business units.
Group Operational Risk are responsible for exercising governance over operational risk through the
management of the operational risk framework, policy development, framework assurance, operational risk
measurement and capital allocation, fraud strategy and reporting of operational risk issues to executive
committees.
Operational Risk Principles
ANZ has developed a comprehensive framework to manage operational risk which includes the following
operational risk management principles:• Operational risk is recognised as a primary risk within ANZ and has a governance structure responsible
for maintaining oversight;• ANZ will create a culture that recognises operational risk as everyone’s responsibility with roles andresponsibilities clearly articulated at all levels in the organisation;• ANZ will create an environment for sound, transparent decision-making that includes a framework to
identify, assess, control and monitor ANZ’s operational risks;• Key decisions within ANZ will be informed by balancing operational risk with reward;• ANZ will continuously monitor the effectiveness and relevance of its framework for managing
operational risk;• ANZ will monitor its exposure to operational risk and changes to its operational risk profile; and• ANZ will learn from losses arising from operational risk by identifying and improving the underlying root
cause.
The framework is supported by a comprehensive set of policies and guidelines.

35

Regulatory Capital is calculated in accordance with the definition of Operational Risk outlined in APS 115
Capital Adequacy: Advanced Measurement Approaches to Operational Risk and therefore excludes reputationalrisk considerations.
38

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Operational Risk Management
Given the wide scope of operational risk, a robust operational risk management framework and sound internal
control environment are essential to risk management. ANZ manages operational risk with a logical andthorough approach as summarised below:
1.

Identification of potential risks;

2.

Analysis of identified risks, including assessing the inherent risk without controls in place and residual
risk when the controls are in place. This requires analysis of the potential consequences of failing todeal with the risks, the likelihood of the risks being realised and the effectiveness of the key controls
in place to prevent or mitigate the risk;

3.

Evaluation of the risk to determine whether it is within the risk appetite;

4.

Identification and implementation of risk treatment options to improve the key controls over the risk
for those risks that are outside the risk appetite. When the preferred risk treatment option is selected
the risk treatment plan is documented; and5.

Monitoring and review of treatment plans, operational risks and controls, including testing the key
controls and reporting on the current operational risk profile.

Operational Risk Mitigation
Business disruption is a critical risk to a bank’s ability to operate, so ANZ has comprehensive business
continuity, recovery and crisis management plans. The intention of the business continuity and recovery plans
is to ensure critical business functions can be maintained, or restored in a timely fashion, in the event ofmaterial disruptions arising from internal or external events.
Crisis management planning at Group and country levels supplement business continuity plans in the event ofa broader Group or country crisis.
Crisis management plans include crisis team structures, roles,
responsibilities and contact lists, and are subject to testing.
In line with industry practice, ANZ obtains insurance cover from third party and captive providers to coverthose operational risks where cost-effective premiums can be obtained. In conducting their business, business
units are advised to act as a prudent uninsured entity and not use insurance as a guaranteed operational risk
mitigant. Adopting a conservative approach, ANZ’s AMA operational risk regulatory capital calculation does not
utilise insurance as a risk mitigation.
Operational Risk Reporting
ANZ’s operational risk management includes internal loss capture, case management and reporting.
Operational risk and compliance events (including actual losses, near misses and breaches) are recorded andmanaged to ensure timely, complete and accurate reporting.
The divisions, business units and risk functions prepare reporting. Given the Board’s low risk appetite for
operational risk, the reporting thresholds are set relatively low for escalation to OREC. OREC’s role is toreview, and if appropriate, approve the risk mitigation and monitor associated action plans.
ANZ’s AMA modelGroup Operational Risk is responsible for maintaining ANZ’s AMA for operational risk measurement and capital
allocation.
A Loss Distribution Approach (LDA) is used to determine operational risk regulatory and economic capital. The
data inputs to the LDA include:• Historical internal losses captured and reported in an internal loss database;• Relevant external losses, sourced from a reputable industry supplier. This data is suitably scaled using
internally developed rules to ensure relevance to ANZ’s scale and operations; and• Scenario analysis data for severe but plausible events, elicited in workshops with risk and businessprofessionals.
Operational risk capital is derived using probability distributions and calculated using Monte Carlo simulations.
The initial capital number is calculated at the group level (as a result, correlation effects between risk event
types are implicitly recognised) and then distributed down to the business unit level after adjusting forbusiness environment and internal control factors using a Risk Drivers and Controls Approach (RDCA)
methodology. The RDCA is a risk and control self-assessment system which:• Assesses the level of the Banking Group’s exposure to specified drivers of risk;• Assesses the scope and quality of the Banking Group’s internal control environment, key operational
processes and risk mitigants; and• Directly links these assessments to operational risk capital.
The LDA calculation is conducted annually, with the RDCA scorecard process undertaken half-yearly.

39

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 7. Market Risk Management
Definition of Market Risk
Within ANZ, market risk is defined as the risk to the Group’s earnings arising from changes in interest rates,
currency exchange rates, credit spreads, or from fluctuations in bond, commodity or equity prices.
Market risk arises through the Group’s trading and balance sheet activities. This chapter focuses on market
risk management of traded market risk; a subsequent chapter on interest rate in the banking book outlines
market risk management of non-traded market risk.
Regulatory Approval to use the Internal Models Approach
ANZ has been given approval by APRA to use the Internal Models Approach (IMA), under APS 116 Capital
Adequacy: Market Risk for all trading portfolios except for interest rate risk – specific risk, equity trading andelectricity trading. ANZ uses the standardised approach to market risk capital for these three segments.
The calculation of regulatory capital for interest rate risk in ANZ’s banking book is discussed in Chapter 8.
Market Risk Appetite
The Board’s appetite for market risk is ‘Medium’, meaning that there is to be low/moderate proprietary trading,the books are to remain as fully hedged as practicable, and there is a low tolerance for losses from Treasury.
Market Risk GovernanceAs described in Chapter 4, the Board’s Risk Committee oversight of market risk is supported by the Credit andTraded Risk Committee (CTC) and the Group Asset & Liability Committee (GALCO). The CTC is the senior
executive management forum responsible for the oversight and control of credit and trading risk and, as adelegation from the GALCO, non-traded risk.
Market Risk is the specialist risk management unit that is responsible for the operation of the Traded Market
Risk Management Framework, including exposure measurement and limit monitoring. This risk management
function is independent of the business.
Traded Market Risk Management Framework
As with the other key risks within ANZ, market risk is managed under a comprehensive framework.
aspects of the traded market risk management framework include:Key• A clear definition of the trading book;• A comprehensive set of market risk policies that promote the proactive identification and communicationof risk;• A robust Value at Risk (VaR) quantification approach that captures all sources of material market risk,
supplemented by comprehensive stress testing;• A comprehensive market risk limit framework that controls all material market risks;• An independent Market Risk function which actively monitors market risk exposure, compliance withlimits and risk policies, as well as the ongoing effectiveness and appropriateness of the risk
management framework; and• Regular and effective reporting of market risk to Executive Management and the Board.
Market Risk Measurement
The Group uses fair value accounting for all trading books and fair value and amortised cost accounting fornon-trading books (depending on their classification) in line with Australian Accounting Standards.
As noted above, ANZ’s traded market risk management framework incorporates a risk measurement approachto quantify the magnitude of market risk within trading books. This approach and related analysis identifies therange of possible outcomes that can be expected over a given period of time and establishes the relative
likelihood of those outcomes.
ANZ’s key tools to measure and manage traded market risk on a daily basis are VaR estimates and sensitivities
measures. VaR is calculated using historical changes in market rates and prices over the previous 500
business days. The confidence interval for traded VaR is calculated at 97.5% (for trading activities) and 99%(for the calculation of regulatory market risk capital, and for Market Risk’s daily monitoring) for a one-day
holding period. The confidence levels mean that there is 97.5% or 99% chance that the loss will not exceed
the VaR estimate on any given day. All material market risk factors and all trading portfolios (with the
exception of electricity trading, which is treated as standardised until APRA approval) are captured within the
VaR model.

40

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

As VaR is driven by historical observations, it alone is not sufficiently reliable to estimate the maximum loss
ANZ could suffer in an extreme market event. To complement VaR analysis, ANZ therefore also undertakes awide range of stress tests to the trading portfolio, both on individual portfolios and at the Group level.
Standard stress tests are applied on a daily basis and measure the potential loss impact arising from applying
the largest market movements during the previous seven years. Harsher stress tests are applied monthly andmeasure the potential loss arising as a result of scenarios generated from major financial market events.
All VaR models used within the Group for the purposes of measuring exposure against limits are evaluatedagainst actual and hypothetical profit and loss. Back testing is conducted daily, and outliers are analysed tounderstand if the issues are the result of trading decisions, systemic changes in market conditions or issues
related to the VaR model i.e. historical data or model calibration.
The following table discloses the high, mean and low VaR values over the reporting period and at period end,
and a comparison of VaR estimates with actual gains/losses over the reporting period:
Figure 24: VaR Values over the Reporting Period

Value at Risk (VaR)

Mean value$m

Maximum value$m

Minimum value$m

Equities

0.00

0.00

0.00

Interest Rate

1.92

3.59

1.21

Foreign exchange

0.85

2.45

0.38

Commodity

0.97

1.51

0.41

Credit

1.04

2.64

0.60

Comparison of VaR estimates to Actual Gains/Losses 36
Back testing involves the comparison of calculated VaR exposures with profit and loss data to identify thefrequency of incidents when trading losses exceed the calculated VaR. As a probabilistic measure of potential
future gains or losses, it is expected that results exceed VaR a proportion of the time. For APRA purposes, VaR
is calculated at the 99% confidence interval with a one day holding period. Therefore, over the long-run wewould expect one back testing outlier each 100 days.
ANZ uses actual profit and loss data and hypothetical profit and loss data. Hypothetical profit and loss data isdesigned to remove the impacts of intraday trading and sales margins. It is calculated as the difference
between the value of the prior day portfolio at prior day closing rates and the value at current day closing
rates. Markets Finance calculates actual profit and loss while Market Risk calculates hypothetical profit andloss.
As at 30 September 2008, based on the prior 250 business days, there were 20 hypothetical and four actual
genuine negative outliers compared to seven hypothetical and five actual genuine negative outliers as at 28
September 2007. Increased volatility in markets as a result of the current credit crisis has had an impact on
the back testing outliers for the reporting period.
The back testing model performance is consistent with the experience of other global and local banks. Given
the VaR model is based on 500 days of actual historical volatility and given the impact of increased market
volatility during the last 12 months, the higher than normal outliers from back testing results are expected andindicate that the VaR model continues to be an appropriate model to use for Market Risk calculations.
Market Risk Reporting
Market Risk conducts daily VaR and stress testing and reports the results to Market Risk management, senior
executives and trading management. In the event of breaches, Market Risk will escalate details of the breachto the appropriate discretion holder within Market Risk and Group Risk. All breaches are reported to CTC on amonthly basis.
Market Risk monitors and analyses back testing results on a daily basis and reports quarterly results to CTC.

36
VaR is calculated at 97.5% confidence level for a one-day holding period. Reporting period is from 1 October2007 to 30 September 2008.

41

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Market Risk Mitigation
ANZ’s system of market risk quantification is fundamental to how market risk is mitigated. The results arecompared to established limits and breaches are reported immediately to management who instruct on theappropriate action in accordance with authorised delegations. All breaches are subsequently reported to senior
executive Risk committees i.e. CTC monthly.
ANZ also uses standard market documentation in order to reduce potential exposures by techniques such as
netting. In the event of a default, netting agreements are designed to reduce amounts owed to and fromcounterparties to a single net figure.
The Market Risk group is also an important factor in how ANZ mitigates its market risk. It is a unit
independent of the dealing, processing/settlements operations and manages the day-to-day risk management
function. It also conducts ad hoc reviews of the various offshore points of ANZ to ensure market risk controls
are working effectively in those sites.
Besides market risk itself, there is a high degree of operational risk arising from market risk activities. This is
mitigated by strict application of ANZ’s overarching Segregation of Duties policy, which prescribes that dealing,
confirmation, settlement, accounting, risk management and reconciliation duties in the Group Treasury and
Financial Markets areas are to be segregated. In all cases, the confirmation, accounting, settlement andreconciliation functions are performed outside the administrative control of all front office staff.
Market Risk (Standardised)
ANZ uses the standardised approach to measure market risk capital for interest rate risk – specific risk 37 ,equity trading and electricity trading.
ANZ is in dialogue with APRA concerning approval of an internal model for electricity trading, and is building ahistory of results using our internal equity model in preparation for an application to APRA for internal modelrecognition. For interest rate risk – specific risk, ANZ’s internal VaR model captures general interest rate risk
for all products but not the credit spread risk associated with individual issuers of interest rate products.
Figure 25: Regulatory Capital Required for ANZ’s Standardised Market Risk Exposures

Market Risk under standardised approach

Capital Requirements$mInterest rate risk

167

Equity position risk

2

Foreign exchange risk

0Commodity risk

637
Specific risk is the risk that the value of a security will change due to issuer-specific factors. It applies tointerest rate and equity positions related to a specific issuer.

42

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 8: Interest Rate Risk in the Banking Book
Definition of Interest Rate Risk
Interest rate risk in the banking book (IRRBB) relates to the potential adverse impact of changes in market
interest rates on the Group’s future net interest income. The risk arises from the following principal sources:• Repricing and yield curve risk is the risk to earnings or market value as a result of changes in theoverall level of interest rates and/or the relativity of these rates across the yield curve;• Basis risk is the risk to earnings or market value arising from volatility in the interest margin applicableto banking book items; and• Optionality risk is the risk to earnings or market value arising from the existence of standalone orembedded options in banking book items.
Regulatory Capital Approach to Interest Rate Risk in the Banking Book
ANZ has received approval to use the Internal Model approach for the calculation of regulatory capital for
IRRBB, under APS 117 Capital Adequacy: Interest Rate Risk in the Banking Book (Advanced ADIs).
Risk Appetite
The Board has a moderate appetite for IRRBB: the Group’s balance sheet will always have interest rate risk, asa result of the mismatch between the repricing characteristics of customer loans and deposits and theinvestment of capital in interest bearing assets.
Governance of Interest Rate Risk in the Banking Book
As described in Chapter 4, the Board’s oversight of IRRBB is supported by the Group Asset & Liability
Committee (GALCO) to manage the strategic position and oversee the interest rate risk (IRR) arising from thediscretionary position. Markets manage the IRR arising from the discretionary position with the primary aim ofproviding economic value/value add gains over the current financial year. GALCO has delegated responsibility
for monthly monitoring of IRRBB to the CTC .
Market Risk is the independent unit responsible for monitoring and measuring IRRBB and have designed andimplemented policies and procedures to ensure that IRRBB exposure is managed within the limit framework
set by the Board.
Measurement of Interest Rate Risk in the Banking Book
ANZ uses four principal techniques to quantify IRRBB:• Interest Rate Sensitivity – this is an estimate of the change in economic value of the banking book due
to a 1 basis point move in a specific part of the yield curve;• Earnings-at-Risk (EaR) – this is an estimate of the amount of income that is at risk from interest rate
movements over a given holding period, expressed to a 97.5% or 99% level of statistical confidence;• Value-at-Risk (VaR) – this is an estimate of the impact of interest rate changes on the banking book’s
market value, expressed to a 97.5% or 99% level of statistical confidence for a given holding period;and,• Stress testing – Standard and extraordinary tests are used to highlight potential risk which may not be
captured by VaR, and how the portfolio might behave under extraordinary circumstances.
The Head of Market Risk has the delegated authority to determine the methodology for the above.
The calculations above require assumptions to be made about the repricing term of exposures that do not havea contractually defined repricing date (such as deposits with no set maturity dates, and prepayments).
Changes to these assumptions require GALCO approval.
Where relevant, IRRBB techniques recognise foreign currency effects as all measures are expressed inAustralian dollars.
Basis and Optionality risks are measured using Monte Carlo simulation techniques, to generate a theoreticalworst outcome at a specified confidence level (typically 99%) less the average outcome.
Embedded losses and gains in the banking book are also calculated. This is calculated as the economic valueof the banking book using wholesale market rates (typically the Interest Rate Swap curve is used).

43

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Reporting of Interest Rate Risk in the Banking Book
The output from ANZ’s VaR and EaR are analysed by Market Risk on a daily basis, against Board-approved
limits. Excesses are reported immediately to the Group Treasurer, Head of Market Risk and the Head ofMarkets. Stress tests are calculated monthly and reported to CTC, GALCO and the Risk Committee of theBoard.
IRRBB is calculated monthly and reported to Group executives.
Details of the Group’s risk exposures, stress tests and compliance with limits are reported to the CTC (acting
on delegated authority from GALCO) on a monthly basis, and to the Board’s Risk Committee at least quarterly.
Management of Interest Rate Risk in the Banking Book
As described in the preceding sections, ANZ has IRRBB measurement and reporting framework which provides
the basis to manage IRRBB. This framework quantifies the magnitude of risks, and controls the potential
impact that changes in market interest rates can have on the net interest income and balance sheet fair valueof the Group.
This is all underpinned by ANZ’s Funds Transfer Pricing (FTP) framework, which ensures that all banking booktransactions have an FTP rate which is used in the above calculations.
As noted above, day-to-day management of IRRBB is undertaken by a team in Market Risk, an independentrisk management unit.
ANZ’s Capital Requirement for Interest Rate Risk in the Banking Book
The IRRBB Regulatory Capital Requirement is $325 million.
The capital requirement includes a value for repricing and yield curve risk, basis and optionality risks based on
a 99% confidence interval, one year holding period and a six year historical data set.
Embedded losses also make up the capital requirement and are calculated as the difference between the bookvalue of banking book items and the current economic value.
Results of Standard Shock Scenario
The Basel II framework sets out a standard shock scenario of a 200 basis point parallel shift change in interest
rates, in order to establish a comparable test across banks.
The table below shows the results of this test by currency of the exposures outside the trading book.
Figure 26: Standard Shock Scenario
Stress Testing: Interest rate shock applied

Change in Economic
Value
$m

AUD
200 basis point parallel increase(66)

200 basis point parallel decrease

71

NZD
200 basis point parallel increase(69)

200 basis point parallel decrease

67

USD
200 basis point parallel increase(23)

200 basis point parallel decrease

25

GBP
200 basis point parallel increase(5)200 basis point parallel decrease

5

SGD
200 basis point parallel increase(1)

200 basis point parallel decrease

044

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Chapter 9. Equities
Categorisation of Equity Investments Held in the Banking Book
Equity exposures in the banking book are primarily categorised as follows:• Equity investments on which capital gains are expected - These transactions are originated andmanaged by dedicated equity finance teams. These transactions represent funding solutions for known
customers of ANZ and are governed by specific policies. ANZ ensures that the investment in these
entities does not constitute a controlling interest in the relevant business;• Equity investments that are taken for strategic reasons - These transactions represent strategic
business initiatives and include ANZ’s investments in wealth management joint ventures with ING in
Australia and New Zealand and partnership arrangements with financial institutions in Asia. These
investments are undertaken only after extensive analysis and due diligence; and• Equity investments made as the result of a work out of a problem exposure - From time to time, ANZ
will take an equity stake in a customer as part of a work out arrangement for problem exposures.
These investments are made only where there is no other viable option available and form an
immaterial part of ANZ’s equity exposures.
Valuation of and Accounting for Equity Investments in the Banking Book
The accounting treatment of equity investments, other than for joint ventures, depends on whether ANZ has
significant influence over the investee, as described in AASB 128 Investment in Associates. Where significant
influence is assessed, the investment is classified as an Investment in Associates in the financial statements.
The Group adopts the equity method of accounting for associates and the Group’s interest in joint venture
entities. The Group’s share of results of associates and joint venture entities is included in the consolidated
income statement. Shares in associates and joint venture entities are stated in the consolidated balance sheet
at cost plus the Group’s share of post acquisition net assets. Interests in associates and joint ventures arereviewed annually for impairment, primarily using a discounted cash flow methodology. In the course ofcompleting this impairment review other methodologies are considered to determine the reasonableness of thevaluation, including the multiples of earnings methodology.
As required by APS 111 Capital Adequacy: Measurement of Capital, equity accounted earnings from strategic
investments in joint ventures and partnerships are excluded from regulatory capital until received in the formof a dividend.
Where ANZ does not have significant influence over the investee, the investment is classified as ‘available forsale’. The investment is initially recognised at fair value plus transaction costs. Subsequent gains or losses
arising from changes in fair value are included as a separate component of equity in the ‘available for salerevaluation reserve’, with any impairment recognised in the income statement. When the asset is sold thecumulative gain or loss relating to the asset held in the available for sale revaluation reserve is transferred tothe income statement.
Figure 27: Equity Investments 38
Equity investments
Value of listed (publicly traded) equities

Balance sheet value
$m
1,993

Fair value
$m
2,059

Value of unlisted (privately held) equities

2,935

3,757

Total

4,928

5,816

Gains (losses) on equity investments from 1 October 2007 to 30 September2008$m

Cumulative realised gains (losses) from disposals and liquidations in the reporting
period159

Total unrealised gains (losses)(56)

Total unrealised gains (losses) included in Gross Tier 1/Tier 2 capital0
Risk Weighted Assets$mEquity investments subject to a 300% risk weight0

Equity investments subject to a 400% risk weight

1,146

Total minimum capital requirement by equity asset class

1,146

Aggregate amount of equity investments subject to:
Supervisory provisions

n/aGrandfathering provisions

n/a

38

The market value of listed equities is considered to be the fair value for all but one security. In this case,the intrinsic value of the instrument at 30 September 2008 is considered to best represent the fair value. The
market value of this instrument at 30 September 2008 was $65 million and the fair value was $56 million.
45

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Appendix 1. APS 330 Reference
APS 330
Table
NumberAPS 330 Table Name

ANZ reference

1bAggregate amount of undercapitalisation of non-consolidated
subsidiaries that are required to be deducted from capital

Not applicable –refer p82b-dRegulatory capital breakdown

Figure 1

3b-g

Risk weighted assets by risk typeFigure 2

4b

Credit risk exposure by asset class

Figure 34cCredit risk exposure by geography

Figure 44d

Credit risk exposure by industry

Figure 6

4eCredit risk exposure by residual contractual maturity

Figure 5

4f

Impaired and past due exposures by industry

Figure 84g

Impaired and past due exposures by geography

Figure 74hMovements in provisions for impairment

Figure 94i

Credit risk exposure by Basel II approach

Figures 11, 15b5bStandardised, specialised lending and equity exposures

Figure 15a6d

Non-retail and retail credit risk exposure by asset class and PD

Figures 12-13

6e-fHistorical losses by asset class

Figure 10

7b-c

Credit risk mitigation by Basel II approach

Figures 14a-b

9d-e

Securitisation exposures by underlying asset typeFigures 16-19

9f

Securitisation exposures by facility typeFigure 20

9g

Securitisation exposures by risk weighting

Figure 21

Securitisation exposures subject to early amortisation

Not applicable –refer p35

9i

Securitisation risk weighted assets under the Standardised
approach

Not applicable –refer p35

9j

Current year securitisation activities

Figures 22-23

10

Capital requirements for market risk components understandardised approaches

Figure 25

11

Value at risk analysis for market risk

Figure 24

13b-f

Equity investment disclosures

Figure 27

14

Effect of standard rate shock on interest rate risk in the banking
book

Figure 26

9h46

APS 330: Capital Adequacy and Risk Management Disclosure - 2008

Glossary
ADI – Authorised Deposit Taking Institution (pg 23)
AIRB – Advanced Internal Ratings-Based (pg 17)
AMA – Advanced Measurement Approach (pg 38)
APRA – Australian Prudential Regulation Authority (pg 2)
CCR – Customer Credit Rating (pg 24)
CDS – Credit Default Swaps (pg 30)
CTC – Credit and Trading Risk Committee (pg 16)
EAD – Exposure at Default (pg 5, 20)
EaR – Earnings at Risk (pg 43)
EL – Expected Loss (pg 8)
ELE – Extended Licensed Entity (pg 12)
GALCO – Group Asset and Liability Committee (pg 16)
ICAAP – Internal Capital Adequacy Assessment Process (pg 7)
IMA – Internal Models Approach (pg 40)
IRB – Internal Ratings-Based (pg 17)
IRR – Interest Rate Risk (pg 15)
IRRBB – Interest Rate Risk in the Banking Book (pg 15)
LGD – Loss Given Default (pg 20)
OREC – Operational Risk Executive Committee (pg 16)
PCR – Prudential Capital Ratio (page 8)
PD – Probability of Default (pg 20)
RWA – Risk Weighted Assets (pg 6)
RBNZ – Reserve Bank of New Zealand (pg 7)
SI – Security Indicator (pg 24)
SPV – Special Purpose Vehicle (pg 34)
VaR – Value at Risk (pg 40)

Page numbers reference the first appearance of the acronym within the document.

47