Annual Report 2016

Glossary of Financial Terms

 

A

 
Adjusted Earnings and Measures
Present results adjusted to exclude the impact of certain items, as set out in the Non-GAAP Measures section. Management considers both reported and adjusted results to be useful in assessing underlying ongoing business performance.
 
Allowance for Credit Losses
Represents an amount deemed adequate by management to absorb creditrelated losses on loans and acceptances and other credit instruments. Allowances for credit losses can be specific or collective and are recorded on the balance sheet as a deduction from loans and acceptances or, as they relate to credit instruments, as other liabilities.
 
Assets under Administration and under Management
Refers to assets administered or managed by a financial institution that are beneficially owned by clients and therefore not reported on the balance sheet of the administering or managing financial institution.
 
Asset-Backed Commercial Paper (ABCP)
A short-term investment. The commercial paper is backed by physical assets such as trade receivables, and is generally used for short-term financing needs.
 
Average Earning Assets
Represents the daily or monthly average balance of deposits with other banks and loans and securities, over a one-year period.
 

B

 
Bankers’ Acceptances (BAs)
Bills of exchange or negotiable instruments drawn by a borrower for payment at maturity and accepted by a bank. BAs constitute a guarantee of payment by the bank and can be traded in the money market. The bank earns a “stamping fee” for providing this guarantee.
 
Basis Point
One one-hundredth of a percentage point.
 
Business Risk
Arises from the specific business activities of an enterprise and the effects these could have on its earnings.
 

C

 
Collective Allowance
Maintained to cover impairment in the existing portfolio for loans that have not yet been individually identified as impaired. Our approach to establishing and maintaining the collective allowance is based on the requirements of IFRS, considering guidelines issued by our regulator, OSFI. The collective allowance is assessed on a quarterly basis and a number of factors are considered when determining its level, including the long-run expected loss amount and management’s credit judgment with respect to current macroeconomic and portfolio conditions.
 
Common Equity Tier 1 (CET1) capital
Comprised of common shareholders’ equity less deductions for goodwill, intangible assets, defined benefit pension assets, certain deferred tax assets and certain other items.
 
Common Equity Tier 1 Ratio
Reflects CET1 capital divided by risk-weighted assets for CET1.
 
Common Shareholders’ Equity
The most permanent form of capital. For regulatory capital purposes, common shareholders’ equity is comprised of common shareholders’ equity, net of capital deductions.
 
Corporate Support Areas (CSAs)
Provide enterprise-wide expertise and governance in a variety of areas including Technology and Operations (T&O), strategic planning, risk management, finance, legal and regulatory compliance, marketing, communications and human resources.
 
Credit and Counterparty Risk
The potential for loss due to the failure of a borrower, endorser, guarantor or counterparty to repay a loan or honour another predetermined financial obligation.
 

D

 
Derivatives
Contracts with a value that is “derived” from movements in interest or foreign exchange rates, equity or commodity prices or other indices. Derivatives allow for the transfer, modification or reduction of current or expected risks from changes in rates and prices.
 
Dividend Payout Ratio
Represents common share dividends as a percentage of net income available to common shareholders. It is computed by dividing dividends per share by basic earnings per share.
 

E

 
Earnings Per Share (EPS)
Calculated by dividing net income attributable to bank shareholders, after the deduction of preferred dividends, by the average number of common shares outstanding. Diluted EPS, which is our basis for measuring performance, adjusts for possible conversions of financial instruments into common shares if those conversions would reduce EPS. Adjusted EPS is calculated in the same manner using adjusted net income.
 
Earnings Sensitivity
A measure of the impact of potential changes in interest rates on the projected 12-month pre-tax net income of a portfolio of assets, liabilities and off-balance sheet positions in response to prescribed parallel interest rate movements.
 
Economic Capital
An expression of the enterprise’s capital demand requirement relative to the bank’s view of the economic risks in its underlying business activities. It represents management’s estimation of the likely magnitude of economic losses that could occur across several different risk types and allows returns to be measured on a consistent basis across such risks. Economic Capital is calculated for various types of risk, including credit, market (trading and non-trading), operational and business, based on a one-year time horizon using a defined confidence level.
 
Economic Value Sensitivity
A measure of the impact of potential changes in interest rates on the market value of a portfolio of assets, liabilities and off-balance sheet positions in response to prescribed parallel interest rate movements.
 
Efficiency Ratio (or Expense-to-Revenue Ratio)
A key measure of productivity. It is calculated as non-interest expense divided by total revenue, expressed as a percentage. The adjusted efficiency ratio is calculated in the same manner, utilizing adjusted total revenue and non-interest expense.
 
Environmental and Social Risk
The potential for loss or damage to BMO’s reputation resulting from environmental or social concerns related to BMO or its customers. Environmental and social risk is often associated with credit, operational and reputation risk.
 

F

 
Fair Value
The amount of consideration that would be agreed upon in an arm’s-length transaction between knowledgeable, willing parties who are under no compulsion to act.
 
Forwards and Futures
Contractual agreements to either buy or sell a specified amount of a currency, commodity, interest-rate-sensitive financial instrument or security at a specified price and date in the future. Forwards are customized contracts transacted in the over-the-counter market. Futures are transacted in standardized amounts on regulated exchanges and are subject to daily cash margining.
 

H

 
Hedging
A risk management technique used to neutralize, manage or offset interest rate, foreign currency, equity, commodity or credit exposures arising from normal banking activities.
 

I

 
Impaired Loans
Loans for which there is no longer reasonable assurance of the timely collection of principal or interest.
 
Innovative Tier 1 Capital
A form of Tier 1 capital issued by structured entities that can be included in calculating a bank’s Tier 1 Capital Ratio, Total Capital Ratio and Leverage Ratio. Under Basel III, Innovative Tier 1 Capital is non-qualifying and is part of the grandfathered capital being phased out between 2013 and 2022.
 
Insurance Risk
The potential for loss as a result of actual experience being different from that assumed when an insurance product was designed and priced. It generally entails the inherent unpredictability that can arise from assuming long-term policy liabilities or from the uncertainty of future events. Insurance risk is inherent in all our insurance products, including annuities and life, accident and sickness, and creditor insurance, as well as in our reinsurance business.
 

L

Legal and Regulatory Risk
The potential for loss or harm that arises from legislation, contracts, non-contractual rights and obligations, and disputes. This includes the risks of failing to: comply with the law (in letter or in spirit) or maintain standards of care; implement legislative or regulatory requirements; enforce or comply with contractual terms; assert non-contractual rights; effectively manage disputes; or act in a manner so as to maintain our reputation.
 
Leverage Ratio
Defined as Tier 1 capital divided by the sum of on-balance sheet items and specified off-balance sheet items, net of specified adjustments.
 
Liquidity and Funding Risk
The potential for loss if BMO is unable to meet financial commitments in a timely manner at reasonable prices as they fall due. Financial commitments include liabilities to depositors and suppliers, and lending, investment and pledging commitments.
 

M

 
Market Risk
The potential for adverse changes in the value of BMO’s assets and liabilities resulting from changes in market variables such as interest rates, foreign exchange rates, equity and commodity prices and their implied volatilities, and credit spreads, and includes the risk of credit migration and default in our trading book.
 
Mark-to-Market
Represents the valuation of financial instruments at market rates as of the balance sheet date, where required by accounting rules.
 
Model Risk
The potential for adverse consequences following from decisions based on incorrect or misused model outputs. These adverse consequences can include financial loss, poor business decision-making or damage to reputation.
 

N

 
Net Interest Income
Comprised of earnings on assets, such as loans and securities, including interest and dividend income and BMO’s share of income from investments accounted for using the equity method of accounting, less interest expense paid on liabilities, such as deposits.
 
Net Interest Margin
The ratio of net interest income to average earning assets, expressed as a percentage or in basis points. Net interest margin is sometimes computed using total assets.
 
Net Non-Interest Revenue
Non-interest revenue, net of insurance claims, commissions and changes in policy benefit liabilities.
 
Notional Amount
Refers to the principal amount used to calculate interest and other payments under derivative contracts. The principal amount does not change hands under the terms of a derivative contract, except in the case of cross-currency swaps.
 

O

 
Off-Balance Sheet Financial Instruments
Consist of a variety of financial arrangements offered to clients, which include credit derivatives, written put options, backstop liquidity facilities, standby letters of credit, performance guarantees, credit enhancements, commitments to extend credit, securities lending, documentary and commercial letters of credit, and other indemnifications.
 
Office of the Superintendent of Financial Institutions Canada (OSFI)
The government agency responsible for regulating banks, insurance companies, trust companies, loan companies and pension plans in Canada.
 
Operating Leverage
The difference between revenue and expense growth rates. Adjusted operating leverage is the difference between adjusted revenue and adjusted expense growth rates.
 
Operational Risk
The potential for loss resulting from inadequate or failed internal processes or systems, human interactions or external events, but excludes business risk, credit risk and market risk.
 
Options
Contractual agreements that convey to the purchaser the right but not the obligation to either buy or sell a specified amount of a currency, commodity, interest-rate-sensitive financial instrument or security at a fixed future date or at any time within a fixed future period.
 

P

 
Provision for Credit Losses
A charge to income that represents an amount deemed adequate by management to fully provide for impairment in a portfolio of loans and acceptances and other credit instruments, given the composition of the portfolio, the probability of default, the economic environment and the allowance for credit losses already established.
 

R

 
Reputation Risk
The potential for a negative impact on BMO that results from the deterioration of BMO’s reputation. Potential negative impacts include revenue loss, a decline in customer loyalty, litigation, regulatory sanctions or additional regulatory oversight, and a decline in BMO’s share price.
 
Return on Equity or Return on Common Shareholders’ Equity (ROE)
Calculated as net income, less non-controlling interest in subsidiaries and preferred dividends, as a percentage of average common shareholders’ equity. Common shareholders’ equity is comprised of common share capital, contributed surplus, accumulated other comprehensive income (loss) and retained earnings. Adjusted ROE is calculated using adjusted net income rather than net income.
 
Return on Tangible Common Equity (ROTCE)
Calculated as net income available to common shareholders adjusted for amortization of intangibles as a percentage of average tangible common equity. Adjusted ROTCE is calculated using adjusted net income rather than net income.
 
Risk-Weighted Assets (RWA)
Measure a bank’s exposures, weighted for their relative risk and calculated in accordance with OSFI’s regulatory capital rules. RWA is calculated for credit, market (trading) and operational risk categories based on OSFI’s prescribed rules.
 

S

 
Securities Borrowed or Purchased under Resale Agreements
Low-cost, low-risk instruments, often supported by the pledge of cash collateral, which arise from transactions that involve the borrowing or purchasing of securities.
 
Securities Lent or Sold under Repurchase Agreements
Low-cost, low-risk liabilities, often supported by cash collateral, which arise from transactions that involve the lending or selling of securities.
 
Securitization
The practice of selling pools of contractual debts, such as residential mortgages, commercial mortgages, auto loans and credit card debt obligations, to third parties.
 
Specific Allowances
Reduce the carrying value of individually identified impaired loans to the amount we expect to recover if there is evidence of deterioration in credit quality.
 
Strategic Risk
The potential for loss due to fluctuations in the external business environment and/or the failure to properly respond to these fluctuations as a result of inaction, ineffective strategies or poor implementation of strategies.
 
Stressed Value at Risk (SVaR)
Measured for specific classes of risk in BMO’s trading and underwriting activities related to interest rates, foreign exchange rates, credit spreads, equity and commodity prices and their implied volatilities, where model inputs are calibrated to historical data from a period of significant financial stress. This measure calculates the maximum loss likely to be experienced in the trading and underwriting portfolios, measured at a 99% confidence level over a specified holding period.
 
Structured Entities (SEs)
Include entities for which voting or similar rights are not the dominant factor in determining control of the entity. We are required to consolidate an SE if we control the entity by having power over the entity, exposure to variable returns as a result of our involvement and the ability to exercise power to affect the amount of our returns.
 
Swaps
Contractual agreements between two parties to exchange a series of cash flows. The various swap agreements that we enter into are as follows:
  • Commodity swaps – counterparties generally exchange fixed and floating rate payments based on a notional value of a single commodity.
  • Credit default swaps – one counterparty pays the other a fee in exchange for that other counterparty agreeing to make a payment if a credit event occurs, such as bankruptcy or failure to pay.
  • Cross-currency interest rate swaps – fixed and/or floating rate interest payments and principal amounts are exchanged in different currencies.
  • Cross-currency swaps – fixed rate interest payments and principal amounts are exchanged in different currencies.
  • Equity swaps – counterparties exchange the return on an equity security or a group of equity securities for the return based on a fixed or floating interest rate or the return on another equity security or group of equity securities.
  • Interest rate swaps – counterparties generally exchange fixed and floating rate interest payments based on a notional value in a single currency.
 

T

 
Tangible Common Equity
Calculated as common shareholders’ equity less goodwill and acquisition-related intangible assets, net of related deferred tax liabilities.
 
Taxable Equivalent Basis (teb)
Revenues of operating groups are presented in our MD&A on a taxable equivalent basis (teb). Revenue and the provision for income taxes are increased on tax-exempt securities to an equivalent before-tax basis to facilitate comparisons of income between taxable and tax-exempt sources.
 
Tier 1 Capital
Comprised of CET1 capital, preferred shares and innovative hybrid instruments, less certain regulatory deductions.
 
Tier 1 Capital Ratio
Reflects Tier 1 capital divided by Tier 1 capital risk-weighted assets.
 
Total Capital
Includes Tier 1 and Tier 2 capital. Tier 2 capital is primarily comprised of subordinated debentures and may include a portion of the collective and individual allowances for credit losses, less certain regulatory deductions.
 
Total Capital Ratio
Reflects Total capital divided by Total capital risk-weighted assets.
 
Total Shareholder Return
The three-year and five-year average annual total shareholder return (TSR) represents the average annual total return earned on an investment in BMO common shares made at the beginning of a three-year and five-year period, respectively. The return includes the change in share price and assumes that dividends received were reinvested in additional common shares. The one-year TSR also assumes that dividends were reinvested in shares.
Trading-Related Revenues
Include net interest income and non-interest revenue earned from on- and off-balance sheet positions undertaken for trading purposes. The management of these positions typically includes marking them to market on a daily basis. Trading-related revenues also include income (expense) and gains (losses) from both on-balance sheet instruments and interest rate, foreign exchange (including spot positions), equity, commodity and credit contracts.
 

V

 
Value at Risk (VaR)
Measured for specific classes of risk in BMO’s trading and underwriting activities related to interest rates, foreign exchange rates, credit spreads, equity and commodity prices and their implied volatilities. This measure calculates the maximum loss likely to be experienced in the trading and underwriting portfolios, measured at a 99% confidence level over a specified holding period.

 

 

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