2020 Universal registration document and annual financial report - BNP PARIBAS 291

5risks and CaPital adequaCy Pillar 3

5

Annual risk survey

in the rest of the world. The BNP Paribas Group s risk-weighted assets subject to this type of risk amounted to EUR 527 billion at 31 December 2020, or 76% of the total risk-weighted assets of the BNP Paribas Group.

BNP Paribas Group s counterparty risk arises from its credit risk in the specific context of market transactions, investments, and/or settlements. BNP Paribas Group s exposure to counterparty risk, excluding CVA (Credit Valuation Adjustment) risk at 31 December 2020, is comprised of: 42% to the corporate sector, 27% to governments and central banks, 12% to credit institutions and investment firms, and 19% to clearing houses. By product, BNP Paribas Group s exposure, excluding CVA risk, at 31 December 2020 is comprised of: 53% in OTC derivatives, 34% in repurchase transactions and securities lending/borrowing, 11% in listed derivatives and 2% in contributions to the clearing houses default funds. The amount of this risk varies over time, depending on fluctuations in market parameters affecting the potential future value of the covered transactions. In addition, CVA risk measures the risk of losses related to CVA volatility resulting from fluctuations in credit spreads associated with the counterparties to which the BNP Paribas Group is subject to risk. The risk-weighted assets subject to counterparty credit risk amounted to EUR 41 billion at 31 December 2020, representing 6% of the BNP Paribas Group s total risk-weighted assets.

Securitisation risk in the banking book: securitisation is a transaction or arrangement by which the credit risk associated with a liability or set of liabilities is subdivided into tranches. Any commitment made by the BNP Paribas Group under a securitisation structure (including derivatives and liquidity lines) is considered to be a securitisation. The bulk of the BNP Paribas Group s commitments are in the prudential banking portfolio. Securitized exposures are essentially those generated by the BNP Paribas Group. The securitisation positions held or acquired by the BNP Paribas Group may also be categorized by its role: of the positions as at 31 December 2020, BNP Paribas was originator of 52%, was sponsor of 34% and was investor of 14%. The risk-weighted assets subject to this type of risk amounted to EUR 14 billion at 31 December 2020 for the BNP Paribas Group, or 2% of the total risk-weighted assets of the BNP Paribas Group.

1.1 A substantial increase in new provisions or a shortfall in the level of previously recorded provisions exposed to credit risk and counterparty risk could adversely affect the BNP Paribas Group s results of operations and financial condition.

Credit risk and counterparty risk impact the BNP Paribas Group s consolidated financial statements when a customer or counterparty is unable to honour its obligations and when the book value of these obligations in the BNP Paribas Group s records is positive. The customer or counterparty may be a bank, a financial institution, an industrial or commercial enterprise, a government or a government entity, an investment fund, or a natural person. If the level of irrecoverable or doubtful loans (Stage 3) increases, or provisions on performing loans (Stages 1 and 2) increase in response to a deterioration in economic conditions or other factors, BNP Paribas profitability may be affected.

As a result, in connection with its lending activities, the BNP Paribas Group regularly establishes provisions, which are recorded on its income statement in the line item Cost of Risk. These provisions amounted to EUR 5.717 billion at 31 December 2020, representing 66 basis points of outstanding customer loans (compared with 39 basis points at 31 December 2019). The significant increase is the result of taking into account the economic consequences of the implementation of the health crisis. The provisioning of performing loans (stages 1 and 2) increased significantly by EUR 1.4 billion at 31 December 2020 compared to 31 December 2019 and is an example of the materialisation of this risk.

The BNP Paribas Group s overall level of provisions is based on its assessment of prior loss experience, the volume and type of lending being conducted, industry standards, past due loans, economic conditions and other factors related to the recoverability of various loans or statistical analysis based on scenarios applicable to asset classes.

Although the BNP Paribas Group seeks to establish an appropriate level of provisions, its lending businesses may have to increase their provisions for loan losses or sound receivables substantially in the future as a result of deteriorating economic conditions or other causes. Any significant increase in provisions for loan losses or a significant change in the BNP Paribas Group s estimate of the risk of loss inherent in its portfolio of non-impaired loans, as well as the occurrence of loan losses in excess of the related provisions, could have a material adverse effect on the BNP Paribas Group s results of operations and financial condition.

For reference, at 31 December 2020, the ratio of doubtful loans to total loans outstanding was 2.1% and the coverage ratio of these loans (net of guarantees received) by provisions was 71.5%, compared to 2.2% and 74%, respectively, as at 31 December 2019. These two ratios are defined in 5.1 Key figures.

While the BNP Paribas Group seeks to reduce its exposure to credit risk and counterparty risk by using risk mitigation techniques such as collateralisation, obtaining guarantees, entering into credit derivatives and entering into netting agreements, it cannot be certain that these techniques will be effective to offset losses resulting from counterparty defaults that are covered by these techniques. Moreover, the BNP Paribas Group is also exposed to the risk of default by the party providing the credit risk coverage (such as a counterparty in a derivative or a loan insurance contract) or to the risk of loss of value of any collateral. In addition, only a portion of the BNP Paribas Group s overall credit risk and counterparty risk is covered by these techniques. Accordingly, the BNP Paribas Group has very significant exposure to these risks.

1.2 The soundness and conduct of other financial institutions and market participants could adversely affect the BNP Paribas Group.

The BNP Paribas Group s ability to engage in financing, investment and derivative transactions could be adversely affected by the soundness of other financial institutions or market participants. Financial institutions are interrelated as a result of trading, clearing, counterparty, funding or other relationships. As a result, defaults by one or more States or financial institutions, or even rumours or questions about one or more financial institutions, or the financial services industry generally, may lead to market-wide liquidity problems and could lead to further losses or defaults. The BNP Paribas Group has exposure to many counterparties