Cash and cash equivalents

Petroleum Fund of Timor-Leste Notes to the financial statements for the year ended 31 December 2013

12. Financial risk and management objectives and policies continued

b Credit risk Credit risk is the risk that a counterparty to a financial instrument will fail to discharge an obligation or commitment that it has entered into with the Petroleum Fund, resulting in a loss to the Fund. It arises principally from debt securities held, and also from derivative financial instruments, cash and cash equivalents, balances due from brokers and receivables from reverse repurchase agreements. For risk management reporting purposes the Fund considers and consolidates all elements of credit risk exposure, reflecting the fact that the main concentration to which the Fund is exposed arises from the Fund’s investments in debt securities. i Credit risk management Articles 14 and 15 of the Petroleum Fund law provide broad constraints on the extent of credit risk that can be taken by the Petroleum Fund. The law specifies that not less than 50 of the Petroleum Fund may be invested in investment grade fixed income investments while not more than 50 of the Petroleum Fund may be invested in listed equities. Up to 5 of the Fund may be invested in other types of securities. The Investment Advisory Board advised the Minister of Finance in June 2012 that in view of the long-term investment horizon of the Fund, the strategic asset allocation to listed equities should be 40 while the allocation to investment grade fixed interest securities should be 60. The Board recommended implementing this strategic asset allocation by gradually increasing the public equity exposure by 0.83 a month from the then 20 exposure to equities over a period of two years to 30 June 2014. This strategy was in the process of being implemented during the reporting period. The mandate in the Operational Management Agreement prescribes that the performance of the Petroleum Fund shall be measured against benchmark indexes for a series of mandates, restricts the permissible investment universe to highly rated financial instruments, and establishes tracking error limits restricting the permissible deviation of the portfolio investments from the benchmark for each mandate. The maximum loss that the Petroleum Fund would suffer from the default of a single issuer is the amount disclosed below with respect to investments in Treasury Notes issued by the United States Government and Equity Securities traded on developed market exchanges. ii Concentration of credit exposure Concentrations of credit risk arise when a number of financial instruments or contracts are entered into with the same counterparty, or when a number of counterparties are engaged in similar business activities, or activities in the same geographical region, or have similar economic features that would cause their ability to meet contractual obligations to be similarly affected by changes in economic, political or other conditions. In order to avoid excessive concentrations of risk, the Petroleum Fund’s policy is to develop over time a well diversified portfolio within limits set by the Petroleum Fund law. The Petroleum Fund’s significant end-of-year concentrations of credit exposure by the industry or country of the issuer were as follows: As at 31122013 As at 31122012 USD USD Fixed interest securities and money market securities Sovereign issuers: United States Government 8,112,364,538 8,676,319,344 Australia Government 145,008,543 - Japan Government 136,010,191 - United Kingdom Government 146,555,355 - European Governments 444,651,310 - Governments of other countries 586,562,474 - 9,571,152,411 8,676,319,344 - 23 -