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
iii Credit exposure by credit rating
The following table presents an analysis of the Petroleum Funds debt securities classified according to the Standard and Poors credit rating of the issuer. AAA is the highest rating possible and indicates that the entity has an extremely strong capacity to pay interest and principal.
AA is a high grade rating, indicating a very strong capacity, and A is an upper medium grade, indicating a strong capacity to pay interest and principal. BBB is the lowest investment grade rating, indicating a medium capacity to pay interest and principal. Ratings lower than AAA can
be modified by + or – signs to indicate relative standing within the major categories.
As at 31122013
As at 31122012
USD USD
International fixed interest securities and money market securities
AA+ 9,571,152,411
8,676,319,344
Total 9,571,152,411
8,676,319,344 iv Credit exposure by counterparty as a percentage of the Petroleum Fund’s capital
No more than 1 2012 – Nil of assets of the Petroleum Fund is exposed to a single sovereign issuer, other than the United States Government, all of which sovereigns are developed nations.The assets exposed to the United States Government amounted to 54 2012:
74 of the Petroleum Funds capital. A change in the credit ratings of the Petroleum Funds counterparties may have an impact on the future financial performance of the Petroleum Fund.
v Settlement risk
The financial activities of the Petroleum Fund may give rise to risk at the time of settlement of transactions. Settlement risk is the risk of loss due to the failure of an entity to honour its obligations to deliver cash, securities or other assets as contractually agreed.
For the majority of transactions, the Petroleum Fund mitigates this risk by requiring the custodian to conduct settlements on a Delivery versus Payment basis, whereby a trade is settled only when both parties have fulfilled their contractual settlement obligations by delivering the
agreed amounts of cash or financial assets. The settlement will fail if either party fails to meet its obligation.
c Market risk
Market risk is the risk that changes in market prices, such as interest rates, equity prices, foreign exchange rates and credit spreads not relating to changes in the obligor’sissuer’s credit standing will affect the Petroleum Fund’s income or fair value of its holdings of financial
instruments. The objective of market risk management is to manage and control market risk exposures within acceptable parameters, while optimising the return.
The maximum risk resulting from financial instruments equals their fair value. The Petroleum Fund’s strategy for the management of market risks is driven by the Fund’s investment objectives, including diversification of
its investment portfolio, by specifying benchmarks in individual investment mandates with risk limits defined by maximum tracking errors. The Petroleum Fund’s market risk is thus managed on a regular basis by the investment managers in accordance with these investment
mandates.
i Equity price risk
Equity price risk is the risk of unfavourable changes in the fair values of equities or equity-linked derivatives as the result of changes in the levels of equity indices and the value of individual shares. The equity price risk exposure arises from the Fund’s investments in equity
securities and from equity-linked derivatives. The Fund manages this risk by investing in a variety of stock exchanges and by limiting exposure to any one company or issuing entity, excluding sovereign states to 3 of net assets consistent with Article 15.5a of the Petroleum
Fund Law. The Fund’s law limits equity investments to no more than 5 of the share capital of a particular issuer consistent with Article 15.3b of the Petroleum Fund Law.
Management’s best estimate of the effect on the profit or loss for a year due to a reasonably possible change in equity indices, with all other variables held constant is indicated in the table below. There is no effect on ‘other comprehensive income’ as the Fund has no assets
classified as ‘available-for-sale’ or designated hedging instruments. In practice, the actual trading results may differ from the sensitivity analysis below and the difference could be material. An equivalent decrease in each of the indices shown below would have resulted in an
equivalent, but opposite, impact.
The Petroleum Fund manages its exposure to equity price risk by analysing the portfolio by industrial sector and country each month, and benchmarking the performance of each sectorcountry to the MSCI World Index, by considering the performance of the Fund attributable to
stock allocation, security selection and the interaction effect.
- 24 -
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
Summarised sensitivity analysis
The following table summarises the sensitivity of the Funds operating profit and net assets to price risk. The analysis is based on reasonably possible movements in the benchmark with all other variables held constant and the fair value of the Funds portfolio moving according to the
movement in the benchmark. The reasonably possible movements in the risk variables have been determined based on the investment managers’ best estimates, having regard to a number of factors, including historical levels of changes in market index, security prices andor
benchmark returns and interest rates. However, actual movements in the risk variables may be greater or less than anticipated due to a number of factors, including unusually large market shocks resulting from changes in the performance of the economies, markets and securities to
which the variable is exposed. As a result, historic variations in risk variables are not a definitive indicator of future variations in the risk variables.
Price risk Impact on operating profit Net assets
As at 31122013: -10.00 As at 31122013: +10.00
As at 31122012: -10.00 As at 31122012: +10.00
31 December 2013
533,352,659 533,352,659
31 December 2012 303,482,541
303,482,541
c Market risk continued ii Interest rate risk
Interest rate risk arises from the possibility that an investments fair value or associated future cash flows will change due to a change in the absolute level of interest rates, in the spread between two rates, in the shape of the yield curve or in any other interest rate relationship.
The majority of interest rate exposure arises on investments in debt securities in the United States of America, and to a lesser extent, the rest of the developed world. Most of the Petroleum Fund’s investments in debt securities carry fixed interest rates and mature within ten years.
The Petroleum Fund manages this risk by investing according to well-defined industry benchmarks with specified duration target and tracking error limit. The assets and liabilities of the Petroleum Fund will re-price or mature within the following periods:
As at 31122013 USD
FINANCIAL ASSETS
Statement of financial
position Non-interest
sensitive 6 months or less 6 to 12 months
1 to 2 years 2 to 5 years
5 to 10 years
Cash and cash equivalents
70,185,105 -
70,185,105 -
- -
- Other receivables
11,112,267 11,112,267
- -
- -
- Financial assets at
fair value through profit or loss
14,904,678,996 5,333,526,585
- 48,412,491
630,207,747 6,671,629,193
2,220,902,980
Total assets 14,985,976,368
5,344,638,852 70,185,105
48,412,491 630,207,747
6,671,629,193 2,220,902,980
Weighted average interest rate
- 1.96
2.36 1.03
2.86
As at 31122012 USD
FINANCIAL ASSETS
Statement of financial
position Non-interest
sensitive 6 months or less 6 to 12 months
1 to 2 years 2 to 5 years
5 to 10 years
Cash and cash equivalents
60,884,289 -
60,884,289 -
- -
- Other receivables
6,477,700 6,477,700
- -
- -
- Financial assets at
fair value through profit or loss
11,711,144,753 3,034,825,409
- -
1,058,345,114 5,533,535,917
2,084,438,313
Total assets 11,778,506,742
3,041,303,109 60,884,289
- 1,058,345,114
5,533,535,917 2,084,438,313
Weighted average interest rate
0.15 -
2.08 1.39
2.72 - 25 -