3.14. Fair value of financial assets and liabilities

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. A fair value measurement assumes that the transaction of selling the asset or transferring a liability occurs either:

  • on the main market for the asset or liability,
  • in the absence of a main market, for the most advantageous market for the asset or liability.

The main and the most advantageous markets must be both available to the Group.

Following market practices the Group values open positions in financial instruments using either the mark-to-market approach or is applying pricing models well established in market practice (mark-to-model method) which use as inputs market prices or market parameters, and in few cases parameters estimated internally by the Group. All significant open positions in derivatives (currency or interest rates) are valued by market models using prices observable in the market. Domestic commercial papers are mark-to-model (by discounting cash flows), which in addition to market interest rate curve uses credit spreads estimated internally.

The Group estimated that the fair value of short-term financial liabilities (less than 1 year) is equal to the balance sheet values of such items.

In addition, the Group assumed that the estimated fair value of financial assets and financial liabilities longer than 1 year is based on discounted cash flows using appropriate interest rates.

The following table presents a summary of balance sheet values and fair values for each group of financial assets and liabilities not recognised in the statement of financial position of the Group at their fair values.

 

 
  31.12.2014 31.12.2013
  Carrying value Fair value Carrying value Fair value
F i n a n c i a l   a s s e t s
Loans and advances to banks 3 751 415 3 748 671 3 471 241 3 515 772
Loans and advances to customers 74 581 561 75 070 826 68 210 385 67 300 927
Loans and advances to individuals 40 080 064 40 874 882 37 153 418 36 413 808
current accounts 4 848 799 4 927 627 4 534 640 4 567 052
term loans including: 35 231 265 35 947 255 32 618 778 31 846 756
- housing and mortgage loans 29 969 161 30 553 308 28 223 739 27 403 194
Loans and advances to corporate entities 31 531 198 31 236 748 28 270 161 28 124 414
current accounts 3 460 379 3 435 981 3 362 963 3 353 764
term loans 22 915 949 22 645 108 20 161 638 20 025 090
- corporate & institutional enterprises 5 557 635 5 516 855 4 934 639 4 953 138
- medium & small enterprises 17 358 314 17 128 253 15 226 999 15 071 952
reverse repo / buy sell back transactions 3 838 553 3 838 553 3 287 066 3 287 066
other 1 316 317 1 317 106 1 458 494 1 458 494
Loans and advances to public sector 1 923 026 1 911 923 2 133 179 2 142 078
Other receivables 1 047 273 1 047 273 620 627 620 627
F i n a n c i a l   l i a b i l i t i e s
Amounts due to other banks 13 383 829 13 508 323 19 224 182 19 239 265
Amounts due to customers 72 422 479 72 501 565 61 673 527 61 670 841
Debt securities in issue 10 341 742 10 425 444 5 402 056 5 444 193
Subordinated liabilities 4 127 724 4 105 811 3 762 757 3 764 754
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The following sections present the key assumptions and methods used by the Group for estimation of the fair values of financial instruments:

Loans and advances to banks and loans and advances to customers. The fair value for loans and advances to banks and loans and advances to customers is disclosed as the present value of future cash flows using current interest rates including appropriate credit spreads and is based on the expected maturity of the respective loan agreements. The level of credit spread was determined based on market quotation of median credit spreads for Moody’s rating grade. Attribution of a credit spread to a given credit exposure is based on a mapping between Moody’s rating grade and internal rating grades of mBank. To reflect the fact that the majority of the Bank’s exposures is collateralised whereas the median of market quotation is centred around unsecured issues, the Bank performed appropriate adjustments.

Available for sale financial assets. Listed available for sale financial instruments held by the Group are valued at fair value. The fair value of debt securities not listed at an active market is calculated using a discounted cash flow approach based on current interest rates (including the appropriate credit spread). The model of spread determination in the case of illiquid commercial papers was extended in order to reflect the costs of unexpected loss component of the credit spread more precisely.

Financial liabilities. Financial instruments representing liabilities for the Group include the following:

  • Contracted borrowings;
  • Deposits;
  • Issues of debt securities;
  • Subordinated liabilities.

The fair value for these financial liabilities with more than 1 year to maturity is based on principle and interest cash flows discounted using interest rates. For received loans the Group used the swap amended by quotations of Commerzbank CDS for exposures in EUR (and for the loans received from European Investment Bank in EUR, EIB yield curve), quotations of issued bonds under EMTN program for the exposures in foreign currencies and the swap curve amended by credit spread for the exposures in PLN. In case of deposits the Group used the curve based on overnight rates, term cash rates, as well as FRA contracts up to 1 year and IRS contracts over 1 year for appropriate currencies and maturities. For debt securities in issue the Group used the prices directly from the market for these securities. For the purpose of measurement of subordinated liabilities the Group used obtained primary market spreads of subordinated bonds issued by the Group and if required corresponding cross-currency basis swap levels for the respective maturities.

The Group assumed that the fair values of these instruments with less than 1 year to maturity was equal to the carrying amounts of the instruments.

The table below presents the fair value hierarchy of financial assets and liabilities measured at fair value in accordance with the assumptions and methods described above, exclusively for disclosure as at 31 December 2014.

 

 
31.12.2014 Including: Level 1 Level 2 Level 3

Quoted prices in
active markets

Valuation techniques
based on observable
market data

Other valuation
techniques

VALUATION ONLY FOR PURPOSES OF DISCLOSURE        
FINANCIAL ASSETS        
Loans and advances to banks 3 748 671 - - 3 748 671
Loans and advances to customers 75 070 806 - - 75 070 806
         
FINANCIAL LIABILITIES        
Amounts due to other banks 13 508 323 - 11 442 821 2 065 502
Amounts due to customers 72 501 565 - 5 558 939 66 942 626
Debt securities in issue 10 425 444 7 338 400 - 3 087 044
Subordinated liabilities 4 105 811 - 4 105 811 -
Total financial assets 78 819 477 - - 78 819 477
Total financial liabilities 100 541 143 7 338 400 21 107 571 72 095 172
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31.12.2013 Including: Level 1 Level 2 Level 3

Quoted prices in
active markets

Valuation techniques
based on observable
market data

Other valuation
techniques

VALUATION ONLY FOR PURPOSES OF DISCLOSURE        
FINANCIAL ASSETS        
Loans and advances to banks 3 515 772 - - 3 515 772
Loans and advances to customers 67 300 927 - - 67 300 927
         
FINANCIAL LIABILITIES        
Amounts due to other banks 19 239 265 - 14 358 996 4 880 269
Amounts due to customers 61 670 841 - 4 866 251 56 804 590
Debt securities in issue 5 444 193 2 879 565 - 2 564 628
Subordinated liabilities 3 764 754 - 3 764 754 -
Total financial assets 70 816 699 - - 70 816 699
Total financial liabilities 90 119 053 2 879 565 22 990 001 64 249 487
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Level 1
In level 1, the Group included the fair value of bonds issued by mFinance France, the subsidiary of the Bank (Note 30). For issued debt securities, the Group applied prices directly from the market for these securities.

Level 2

Level 2 includes the fair value of long-term loans received from banks, the fair value of long-term deposits placed by customers and the fair value of the loan received from the EIB (Note 29). In addition, at level 2, the Group has presented subordinated liabilities.

The fair value of financial liabilities with more than 1 year to maturity is based on principle and interest cash flows discounted using interest rates. For received loans in EUR the Group used the swap curve amended by the spread determined based on observable Commerzbank CDS quotations in EUR for various maturities and a fixed spread which represents the assumed credit spread differential for Group risk (derived from market quotation of bond issued under the EMTN program). For the loans in other currencies, the above spreads for EUR were applied and cross currency swaps quotations to EUR. In case of the loans received from European Investment Bank in EUR, the Group used EIB yield curve and the value of margin which was agreed upon the last contract for the loan in August 2014. Based on the assumption of fixed margin (irrespectively from maturity), the spread of Group to market swap curve was estimated. In case of deposits the Group used the curve based on overnight rates, term cash rates, as well as FRA contracts up to 1 year and IRS contracts over 1 year for appropriate currencies and maturities. For debt securities in issue the Group used the prices directly from the market for these securities. For the purpose of measurement of subordinated liabilities the Group used obtained primary market spreads of subordinated bonds issued by the Group and if required corresponding cross-currency basis swap levels for the respective maturities.

Level 3

Level 3 includes the fair value of loans and advances to banks and loans and advances to customers. The fair value for loans and advances to banks and loans and advances to customers is disclosed as the present value of future cash flows using current interest rates including appropriate credit spreads and is based on the expected maturity of the respective loan agreements. The level of credit spread was determined based on market quotation of median credit spreads for Moody’s rating grade. Attribution of a credit spread to a given credit exposure is based on a mapping between Moody’s rating grade and internal rating grades of mBank. To reflect the fact that the majority of the Group’s exposures is collateralised whereas the median of market quotation is centred around unsecured issues, the Group performed appropriate adjustments.

Level 3 includes also the fair value of mortgage bonds and bonds issued by mBank Hipoteczny. For the valuation of the Group has applied the technique of estimation of interest flow using swap curve and discounting with the rate amended by credit spread which is obtainable in case of issue depending on currency and maturity of financial instrument. Moreover, level 3 includes short term liabilities due to banks and customers.

The following table presents the hierarchy of fair values of financial assets and liabilities recognised in the statement of financial position of the Group at their fair values.

 

 
31.12.2014 Including: Level 1 Level 2 Level 3
Quoted prices in active markets Valuation techniques
based on observable
market data
Other valuation techniques
RECURRING FAIR VALUE MEASUREMENTS        
FINANCIAL ASSETS        
TRADING SECURITIES 1 163 944 629 361 7 494 527 089
Debt securities 1 145 997 618 930 - 527 067
- government bonds 617 906 617 906 - -
- banks bonds 473 097 1 024 - 472 073
- corporate bonds 54 994 - - 54 994
Equity securities 17 947 10 431 7 494 22
- listed 10 431 10 431 - -
- unlisted 7 516 - 7 494 22
DERIVATIVE FINANCIAL INSTRUMENTS 4 865 517 - 4 865 048 469
Derivative financial instruments held for trading 4 711 124 - 4 710 655 469
- interest rate derivatives 4 406 512 - 4 406 512 -
- foreign exchange derivatives 295 564 - 295 564 -
- market risks derivatives 9 048 - 8 579 469
Derivative financial instruments held for hedging 154 393 - 154 393 -
- derivatives designated as fair value hedges 102 226 - 102 226 -
- derivatives designated as cash flow hedges 52 167 - 52 167 -
INVESTMENT SECURITIES 27 678 614 22 858 617 4 479 540 340 457
Debt securities 27 416 998 22 627 697 4 479 540 309 761
- government bonds 22 586 122 22 586 122 - -
- money bills 4 479 540 - 4 479 540 -
- banks bonds 24 907 - - 24 907
- corporate bonds 284 854 - - 284 854
- communal bonds 41 575 41 575 - -
Equity securities 261 616 230 920 - 30 696
- listed 229 961 229 961 - -
- unlisted 31 655 959 - 30 696
TOTAL FINANCIAL ASSETS 33 708 075 23 487 978 9 352 082 868 015
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31.12.2014 Including: Level 1 Level 2 Level 3

Quoted prices in
active markets

Valuation techniques
based on observable
market data

Other valuation
techniques

FINANCIAL LIABILITIES        
Derivative financial instruments 4 719 056 - 4 718 186 870
Derivative financial instruments held for trading 4 714 774 - 4 713 904 870
- interest rate derivatives 4 387 421 - 4 387 421 -
- foreign exchange derivatives 306 538 - 306 124 414
- market risks derivatives 20 815 - 20 359 456
Derivative financial instruments held for trading 4 282 - 4 282 -
- derivatives designated as fair value hedges 3 592 - 3 592 -
- derivatives designated as cash flow hedges 690 - 690 -
Total financial liabilities 4 719 056 - 4 718 186 870
TOTAL RECURRING FAIR VALUE MEASUREMENTS        
FINANCIAL ASSETS 33 708 075 23 487 978 9 352 082 868 015
FINANCIAL LIABILITIES 4 719 056 - 4 718 186 870
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Transfers between levels in 2014

Transfer
into level 1

Transfer
out of level 1

Transfer
into level 1

Transfer
out of level 1

Investment securities 898 - - (1 811)
Equity 898 - - (1 811)
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In case of financial instruments valuated in repetitive way to the fair value classified as level 1 and 2 in hierarchy of fair value, any cases in which transfer between these levels may occur, are monitored by Financial Market Risk Department on the basis of internal guidelines. There are two main cases which allow for a reclassification: change of availability of market parameters used to marked-to-market valuation for T-bonds or a change in liquidity of option on WIG20 index market. In case of T-bonds, if there is no market price for more than 2 business days, the methods of valuation is changed, i.e. change from marked-to-market valuation to marked-to-model valuation under the assumption that the valuation model for the respective type of fixed income securities has been already approved. Return to marked-to-market valuation takes place after 5 business days in which market prices are continuously available.

In case of options on the WIG20 index the utilization of an internal model or marked-to-market valuation depends on the liquidity of the options market. If a marked-to-model method is applied and the market is liquid for successive 3 months the valuation approach changes from a marked-to-model towards the marked-to-market method. In case a marked-to-market model is utilized and the market is illiquid in a given month the valuation approach is adjusted towards a marked-to-model valuation at least until the beginning of the next month.

In 2014, there have been observed three movements from level 2 to level 3 in the total amount of PLN 913 thousand and one movement from level 2 to level 1 in the amount of PLN 898 thousand. These transfers resulted from the effect of valuation techniques revision applied to minority stakes of low value held by the Group.

 

 

Assets Measured at Fair Value Based on Level 3
- changes in 2014

Debt trading
securities

Equity trading
securities

Derivative financial
instruments

Debt investment
securities

Equity investment
securities

As at the beginning of the period 346 263 6 450 133 042 40 206
Gains and losses for the period: 12 053 16 19 6 736 (696)
   Recognised in profit or loss: 12 053 16 19 - (710)
   - Net trading income 12 053 16 19 - -
   - Gains less losses from investment securities, investments in

subsidiaries and associates

- - - - (710)
Recognised in other comprehensive income: - - - 6 736 14
   - Available for sale financial assets - - - 6 736 14
Purchases 3 121 268 - - 61 902 8 610
Redemptions (344 563) - - - -
Sales (11 866 323) - - (198 072) (15 947)
Issues 9 260 092 - - 304 918 -
Settlements (1 723) - - 1 235 (2 390)
Transfers into Level 3 - - - - 913
As at the end of the period 527 067 22 469 309 761 30 696
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31.12.2013 Including: Level 1 Level 2 Level 3

Quoted prices in
active markets

Valuation techniques
based on observable
market data

Other valuation
techniques

RECURRING FAIR VALUE MEASUREMENTS        
FINANCIAL ASSETS        
TRADING SECURITIES 763 064 395 214 21 581 346 269
Debt securities 734 621 388 358 - 346 263
- government bonds 388 259 388 259 - -
- deposit certificates 37 787 - - 37 787
- banks bonds 264 922 99 - 264 823
- corporate bonds 43 653 - - 43 653
Equity securities 28 443 6 856 21 581 6
- listed 6 893 6 856 37 -
- unlisted 21 550 - 21 544 6
DERIVATIVE FINANCIAL INSTRUMENTS 2 349 585 153 2 348 982 450
Derivative financial instruments held for trading 2 349 585 153 2 348 982 450
- interest rate derivatives 2 103 034 - 2 103 034 -
- foreign exchange derivatives 232 776 - 232 733 43
- market risks derivatives 13 775 153 13 215 407
INVESTMENT SECURITIES 25 341 763 18 852 508 6 316 007 173 248
Debt securities 25 069 257 18 622 019 6 314 196 133 042
- government bonds 18 583 636 18 583 636 - -
- money bills 6 314 196 - 6 314 196 -
- banks bonds 25 136 - - 25 136
- corporate bonds 107 906 - - 107 906
- communal bonds 38 383 38 383 - -
Equity securities 272 506 230 489 1 811 40 206
- listed 229 617 229 617 - -
- unlisted 42 889 872 1 811 40 206
TOTAL FINANCIAL ASSETS 28 454 412 19 247 875 8 686 570 519 967
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31.12.2013 Including: Level 1 Level 2 Level 3

Quoted prices in
active markets

Valuation techniques
based on observable
market data

Other valuation
techniques

FINANCIAL LIABILITIES        
Derivative financial instruments 2 459 715 12 2 459 296 407
Derivative financial instruments held for trading 2 451 959 12 2 451 540 407
- interest rate derivatives 2 253 550 - 2 253 550 -
- foreign exchange derivatives 183 643 - 183 643 -
- market risks derivatives 14 766 12 14 347 407
Derivative financial instruments held for trading 7 756 - 7 756 -
- derivatives designated as fair value hedges 7 756 - 7 756 -
Total financial liabilities 2 459 715 12 2 459 296 407
TOTAL RECURRING FAIR VALUE MEASUREMENTS        
FINANCIAL ASSETS 28 454 412 19 247 875 8 686 570 519 967
FINANCIAL LIABILITIES 2 459 715 12 2 459 296 407
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In 2013 a reclassification of exotic options embedded in investment deposits (options on basket of underlyings such as commodities or indexes) within the fair hierarchy was observed from level 2 to level 3. The Fair value of reclassified instruments as of 31 December 2013 was equal to PLN 0.5 thousand (the value contains transactions with clients and opposite back-to-back transactions on interbank market, for transactions with clients the fair value was PLN 404 thousand). The presented in note value of PLN 407 thousand applies to options sold (liabilities) and purchased (assets). The reclassification was made due to a review of valuation methods, in which there was identified that variables such as volatilities of underlyings and their correlations, which are estimated in internal model due to lack of quotations for this variables, have significant impact on their fair value.

 

 
Liabilities Measured at Fair Value Based on Level 3

Derivative financial instruments and other trading liabilities

Other financial liablitities
Transfers into Level 3 407 -
As at the end of the period 407 -
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Assets Measured at Fair Value Based on Level 3
- changes in 2013

Debt trading
securities

Equity trading
securities

Derivative financial
instruments

Debt investment
securities

Equity investment
securities

As at the beginning of the period 303 587 17 96 204 032 34 885
Gains and losses for the period: 13 874 (11) (53) (3 408) 2 830
   Recognised in profit or loss: 13 874 (11) (53) - 62
   - Net trading income 13 874 (11) (53) - -
- Gains less losses from investment securities, investments in
subsidiaries and associates
- - - - 62
Recognised in other comprehensive income: - - - (3 408) 2 768
   - Available for sale financial assets - - - (3 408) 2 768
Purchases 2 149 795 - - 136 374 13 145
Redemptions (1 462 147) - - - (884)
Sales (11 822 979) - - (409 537) (13 851)
Issues 11 164 133 - - 204 000 (452)
Settlements - - - 1 581 4 533
Transfers into Level 3 - - 407 - -
As at the end of the period 346 263 6 450 133 042 40 206
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According to the fair value methodology applied by the Group, financial assets and liabilities are classified as follows:

  • Level 1: prices quoted on active markets for the same instrument (without modification);
  • Level 2: valuation techniques based on observable market data;
  • Level 3: valuation methods for which at least one significant input data is not based on observable market data.

Level 1

As at 31 December 2014, at level 1 of the fair value hierarchy, the Group has presented the fair value of held for trading government bonds in the amount of PLN 617 906 thousand (see Note 19) and the fair value of investment government bonds in the amount of PLN 22 586 122 thousand (see Note 23) (31 December 2013 respectively: PLN 388 259 thousand and PLN 18 583 636 thousand). Level 1 also includes the fair value of local government bonds in the amount of PLN 41 575 thousand (31 December 2013: PLN 38 383 thousand), and the fair value of bonds issued by banks in the amount of PLN 1 024 thousand (31 December 2013: PLN 99 thousand).

In addition, as at 31 December 2014 level 1 includes the value of the shares of listed companies in the amount of PLN 240 392 thousand, including the value of shares in PZU S.A. in the amount of PLN 229 961 thousand (31 December 2013 respectively: PLN 236 473 thousand and PLN 212 430 thousand).

These instruments are classified as level 1 because their valuation is directly derived by applying current market prices quoted on active and liquid financial markets.

Level 2

Level 2 of the fair value hierarchy includes the fair values of short term bills issued by NBP in the amount of PLN 4 479 540 thousand (31 December 2013: PLN 6 314 196 thousand), whose valuation is based on a NPV model (discounted future cash flows) fed with interest rate curves generated by transformation of quotations taken directly from active and liquid financial markets.

In addition, the level 2 category includes the valuation of derivative financial instruments borne on models consistent with market standards and practices, using parameters taken directly from the markets (e.g., foreign exchange rates, implied volatilities of fx options, stock prices and indices) or parameters which transform quotations taken directly from active and liquid financial markets (e.g., interest rate curves).

As at 31 December 2014 and 31 December 2013, level 2 also includes the value of options referencing on the WIG 20 index, listed on the Stock Exchange.

Level 3

Level 3 of the hierarchy presents the fair values of commercial debt securities issued by local banks and companies (bonds, mortgage bonds and certificates of deposit) in the amount of PLN 836 828 thousand (31 December 2013: PLN 479 305 thousand).

The above mentioned debt instruments are classified as level 3 because in addition to parameters which transform quotations taken directly from active and liquid financial markets (interest rate curves), their valuation uses credit spread estimated by the Bank by means of an internal credit risk model. The model uses parameters (e.g., rate of recovery from collateral, rating migrations, default ratio volatilities) which are not observed on active markets and hence were generated by statistical analysis.

Moreover, level 3 covers mainly the fair value of equity securities amounting to PLN 30 718 thousand (31 December 2013: PLN 40 212 thousand) valuated using the market multiples method. The market multiples method, consists of valuating the equity capital of a company by using a relation between the market values of the own equity capital or market values of the total capital invested in comparable companies (goodwill) and selected economic and financial figures.