Credit risk

Credit risk is the risk that a counterparty does not fulfil its financial obligations. Triodos Bank manages its credit risk at a client and at portfolio level. It operates within a pre-defined set of criteria for accepting credits. Credits are extended within the target markets and lending strategy in accordance with Triodos Bank’s mission and expertise. Before accepting a credit facility, Triodos Bank assesses the customer’s risk profile, cash flows, available collateral and the requested transaction, including an assessment of the integrity and reputation of the borrowers or counterparty. Compliance analysis with Triodos Bank’s lending criteria is an integral part of each credit proposal.

Triodos Bank has developed an internal rating-based economic capital model, that estimates a counterparty’s probability of default and the expected loss of a credit exposure.

Each banking business unit has a credit risk team headed by a Head of Credit Risk. The teams comprise credit risk analysts and special asset managers. They have a functional reporting line to the Group Head of Credit Risk at Head Office. At Group level a dedicated team is in place with credit analysts, data analysts and special asset management specialists.

At local level, individual files have a second-line review and the portfolio is monitored and reviewed on a continuous basis. The larger files based on exposure and rating, are also analysed at Group level. The aggregated portfolio is monitored at Group level.

The resulting analysis is provided to the local and/or Central Credit Committee for decision-making on approvals for individual files, lending criteria for sectors and limits on sectors, countries or individual obligors.

Business units need to prove, both after initial implementation and in case of changes to policies, that requirements are met in local documentation, by showing in which local documents each requirement is written down. This evidence will be stored by Group ORM. Deviations from this policy should be approved via the monthly Group Credit Committee or Non-financial Risk Committee.

Key controls related to policies are defined in our Risk Control Self Assessment (RCSA), based on the standardised process as described in the Corporate Lending Handbook. The key controls contain a risk-based subset of the requirements. The first line is responsible for enacting the key controls within its processes. Periodically, within the regular operational risk mangement cycle, key controls will be tested for their operational effectiveness by the first line. At the local level, management information dashboards are in place to monitor the risks on a continuous basis. Internal Audit performs audits on the lending activities on a regular basis.

Loans are provided to businesses and projects that contribute to achieving Triodos Bank’s mission. Given that this involves a small number of sustainable sectors, a certain level of sector concentration is inherent to the loan portfolio. Concentration in the existing sectors is acceptable as Triodos Bank has considerable expertise in these sectors and actively invests in further increasing its knowledge.

Triodos Bank focuses primarily on the quality and diversification of its loan portfolio. Triodos Bank puts extra effort into identifying loans to front-runners with a track record in their fields; the entrepreneurs developing the sustainable industries of the future.

A diversified credit risk portfolio is the result of assets spread over many debtors, sectors and geographies that are not inter- or intra-related. In order to manage concentration risks and face an economic downturn with confidence, Triodos Bank maintains a set of concentration limits. The limits are based on the bank’s capital base and reflect the risk appetite.

Triodos Bank measures and limits the following concentration risks in its lending activities:

• Obligor exposures

• Group exposures

• Top 20 exposures excluding (sub-)Government exposures

• Government exposures

• Sector exposures

• Non bank financial intermediation (shadow banking) exposures

• Mortgage exposures

• Country exposures

Besides lending activities, Triodos Bank has established limits related to the investment portfolio:

• Maximum exposure on government and sub-governments

• Maximum exposure on supranational institutions

• Maximum exposure on banks and financial institutions

Sector concentrations

Triodos Bank is active in well-defined sectors where it has extensive expertise, and which are in line with its mission. It has set limits on sectors, based on Actual Own Funds, at Group and banking entity level. Sector studies have shown relatively low correlations of risk drivers in sectors that Triodos Bank finances in multiple countries. A specification of the lending by sector can be found from page Lending by Sector onwards.

At Group level, Triodos Bank divides the sector concentration limits in different levels. Specific limits for each sector per country are set by the Executive Board within these levels, taking into account the specific risks of each sector and country.

Larger sectors are strategic for Triodos Bank. These are well distributed across banking business units (and countries) and have an overall low risk profile that justifies a higher consolidated concentration. Sector analyses are performed on an annual basis and are presented to the Central Credit Committee to be able to respond swiftly to developments that may affect the risk profile of the portfolio. Group Credit Risk can request sector updates at shorter intervals if there is a change to a sector risk profile.

Sector limits are approved on the basis of thorough annual sector analyses demonstrating an in-depth knowledge of the sector and Triodos Bank’s track record.

Country concentrations

Triodos Bank is a European bank, acting under the European Banking Directive since 1993, with banking business units in four countries (The Netherlands, Belgium, Spain and Germany), a subsidiary in the United Kingdom and additional exposures in, among others, France and Ireland.

Triodos Bank does not set any country limits for the countries it operates in as long as these countries have a credit rating of AA- or better. Specific limits are defined for countries with a credit rating of A+ or lower.

Liquidity not invested in loans to customers is invested in deposits with banks (including central banks) or bonds. Triodos Bank’s policy is to invest the liquidity in the countries where it has branches or subsidiaries. The bond portfolio of Triodos Bank comprises (local) government bonds (from countries where Triodos Bank has a branch or subsidiary) and investment-grade bonds issued by European supranational organisations (e.g. European Investment Bank), financial institutions and corporates.

There are no regulatory restrictions to exposures on governments. Triodos Bank sets limits based on the country risk.

There are also no regulatory restrictions to exposures on multilateral development banks where the institution has a credit risk weight of 0% for regulatory capital requirements. Triodos Bank has set limits to avoid concentration risk in these exposures.

Banks are selected according to their creditworthiness and screened on their sustainability performance. Exceptions can occur, when the capacity of selected banks in a country is not considered sufficient to place Triodos Bank’s liquidities given a specific maximum concentration per individual bank. In such cases, deposit maturity periods will not exceed three months. All counterparty limits for banks are set by either the Executive Board or the Central Credit Committee. Banking business units place excess liquidity with the country’s central banks (minimum reserve requirements and deposit facility). There are no regulatory restrictions on exposures to central banks.

The Capital Requirements Regulation large exposures regime limits the maximum exposure to a bank at 25% of its Tier 1 capital plus (if available) Tier 2 with a maximum of one third of Tier 1 capital. To avoid the interbank exposure exceeding the regulatory maximum, Triodos Bank applies a maximum exposure below the limit defined by the large exposures regime. Limits are further adapted according to the external rating of the counterparty. Deposits on banks are limited to a maximum maturity of one year.

Triodos Bank has exposure to credit risk resulting from outstanding foreign exchange (FX) contracts (spot, forward and swap transactions) with financial institutions and with funds managed by Triodos Investment Management. Triodos Bank serviced these funds by providing hedges for the FX risk of these funds’ investments. Triodos Bank does not enter into new FX deals with Triodos Investment Funds because of new regulation, current derivative contracts will not be renewed after maturity.

Triodos Bank has limited exposure to credit risk resulting from outstanding interest rate swaps (IRS). The IRS are all centrally cleared with the LCH Clearnet. Daily margining minimises the (potential) credit risks.

A limit is set per counterparty based on the expected amount of outstanding FX transactions and the corresponding expected exposure. This limit is subject to the overall counterparty limit Triodos Bank has per counterparty.

Any collateral needed for FX transactions is calculated and managed daily. In the liquidity stress tests, the amount of collateral needed for FX transactions is stressed to calculate the potential impact on Triodos Bank’s liquidity position.

Business loans in the portfolio are periodically reviewed on an individual basis. Their frequency depends on the debtor’s creditworthiness, the degree of market exposure and the market in which the debtor operates. Small business and private loans are reviewed at portfolio level, and on an individual basis when appropriate.

Each business unit has a credit risk team headed by a Head of Credit Risk. The teams comprise credit risk analysts and special asset managers. They have a functional reporting line to the Group Head of Credit Risk at Head Office. At Group level a dedicated team is in place with credit analysts, data analysts and special asset management specialists.

The credit committees discuss and, if necessary, take action with respect to overdue payments from debtors. If there is any doubt regarding the continuity of the debtor’s core operations and/or a debtor fails to settle agreed interest and repayment instalments for a prolonged period, this debtor falls under the category of doubtful debtors and will be managed intensively.

Provisions for loan losses are taken for doubtful debtors at an individual level based on the difference between the total amount of the debtor’s outstanding liability to Triodos Bank and the future expected cash flows, discounted at the original effective interest rate of the contract. These individual provisions include provisions for concessions or refinancing given to debtors who face financial difficulties. They are only granted to the debtor in question in order to overcome their difficulties in these exceptional circumstances. These are described as forbearance measures.

The credit risk in the loan portfolio is reported each month to the Central Credit Committee, and quarterly to the Audit and Risk Committee as part of the Enterprise Risk Management report.

In addition to our check on minimum standards, external credit ratings – if available – are used to determine the creditworthiness of the counterparties of our investment portfolio, including banks, and some corporates. External ratings are also used to calculate the minimum capital requirement for credit risk under the standardised approach. For this purpose, we use the ratings of Fitch and Moody’s.

Credit quality analysis

The following tables set out information about the credit quality of financial assets, loan commitments and guarantee contracts. Unless specifically indicated, for financial assets, the amounts in the table represent gross carrying amounts. For loan commitments and financial guarantee contracts, the amounts in the table represent the amounts committed or guaranteed, respectively.

The following table shows the loans and advances to banks at amortised cost, which are all in stage 1.

Triodos Bank applies ratings to its loans and advances to customers based on its credit risk policy. Within the policy clients with total business loans above EUR 250,000 are rated. Clients with retail mortgage loans and or total business loans below EUR 250,000 have no rating appointed. These are represented in the not rated category. The below table shows the loans and advances to customers within the rating categories.

The following table sets out information about the overdue status of loans and advances to customers in Stages 1, 2 and 3.

All debt securities at amortised cost are within stage 1 The below table sets out the debt securities per rating.

Loan commitments are not (yet) rated and the ECL is determined based on the business loans and mortgage loans portfolios. The outcome is presented in the table below.

All financial guarantee contracts are within stage 1 as shown in the table below.

Collateral held and other credit enhancements

Triodos Bank can hold collateral and other credit enhancements against certain of its credit exposures. The following table sets out the principal types of collateral held against different types of financial assets.

The following table stratifies credit exposures from mortgage loans and advances to retail customers by ranges of loan-to-value (LTV) ratio. LTV is calculated as the ratio of the gross amount of the loan – or the amount committed for loan commitments – to the value of the collateral. The valuation of the collateral excludes any adjustments for obtaining and selling the collateral. The value of the collateral for residential mortgage loans is based on the collateral value at origination updated according to changes in house price indices. For credit-impaired loans the value of collateral is based on the most recent appraisals.

Details of financial and non-financial assets obtained during the year by taking possession of collateral held as security against loans and advances and held at the year end are shown below.

Triodos Bank sometimes repossesses assets which come from acquisition in public auctions. These assets are collaterals of an executed loan. A part of the repossessed assets however will not be sold immediately because Triodos Bank has opted to add value by letting these assets; these are therefore presented as investment properties.

Allowance for expected credit losses

The following tables show reconciliations from the opening to the closing balance of the allowance for expected credit losses by class of financial instrument.

Triodos Bank uses three stages to classify the expected credit loss (ECL) for financial instruments. The ECL for stages 1 and 2 is determined by the probability of default (PD), the loss given default (LGD) and the exposure at default (EAD) per exposure, which are determined with the use of a model that includes several drivers. These drivers can be client-specific or based on macro-economic scenarios.

• Stage 1 includes the financial instruments that have (close to) similar credit risk since origination. For this category ECL is determined based on the PD, LGD, and EAD over the 12 months after balance sheet date.

• Stage 2 includes the financial instruments which have had a significant increase in credit risk since origination. The ECL for stage 2 is determined based on the PD, LGD, and EAD over the entire lifetime of the financial instrument.

• Stage 3 includes the financial instruments which are in default. The ECL for this stage is also determined over the entire lifetime, considering default-specific scenarios.

The ECL provision represents an estimate of the expected credit loss over the current portfolio. The future development of the underlying parameters can influence this estimate positively (or negatively) leading to a decrease (or increase) of expected credit losses in future periods. If economic growth is expected to develop positively in future periods, fewer defaults are expected. This will have a positive effect on the ECL and result in lower ECL provision for stage 1 and 2.

Newly originated financial instruments are initially included in stage 1. Changes in ratings of clients may trigger re-classification in different stages. When a rating declines significantly, the loan is transferred from stage 1 to stage 2. If the decline persists and the loan goes into default, it is moved into stage 3. Unfortunately, the default may be cured, causing credit ratings to go up, in which case the loan can be transferred back to stage 2 or stage 1.

When the drivers of the PD and LGD are changed, the ECL amounts per financial instrument are recalculated. This is captured in the net remeasurement of allowance for expected credit losses. The net remeasurement can be broken down into multiple parameters that influence the PD and LGD:

1. Remeasurement in calculated ECL of individual loans which have transferred between stage 1 and stage 2.

2. Changes in forward-looking macro-economic scenarios.

3. Changes in individual loan or advance behaviour such as changes in rating not triggering stage transfer or loan amount due to repayment.

The total expected credit loss allowances can be broken down as follows:

The following tables present the movements of these ECL allowances per financial instrument.

The first table shows the movement in ECL allowance for loans and advances to banks at amortised cost. There have been no rating changes for banks, and no change in credit risk, from issuance of current outstanding balance. As a result, everything remains within stage 1.

The following table shows the movements within the ECL for business loans and current accounts. The allowance for expected credit losses in this table includes ECL on off-balance sheet loan commitments for certain retail products such as credit cards and overdrafts, because Triodos Bank determines the ECL per exposure, including any loan commitment component.

The following table shows the movements within the ECL for mortgage loans.

For the movements within the ECL for business loans, current accounts, and mortgages together, refer to note 3 Loans and advances to customers.

The following table shows the movements within the ECL for debt securities at amortised cost.

The following table shows the movements within the ECL for financial guarantees.

Loan commitments issued result in issued loans when offers are signed or when commitments are used. The following table shows the movements within the ECL for loan commitments.

Allowance for expected credit losses reconciliation to income statement

The following table provides a reconciliation between:

• amounts shown in the above tables reconciling opening and closing balances of allowance for expected credit losses per class of financial instrument; and

• the ‘impairment losses on financial instruments’ line item in the consolidated statement of profit or loss and other comprehensive income, refer to 29 Impairment result on financial instruments.

Triodos Bank has an annual incurred loss rate of 0.06% (2020: 0.12%) The annual incurred loss rate is the ratio of stage-3 impairment losses over the average loan book.

Credit-impaired financial assets

The following table sets out a reconciliation of changes in the net carrying amount of credit- impaired loans and advances to customers.

Modified financial assets

The following table provides information on financial assets that were modified during the reporting period. The net modification loss comprises the modification result minus modification fees or penalty interest received.

Offsetting financial assets and financial liabilities

Triodos Bank does not make use of any netting under master agreements for its financial instruments.

The International Swaps and Derivatives Association (ISDA) and similar master netting arrangements do not meet the criteria for offsetting in the statement of financial position. This is because they create a right of set-off of recognised amounts that is enforceable only following an event of default, insolvency or bankruptcy of the Group or the counterparties or following other predetermined events. In addition, Triodos Bank and its counterparties do not intend to settle on a net basis or to realise the assets and settle the liabilities simultaneously.

Triodos Bank receives and gives collateral in the form of cash in respect of the derivatives held for risk management. This collateral is subject to standard industry terms including, when appropriate, an ISDA credit support annex. This means that securities received/given as collateral can be pledged or sold during the term of the transaction but have to be returned on maturity of the transaction. The terms also give each party the right to terminate the related transactions on the counterparty’s failure to post collateral.

The impact of potential collateral requirements is increasing at Triodos Bank. The amount pledged with central and commercial banks, for payment system purposes, increased in 2021 and is expected to increase with the further growth of Triodos Bank.

Collateral needs stemming from FX forwards increased in 2021 because of EUR/GBP exchange rate developments. At the end of 2021, a total net amount of EUR 13.5 million cash collateral was posted (2020: EUR 7.1 million).

Interest rate swaps which are centrally cleared, increased the potential collateral needs as well during the year. At the end of 2021 a total net amount of EUR 25.8 million cash collateral was posted (2020: EUR 12.6 million). The cash collateral posted as part of the ISDA agreement as mentioned above, is eligible for the counterparty in case of default.

Debt securities and loans are used as collateral with the Dutch Central Bank for a possible debit balance and participation in open market operations of the European Central Bank. At the end of 2021, Triodos Bank participated in two longer-term refinancing operations (TLTRO) for an amount of EUR 1,550 million. A collateral value of EUR 1,749 million was placed with the Dutch Central Bank (2020: EUR 878 million).