The following table shows the sensitivity of net interest income (pre-tax) by currency for those currencies where the Bank has material exposure.


T ABLE 52 SENSITIVITY OF PRE-TAX NET INTEREST INCOME SENSITIVITY BY CURRENCY (millions of Canadian dollars) Currency


Canadian dollar U.S. dollar


1


NIIS sensitivity has been measured using a 75 bps rate decline for Canadian interest rates for the year ended October 31, 2016, and a 75 bps rate decline for the year ended October 31, 2015, corresponding to an interest rate environment that is floored at 0%.


Managing Non-trading Foreign Exchange Risk Foreign exchange risk refers to losses that could result from changes in foreign-currency exchange rates. Assets and liabilities that are denominated in foreign currencies have foreign exchange risk. The Bank is exposed to non-trading foreign exchange risk primarily from its investments in foreign operations. When the Bank’s foreign currency assets are greater or less than its liabilities in that currency, they create a foreign currency open position. An adverse change in foreign exchange rates can impact the Bank’s reported net interest income and shareholders’ equity, and also its capital ratios. Minimizing the impact of an adverse foreign exchange rate change on reported equity will cause some variability in capital ratios, due to the amount of RWA denominated in a foreign currency. If the Canadian dollar weakens, the Canadian dollar equivalent of the Bank’s RWA in a foreign currency increases, thereby increasing the Bank’s capital requirement. For this reason, the foreign exchange risk arising from the Bank’s net investments in foreign operations is hedged to the point where capital ratios change by no more than an acceptable amount for a given change in foreign exchange rates.


Managing Investment Portfolios


The Bank manages a securities portfolio that is integrated into the overall asset and liability management process. The securities portfolio is managed using high quality low risk securities in a manner appropriate to the attainment of the following goals: (1) to generate a targeted credit of funds to deposits balances that are in excess of loan balances; (2) to provide a sufficient pool of liquid assets to meet unanticipated deposit and loan fluctuations and overall funds management objectives; (3) to provide eligible securities to meet collateral and cash management requirements; and (4) to manage the target interest rate risk profile of the balance sheet. Strategies for the investment portfolio are managed based on the interest rate environment, balance sheet mix, actual and anticipated loan demand, liquidity risk management objectives and regulatory requirements, funding opportunities, and the overall interest rate sensitivity of the Bank. The Risk Committee reviews and approves the Enterprise Investment Policy that sets out limits for the Bank’s investment portfolio.


2


100 bps increase


October 31, 2016 100 bps


decrease


$ 52 79


$ 131


$ (65)1 (58)2


$ (123)


100 bps increase


$ 235 110


$ 345


October 31, 2015 100 bps


decrease


$ (234)1 (38)2


$ (272)


NIIS sensitivity has been measured using a 50 bps rate decline for U.S. interest rates for the year ended October 31, 2016, and a 25 bps rate decline for the year ended October 31, 2015, corresponding to an interest rate environment that is floored at 0%.


WHY MARGINS ON AVERAGE EARNING ASSETS FLUCTUATE OVER TIME


As previously noted, the objective of the Bank’s approach to asset/ liability management is to ensure that earnings are stable and predictable over time, regardless of cash flow mismatches and the exercise of embedded options. This approach also creates margin certainty on fixed rate loans and deposits as they are booked. Despite this approach however, the margin on average earning assets is subject to change over time for the following reasons: • margins earned on new and renewing fixed-rate products relative to the margin previously earned on matured products will affect the overall portfolio margin;


• the weighted-average margin on average earning assets will shift as the mix of business changes; and


• changes in the basis between the Prime Rate and the Bankers’ Acceptance rate, or the Prime Rate and the London Interbank Offered Rate; and/or


• the lag in changing product prices in response to changes in wholesale rates.


The general level of interest rates will affect the return the Bank generates on its modeled maturity profile for core deposits and the investment profile for its net equity position as it evolves over time. The general level of interest rates is also a key driver of some modeled option exposures, and will affect the cost of hedging such exposures. The Bank’s approach tends to moderate the impact of these factors over time, resulting in a more stable and predictable earnings stream.


TD BANK GROUP ANNUAL REPORT 2016 MANAGEMENT’S DISCUSSION AND ANALYSIS


87


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