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16 Derivative financial instruments
The Group's approach to the management of financial risks is set out on in the financial risk section of these financial statements. The Group's outstanding derivative financial instruments are as follows:
| 2006 | |||
|---|---|---|---|
| All figures in £ millions | Gross notional amounts |
Assets | Liabilities |
| Interest rate derivatives – in a fair value hedge relationship | 953 | 20 | (17) |
| Interest rate derivatives – not in a hedge relationship | 1,026 | 9 | (2) |
| Cross currency rate derivatives – in a net investment hedge relationship | 230 | 40 | – |
| Cross currency rate derivatives – not in a hedge relationship | 180 | 17 | – |
| Total | 2,389 | 86 | (19) |
| Analysed as expiring: | |||
| In less than one year | 976 | 50 | – |
| Later than one year and not later than five years | 1,005 | 26 | (4) |
| Later than five years | 408 | 10 | (15) |
| Total | 2,389 | 86 | (19) |
| 2005 | |||
|---|---|---|---|
| All figures in £ millions | Gross notional amounts |
Assets | Liabilities |
| Interest rate derivatives – in a fair value hedge relationship | 1,109 | 31 | (16) |
| Interest rate derivatives – not in a hedge relationship | 1,330 | 18 | (6) |
| Cross currency rate derivatives – in a net investment hedge relationship | 230 | 13 | – |
| Cross currency rate derivatives – not in a hedge relationship | 180 | 21 | – |
| Total | 2,849 | 83 | (22) |
| Analysed as expiring: | |||
| In less than one year | 250 | 4 | – |
| Later than one year and not later than five years | 1,823 | 57 | (8) |
| Later than five years | 776 | 22 | (14) |
| Total | 2,849 | 83 | (22) |
The carrying value of the above derivative financial instruments equals their fair value. Fair values are determined by using market data and the use of established estimation techniques such as discounted cash flow and option valuation models.
At the end of 2006, the currency split of the mark-to-market values of rate derivatives, including the exchange of principal on cross currency rate derivatives, was US dollar £(247)m, euro £157m and sterling £157m (2005: US dollar £(269)m, euro £166m and sterling £164m).
The fixed interest rates on outstanding rate derivative contracts at the end of 2006 range from 3.02% to 7.00% (2005: 3.02% to 7.23%) and the floating rates are based on LIBOR in US dollar, sterling and euro (EURIBOR).
The Group's portfolio of rate derivatives is diversified by maturity, counterparty and type. Natural offsets between transactions within the portfolio and the designation of certain derivatives as hedges significantly reduce the risk of income statement volatility.
The following sensitivity analysis of derivative financial instruments to interest rate movements is based on the assumption of a 1% change in interest rates for all currencies and maturities, with all other variables held constant.
| 2006 | |||
|---|---|---|---|
| All figures in £ millions | Net carrying amount |
1% rate increase |
1% rate decrease |
| Interest rate derivatives – in a fair value hedge relationship | 3 | (28) | 31 |
| Interest rate derivatives – not in a hedge relationship | 7 | 1 | (1) |
| Cross currency rate derivatives – in a net investment hedge relationship | 40 | – | – |
| Cross currency rate derivatives – not in a hedge relationship | 17 | (1) | 1 |
| Total | 67 | (28) | 31 |
| Effect of fair value hedge accounting | – | 28 | (31) |
| Sensitivity after the application of hedge accounting | 67 | – | – |
Counterparty exposure from all derivatives is managed, together with that from deposits and bank account balances, within credit limits that reflect published credit ratings to ensure that there is no significant risk to any one counterparty. No single derivative transaction had a market value (positive or negative) at the balance sheet date that exceeded 3% of the Group's consolidated total equity.
At the year end the Group held an amount of £29m equivalent as collateral under a mark-to-market agreement. This reflected the amount, at market rates prevailing at the end of October 2006, owed to the Group by a counterparty for a set of three related rate derivatives.Under these derivatives the Group is due to exchange $209m for €204m at the beginning of February 2007, with the repayment of the €591m bond. There are no restrictions on the Group's use of these funds, which have been recorded in borrowings as a current bank loan.
In accordance with IAS 39 'Financial Instruments: Recognition and Measurement', the Group has reviewed all of its material contracts for embedded derivatives that are required to be separately accounted for if they do not meet certain requirements, and has concluded that there are no material embedded derivatives.