Interim Report - 14 of 26

Risk

Managing our risk profile

·; A strong balance sheet is core to our philosophy.

·; We ensured that our portfolios remain aligned to our risk appetite and strategy.

·; We actively managed our risks, supported by strong forward looking risk identification.

Maintaining capital strength and strong liquidity position

·; Our core tier 1 capital ratio remains strong at 10.8%.

·; We have sustained our strong liquidity position throughout the first half of 2011.

·; The ratio of customer advances to deposits remains below 80%.

Strong governance

·; Robust risk governance and accountability is embedded across the Group.

·; The Board, advised by the Group Risk Committee, approves our risk appetite.

·; A new global operating model has been developed and adopted for the Risk function.

Our top and emerging risks

·; Challenges to our business operations.

·; Challenges to our governance and internal control systems.

·; Macro-economic and geopolitical risk.

·; Macro-prudential and regulatory risks.

The continued growth in our business in the first half of 2011 was achieved while ensuring risks were assumed in a measured manner and in line with our risk appetite.

Balance sheet assets grew by 10% compared with the end of 2010, while our credit risk-weighted assets increased by 6% during the period.

During the first six months of 2011 financial markets were dominated by concerns over sovereign debt default risk and its contagion effects, Middle East turmoil, and the perception that the world economic recovery remained fragile. This created volatility in financial markets, and inflationary pressures affected emerging markets. Within an ever-changing economic and financial environment, we maintained our conservative risk profile by reducing exposure to the most likely areas of stress. Stress tests are run regularly to evaluate the potential impact of emerging scenarios. Where applicable and necessary we have adjusted our risk appetite.

We continued to manage selectively our exposure to sovereign debt, with the overall quality of the portfolio remaining strong. We regularly updated our assessment of higher risk countries and adjusted our risk appetite and exposures to reflect the updates.

The diversification of our lending portfolio across the regions, together with our broad range of customer groups and products, ensured that we were not overly dependent on a few countries or markets to generate income and growth. Our geographical diversification also supported our strategies for growth in faster-growing markets and those with international connectivity.

We continued to increase lending in all regions except North America. All regions experienced an improvement in loan impairment charges and other credit risk provisions as we reduced our portfolio risk and improved collections. On a constant currency basis, in the first half of 2011 our loan impairment charges and other credit risk provisions fell by 32% compared with the first half of 2010, to US$5.3bn. The US accounted for a significant proportion of the decline due to lower lending balances in the run-off Consumer Lending and Mortgage Services portfolios and in the Card and Retail Services portfolio, combined with lower delinquencies.

Capital and liquidity

Preserving our strong capital position has long been, and will remain, a key priority for HSBC. We are well equipped to respond to the capital requirements imposed by Basel III, which are discussed further on page 162, and to sustain future growth. We utilise an enterprise-wide approach to testing the sensitivities of our capital plans against a number of scenarios; our approach to scenario stress testing analysis is discussed on page 148.

We continue to maintain a very strong liquidity position and are well positioned for the emerging new regulatory landscape.

The top and emerging risks identified through our risk management processes and outlined on page 9 give rise to challenges and uncertainties as we carry out our activities. These are considered in further detail below.

Challenges to our business operations

Economic volatility heightens the degree of operational risk that we face.

We are exposed to many types of operational risk, including fraudulent and criminal activities, in particular a growing threat from internet crime. We also face breakdowns in processes or procedures and systems failure or unavailability and are subject to the risk of disruption to our business arising from events that are wholly or partially beyond our control such as natural disasters, acts of terrorism, epidemics and transport or utility failures. These may give rise to losses in service to customers and/or economic loss to HSBC. All of these risks also apply when we rely on external suppliers or vendors to provide services to us and our customers.

Challenges to our governance and internal control systems

The global financial services industry is facing several changes which increase the complexity of carrying out business.

The reliability and security of our information and technology infrastructure and customer databases and their ability, for example, to combat internet fraud are crucial to maintaining our banking applications and processes and to protecting the HSBC brand. Critical system failure, any prolonged loss of service availability or any material breach of data security, particularly involving confidential customer data, could cause serious damage to our ability to serve our clients, breach regulations under which we operate and cause long-term damage to our business and brand. Information security and the management of an increasingly complex operating infrastructure remain two of the key emerging operational risks that we face.

Macro-economic and geopolitical

Prevailing economic and market conditions may adversely affect our results

Our earnings are affected by global and local economic and market conditions. Following the problems experienced in financial markets in 2007‑8, concerted government action paved the way for a general improvement in the economic environment, though recovery was variable between regions. The peripheral eurozone economies came under increasing pressure in the first half of 2011, the dominant concern being over the sustainability of their sovereign debt. In the US, the large budget deficit, growing government indebtedness and failure to increase the Federal debt ceiling are generating concerns about the impact this will have on the US, the global economy and the financial services sector.

With unemployment remaining high and consumer confidence weak in developed markets, and amid signs of inflationary pressures in emerging markets, economic conditions remain fragile and volatile. Most emerging markets are growing rapidly but sluggish global demand and efficient monetary tightening should help in controlling imbalances. Moreover, domestic demand in many major emerging markets grew strongly, contributing to an output gap and reducing the risk of overheating. The global economy will remain volatile and subject to shocks and this could have an adverse effect on our results. In particular, we may face the following challenges to our operations and operating model in connection with these events:

·; the demand for borrowing from creditworthy customers may diminish if economic activity slows or remains subdued;

·; the elevated risk of overheating economies in emerging markets in recent years is giving rise to concerns that asset and credit bubbles may be created, leading to volatility and losses;

·; European banks may come under stress if the sovereign debt crisis in the region increases the need to recapitalise parts of the sector;

·; trade and capital flows may contract as a result of protectionist measures being introduced in certain markets or on the emergence of geopolitical risks;

·; a prolonged period of modest interest rates will constrain, for example, through margin compression and low returns on assets, the interest income we earn on our excess deposits;

·; our ability to borrow from other financial institutions or to engage in funding transactions may be adversely affected by market disruption, for example in the event of contagion from stress in the eurozone sovereign and financial sectors; and

·; market developments may depress consumer and business confidence. If growth in the US or the UK remains subdued, for example, asset prices and payment patterns may be adversely affected, leading to increases in delinquencies and default rates, write-offs and loan impairment charges beyond our expectations.

We are subject to political and economic risks in the countries in which we operate

We continue to manage carefully our response to the aftermath of the financial crisis, events in the Middle East and the sovereign debt problems within the eurozone. During the first half of the year, we also played a positive role in maintaining credit and liquidity supply.

As an organisation which operates in 87 countries and territories, however, our results are subject to the risk of loss from unfavourable political developments, currency fluctuations, social instability and changes in government policies on such matters as expropriation, authorisations, international ownership, interest-rate caps, foreign exchange transferability and tax in the jurisdictions in which we operate.

The ability of our subsidiaries and affiliates to pay dividends could be restricted by changes in official banking measures, exchange controls and other requirements. We present our consolidated financial statements in US dollars but, because a portion of our assets, liabilities, revenues and expenses are denominated in other currencies, changes in foreign exchange rates affect our reported income, cash flows and shareholders' equity.

Macro-prudential and regulatory

We face a number of challenges in regulation and supervision

Financial services providers face increasingly stringent and costly regulatory and supervisory requirements, particularly in the areas of capital and liquidity management, the conduct of business, the structure of our operations and the integrity of financial services delivery. Increased government intervention and control over financial institutions, together with measures to reduce systemic risk, may significantly alter the competitive landscape. These measures may be introduced as formal requirements in a super-equivalent manner and to differing timetables across regulatory regimes. This may result in Group and some of our operating entities in effect having to implement requirements ahead of some of its international peers and be potentially placed at a competitive disadvantage as a result.

In relation to capital management the FSA supervises HSBC on a consolidated basis, as well as HSBC Bank directly. This is explained on page 158.

Prudential measures aimed at increasing resilience in the financial system

In July 2011, the European Commission published proposals to implement the Basel III capital and liquidity standards within Europe. The proposals which consist of a new Regulation and a Directive, collectively known as 'CRD IV', will incorporate the current Capital Requirements Directive including changes already introduced to increase weightings risk for the trading book and for re‑securitisations (due to take effect from 31 December 2011), and new risk‑based remuneration rules. The measures are subject to agreement by EU member state governments and the European Parliament, a process that could take 12-18 months.

New elements of CRD IV include:

·; Quality of capital: a further strengthening and harmonisation of the criteria for eligibility of capital instruments with an emphasis on common equity as the principal component of tier 1 capital, a minimum common equity requirement of 4.5% and increased deductions from shareholders' equity to determine the level of regulatory capital. The new minimum requirements for common equity tier 1 and tier 1 capital are to be implemented gradually between 2013 and 2015. The new prudential adjustments are also to be introduced gradually, at a rate of 20% per annum from 2014, reaching 100% in 2018, with grandfathering of certain capital instruments over a 10-year period.

·; Capital buffers: proposals comprise a capital conservation buffer of 2.5% of risk-weighted assets to be built up during periods of economic growth, aimed at ensuring the capacity to absorb losses in stressed periods that may span a number of years; and a countercyclical capital buffer of up to an additional 2.5% to be built up in periods in which credit growth exceeds GDP growth. Capital buffers would be composed of tier 1 common equity. Banks whose capital falls below the buffers would be subject to restrictions on the distribution of profits, payments on non-equity capital instruments and the award of variable remuneration and discretionary pension benefits. It is not yet clear how these buffers may operate in practice and there is some doubt whether either supervisors or the market would support the release of a buffer as the economic cycle turns.

·; Counterparty credit risk: requirements for managing and capitalising counterparty credit risk are to be strengthened, with an additional capital charge for potential losses associated with the deterioration in the creditworthiness of individual counterparties.

·; Leverage: the Commission proposes to introduce a non-risk based leverage ratio, not as a binding prudential requirement but as an instrument for supervisory review (pillar 2). The implications of this ratio will be monitored prior to it potentially becoming a directly applicable prudential (pillar 1) requirement from 2018.

·; Liquidity and funding: a new minimum standard, the liquidity coverage ratio, designed to improve the short-term resilience of a bank's liquidity risk profile, will be introduced after an observation and review period in 2015. To address funding problems arising from asset-liability maturity mismatches, the European Commission will consider proposing a net stable funding ratio after an observation and review period in 2018.

·; Single rule book: the proposal harmonises divergent national supervisory approaches by removing options and discretions.

·; Enhanced governance: new rules aim to increase the effectiveness of risk oversight by boards, improve the status of the risk management function and ensure effective monitoring by supervisors of risk governance.

·; Sanctions: supervisors will be able to apply sanctions where prudential requirements are breached, such as imposing administrative fines of up to 10% of a bank's annual turnover, or temporary bans on members of a bank's management committee.

·; Enhanced supervision: supervisors will be required to ensure the annual preparation of a supervisory programme for each supervised bank on the basis of a risk assessment; greater and more systematic use of on-site supervisory examinations; more robust standards; and more intrusive and forward-looking supervisory assessments.

The Financial Stability Board and the Basel Committee are currently consulting on an approach to define Global Systemically Important Financial Institutions ('G-SIFI's), introduce more rigorous oversight and co-ordinated assessment of their risks through international supervisory colleges, provide for higher levels of capital and liquidity resilience, and require mandatory recovery and resolution plans with institution-specific crisis co-operation agreements between cross-border crisis management groups. Final recommendations will be submitted to the G20 group of countries in November 2011.

The European Commission is expected to introduce legislative proposals before the end of 2011 which will establish a cross-border crisis management framework encompassing recovery and resolution planning; early intervention tools; resolution tools including bridge banks, asset transfers and bail-in; resolution funds; and the conditions under which resolution will be applied.

A strong capital position has long been, and will remain, a key priority for HSBC.

Other measures

·; Taxation of the financial sector: the European Commission is actively considering specific taxes for the financial sector following a consultation in the first three months of 2011.

·; Bank levy: legislation in respect of the UK bank levy was substantively enacted on 5 July 2011, after the balance sheet date. We estimate that the cost of the UK bank levy will be approximately US$600m for the full year 2011. No charge for the UK bank levy has been recognised in the first half of 2011. Other countries, including France, Germany and South Korea have also introduced bank levies. These do not have the same global basis as the UK bank levy and do not have a material impact on the Group at present.

·; Deposit Guarantee Schemes Directive: new EU rules, currently in negotiation, propose that deposit guarantee schemes will be required to pre-fund a percentage of covered deposits after a transitional period of 15 years. The final agreed level of pre-funding is likely to be in the 0.5-1.5% range.

·; The 'Volcker Rule': the rulemaking to implement those provisions of the Dodd-Frank Act limiting the ability of banking organisations with operations in the US to sponsor or invest in private equity or hedge funds and engage in certain types of 'proprietary trading' in the US, is ongoing. It is expected that there will be a number of exceptions allowing an entity significant leeway to engage in client-serving trading, such as market-making and underwriting, and risk-mitigating hedging activities.

·; Derivatives and central counterparties regulation:Measures have been introduced to give effect to the G20 commitments designed to reduce systemic risk and volatility relating to derivatives trading. The G20 agreed that all standardised over-the-counter ('OTC') derivatives were to be exchange traded where appropriate, reported to trade repositories and centrally cleared by the end of 2012. Higher capital requirements (under Basel III) will be imposed for bilateral (uncleared) transactions to incentivise use of clearing. In the US, rulemaking by the authorities is underway to implement the Dodd-Frank Act. The Act provides an extensive regulatory framework for OTC derivatives in addition to the mandatory clearing, exchange trading and reporting of certain swaps and security-based swaps. On 14 June 2011, the Commodity Futures Trading Commission unanimously voted to delay aspects of the Act that were scheduled to take effect on 16 July 2011 until as late as 31 December 2011. These include defining a swap trade, clearing exemptions for companies that use swaps to hedge everyday business risks, real-time reporting of derivatives trades, and capital and margin requirements for trades. The EU Commission proposals on central clearing and reporting of OTC derivatives launched in September 2010 are currently under negotiation. Exemptions for foreign exchange swaps and forwards have been proposed in the US and are currently being considered in the EU.

·; Retail Distribution Review: In 2006, the FSA initiated a fundamental review of how retail investment products are distributed in the market. In March 2010, it published rules with which firms must comply by January 2013. The rules introduce a system of 'adviser charging', requiring firms providing investment advice to set their own charges and to agree them with customers. They also ban product providers from offering commission.

·; Markets in financial instruments: the European Commission has conducted a major review of the Markets in Financial Instruments Directive and formal legislative proposals are expected during 2011. These potentially extend its scope beyond equities to other asset classes including bonds, exchange-traded funds and other equity-like and non-equity instruments, and promotes their trading on exchanges and other markets that will be subject to regulation. It also proposes giving additional powers to regulators to ban trading in products that are eligible to be cleared but for which no clearing arrangements are currently available.

·; The UK Independent Commission on Banking ('ICB') published its Interim Report on 11 April 2011. The Commission's reform proposals could have wide ranging implications for the structure of the UK banking industry. In particular, the Commission is considering, inter alia, whether a separation of the retail and investment banking operations, through the creation of a ring-fenced retail bank, could make banks more stable. The Commission is further considering whether the ring-fenced retail bank should be required to have a ratio of, at least, 10% equity capital to risk-weighted assets calculated under the Basel III agreement, together with a level of loss-absorbent (bail‑inable) debt. Were separation required, given the current legal frameworks, it is most likely that the ring-fenced retail bank would be spun-out from the existing UK incorporated universal bank.

We maintain that HSBC's existing model of universal banking, protected by geographic 'ring-fencing' through subsidiarisation, is already achieving the main goals pursued by the ICB. However, while the Commission will not publish its final recommendations until September 2011, there is a strong possibility that it could recommend changes to the UK banking sector which may require us to make major changes to HSBC's corporate structure and business activities conducted in the UK through our major banking subsidiary, HSBC Bank plc. These changes would take an extended period to implement with a significant impact on costs to both implement the changes and run the ongoing operations as restructured. The nature, impact and timing of any such changes remains unclear, as is the effect of changes on the ratings afforded to the debt of HSBC Bank plc, which would be the most affected subsidiary.

The Chancellor of the Exchequer has indicated that the UK Government endorses in principle the proposals for bail-inable debt and the ring‑fencing of retail banking operations, but the Government is not bound to adopt the Commission's recommendations.

·; Accounting standards: in working towards convergence to a single set of high-quality, global, independent accounting standards, the IASB has issued five significant new and revised accounting standards in 2011 and is continuing to work on projects on financial instruments, insurance, leasing and revenue recognition. The new and revised accounting standards, including IFRS 9 on the classification and measurement of financial instruments, are yet to be endorsed by the EU. These standards represent substantial accounting changes which will require implementation from 2013 and over which there remains uncertainty about the content and timing of the final requirements as well as EU endorsement. In the event of non-endorsement by the EU, this would result in additional reporting costs in order to produce two sets of financial statements in order to meet SEC requirements to comply with IFRSs as issued by the IASB and UK legal requirements to comply with EU-endorsed IFRSs.

Implementation risks

Both the current regulatory environment and the extensive programme of regulatory change carry significant implementation risks for authorities and industry participants alike, including:

·; disparities in implementation: many official measures are proposals in development and negotiation, and have yet to be enacted into regional and national legislation. Linked to this, some regulators are adopting or considering changes in applying existing rules relating to capital requirements. These processes could result in differing, fragmented and overlapping implementation around the world, leading to risks of regulatory arbitrage, a far from level competitive playing-field and increased compliance costs (including the risks of disparate capital requirements and differences in timing for new measures or changes), especially for global financial institutions such as HSBC. This could also affect our business model and profitability.

·; timetable and market expectations: while the Basel Committee has announced the timetable for its core proposals in Basel III, it remains uncertain how these and other measures will play out in practice, for instance with regard to differences in approach between Basel III and the Dodd-Frank Act in the US. Meanwhile, market expectations will exert pressure on institutions to assess and effect compliance well in advance of official timetables.

·; wider economic impact and unforeseen consequences: while the conclusions of official and industry studies have diverged, the measures proposed and other changes that may be made will clearly impact on financial and economic activity in ways that cannot yet be clearly foreseen. For example, higher capital requirements may seriously restrict the availability of funds for lending to support economic recovery.

Credit risk is the risk of financial loss if a customer or counterparty fails to meet a payment obligation under a contract. It arises principally from direct lending, trade finance and leasing business, but also from off-balance sheet products such as guarantees and derivatives, and from the Group's holdings of debt and other securities. Credit risk generates the largest regulatory capital requirement of the risks we incur.

There have been no material changes to our policies and practices for the management of credit risk as described in the Annual Report and Accounts 2010.

Credit risk in the first half of 2011

Exposure, impairment allowances and charges

Loss experience

In the first half of 2011, the Group increased its maximum exposure to credit risk, mainly from growth in gross loans and advances to customers and a rise in trading assets. Gross loans and advances increased by 8% from 31 December 2010, mainly in corporate and commercial lending, reflecting continued growth in trade and business activity in Asia.

On a constant currency basis, corporate and commercial lending increased by 7% from 31 December 2010 to US$491bn and was the Group's largest lending category at 47% of gross loans and advances to customers. Despite this strong growth, loan impairment charges in CMB and GB&M declined compared with the first half of 2010.

On a constant currency basis, the Group's personal lending was US$439bn at 30 June 2011, reflecting a small increase compared with 31 December 2010 as growth in mortgage lending, particularly in the UK and Hong Kong, where lending remained well secured, was partly offset by the continued run-off of the Consumer Lending and Mortgage Services portfolios in the US. Personal lending balances in the US declined by 7% from 31 December 2010 to US$102bn as balances in our run-off portfolios continued to diminish, although in the first half the rate of reduction was adversely affected by the temporary suspension of foreclosure activity.

In the first half of 2011 the eurozone demonstrated signs of economic recovery, though there were regular periods of significant market volatility related to a number of sovereigns, notably Greece, Ireland, Portugal, Italy and Spain. We continued to closely monitor our exposure to sovereign debt during the first half of 2011. At 30 June 2011, our on-balance sheet exposure to the sovereign and agency debt of Greece, Ireland, Portugal, Italy and Spain was US$8.2bn. During the first half of 2011, an impairment charge of US$105m was recognised in respect of Greek sovereign and agency exposures classified as available for sale.

Overall credit quality improved during the first half of 2011. Loan impairment charges and other credit risk provisions were US$5.3bn, 32% lower than in the first half of 2010, with 65% of the overall decline attributable to RBWM in North America. In addition, both loan impairment allowances and impaired loans declined at 30 June 2011 compared with the end of 2010, mainly reflecting the continued run-off of the Consumer Lending and Mortgage Services portfolios and the reduction in balances in the Card and Retail Services portfolios.

For securitisation exposures and structured products the financial impact of the recent market disruption remained modest with net write-downs to the income statement of US$0.2bn (first half of 2010: US$0.1bn net write-backs) and a reduction in the available-for-sale ABSs reserve deficit of US$1.6bn to US$4.8bn.

Credit exposure

Maximum exposure to credit risk

Our credit exposure is spread across a broad range of asset classes, including derivatives, trading assets, loans and advances to customers, loans and advances to banks and financial investments. In the first half of 2011, our exposure to credit risk remained well diversified across asset classes. While we increased our overall exposure to credit risk in the period, the balance of exposure has remained broadly stable.

Our exposure to corporate and commercial lending also increased, mainly in Asia reflecting strong growth in trade and business activity. Exposure to personal lending remained significant as we grew mortgage lending balances, notably in the UK and Hong Kong where our portfolios are well secured. This growth partly offset the decline in the US reflecting the continued run-off of selected portfolios. For further commentary on personal lending, see 'Areas of special interest - personal lending' on page 101.

In the first half of 2011, we increased our exposure to trading assets. Our holdings of debt securities rose reflecting our role as primary market‑maker, as well as increased customer demand for government and government agency debt securities. In addition, settlement accounts, which vary in proportion to levels of trading activity, grew significantly, while our reverse repo exposure also rose reflecting increased client trading and the development of repo products.

Loss experience continued to be concentrated in the personal lending portfolios, with some 81% of our loan impairment charges and other credit risk provisions reported in RBWM, the majority of which related to US personal lending.

The table on page 92 presents the maximum exposure to credit risk from balance sheet and off‑balance sheet financial instruments, before taking account of any collateral held or other credit enhancements (unless such credit enhancements meet accounting offsetting requirements). For financial assets recognised on the balance sheet, the maximum exposure to credit risk equals their carrying amount; for financial guarantees and similar contracts granted, it is the maximum amount that we would have to pay if the guarantees were called upon. For loan commitments and other credit-related commitments that are irrevocable over the life of the respective facilities, it is generally the full amount of the committed facilities.

Collateral and other credit enhancements

The nature of collateral held against financial instruments presented in the 'Maximum exposure to credit risk' table on page 92 is described in the Appendix to Risk on page 149.

Offsets

Loans and advances

The loans and advances offset adjustment in the table on page 92 primarily relates to customer loans and deposits, and balances arising from repo and reverse repo transactions. The offset relates to balances where there is a legally enforceable right of offset in the event of counterparty default and where, as a result, there is a net exposure for credit risk management purposes. However, as there is no intention to settle these balances on a net basis under normal circumstances, they do not qualify for net presentation for accounting purposes.

Derivatives

The derivative offset amount in the table overleaf relates to exposures where the counterparty has an offsetting derivative exposure with HSBC, a master netting arrangement is in place and the credit risk exposure is managed on a net basis, or the position is specifically collateralised, normally in the form of cash. At 30 June 2011, the total amount of such offsets was US$208.5bn (30 June 2010: US$219.2bn; 31 December 2010: US$197.5bn), of which US$188.2bn (30 June 2010: US$198.5bn; 31 December 2010: US$178.3bn) were offsets under a master netting arrangement, US$20.1bn (30 June 2010: US$20.5bn; 31 December 2010: US$19.0bn) was collateral received in cash and US$0.2bn (30 June 2010: US$0.2bn; 31 December 2010: US$0.2bn) was other collateral. These amounts do not qualify for net presentation for accounting purposes, as settlement may not actually be made on a net basis.

Concentration of exposure

Concentrations of credit risk are described in the Appendix to Risk on page 149.

Securities held for trading

Total securities held for trading within trading assets were US$269bn at 30 June 2011 (30 June 2010: US$244bn; 31 December 2010: US$235bn). The largest concentration of these assets was to government and government agency securities. A detailed analysis of securities held for trading is set out in Note 7 on the Financial Statements and an analysis of credit quality is provided on page 111.

Debt securities, treasury and other eligible bills

Our holdings of corporate debt, ABSs and other securities were spread across a wide range of issuers and geographical regions, with 24% invested in securities issued by banks and other financial institutions. A more detailed analysis of financial investments is set out in Note 13 on the Financial Statements and an analysis by credit quality is provided on page 111.

At 30 June 2011, our insurance businesses held diversified portfolios of debt and equity securities designated at fair value of US$31bn (30 June 2010: US$23bn; 31 December 2010: US$28bn) and debt securities classified as financial investments of US$42bn (30 June 2010: US$36bn; 31 December 2010: US$38bn). A more detailed analysis of securities held by the insurance businesses is set out on page 142.

Derivatives

On a reported basis, derivative assets at 30 June 2011 were US$261bn, in line with 31 December 2010. Our single largest exposure was to interest rate derivatives, and this balance was largely unchanged compared with the end of 2010, as a small increase in gross exposure, driven by an increased notional value of outstanding contracts, was offset by higher netting from increased trading with clearing houses.

Loans and advances

On a reported basis, gross loans and advances to customers (excluding the financial sector) at 30 June 2011 increased by US$60bn or 7% from 31 December 2010. On a constant currency basis the increase was 4%. The rise was primarily due to strong growth in Asia and Europe.

Summary of gross loans and advances to customers

The following commentary is on a constant currency basis:

Personal lending of US$439bn in the first half of 2011 was slightly higher than at 31 December 2010 as growth in residential mortgage lending was substantially offset by lower other personal lending balances. Personal lending represented 42% of our total lending to customers. At US$282bn, residential mortgage lending constituted the Group's largest concentration in a single exposure type, the most significant balances being in the UK, the US and Hong Kong.

Corporate and commercial lending was 47% of gross lending to customers at 30 June 2011, comprising our largest lending category. Commercial, industrial and international trade was the biggest portion of this category, increasing by 11% compared with 31 December 2010 as business and trade activity, particularly in Asia, grew. Commercial real estate lending, which represented 7% of total gross lending to customers, was broadly in line with 31 December 2010.

Maximum exposure to credit risk

For footnote, see page 146.

In the financial category, our largest exposure was to non-bank financial institutions which increased by 13% to US$118bn; this mainly comprised secured lending on trading accounts, mainly reverse-repo facilities.

Loans and advances to banks were widely distributed across major institutions in the first half of 2011 and increased by 5% as placements with commercial and central banks rose, particularly in Hong Kong and Rest of Asia-Pacific.

The following tables analyse loans by industry sector and by the location of the principal operations of the lending subsidiary or, in the case of the operations of The Hongkong and Shanghai Banking Corporation, HSBC Bank, HSBC Bank Middle East and HSBC Bank USA, by the location of the lending branch.

Gross loans and advances by industry sector

For footnotes, see page 146.

Gross loans and advances to customers by industry sector and by geographical region