Basel Committee on Banking Supervision

Transcription

1 Basel Commttee on Banng Supervson The standardsed approach for measurng counterparty credt rs exposures March 014 (rev. Aprl 014)

2 Ths publcaton s avalable on the BIS webste ( Ban for Internatonal Settlements 014. All rghts reserved. Bref excerpts may be reproduced or translated provded the source s stated. ISBN (prnt) ISBN (onlne)

3 Contents I. Introducton... 1 A. Bacground... 1 B. Introducng the SA-CCR... 1 C. Scope of applcaton... D. Transtonal arrangements... 3 E. Examples... 3 II. Revsons to Part : The Frst Pllar; Secton II: Credt rs the standardsed approach... 3 III. Revsons to Part : The Frst Pllar; Annex 4 Treatment of Counterparty Credt Rs and Cross- Product Nettng... 4 IV. Other revsons to Basel III: A global regulatory framewor... 1 A. Abbrevatons... 1 B. Part 4: Thrd Pllar; Secton II Dsclosure requrements... 1 Annex 4a Applcaton of the SA-CCR to sample portfolos... Annex 4b Effect of standard margn agreements on the SA-CCR formulaton Annex 4c Flow chart of steps to calculate [nterest rate] add-on The standardsed approach for measurng counterparty credt rs exposures

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5 I. Introducton A. Bacground Ths document presents the Basel Commttee s formulaton for ts Standardsed Approach (SA-CCR) for measurng exposure at default (EAD) for counterparty credt rs (CCR). The SA-CCR wll replace both current non-nternal models approaches, the Current Exposure Method (CEM) and the Standardsed Method (SM). In formulatng the SA-CCR, the Basel Commttee s man obectves were to devse an approach that s sutable to be appled to a wde varety of dervatves transactons (margned and unmargned, as well as blateral and cleared); s capable of beng mplemented smply and easly; addresses nown defcences of the CEM and the SM; draws on prudental approaches already avalable n the Basel framewor; mnmses dscreton used by natonal authortes and bans; and mproves the rs senstvty of the captal framewor wthout creatng undue complexty. The CEM had been crtcsed for several lmtatons, n partcular that t dd not dfferentate between margned and unmargned transactons, that the supervsory add-on factor dd not suffcently capture the level of volatltes as observed over recent stress perods, and the recognton of nettng benefts was too smplstc and not reflectve of economcally meanngful relatonshps between dervatves postons. Although beng more rs-senstve than the CEM, the SM was also crtcsed for several weanesses. Le the CEM, t dd not dfferentate between margned and unmargned transactons or suffcently capture the level of volatltes observed over stress perods n the last fve years. In addton, the defnton of hedgng set led to operatonal complexty resultng n an nablty to mplement the SM, or mplementng t n nconsstent ways. Further, the relatonshp between current exposure and potental future exposure (PFE) was msrepresented n the SM because only current exposure or PFE was captalsed. Fnally, the SM dd not provde bans wth a true non-nternal model alternatve for calculatng EAD because the SM used nternal methods for computng delta-equvalents for non-lnear transactons. B. Introducng the SA-CCR The exposures under the SA-CCR consst of two components: replacement cost (RC) and potental future exposure (PFE). Mathematcally: Exposure at default under SA EAD alpha * ( RC PFE) where alpha equals 1.4, whch s carred over from the alpha value set by the Basel Commttee for the Internal Model Method (IMM). The PFE porton conssts of a multpler that allows for the partal recognton of excess collateral and an aggregate add-on, whch s derved from add-ons developed for each asset class (smlar to the fve asset classes used for the CEM, e nterest rate, foregn exchange, credt, equty and commodty). 1 The methodology for calculatng the add-ons for each asset class hnges on the ey concept of a hedgng set. A hedgng set under the SA-CCR s a set of transactons wthn a sngle nettng set wthn whch partal or full offsettng s recognsed for the purpose of calculatng the PFE add-on. The 1 The multpler has the effect of scalng down the aggregate add-on n the presence of excess collateral. The standardsed approach for measurng counterparty credt rs exposures 1

6 add-on wll vary based on the number of hedgng sets that are avalable wthn an asset class. These varatons are necessary to account for bass rs and dfferences n correlatons wthn asset classes. The methodologes for calculatng the add-ons are summarsed below. Interest rate dervatves: A hedgng set conssts of all dervatves that reference nterest rates of the same currency such as USD, EUR, JPY, etc. Hedgng sets are further dvded nto maturty categores. Long and short postons n the same hedgng set are permtted to fully offset each other wthn maturty categores; across maturty categores, partal offset s recognsed. Foregn exchange dervatves: A hedgng set conssts of dervatves that reference the same foregn exchange currency par such as USD/Yen, Euro/Yen, or USD/Euro. Long and short postons n the same currency par are permtted to perfectly offset, but no offset may be recognsed across currency pars. Credt dervatves and equty dervatves: A sngle hedgng set s employed for each asset class. Full offset s recognsed for dervatves referencng the same entty (name or ndex), whle partal offset s recognsed between dervatves referencng dfferent enttes. Commodty dervatves: Four hedgng sets are employed for dfferent classes of commodtes (one for each of energy, metals, agrcultural, and other commodtes). Wthn the same hedgng set, full offset s recognsed between dervatves referencng the same commodty and partal offset s recognsed between dervatves referencng dfferent commodtes. No offset s recognsed between dfferent hedgng sets. Wth respect to each asset class, bass transactons and volatlty transactons form separate hedgng sets n ther respectve asset classes as descrbed n paragraphs 16 and 163 of the accompanyng standards text. These separate hedgng sets wll be assgned specfc supervsory factors as descrbed n those paragraphs and wll follow the man hedgng set aggregaton rules for ts relevant asset class. A bass transacton s a non-foregn-exchange transacton (e both legs are denomnated n the same currency) n whch the cash flows of both legs depend on dfferent rs factors from the same asset class. Common examples of bass transactons nclude nterest rate bass swaps (where payments based on two dstnct floatng nterest rates are exchanged) and commodty spread trades (where payments based on prces of two related commodtes are exchanged). All bass transactons of a nettng set that belong to the same asset class and reference the same par of rs factors form a sngle hedgng set. For example, all three-month Lbor versus sx-month Lbor swaps n a nettng set form a sngle bass hedgng set. A volatlty transacton s one n whch the reference asset depends on the volatlty (hstorcal or mpled) of a rs factor. Common examples of volatlty transactons nclude varance and volatlty swaps and optons on volatlty ndces. Volatlty transactons form hedgng sets accordng to the rules of ther respectve asset classes. For example, all equty volatlty transactons form a sngle volatlty hedgng set. C. Scope of applcaton The SA-CCR wll apply to OTC dervatves, exchange-traded dervatves and long settlement transactons. The substtuton approach exclusons descrbed n Annex 4, paragraphs 7 and 8, reman vald n the SA-CCR context. The standardsed approach for measurng counterparty credt rs exposures

7 D. Transtonal arrangements The Basel Commttee recognses that the SA-CCR ntroduces a sgnfcant change n methodology from the current non-nternal model method approaches. Jursdctons may need tme to mplement these changes n ther respectve captal framewors. In addton, smaller bans may need tme to develop operatonal capabltes n order to employ the SA-CCR. As a result, the SA-CCR wll become effectve on 1 January 017. E. Examples Annex 4a sets forth examples of applcaton of the SA-CCR to sample portfolos. Annex 4b sets forth examples of the operaton of the SA-CCR n the context of standard margn agreements. Annex 4c sets forth a flow chart of steps for calculatng nterest-rate add-ons. II. Revsons to Part : The Frst Pllar; Secton II: Credt rs the standardsed approach Secton D. The standardsed approach - credt rs mtgaton Paragraph 84 wll be amended by addng the followng sentence at the end of the paragraph: Ths paragraph does not apply to posted collateral that s treated under ether the SA-CCR (Annex 4, secton X) or IMM (Annex 4, secton V) calculaton methods n the counterparty credt rs framewor. Paragraphs 186, 187 and 187() wll be deleted n ther entrety and replaced wth the followng: 186. Under the SA-CCR, the calculaton of exposure amount wll be as follows: Exposure amount where: alpha = 1.4, alpha * ( RC PFE) RC = the replacement cost calculated accordng to paragraphs of Annex 4, and PFE = the amount for potental future exposure calculated accordng to paragraphs of Annex (deleted) 187(). (deleted) The standardsed approach for measurng counterparty credt rs exposures 3

8 III. Revsons to Part : The Frst Pllar; Annex 4 Treatment of Counterparty Credt Rs and Cross-Product Nettng A. Secton V Internal Model Method, Secton VI Standardsed Method, and Secton VII Current Exposure Method To mplement the changes to the counterparty credt rs framewor accompanyng the ntroducton of the SA-CCR (ncludng the removal of the IMM shortcut method), paragraph 41 3 of secton V wll be deleted 4 as well as sectons VI and VII. Sectons VI and VII wll be replaced n ther entrety as follows: Secton X. Standardsed Approach for counterparty credt rs 18. Bans that do not have approval to apply the Internal Model Method (IMM) for the relevant OTC transactons must use the Standardsed Approach for counterparty credt rs (SA-CCR). The SA-CCR can be used only for OTC dervatves, exchange-traded dervatves and long settlement transactons; SFTs are subect to the treatments set out under the IMM of ths Annex or under Part, Secton II.D, of ths Framewor. EAD s to be calculated separately for each nettng set. It s determned as follows: where: alpha = 1.4, EAD alpha * ( RC PFE) RC = the replacement cost calculated accordng to paragraphs of ths Annex, and PFE = the amount for potental future exposure calculated accordng to paragraphs of ths Annex. 19. The replacement cost (RC) and the potental future exposure (PFE) components are calculated dfferently for margned and unmargned nettng sets. The EAD for a margned nettng set s capped at the EAD of the same nettng set calculated on an unmargned bass. RC and NICA 130. For unmargned transactons, the RC ntends to capture the loss that would occur f a counterparty were to default and were closed out of ts transactons mmedately. The PFE add-on represents a potental conservatve ncrease n exposure over a one-year tme horzon from the present date (e the calculaton date) For margned trades, the RC ntends to capture the loss that would occur f a counterparty were to default at the present or at a future tme, assumng that the closeout and replacement of transactons occur nstantaneously. However, there may be a perod (the margn perod of rs) between the last exchange of collateral before default and replacement of the trades n the maret. The PFE add-on represents the potental change n value of the trades durng ths tme perod. 3 4 Paragraphs 41() through 41(v) of Annex 4, whch were ntroduced as part of Basel III, would reman n effect. Correspondng references to the IMM shortcut method n paragraphs 98 and 99 of ths Annex, relatng to the calculaton of the CVA rs captal charge, wll also be deleted. 4 The standardsed approach for measurng counterparty credt rs exposures

9 13. In both cases, the harcut applcable to noncash collateral n the replacement cost formulaton represents the potental change n value of the collateral durng the approprate tme perod (one year for unmargned trades and the margn perod of rs for margned trades) Replacement cost s calculated at the nettng set level, whereas PFE add-ons are calculated for each asset class wthn a gven nettng set and then aggregated (see paragraphs below) For captal adequacy purposes, bans may net transactons (eg when determnng the RC component of a nettng set) subect to novaton under whch any oblgaton between a ban and ts counterparty to delver a gven currency on a gven value date s automatcally amalgamated wth all other oblgatons for the same currency and value date, legally substtutng one sngle amount for the prevous gross oblgatons. Bans may also net transactons subect to any legally vald form of blateral nettng not covered n the precedng sentence, ncludng other forms of novaton. In every such case where nettng s appled, a ban must satsfy ts natonal supervsor that t has: () () A nettng contract wth the counterparty or other agreement whch creates a sngle legal oblgaton, coverng all ncluded transactons, such that the ban would have ether a clam to receve or oblgaton to pay only the net sum of the postve and negatve mar-to-maret values of ncluded ndvdual transactons n the event a counterparty fals to perform due to any of the followng: default, banruptcy, lqudaton or smlar crcumstances; 5 Wrtten and reasoned legal revews that, n the event of a legal challenge, the relevant courts and admnstratve authortes would fnd the ban s exposure to be such a net amount under: The law of the ursdcton n whch the counterparty s chartered and, f the foregn branch of a counterparty s nvolved, then also under the law of the ursdcton n whch the branch s located; The law that governs the ndvdual transactons; and The law that governs any contract or agreement necessary to effect the nettng. The natonal supervsor, after consultaton when necessary wth other relevant supervsors, must be satsfed that the nettng s enforceable under the laws of each of the relevant ursdctons. 6 () Procedures n place to ensure that the legal characterstcs of nettng arrangements are ept under revew n lght of the possble changes n relevant law There are two formulatons of replacement cost dependng on whether the trades wth a counterparty are subect to a margn agreement. Where a margn agreement exsts, the formulaton could apply both to blateral transactons and central clearng relatonshps. The formulaton also addresses the varous arrangements that a ban may have to post and/or receve collateral that may be referred to as ntal margn. Formulaton for unmargned transactons 136. For unmargned transactons (that s, where varaton margn (VM) s not exchanged, but collateral other than VM may be present), RC s defned as the greater of: () the current maret value of the dervatve contracts less net harcut collateral held by the ban (f any), and () zero. Ths s consstent 5 6 The nettng contract must not contan any clause whch, n the event of default of a counterparty, permts a non-defaultng counterparty to mae lmted payments only, or no payments at all, to the estate of the defaultng party, even f the defaultng party s a net credtor. Thus, f any of these supervsors s dssatsfed about enforceablty under ts laws, the nettng contract or agreement wll not meet ths condton and nether counterparty could obtan supervsory beneft. The standardsed approach for measurng counterparty credt rs exposures 5

10 wth the use of replacement cost as the measure of current exposure, meanng that when the ban owes the counterparty money t has no exposure to the counterparty f t can nstantly replace ts trades and sell collateral at current maret prces. Mathematcally: RC max{ V C; 0} where V s the value of the dervatve transactons n the nettng set and C s the harcut value of net collateral held, whch s calculated n accordance wth the NICA methodology defned n paragraph 143 below. For ths purpose, the value of non-cash collateral posted by the ban to ts counterparty s ncreased and the value of the non-cash collateral receved by the ban from ts counterparty s decreased usng harcuts (whch are the same as those that apply to repo-style transactons) for the tme perods descrbed n paragraph 13 above In the above formulaton, t s assumed that the replacement cost representng today s exposure to the counterparty cannot go less than zero. However, bans sometmes hold excess collateral (even n the absence of a margn agreement) or have out-of-the-money trades whch can further protect the ban from the ncrease of the exposure. As dscussed n paragraphs below, the SA-CCR would allow such over-collateralsaton and negatve mar-to maret value to reduce PFE, but would not affect replacement cost Blateral transactons wth a one-way margnng agreement n favour of the ban s counterparty (that s, where a ban posts, but does not collect, collateral) must be treated as unmargned transactons. Formulaton for margned transactons 139. The RC formula for margned transactons bulds on the RC formula for unmargned transactons. It also employs concepts used n standard margnng agreements, as dscussed more fully below The RC for margned transactons n the SA-CCR s defned as the greatest exposure that would not trgger a call for VM, tang nto account the mechancs of collateral exchanges n margnng agreements. 7 Such mechancs nclude, for example, Threshold, Mnmum Transfer Amount and Independent Amount n the standard ndustry documentaton, 8 whch are factored nto a call for VM. 9 A defned, generc formulaton has been created to reflect the varety of margnng approaches used and those beng consdered by supervsors nternatonally. Incorporatng NICA nto replacement cost 141. One obectve of the SA-CCR s to more fully reflect the effect of margnng agreements and the assocated exchange of collateral n the calculaton of CCR exposures. The followng paragraphs address how the exchange of collateral s ncorporated nto the SA-CCR See Annex 4b for llustratve examples of the effect of standard margn agreements on the SA-CCR formulaton. For example, the 199 (Multcurrency-Cross Border) Master Agreement and the 00 Master Agreement publshed by the Internatonal Swaps & Dervatves Assocaton, Inc. (ISDA Master Agreement). The ISDA Master Agreement ncludes the ISDA CSA: the 1994 Credt Support Annex (Securty Interest New Yor Law), or, as applcable, the 1995 Credt Support Annex (Transfer Englsh Law) and the 1995 Credt Support Deed (Securty Interest Englsh Law). For example, n the ISDA Master Agreement, the term Credt Support Amount, or the overall amount of collateral that must be delvered between the partes, s defned as the greater of the Secured Party s Exposure plus the aggregate of all Independent Amounts applcable to the Pledgor mnus all Independent Amounts applcable to the Secured Party, mnus the Pledgor s Threshold and zero. 6 The standardsed approach for measurng counterparty credt rs exposures

11 14. To avod confuson surroundng the use of terms ntal margn and ndependent amount whch are used n varous contexts and sometmes nterchangeably, the term ndependent collateral amount (ICA) s ntroduced. ICA represents () collateral (other than VM) posted by the counterparty that the ban may seze upon default of the counterparty, the amount of whch does not change n response to the value of the transactons t secures and/or () the Independent Amount (IA) parameter as defned n standard ndustry documentaton. ICA can change n response to factors such as the value of the collateral or a change n the number of transactons n the nettng set Because both a ban and ts counterparty may be requred to post ICA, t s necessary to ntroduce a companon term, net ndependent collateral amount (NICA), to descrbe the amount of collateral that a ban may use to offset ts exposure on the default of the counterparty. NICA does not nclude collateral that a ban has posted to a segregated, banruptcy remote account, whch presumably would be returned upon the banruptcy of the counterparty. That s, NICA represents any collateral (segregated or unsegregated) posted by the counterparty less the unsegregated collateral posted by the ban. Wth respect to IA, NICA taes nto account the dfferental of IA requred for the ban mnus IA requred for the counterparty For margned trades, the replacement cost s: RC max{ V C; TH MTA NICA; 0} where V and C are defned as n the unmargned formulaton, TH s the postve threshold before the counterparty must send the ban collateral, and MTA s the mnmum transfer amount applcable to the counterparty TH + MTA NICA represents the largest exposure that would not trgger a VM call and t contans levels of collateral that need always to be mantaned. For example, wthout ntal margn or IA, the greatest exposure that would not trgger a varaton margn call s the threshold plus any mnmum transfer amount. In the adapted formulaton, NICA s subtracted from TH + MTA. Ths maes the calculaton more accurate by fully reflectng both the actual level of exposure that would not trgger a margn call and the effect of collateral held and/or posted by a ban. The calculaton s floored at zero, recognsng that the ban may hold NICA n excess of TH + MTA, whch could otherwse result n a negatve replacement cost. PFE add-ons 146. The PFE add-on conssts of () an aggregate add-on component, whch conssts of add-ons calculated for each asset class and () a multpler that allows for the recognton of excess collateral or negatve mar-to-maret value for the transactons. Mathematcally: PFE multpler * Add On aggregate aggregate where s the aggregate add-on component and multpler s defned as a aggregate functon of three nputs: V, C and Add On. The paragraphs below descrbe the nputs that enter nto the calculaton of the add-on formulas n more detal, and set out the formula for each asset class. Recognton of excess collateral and negatve mar-to-maret 147. As a general prncple, over-collateralsaton should reduce captal requrements for counterparty credt rs. In fact, many bans hold excess collateral (e collateral greater than the net maret value of the dervatves contracts) precsely to offset potental ncreases n exposure represented by the add-on. As dscussed n paragraphs 136 and 144, collateral may reduce the replacement cost component of the exposure under the SA-CCR. The PFE component also reflects the rs-reducng property of excess collateral. The standardsed approach for measurng counterparty credt rs exposures 7

12 148. For prudental reasons, the Basel Commttee decded to apply a multpler to the PFE component that decreases as excess collateral ncreases, wthout reachng zero (the multpler s floored at 5% of the PFE add-on). When the collateral held s less than the net maret value of the dervatve contracts ( under-collateralsaton ), the current replacement cost s postve and the multpler s equal to one (e the PFE component s equal to the full value of the aggregate add-on). Where the collateral held s greater than the net maret value of the dervatve contracts ( over-collateralsaton ), the current replacement cost s zero and the multpler s less than one (e the PFE component s less than the full value of the aggregate add-on) Ths multpler wll also be actvated when the current value of the dervatve transactons s negatve. Ths s because out-of-the-money transactons do not currently represent an exposure and have less chance to go n-the-money. Mathematcally: multpler mn V C 1; Floor (1 - Floor) * exp * (1 - Floor) * Add On aggregate where exp( ) equals to the exponental functon, Floor s 5%, V s the value of the dervatve transactons n the nettng set, and C s the harcut value of net collateral held. Aggregaton across asset classes 150. Dversfcaton benefts across asset classes are not recognsed. Instead, the respectve add-ons for each asset class are smply aggregated. Mathematcally: aggregate a where the sum of each asset class add-on s taen. Allocaton of dervatve transactons to one or more asset classes 151. The desgnaton of a dervatve transacton to an asset class s be made on the bass of ts prmary rs drver. Most dervatve transactons have one prmary rs drver, defned by ts reference underlyng nstrument (eg an nterest rate curve for an nterest rate swap, a reference entty for a credt default swap, a foregn exchange rate for a FX call opton, etc). When ths prmary rs drver s clearly dentfable, the transacton wll fall nto one of the asset classes descrbed above. 15. For more complex trades that may have more than one rs drver (eg mult-asset or hybrd dervatves), bans must tae senstvtes and volatlty of the underlyng nto account for determnng the prmary rs drver. Ban supervsors may also requre more complex trades to be allocated to more than one asset class, resultng n the same poston beng ncluded n multple classes. In ths case, for each asset class to whch the poston s allocated, bans must determne approprately the sgn and delta adustment of the relevant rs drver. General steps for calculatng the add-on 153. For each transacton, the prmary rs factor or factors need to be determned and attrbuted to one or more of the fve asset classes: nterest rate, foregn exchange, credt, equty or commodty. The add-on for each asset class s calculated usng asset-class-specfc formulas that represent a stylsed Effectve EPE calculaton under the assumpton that all trades n the asset class have zero current marto-maret value (e they are at-the-money) Although the add-on formulas are asset class-specfc, they have a number of features n common. To determne the add-on, transactons n each asset class are subect to adustment n the followng general steps: ( a) 8 The standardsed approach for measurng counterparty credt rs exposures

13 An adusted notonal amount based on actual notonal or prce s calculated at the trade level. For nterest rate and credt dervatves, ths adusted notonal amount also ncorporates a supervsory measure of duraton; A maturty factor (type ) MF reflectng the tme horzon approprate for the type of transacton s calculated at the trade level (see paragraph 164 below for detals) and s appled to the adusted ( m arg ned) notonal. Two types of maturty factor are defned, one for margned transactons ( MF ) ( unmarg ned) and one for unmargned transactons ( MF ); A supervsory delta adustment s made to ths trade-level adusted notonal amount based on the poston (long or short) and whether the trade s an opton, CDO tranche or nether, resultng n an effectve notonal amount; A supervsory factor s appled to each effectve notonal amount to reflect volatlty; and The trades wthn each asset class are separated nto hedgng sets and an aggregaton method s appled to aggregate all the trade-level nputs at the hedgng set level and fnally at the asset-class level. For credt, equty and commodty dervatves, ths nvolves the applcaton of a supervsory correlaton parameter to capture mportant bass rss and dversfcaton. Each nput s descrbed, generally and by asset class, n more detal below. Perod or date parameters: M, E, S and T 155. There are four dates that appear n the SA-CCR: For all asset classes, the maturty M of a contract s the latest date when the contract may stll be actve. Ths date appears n the maturty factor defned n paragraph 164 that scales down adusted notonal for unmargned trades for all asset classes. If a dervatve contract has another dervatve contract as ts underlyng (for example, a swapton) and may be physcally exercsed nto the underlyng contract (e a ban would assume a poston n the underlyng contract n the event of exercse), then maturty of the contract s the fnal settlement date of the underlyng dervatve contract. For nterest rate and credt dervatves, the start date S of the tme perod referenced by an nterest rate or credt contract. If the dervatve references the value of another nterest rate or credt nstrument (eg swapton or bond opton), the tme perod must be determned on the bass of the underlyng nstrument. Ths date appears n the defnton of supervsory duraton defned n paragraph 157. For nterest rate and credt dervatves, the end date E of the tme perod referenced by an nterest rate or credt contract. If the dervatve references the value of another nterest rate or credt nstrument (eg swapton or bond opton), the tme perod must be determned on the bass of the underlyng nstrument. Ths date appears n the defnton of supervsory duraton defned n paragraph 157. In addton, ths date specfes the maturty category for an nterest rate contract n paragraph 166. For optons n all asset classes, the latest contractual exercse date T as referenced by the contract. Ths perod shall be used for the determnaton of the opton delta n paragraph Table 1 ncludes example transactons and provdes each transacton s related maturty M, start date S and end date E. In addton, the opton delta n paragraph 159 depends on the latest contractual exercse date T (not separately shown n the table). The standardsed approach for measurng counterparty credt rs exposures 9

14 Instrument Interest rate or credt default swap maturng n 10 years 10 years 0 10 years 10-year nterest rate swap, forward startng n 5 years 15 years 5 years 15 years Forward rate agreement for tme perod startng n 6 months and endng n 1 months Cash-settled European swapton referencng 5-year nterest rate swap wth exercse date n 6 months Physcally-settled European swapton referencng 5-year nterest rate swap wth exercse date n 6 months M S E 1 year 0.5 year 1 year Table year 0.5 year 5.5 years 5.5 years 0.5 year 5.5 years 10-year Bermudan swapton wth annual exercse dates 10 years 1 year 10 years Interest rate cap or floor specfed for sem-annual nterest rate wth maturty 5 years Opton on a bond maturng n 5 years wth the latest exercse date n 1 year 5 years 0 5 years 1 year 1 year 5 years 3-month Eurodollar futures that matures n 1 year 1 year 1 year 1.5 years Futures on 0-year treasury bond that matures n years years years years 6-month opton on -year futures on 0-year treasury bond years years years Trade-level adusted notonal (for trade of asset class a): 157. These parameters are defned at the trade level and tae nto account both the sze of a poston and ts maturty dependency, f any. Specfcally, the adusted notonal amounts are calculated as follows: For nterest rate and credt dervatves, the trade-level adusted notonal s the product of the trade notonal amount, converted to the domestc currency, and the supervsory duraton SD whch s gven by the followng formula: SD exp (a) d 0.05 * S exp 0.05 * E where S and E are the start and end dates, respectvely, of the tme perod referenced by the nterest rate or credt dervatve (or, where such a dervatve references the value of another nterest rate or credt nstrument, the tme perod determned on the bass of the underlyng nstrument), floored by ten busness days. 10 If the start date has occurred (eg an ongong nterest rate swap), S must be set to zero For foregn exchange dervatves, the adusted notonal s defned as the notonal of the foregn currency leg of the contract, converted to the domestc currency. If both legs of a foregn 10 Note there s a dstncton between the tme perod of the underlyng transacton and the remanng maturty of the dervatve contract. For example, a European nterest rate swapton wth expry of 1 year and the term of the underlyng swap of 5 years has S = 1 year and E = 6 years. 10 The standardsed approach for measurng counterparty credt rs exposures

15 exchange dervatve are denomnated n currences other than the domestc currency, the notonal amount of each leg s converted to the domestc currency and the leg wth the larger domestc currency value s the adusted notonal amount. For equty and commodty dervatves, the adusted notonal s defned as the product of the current prce of one unt of the stoc or commodty (eg a share of equty or barrel of ol) and the number of unts referenced by the trade In many cases the trade notonal amount s stated clearly and fxed untl maturty. When ths s not the case, bans must use the followng rules to determne the trade notonal amount. For transactons wth multple payoffs that are state contngent such as dgtal optons or target redempton forwards, a ban must calculate the trade notonal amount for each state and use the largest resultng calculaton. Where the notonal s a formula of maret values, the ban must enter the current maret values to determne the trade notonal amount. For varable notonal swaps such as amortsng and accretng swaps, bans must use the average notonal over the remanng lfe of the swap as the trade notonal amount. Leveraged swaps must be converted to the notonal of the equvalent unleveraged swap, that s, where all rates n a swap are multpled by a factor, the stated notonal must be multpled by the factor on the nterest rates to determne the trade notonal amount. For a dervatve contract wth multple exchanges of prncpal, the notonal s multpled by the number of exchanges of prncpal n the dervatve contract to determne the trade notonal amount. For a dervatve contract that s structured such that on specfed dates any outstandng exposure s settled and the terms are reset so that the far value of the contract s zero, the remanng maturty equals the tme untl the next reset date. Supervsory delta adustments: δ 159. These parameters are also defned at the trade level and are appled to the adusted notonal amounts to reflect the drecton of the transacton and ts non-lnearty. More specfcally, the delta adustments for all dervatves are defned as follows: δ Long 11 n the prmary rs factor Short 1 n the prmary rs factor Instruments that are not optons or CDO tranches Long n the prmary rs factor means that the maret value of the nstrument ncreases when the value of the prmary rs factor ncreases. Short n the prmary rs factor means that the maret value of the nstrument decreases when the value of the prmary rs factor ncreases. The standardsed approach for measurng counterparty credt rs exposures 11

16 Call Optons 13 δ Bought Sold ln( P / K ) 0.5* * T * T ln( P / K ) 0.5* * T * T Put Optons 7 ln( P / K ) 0.5* * T * T ln( P / K ) 0.5* * T * T Wth the followng parameters that bans must determne approprately: P : Underlyng prce (spot, forward, average, etc) K : Stre prce T : Latest contractual exercse date of the opton The supervsory volatlty σ of an opton s specfed on the bass of supervsory factor applcable to the trade (see Table n paragraph 183). δ Purchased (long protecton) Sold (short protecton) CDO tranches 1 14 * A * 1 14 * 15 D * A * 1 14 * D Wth the followng parameters that bans must determne approprately: A : Attachment pont of the CDO tranche D : Detachment pont of the CDO tranche Supervsory factors: (a) SF 160. A factor or factors specfc to each asset class s used to convert the effectve notonal amount nto Effectve EPE based on the measured volatlty of the asset class. Each factor has been calbrated to reflect the Effectve EPE of a sngle at-the-money lnear trade of unt notonal and one-year maturty. Ths ncludes the estmate of realsed volatltes assumed by supervsors for each underlyng asset class. Hedgng sets 161. The hedgng sets n the dfferent asset classes are defned as follows, except for those descrbed n paragraphs 16 and 163. Interest rate dervatves consst of a separate hedgng set for each currency; FX dervatves consst of a separate hedgng set for each currency par; Credt dervatves consst of a sngle hedgng set; Equty dervatves consst of a sngle hedgng set; Commodty dervatves consst of four hedgng sets defned for broad categores of commodty dervatves: energy, metals, agrcultural and other commodtes. 13 The symbol n these equatons represents the standard normal cumulatve dstrbuton functon. 1 The standardsed approach for measurng counterparty credt rs exposures

17 16. Dervatves that reference the bass between two rs factors and are denomnated n a sngle currency 14 (bass transactons) must be treated wthn separate hedgng sets wthn the correspondng asset class. There s a separate hedgng set 15 for each par of rs factors (e for each specfc bass). Examples of specfc bases nclude three-month Lbor versus sx-month Lbor, three-month Lbor versus three-month T-Bll, one-month Lbor versus OIS rate, Brent Crude ol versus Henry Hub gas. For hedgng sets consstng of bass transactons, the supervsory factor applcable to a gven asset class must be multpled by one-half Dervatves that reference the volatlty of a rs factor (volatlty transactons) must be treated wthn separate hedgng sets wthn the correspondng asset class. Volatlty hedgng sets must follow the same hedgng set constructon outlned n paragraph 161 (for example, all equty volatlty transactons form a sngle hedgng set). Examples of volatlty transactons nclude varance and volatlty swaps, optons on realsed or mpled volatlty. For hedgng sets consstng of volatlty transactons, the supervsory factor applcable to a gven asset class must be multpled by a factor of fve. Tme Rs Horzons 164. The mnmum tme rs horzons for the SA-CCR nclude: The lesser of one year and remanng maturty of the dervatve contract for unmargned transactons, floored at ten busness days. 16 Therefore, the adusted notonal at the trade level of an unmargned transacton must be mutlpled by: where MF (unmargned) 1 mn{ M ; 1year } year M s the transacton remanng maturty floored by 10 busness days. For margned transactons, the mnmum margn perod of rs s determned as follows: At least ten busness days for non-centrally-cleared dervatve transactons subect to daly margn agreements. Fve busness days for centrally cleared dervatve transactons subect to daly margn agreements that clearng members have wth ther clents. 0 busness days for nettng sets consstng of 5,000 transactons that are not wth a central counterparty. Doublng the margn perod of rs for nettng sets wth outstandng dsputes consstent wth paragraph 41() of ths Annex. 17 Therefore, the adusted notonal at the trade level of a margned transacton should be multpled by: Dervatves wth two floatng legs that are denomnated n dfferent currences (such as cross-currency swaps) are not subect to ths treatment; rather, they should be treated as non-bass foregn exchange contracts. Wthn ths hedgng set, long and short postons are determned wth respect to the bass. For example, remanng maturty for a one-month opton on a 10-year Treasury bond s the one-month to expraton date of the dervatve contract. However, the end date of the transacton s the 10-year remanng maturty on the Treasury bond. See paragraphs 41(), 41() and 111, whch were ntroduced va Basel III and the captal requrements for ban exposures to central counterpartes, for crcumstances requrng an extended margn perod of rs. The standardsed approach for measurng counterparty credt rs exposures 13

18 where transacton. MF 3 ( margned ) 1 MPOR year MPOR s the margn perod of rs approprate for the margn agreement contanng the Supervsory correlaton parameters: (a) ρ 165. These parameters only apply to the PFE add-on calculaton for equty, credt and commodty dervatves. For these asset classes, the supervsory correlaton parameters are derved from a snglefactor model and specfy the weght between systematc and dosyncratc components. Ths weght determnes the degree of offset between ndvdual trades, recognsng that mperfect hedges provde some, but not perfect, offset. Supervsory correlaton parameters do not apply to nterest rate and foregn exchange dervatves. Add-on for nterest rate dervatves 166. The add-on for nterest rate dervatves captures the rs of nterest rate dervatves of dfferent maturtes beng mperfectly correlated. To address ths rs, the SA-CCR dvdes nterest rate dervatves nto maturty categores (also referred to as bucets ) based on the end date (as descrbed n paragraphs 155 and 157) of the transactons. The three relevant maturty categores are: less than one year, between one and fve years and more than fve years. The SA-CCR allows full recognton of offsettng postons wthn a maturty category. Across maturty categores, the SA-CCR recognses partal offset The add-on for nterest rate dervatves s the sum of the add-ons for each hedgng set of nterest rates dervatves transacted wth a counterparty n a nettng set. The add-on for a hedgng set of nterest rate dervatves s calculated n two steps. (IR) 168. In the frst step, the effectve notonal D s calculated for tme bucet of hedgng set (e currency) accordng to: D δ * d { Ccy, MB } * MF ( type ) where notaton Ccy, MB } refers to trades of currency that belong to maturty bucet. { That s, the effectve notonal for each tme bucet and currency s the sum of the trade-level adusted notonal amounts (cf. paragraphs ) multpled by the supervsory delta adustments (cf. paragraph 159) and the maturty factor (cf. paragraph 164) In the second step, aggregaton across maturty bucets for each hedgng set s calculated accordng to the followng formula: 18 EffectveN otonal D D D 1.4 * D * D 1.4 * D * D 0.6 * D * D Bans may choose not to recognse offset across maturty bucets. In ths case, the relevant formula s: EffectveNotonal D 1 D D 3 14 The standardsed approach for measurng counterparty credt rs exposures

19 The hedgng set level add-on s calculated as the product of the effectve notonal and the nterest rate supervsory factor: SF * EffectveNotonal Aggregaton across hedgng sets s performed va smple summaton: Add-on for foregn exchange dervatves 170. The add-on formula for foregn exchange dervatves shares many smlartes wth the add-on formula for nterest rates. Smlar to nterest rate dervatves, the effectve notonal of a hedgng set s defned as the sum of all the trade-level adusted notonal amounts multpled by ther supervsory delta. The add-on for a hedgng set s the product of: The absolute value of ts effectve notonal amount; and The supervsory factor (same for all FX hedgng sets) In the case of foregn exchange dervatves, the adusted notonal amount s maturtyndependent and gven by the notonal of the foregn currency leg of the contract, converted to the domestc currency. Mathematcally: ( FX ) where the sum s taen over all the hedgng sets HS ncluded n the nettng set. The add-on and the effectve notonal of the hedgng set HS are respectvely gven by: where HS SF ( FX ) HS EffectveNotonal ( FX ) ( FX ) * ( FX ) HS EffectveNotonal HS δ * d ( FX ) * MF ( FX ) ( type ) refers to trades of hedgng set HS. That s, the effectve notonal for each currency par s the sum of the trade-level adusted notonal amounts (cf. paragraphs ) multpled by the supervsory delta adustments (cf. paragraph 159) and the maturty factor (cf. paragraph 164). Add-on for credt dervatves 17. There are two levels of offsettng benefts for credt dervatves. Frst, all credt dervatves referencng the same entty (ether a sngle entty or an ndex) are allowed to offset each other fully to form an entty-level effectve notonal amount: EffectveNotonal ( Credt ) Entty δ * d ( Credt ) * MF ( type ) where Entty refers to trades of entty. That s, the effectve notonal for each entty s the sum of the trade-level adusted notonal amounts (cf. paragraphs ) multpled by the supervsory delta adustments (cf. paragraph 159) and the maturty factor (cf. paragraph 164). The add-on for all the postons referencng ths entty s defned as the product of ts effectve notonal amount and the supervsory factor SF (Credt ), e: ( Credt ) ( Credt ) Entty SF * EffectveNotonal The standardsed approach for measurng counterparty credt rs exposures 15

20 enttes, For sngle name enttes, (Credt SF ) (Credt SF ) s determned by the reference name s credt ratng. For ndex s determned by whether the ndex s nvestment grade or speculatve grade. Second, all the entty-level add-ons are grouped wthn a sngle hedgng set (except for bass and volatlty transactons) n whch full offsettng between two dfferent entty-level add-ons s not permtted. Instead, a sngle-factor model has been used to allow partal offsettng between the enttylevel add-ons by dvdng the rs of the credt dervatves asset class nto a systematc component and an dosyncratc component The entty-level add-ons are allowed to offset each other fully n the systematc component; whereas, there s no offsettng beneft n the dosyncratc component. These two components are weghted by a correlaton factor whch determnes the degree of offsettng/hedgng beneft wthn the credt dervatves asset class. The hgher the correlaton factor, the hgher the mportance of the systemc component, hence the hgher the degree of offsettng benefts. Dervatves referencng credt ndces are treated as though they were referencng sngle names, but wth a hgher correlaton factor appled. Mathematcally: ( Credt ) ρ ( Credt ) * Entty ( Credt ) 1 ρ * Entty 1 where (Credt ) ρ s the approprate correlaton factor correspondng to the Entty It should be noted that a hgher or lower correlaton does not necessarly mean a hgher or lower captal charge. For portfolos consstng of long and short credt postons, a hgh correlaton factor would reduce the charge. For portfolos consstng exclusvely of long postons (or short postons), a hgher correlaton factor would ncrease the charge. If most of the rs conssts of systematc rs, then ndvdual reference enttes would be hghly correlated and long and short postons should offset each other. If, however, most of the rs s dosyncratc to a reference entty, then ndvdual long and short postons would not be effectve hedges for each other The use of a sngle hedgng set for credt dervatves mples that credt dervatves from dfferent ndustres and regons are equally able to offset the systematc component of an exposure, although they would not be able to offset the dosyncratc porton. Ths approach recognses that meanngful dstnctons between ndustres and/or regons are complex and dffcult to analyse for global conglomerates. Add-on for equty dervatves 176. The add-on formula for equty dervatves shares many smlartes wth the add-on formula for credt dervatves. The approach also uses a sngle factor model to dvde the rs nto a systematc component and an dosyncratc component for each reference entty (a sngle entty or an ndex). Dervatves referencng equty ndces are treated as though they were referencng sngle enttes, but wth a hgher correlaton factor used for the systematc component. Offsettng s allowed only for the systematc components of the entty-level add-ons, whle full offsettng of transactons wthn the same reference entty s permtted. The entty-level add-ons are proportonal to the product of two tems: the effectve notonal amount of the entty (smlar to credt dervatves) and the supervsory factor approprate to the entty. 16 The standardsed approach for measurng counterparty credt rs exposures

21 177. The calbraton of the supervsory factors for equty dervatves rely on estmates of the maret volatlty of equty ndces, wth the applcaton of a conservatve beta factor 19 to translate ths estmate nto an estmate of ndvdual volatltes. Bans are not permtted to mae any modellng assumptons n the calculaton of the PFE add-ons, ncludng estmatng ndvdual volatltes or tang publcly avalable estmates of beta. Ths s a pragmatc approach to ensure a consstent mplementaton across ursdctons but also to eep the add-on calculaton relatvely smple and prudent. Therefore, only two values of supervsory factors have been defned for equty dervatves, one for sngle enttes and one for ndces. In summary, the formula s as follows: ( Equty) where ρ (Equty) ρ ( Equty) * Entty ( Equty) 1 ρ * Entty s the approprate correlaton factor correspondng to the entty. The add-on for all the postons referencng entty and ts effectve notonal are gven by: ( Equty) ( Equty) Entty SF * EffectveNotonal 1 and EffectveNotonal ( Equty) δ Entty * d ( Equty) * MF ( type ) where Entty refers to trades of entty. That s, the effectve notonal for each entty s the sum of the trade-level adusted notonal amounts (cf. paragraphs ) multpled by the supervsory delta adustments (cf. paragraph 159) and the maturty factor (cf. paragraph 164). Add-on for commodty dervatves 178. The add-on for the asset class s gven by: (Com) where the sum s taen over all hedgng sets. HS 179. Wthn each hedgng set, a sngle factor model s used to dvde the rs of the same type of commodtes nto a systematc component and an dosyncratc component, consstent wth the approach taen for credt and equty dervatves. Full offsettng/hedgng benefts s allowed between all dervatve transactons referencng the same type of commodty, formng a commodty type-level effectve notonal. Partal offsettng/hedgng benefts s allowed wthn each hedgng set between the same type of commodtes (supervsory correlaton factors are defned for each) whle no offsettng/hedgng benefts s permtted between hedgng sets. In summary, we have: (Com) ( Com ) HS ρ ( Com ) * Type * Type ( Com ) 1 ρ 1 19 The beta of an ndvdual equty measures the volatlty of the stoc relatve to a broad maret ndex. A value of beta greater than one means the ndvdual equty s more volatle than the ndex. The greater the beta s, the more volatle the stoc. The beta s calculated by runnng a lnear regresson of the stoc on the broad ndex. The standardsed approach for measurng counterparty credt rs exposures 17

22 where (Com) ρ s the approprate correlaton factor correspondng to the hedgng set. The addon and the effectve notonal of the commodty type are respectvely gven by: ( Com ) ( Com ) Type SF * EffectveNotonal Type and EffectveNotonal ( Com ) δ Type * d ( Com ) * MF ( type ) where refers to trades of commodty type n hedgng set. That s, the effectve Type notonal for each commodty type s the sum of the trade-level adusted notonal amounts (cf. paragraph ) multpled by the supervsory delta adustments (cf. paragraph 159) and the maturty factor (cf. paragraph 164) Ths approach assumes that the four broad categores of commodty dervatves cannot be used to hedge one another (eg a forward contract on crude ol cannot hedge a forward contract on corn). However, wthn each category, the dfferent commodty types are more lely to demonstrate some stable, meanngful ont dynamcs Defnng ndvdual commodty types s operatonally dffcult. In fact, t s mpossble to fully specfy all relevant dstnctons between commodty types so that all bass rs s captured. For example crude ol could be a commodty type wthn the energy hedgng set, but n certan cases ths defnton could omt a substantal bass rs between dfferent types of crude ol (West Texas Intermedate, Brent, Saud Lght, etc). 18. Commodty type hedgng sets have been defned wthout regard to characterstcs such as locaton and qualty. For example, the energy hedgng set contans commodty types such as crude ol, electrcty, natural gas and coal. However, natonal supervsors may requre bans to use more refned defntons of commodtes when they are sgnfcantly exposed to the bass rs of dfferent products wthn those commodty types Table ncludes the supervsory factors, correlatons and supervsory opton volatlty add-ons for each asset class and subclass. 18 The standardsed approach for measurng counterparty credt rs exposures