PIB 4.15 PIB 4.15 Concentration Risk
Applicability and Limits
For the purposes of this section an
Exposurethat arises in the Trading Bookis calculated by summing the following:(a) the net positive position (long positions net of short positions) for each financial instrument as set out in Rules PIB A4.11.10 to PIB A4.11.28;(b) the Authorised Firm’s net Underwriting Exposuresfor any Counterparty; and(c) any other Exposuresarising from transactions, agreements and contracts that would give rise to Counterparty Credit Risk.
For the purposes of this section an
Authorised Firmmust:(a) identify its Exposures;(b) identify its Counterparties, including whether any are Closely Relatedto each other or Connectedto the Authorised Firm;(c) measure the size of its Exposures;(d) establish the value of its Exposures;(e) determine the size of its Exposuresas a proportion of its Capital Resources;(f) identify whether it has Exposureswhich are subject to the requirements of PIB section 4.13 ( Credit Riskmitigation);(g) identify which, if any, of its Exposuresare exempt in accordance with PIB section A4.11 from the limits set out in Rules PIB 4.15.4 to PIB 4.15.7;(h) aggregate its Exposuresto the same Counterpartyor group of Closely Related Counterpartiesor group of Connected Counterparties;(i) monitor and control its Exposureson a daily basis within the Concentration Risklimits; and(j) notify the DFSAimmediately of any breach of the limits set out in this section and confirm it in writing.
Large Exposure Limits
Large Exposureof an Authorised Firmmeans a total Exposurewhich is equal to or exceeds 10% of the firm's Tier 1 Capital, to any Counterparty, Connected Counterparty, group of Connected Counterparties, or group of Closely Related Counterparties, whether in the Authorised Firm's Trading Bookor Non-Trading Book, or both.
PIB 4.15.5(1) Subject to IFR Rule 5.4.15, an
Authorised Firmmust ensure that Exposuresin its Non-Trading Bookand, subject to PIB Rule 4.15.6, Trading Bookto a Counterpartyor to a group of Closely Related Counterpartiesor to a group of Connected Counterparties, after taking into account the effect of any eligible Credit Riskmitigations, do not exceed 25% of its Tier 1 Capital, except as otherwise provided in (2) or required by the DFSA under (3).(2) An Authorised Firm’s Exposure must not exceed 15% of its Tier 1 Capital if the Authorised Firm is a G-SIB and the Exposure is to another G-SIB, or a subsidiary of a G-SIB, in or outside the DIFC.(3) An Authorised Firmwhich is a D-SIB must, if required in writing by the DFSA, apply an Exposure limit of between 15% to 25% of its Tier 1 Capital as specified by the DFSA in the requirement, where the Exposure is to another D-SIB, or to a subsidiary of a D-SIB, in or outside the DIFC.
Authorised Firm's Trading Book Exposureto a Counterpartyor to a group of Closely Related Counterpartiesor to a group of Connected Counterparties, on its own or when added to any Non-Trading Book Exposure, is likely to exceed 25% of its Tier 1 Capital, the Authorised Firmmust immediately give the DFSAwritten notice, explaining the nature of its Trading Book Exposureand seeking specific guidance from the DFSAregarding the prudential treatment of any such Exposure.
PIB 4.15.7 PIB 4.15.7
PIB 4.15.7 Guidance1.
Exposurescan arise in the Non-Trading Bookand in the Trading Bookfrom Credit Risk(for example on loans and advances) Counterparty Risk(for example, on unsettled trades and on Derivativecontracts) and from Issuerrisk (for example, on holdings of equities and bonds).2. Some Derivativescontracts may result in an Authorised Firmbeing exposed to an Issueras well as the Derivatives Counterparty. For example, a Derivativereferenced on a Securitymay result in an Exposureto the Counterparty, to the transaction and to the Issuerof the underlying Security.3. Examples of an Exposureare actual or potential claims on a Counterpartyincluding contingent liabilities arising in the normal course of an Authorised Firm'sbusiness.4. PIB App4 includes further Rulesand Guidanceon:a. fully and partially exempt Exposures, Exposuresto undisclosed Counterparties, parental guarantees and capital maintenance agreements;b. identification of Exposures;c. identification of Closely Relatedand Connected Counterparties, and exemptions for Connected Counterparties;d. measuring Exposuresto Counterpartiesand Issuersin relation to Derivatives, equity indices, and other items; ande. country risk Exposure.
Exclusions from the Large Exposure Limits
PIB 4.15.8(1) For the purposes of this section,
Exposureexcludes:(a) claims and other assets required to be deducted for the purposes of calculating an Authorised Firm'sTier 1 Capital;(b) a transaction entered into by an Authorised Firmas depository or as agent that does not create any legal liability on the part of the Authorised Firm;(c) claims resulting from foreign exchange transactions where an Authorised Firmhas paid its side of the transaction and the countervalue remains unsettled during the 2 business days following the due payment or due delivery date. After 2 business days the claim becomes an Exposure;(d) claims arising as a result of money transmission, payment services, clearing and settlement, correspondent banking or financial instruments clearing, settlement and custody services to clients, delayed receipts in funding and other Exposuresarising from client activity which do not last longer than the following business day;(e) in the case of the services outlined in (d) intra-day Exposuresto Financial Institutionswho provide these services are excluded;(f) claims resulting from the purchase and sale of Securitiesduring settlement where both the Authorised Firmand the Counterpartyare up to five business days overdue in settling. The five business days include the due payment or due delivery date. After five business days, the claim becomes an Exposure; and(2) For the purposes of this section, Exposureto a CCP which carry a 0% CCR in accordance with PIB section 4.8 are excluded.
PIB 4.15.10 PIB 4.15.10
(1) This Rule applies to an Authorised Firm in Category 2 and 3A.
Exposuresto a Financial Institution, or a group of Connected Counterpartiesone of which is a Financial Institution, the total amount of an Authorised Firm's Exposuresmay exceed 25% of its Tier 1 Capital, provided those institutions are Investment Grade (Credit Quality Grades1 to 3) and subject to the following:(a) Exposuresto any entities within the group of Connected Counterpartiesthat are not Financial Institutionsare limited to 25% of Tier 1 Capital after taking account of Credit Riskmitigation;(b) the Exposuresmust not form part of the Tier 1 Capital of the Counterparty;(c) the Counterparty Riskprofile must be subject to review on at least an annual basis; and(d) Exposuresof this nature must not in any case exceed a maximum of US$ 100 million or 100% of Tier 1 Capital, whichever is the lower.
PIB 4.15.10 Guidance
DFSAwill, in exceptional circumstances, consider an application to waive or modify the limits set out above. In such circumstances the Authorised Firmwill have to make a submission to the DFSAas to why its specific circumstances would warrant a relaxation of the limits specified in (d) above.
Systems and Controls
PIB 4.15.11 PIB 4.15.11(1) An
Authorised Firmmust implement and maintain systems and controls to identify its Exposuresand effectively manage Concentration Risksas a result of its activities.(2) Such systems and controls in place must be proportionate to the nature, scale and complexity of the Authorised Firmand must include written policies and procedures to address Concentration Risks, both on and off balance sheet, which:(a) are approved by the Governing Bodyon at least an annual basis; and(b) include internal approval limits for Exposuresas well as limits for the risks associated with specific sectors, geographic location and single economic risk factors.
PIB 4.15.11 Guidance
DFSAexpects the systems and controls to include:a. processes for the tiered approval of Exposuresbased on size, risk profile and complexity;b. mechanisms for identifying, recording and monitoring all Exposureswith particular focus on Large Exposures;c. mechanisms in place for the monitoring and control of Exposuresto Counterpartiesand Groupsof Connected Counterparties;d. mechanisms for monitoring and recording Exposureswithin its Group;e. mechanisms to monitor Counterpartiesin the same economic sector and exposed to single economic risks;f. mechanisms to identify and control risks arising from single geographic jurisdictions; andg. mechanisms to identify risks arising from related activities or commodities.
Recognition of Credit Risk Mitigations
(1) For the purposes of this section, an
Authorised Firmmay reduce the value of its Exposures, at its discretion, by any one or more of the following:(a) the amount of any specific provision made, where the provision relates to the risk of a credit loss occurring on that Exposureand is not held as part of a general provision or reserve against its Credit Risks;(b) Nettingits claims on and liabilities to a Counterparty, provided that the conditions in PIB section 4.13 of Credit Riskmitigation are met;(c) the amount of Collateralheld against its Exposures, where that Collateralis of a type listed based on the FCSA and FCCA approaches and meeting the requirements under PIB section 4.13, provided that supervisory haircuts are used for valuing that Collateral under the FCCA;(e) the value of a Credit Derivative, where the Credit Derivativeis an instrument included in PIB Rule 4.13.11 and the transaction meets the conditions set out in that section; and(f) the effects of transactions transferring Credit Risksfrom the Authorised Firmto another party through securitisation, provided that the conditions in PIB section 4.14 are met.
(2) Where Credit Risk mitigation is used against an Exposure, an Authorised Firm must reduce the value of the original Exposure and recognise an equal Exposure to the Credit Risk mitigation provider, except where:(a) a credit default swap is used; and(b) neither the reference entity, nor the credit default swap provider, is a Financial Institution,
(3) For the purposes of Exposure shifting under (2), the amount subject to shifting is:(a) the value of the protected portion for an unfunded credit protection;(b) where the FCSA is used, the market value of the collateral; and(c) where the FCCA is used, the market value of the collateral adjusted by applying the standard supervisory haircuts to the FCCA.
Authorised Firmintending to utilise any of the provisions contained in PIB section 4.13 ( Credit Riskmitigation) for the purposes of reducing Exposurevalues should have in place policies and procedures addressing the following:(a) risks arising from maturity mismatches between Exposuresand any credit protection on those Exposures;(b) the Concentration Riskarising from the application of Credit Riskmitigation techniques, including indirect Large Exposures— for example to a single Issuerof Securitiestaken as Collateral; and(c) the conduct of stress testing on Credit Riskmitigation taken as Collateral.
Authorised Firmhas availed itself of the reductions to Exposurevalues as set out in PIB A4.11 the Authorised Firmmust calculate the Exposureas a percentage of its Tier 1 Capital on both a gross and net basis.
Authorised Firmthat avails itself of the reduction in its Exposurevalue through the application of PIB Rule A4.11 must conduct periodic stress tests on its Exposuresagainst the realisable value of any Collateralconsidered under with the FCSA or FCCA.
PIB 4.15.16 PIB 4.15.16
Where the value of the
Collateralunder the stress scenario is lower than the value applied under PIB Rule 4.15.12 the lower value should be used when determining the Exposurevalue for the purposes of this section.
PIB 4.15.16 Guidance
Such stress tests should include market value changes of underlying
Collateral, risks relating to liquidity and realisation of such Collateralin stress scenarios. An assessment of the impact of any such changes on the Exposurevalue and the capital position of the Authorised Firmshould be conducted. Stress testing of these positions should be conducted at least once a year.
PIB 4.15.17 PIB 4.15.17
Authorised Firmmust document its policy for the use of any of the exclusions in PIB Rule 4.15.12.
PIB 4.15.17 Guidance
Such policy should include risks such as maturity mismatches, stress testing of
Collateralvalues, indirect Exposuresarising from Credit Riskmitigation, such as mitigation provided on Exposuresby the same Counterparty.
Treatment of Parental Guarantees
PIB 4.15.18(a) the Authorised Firm’s Parent guarantees that Exposure to a Counterparty or to a group of
Closely Related Counterparties; and(b) the following conditions are met:(i) the Counterparty or group of Closely Related Counterpartiesare not Connected to the Authorised Firm;(ii) the guarantee is to be provided by the Authorised Firm’s Parent, or regulated member of its Group;(iii) the criteria for guarantees must be in line with the Credit Risk mitigation requirements as set out in PIB section 4.13;(iv) the entity providing the guarantee must be a bank regulated to standards acceptable to the DFSA;(v) the total amount of guarantees provided to the Authorised Firmmust be less than 10% of the Parent (or other) Authorised Firm’s Tier 1 Capital;(vi) the Parent must be rated as a Credit Quality Gradeof 1 or 2 by a recognised credit rating agency;(vii) the Authorised Firmmust provide confirmation from the home state Financial Services Regulator that it is satisfied that the Parent Authorised Firmhas sufficient resources to provide such guarantees and has no objection to the provision of such guarantees;(viii) the Authorised Firmshould provide an annual confirmation that there are no changes to the enforceability of such guarantees; and(ix) the Authorised Firmmust notify the DFSA when such guarantees represent 200%, 400% and 600% of Tier 1 Capital and the overall Large Exposure limit must not exceed 800%.