PIB A4.6 PIB A4.6 Credit RWA — Unsettled Transactions, free deliveries and OTC Derivatives
PIB A4.6 Guidance1. Where settlement does not occur on the due date and neither party has released the relevant cash or
Securities, an Authorised Firmfaces Market Risk, namely the differential between the contract price of the Securitiesand their current value in the market. In this case an Authorised Firmalso faces a Credit Risk Exposurefor the Unsettled Transaction, for which the Authorised Firmis required to hold regulatory capital. The relevant Credit Risk Exposureshould be included in the calculation of Credit RWAfor the Authorised Firm.2. An Authorised Firmis at risk for the whole amount of the contract (as well as any further movement in price) if it has delivered its leg of a contract before receipt of the other leg. In this case an Authorised Firmmust calculate the Credit Risk RWAfor the free delivery transaction.3. For OTC Derivativesand other contracts, an Authorised Firmis exposed to settlement risk. For an OTC Derivativecontract, the risk is that the price moves in an Authorised Firm'sfavour so that it makes a book profit but at maturity the Authorised Firmcannot realise that profit because the other party defaults. The amount at risk is therefore less than the Authorised Firm's nominal Exposureand is measured by calculating the proportion of the nominal Exposureconsidered to be at risk -the Credit Equivalent Amount.
The section applies in respect of items in both the
Trading Bookand Non-Trading Book.
CRWs must be calculated on the
Counterpartyto the transaction, not on the Issuerof the Security.
When calculating its
Credit RWA, an Authorised Firmmust not include RWAarising from a transaction if it is a negative amount.
CRW is applied in accordance with PIB section A4.3 except that the maximum CPW for an OTC
Authorised Firmmust calculate the Credit RWAfor transactions in which debt instruments, equities, foreign currencies and commodities (excluding repos, reverse repos and Securitiesor commodities lending/borrowing) remain unsettled after their due delivery dates, using the following formula: Credit RWAon Unsettled Transactions= E x the appropriate percentage from the second column in the table below: Number of business days after due settlement date Percentages used for calculation of Credit RWAon Unsettled Transactions 0–4 0% 5–15 100% 16–30 500% 31–45 750% 46 or more 1000%
If assets involved in the transaction are to be received by the
Authorised Firmand the transaction remains unsettled: E = MV-CV.
If assets involved in the transaction are to be delivered by the
Authorised Firmand the transaction remains unsettled: E = CV-MV. If the values for E calculated above are negative, E = 0.
PIB A4.6.8 PIB A4.6.8
Authorised Firmmust determine E for an unsettled non-DvP transaction as equal to the outstanding receivables after the end of the first contractual payment or delivery date.
PIB A4.6.8 Guidance1. E is the price difference to which the
Authorised Firmis exposed, being the difference between the agreed settlement price for the debt instrument, equity, foreign currency or commodity in question and its current market value, where the difference could involve a loss for the firm.2. In cases of a system-wide failure of a settlement or clearing system, an Authorised Firmneed not calculate CRCOMon transactions remaining unsettled till the settlement or clearing system is brought back to normal operations.3. In respect of unsettled non-DvP transactions referred to in PIB Rule A4.6.8, if the dates when two payment legs are made are the same according to the time zones where each payment is made, they are deemed to have been settled on the same day.
Free Delivery Transactions
The CRW for transactions in which an
Authorised Firmhas:(a) delivered Securitiesor commodities before receiving payment;(b) paid for Securitiesor commodities before receiving the items purchased; or(c) entered into a foreign exchange contract undertaken in the spot market or contracted for forward settlement and has released funds to its Counterpartybut has not yet received the funds in the other currency;
is calculated by the formula:
Credit RWAon free deliveries = E x CRW x the multiplier from the table below: Number of business days since delivery multiplier used for calculation of Credit RWAon free deliveries 0–15 1 16–30 5 31–45 7.5 46 or more 10
Authorised Firmhas delivered commodities or Securitiesto a Counterpartyand has not received payment: E = CV due to the Authorised Firm.
Authorised Firmhas made payment to a Counterpartyfor commodities or Securitiesand has not received them: E = MV of the commodities or Securities.
If the settlement of the transaction is to be effected across a national border,
Credit RWAneeds to be calculated only when more than one business day has elapsed since the firm has made the relevant payment or delivery.
In the case of a
Non-Trading Bookitem, an Authorised Firmmust treat an Exposurein accordance with the relevant provisions of PIB chapter 4.
For the purposes of calculating
Credit RWA, a financial Derivativeincludes, but is not limited to OTC Derivativesand Credit Derivatives. Exposuresdealt with under this section do not include Exposuresto CCPs which qualify for a zero Exposurevalue.
PIB A4.6.15 PIB A4.6.15
Derivativetransactions: Credit RWA= CEAx CRW.
where:(a) contracts traded on exchanges, where they are subject to daily margining requirements, are excluded; and(b)
CEAis calculated using the formula: CEA= the replacement cost of the OTC Derivativecontract (obtained by marking to market) (in the case of a transaction with negative replacement cost, a value of zero) + PFCE.
PIB A4.6.15 Guidance
Details of how to net the PFCE are given in PIB Rule A4.6.22.
PIB A4.6.16(1) In case of
Credit Derivativesincluding but not limited to total return swaps and credit default swaps, an Authorised Firmmust determine its PFCE by multiplying the nominal amount of the instrument by the following percentages:(a) 5% where the reference obligation of the Credit Derivativeis one that if it gave rise to a direct Exposureof the Authorised Firmwould be a qualifying reference obligation; or(b) 10% where the reference obligation is one that if it gave rise to a direct Exposureof the Authorised Firmwould not be a qualifying reference obligation.(2) For the purposes of this Rule, a "qualifying reference obligation" means any Securitythat is issued by any MDB, any Security(including one issued by a PSE) that has a Credit Quality Gradeof 3 or better as set out in PIB section 4.12 based on the external credit assessment of at least one recognised external credit rating agency, and any unrated Securityissued by a PSE which belongs to a country with a Credit Quality Gradeof 1 as set out in PIB section 4.12.
In the case of credit default swaps, an
Authorised Firmwhich is a seller of credit protection may assign a PFCE of 0%, unless the protection is subject to close-out on the insolvency of the buyer.
PIB A4.6.18 PIB A4.6.18
In cases where a
Credit Derivativeprovides protection in relation to "nth to default" amongst a number of underlying obligations, an Authorised Firmmust apply a percentage in accordance with PIB Rule A4.6.16applicable to the obligation with the nth lowest credit quality determined by whether it is one that if incurred by the Authorised Firmwould be a qualifying reference obligation for the purposes of PIB Rule A4.6.16(1)(a).
PIB A4.6.18 Guidance
Credit Derivativeis a first to default transaction, the appropriate percentage for the PFCE will be determined by the lowest credit quality of the underlying obligations in the basket. If there are nonqualifying items in the basket, the percentage applicable to the non-qualifying reference obligations should be used. For second and any subsequent default transactions, underlying assets should continue to be allocated according to credit quality: i.e. for a second to default transaction, the applicable percentage figure is the percentage applicable to the second lowest credit quality.
Derivativetransactions other than Credit Derivatives, PFCE is calculated by multiplying the NP of the contract by the appropriate percentage from the table below. Type of contract Residual maturity of contract <1 Year 1–5 Years >5 Years Single currency interest rate basis swaps 0.0% 0.0% 0.0% Interest rate Single currency interest rate swaps other than basis swaps
Multiple currency basis swaps
Interest rate futures
Derivativesreferenced on an Investment Gradedebt Item
Other contracts of a similar nature to those in this box.
0.0% 0.5% 1.5% Foreign exchange (including gold) except as referred to in A4.6.20 Cross-currency interest-rate swaps.
Forward foreign exchange contracts.
Other contracts of a similar nature to those in this box, including gold.
1.0% 5.0% 7.5% Equities Cash settled forward contracts
Contracts of a nature similar to those in the interest rate and foreign exchange boxes.
Derivativesreferenced on a bond which is not an Investment Gradedebt Item. 6.0% 8.0% 10.0% Precious metals (except gold) Contracts of a nature similar to those in the interest rate and foreign exchange boxes concerning precious metals, except gold. 7.0% 7.0% 8.0% Commodities (except precious metals) and any other contracts Contracts of a nature similar to those in the interest rate or foreign exchange boxes concerning commodities other than precious metals. 10.0% 12.0% 15.0%
If the contract is an OTC foreign exchange contract (not including gold) with an
Original Maturityof 14 days or less: CEA= 0.
PIB A4.6.21 PIB A4.6.21
Where a contract price is based upon more than one underlying instrument, the higher of the relevant PFCE multipliers must be used.
PIB A4.6.21 Guidance
Authorised Firmmay calculate the PFCE arising under OTC derivative contracts on a net basis.
Where the conditions in in PIB section 4.13 are met, an
Authorised Firmmay calculate its net PFCE on OTC derivative contracts using the following formula:
PFCE reduced = 0.4 x PFCE gross + 0.6 x NGR x PFCE gross
where:(a) "PFCE reduced" is the reduced figure for PFCE for all contracts with a given
Counterpartyincluded in the Nettingagreement;(b) "PFCE gross" is the sum of the figures for PFCE for all contracts with a given Counterpartywhich are included in the Nettingagreement; and(c) "NGR" is the net-to-gross ratio, being the quotient of the net replacement cost for all contracts included in the Nettingagreement with a given Counterparty(numerator) and the gross replacement cost for all contracts included in the Nettingagreement with that Counterparty(denominator).
For the purposes of PIB Rule A4.6.19, the applicable maturity date must be the maturity of the longest date.