Entire Section

  • PIB A4.6 PIB A4.6 Credit RWA — Unsettled Transactions, free deliveries and OTC Derivatives

    • PIB A4.6 Guidance

      1. Where settlement does not occur on the due date and neither party has released the relevant cash or Securities, an Authorised Firm faces Market Risk, namely the differential between the contract price of the Securities and their current value in the market. In this case an Authorised Firm also faces a Credit Risk Exposure for the Unsettled Transaction, for which the Authorised Firm is required to hold regulatory capital. The relevant Credit Risk Exposure should be included in the calculation of Credit RWA for the Authorised Firm.
      2. An Authorised Firm is 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 Firm must calculate the Credit Risk RWA for the free delivery transaction.
      3. For OTC Derivatives and other contracts, an Authorised Firm is exposed to settlement risk. For an OTC Derivative contract, the risk is that the price moves in an Authorised Firm's favour so that it makes a book profit but at maturity the Authorised Firm cannot realise that profit because the other party defaults. The amount at risk is therefore less than the Authorised Firm's nominal Exposure and is measured by calculating the proportion of the nominal Exposure considered to be at risk -the Credit Equivalent Amount.
      Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • PIB A4.6.1

      The section applies in respect of items in both the Trading Book and Non-Trading Book.

      Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • PIB A4.6.2

      CRWs must be calculated on the Counterparty to the transaction, not on the Issuer of the Security.

      Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • PIB A4.6.3

      When calculating its Credit RWA, an Authorised Firm must not include RWA arising from a transaction if it is a negative amount.

      Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • PIB A4.6.4

      CRW is applied in accordance with PIB section A4.3 except that the maximum CPW for an OTC Derivative is 50%.

      Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • Unsettled Transactions

      • PIB A4.6.5

        An Authorised Firm must calculate the Credit RWA for transactions in which debt instruments, equities, foreign currencies and commodities (excluding repos, reverse repos and Securities or commodities lending/borrowing) remain unsettled after their due delivery dates, using the following formula:

        Credit RWA on 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 RWA on Unsettled Transactions
        0–4 0%
        5–15 100%
        16–30 500%
        31–45 750%
        46 or more 1000%
        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.6

        If assets involved in the transaction are to be received by the Authorised Firm and the transaction remains unsettled: E = MV-CV.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.7

        If assets involved in the transaction are to be delivered by the Authorised Firm and the transaction remains unsettled: E = CV-MV. If the values for E calculated above are negative, E = 0.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.8 PIB A4.6.8

        An Authorised Firm must 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.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

        • PIB A4.6.8 Guidance

          1. E is the price difference to which the Authorised Firm is 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 Firm need not calculate CRCOM on 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.
          Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • Free Delivery Transactions

      • PIB A4.6.9

        The CRW for transactions in which an Authorised Firm has:

        (a) delivered Securities or commodities before receiving payment;
        (b) paid for Securities or 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 Counterparty but has not yet received the funds in the other currency;

        is calculated by the formula:

        Credit RWA on free deliveries = E x CRW x the multiplier from the table below:

        Number of business days since delivery multiplier used for calculation of Credit RWA on free deliveries
        0–15 1
        16–30 5
        31–45 7.5
        46 or more 10
        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A.4.6.10

        If an Authorised Firm has delivered commodities or Securities to a Counterparty and has not received payment: E = CV due to the Authorised Firm.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.11

        If an Authorised Firm has made payment to a Counterparty for commodities or Securities and has not received them: E = MV of the commodities or Securities.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.12

        If the settlement of the transaction is to be effected across a national border, Credit RWA needs to be calculated only when more than one business day has elapsed since the firm has made the relevant payment or delivery.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.13

        In the case of a Non-Trading Book item, an Authorised Firm must treat an Exposure in accordance with the relevant provisions of PIB chapter 4.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

    • Financial Derivatives

      • PIB A4.6.14

        For the purposes of calculating Credit RWA, a financial Derivative includes, but is not limited to OTC Derivatives and Credit Derivatives. Exposures dealt with under this section do not include Exposures to CCPs which qualify for a zero Exposure value.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.15 PIB A4.6.15

        For OTC Derivative transactions: Credit RWA = CEA x CRW.

        where:

        (a) contracts traded on exchanges, where they are subject to daily margining requirements, are excluded; and
        (b) CEA is calculated using the formula:
        CEA = the replacement cost of the OTC Derivative contract (obtained by marking to market) (in the case of a transaction with negative replacement cost, a value of zero) + PFCE.
        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

        • PIB A4.6.15 Guidance

          Details of how to net the PFCE are given in PIB Rule A4.6.22.

          Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.16

        (1) In case of Credit Derivatives including but not limited to total return swaps and credit default swaps, an Authorised Firm must determine its PFCE by multiplying the nominal amount of the instrument by the following percentages:
        (a) 5% where the reference obligation of the Credit Derivative is one that if it gave rise to a direct Exposure of the Authorised Firm would be a qualifying reference obligation; or
        (b) 10% where the reference obligation is one that if it gave rise to a direct Exposure of the Authorised Firm would not be a qualifying reference obligation.
        (2) For the purposes of this Rule, a "qualifying reference obligation" means any Security that is issued by any MDB, any Security (including one issued by a PSE) that has a Credit Quality Grade of 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 Security issued by a PSE which belongs to a country with a Credit Quality Grade of 1 as set out in PIB section 4.12.
        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.17

        In the case of credit default swaps, an Authorised Firm which 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.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.18 PIB A4.6.18

        In cases where a Credit Derivative provides protection in relation to "nth to default" amongst a number of underlying obligations, an Authorised Firm must apply a percentage in accordance with PIB Rule A4.6.16 applicable to the obligation with the nth lowest credit quality determined by whether it is one that if incurred by the Authorised Firm would be a qualifying reference obligation for the purposes of PIB Rule A4.6.16(1)(a).

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

        • PIB A4.6.18 Guidance

          Where the Credit Derivative is 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.

          Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.19

        For OTC Derivative transactions 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
        Forward-rate agreements
        Interest rate futures
        Interest rate Options purchased
        Derivatives referenced on an Investment Grade debt 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.

        Currency futures.

        Currency Options purchased.

        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.

        Derivatives referenced on a bond which is not an Investment Grade debt 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%
        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.20

        If the contract is an OTC foreign exchange contract (not including gold) with an Original Maturity of 14 days or less: CEA = 0.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • 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.

        Netting of PFCE

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

        • PIB A4.6.21 Guidance

          An Authorised Firm may calculate the PFCE arising under OTC derivative contracts on a net basis.

          Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.22

        Where the conditions in in PIB section 4.13 are met, an Authorised Firm may 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 Counterparty included in the Netting agreement;
        (b) "PFCE gross" is the sum of the figures for PFCE for all contracts with a given Counterparty which are included in the Netting agreement; and
        (c) "NGR" is the net-to-gross ratio, being the quotient of the net replacement cost for all contracts included in the Netting agreement with a given Counterparty (numerator) and the gross replacement cost for all contracts included in the Netting agreement with that Counterparty (denominator).
        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]

      • PIB A4.6.23

        For the purposes of PIB Rule A4.6.19, the applicable maturity date must be the maturity of the longest date.

        Derived from RM111/2012 (Made 15th October 2012). [VER20/12-12]