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SCO - Scope and definitionsCAP - Definition of capitalRBC - Risk-based capital
requirementsCRE - Calculation of RWA for credit riskMAR - Calculation of RWA for
market riskOPE - Calculation of RWA for operational riskLEV - Leverage ratioLCR
- Liquidity Coverage RatioNSF - Net stable funding ratioLEX - Large exposuresMGN
- Margin requirementsSRP - Supervisory review processDIS - Disclosure
requirementsBCP - Core Principles for effective banking supervisionCRE -
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CRE20 - Standardised approach: individual exposuresCRE21 - Standardised
approach: use of external ratingsCRE22 - Standardised approach: credit risk
mitigationCRE30 - IRB approach: overview and asset class definitionsCRE31 - IRB
approach: risk weight functionsCRE32 - IRB approach: risk componentsCRE33 - IRB
approach: supervisory slotting approach for specialised lendingCRE34 - IRB
approach: RWA for purchased receivablesCRE35 - IRB approach: treatment of
expected losses and provisionsCRE36 - IRB approach: minimum requirements to use
IRB approachCRE40 - Securitisation: general provisionsCRE41 - Securitisation:
standardised approachCRE42 - Securitisation: External-ratings-based approach
(SEC-ERBA)CRE43 - Securitisation: Internal assessment approach (SEC-IAA)CRE44 -
Securitisation: Internal-ratings-based approachCRE45 - Securitisations of
non-performing loansCRE50 - Counterparty credit risk definitions and
terminologyCRE51 - Counterparty credit risk overviewCRE52 - Standardised
approach to counterparty credit riskCRE53 - Internal models method for
counterparty credit riskCRE54 - Capital requirements for bank exposures to
central counterpartiesCRE55 - Counterparty credit risk in the trading bookCRE56
- Minimum haircut floors for securities financing transactionsCRE60 - Equity
investments in fundsCRE70 - Capital treatment of unsettled transactions and
failed tradesCRE90 - TransitionCRE99 - Application guidanceCRE32 - IRB approach:
risk components

This chapter sets out the calculation of the risk components used in risk-weight
functions (PD, LGD, EAD, M) for each asset class.

Effective as of: 01 Jan 2023 | Last update: 27 Mar 2020
Status: Current (View changes)
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IntroductionRisk components for corporate, sovereign and bank exposuresRisk
components for retail exposuresGo to section...


INTRODUCTION

32.1

This chapter presents the calculation of the risk components (PD, LGD, EAD, M)
that are used in the formulas set out in CRE31. In calculating these components,
the legal certainty standards for recognising credit risk mitigation under the
standardised approach to credit risk (CRE22) apply for both the foundation and
advanced internal ratings-based (IRB) approaches.


RISK COMPONENTS FOR CORPORATE, SOVEREIGN AND BANK EXPOSURES

32.2

This section, CRE32.2 to CRE32.56, sets out the calculation of the risk
components for corporate, sovereign and bank exposures. In the case of an
exposure that is guaranteed by a sovereign, the floors that apply to the risk
components do not apply to that part of the exposure covered by the sovereign
guarantee (ie any part of the exposure that is not covered by the guarantee is
subject to the relevant floors).

PROBABILITY OF DEFAULT (PD)

32.3

For corporate, sovereign and bank exposures, the PD is the one-year PD
associated with the internal borrower grade to which that exposure is assigned.
The PD of borrowers assigned to a default grade(s), consistent with the
reference definition of default, is 100%. The minimum requirements for the
derivation of the PD estimates associated with each internal borrower grade are
outlined in CRE36.77 to CRE36.79.

32.4

With the exception of exposures in the sovereign asset class, the PD for each
exposure that is used as input into the risk weight formula and the calculation
of expected loss must not be less than 0.05%.

LOSS GIVEN DEFAULT (LGD)

32.5

A bank must provide an estimate of the LGD for each corporate, sovereign and
bank exposure. There are two approaches for deriving this estimate: a foundation
approach and an advanced approach. As noted in CRE30.34, the advanced approach
is not permitted for exposures to certain entities.

LGD UNDER THE FOUNDATION INTERNAL RATINGS-BASED (F-IRB) APPROACH: TREATMENT OF
UNSECURED CLAIMS AND NON-RECOGNISED COLLATERAL

32.6

Under the foundation approach, senior claims on sovereigns, banks, securities
firms and other financial institutions (including insurance companies and any
financial institutions in the corporate asset class) that are not secured by
recognised collateral will be assigned a 45% LGD. Senior claims on other
corporates that are not secured by recognised collateral will be assigned a 40%
LGD.

32.7

All subordinated claims on corporates, sovereigns and banks will be assigned a
75% LGD. A subordinated loan is a facility that is expressly subordinated to
another facility. At national discretion, supervisors may choose to employ a
wider definition of subordination. This might include economic subordination,
such as cases where the facility is unsecured and the bulk of the borrower’s
assets are used to secure other exposures.

LGD UNDER THE F-IRB APPROACH: COLLATERAL RECOGNITION

32.8

In addition to the eligible financial collateral recognised in the standardised
approach, under the F-IRB approach some other forms of collateral, known as
eligible IRB collateral, are also recognised. These include receivables,
specified commercial and residential real estate, and other physical collateral,
where they meet the minimum requirements set out in CRE36.131 to CRE36.147. For
eligible financial collateral, the requirements are identical to the operational
standards as set out in the credit risk mitigation section of the standardised
approach (see CRE22).

32.9

The simple approach to collateral presented in the standardised approach is not
available to banks applying the IRB approach.

32.10

The LGD applicable to a collateralised transaction (LGD*) must be calculated as
the exposure weighted average of the LGD applicable to the unsecured part of an
exposure (LGDU) and the LGD applicable to the collateralised part of an exposure
(LGDS). Specifically, the formula that follows must be used, where:

(1)

E is the current value of the exposure (ie cash lent or securities lent or
posted). In the case of securities lent or posted the exposure value has to be
increased by applying the appropriate haircuts (HE) according to the
comprehensive approach for financial collateral.

(2)

ES is the current value of the collateral received after the application of the
haircut applicable for the type of collateral (Hc) and for any currency
mismatches between the exposure and the collateral, as specified in CRE32.11 to
CRE32.12. ES is capped at the value of E ∙ (1+HE).

(3)

EU = E ∙ (1+HE) - Es. The terms EU and ES are only used to calculate LGD*. Banks
must continue to calculate EAD without taking into account the presence of any
collateral, unless otherwise specified.

(4)

LGDU is the LGD applicable for an unsecured exposure, as set out in CRE32.6 and
CRE32.7.

(5)

LGDS is the LGD applicable to exposures secured by the type of collateral used
in the transaction, as specified in CRE32.11.



32.11

The following table specifies the LGDS and haircuts applicable in the formula
set out in CRE32.10:

Type of collateral

LGDS

Haircut

Eligible financial collateral

0%

As determined by the haircuts that apply in the comprehensive formula of the
standardised approach for credit risk (CRE22.49 for jurisdictions that allow the
use of ratings for regulatory purposes and CRE22.50 for jurisdictions that do
not).

The haircuts have to be adjusted for different holding periods and non-daily
remargining or revaluation according to CRE22.56 to CRE22.59 of the standardised
approach.

Eligible receivables

20%

40%

Eligible residential real estate / commercial real estate

20%

40%

Other eligible physical collateral

25%

40%

Ineligible collateral

Not applicable

100%

32.12

When eligible collateral is denominated in a different currency to that of the
exposure, the haircut for currency risk is the same haircut that applies in the
comprehensive approach (CRE22.52 of the standardised approach).

32.13

Banks that lend securities or post collateral must calculate capital
requirements for both of the following: (i) the credit risk or market risk of
the securities, if this remains with the bank; and (ii) the counterparty credit
risk arising from the risk that the borrower of the securities may default.
CRE32.37 to CRE32.43 set out the calculation the EAD arising from transactions
that give rise to counterparty credit risk. For such transactions the LGD of the
counterparty must be determined using the LGD specified for unsecured exposures,
as set out in CRE32.6 and CRE32.7.

LGD UNDER THE F-IRB APPROACH: METHODOLOGY FOR THE TREATMENT OF POOLS OF
COLLATERAL

32.14

In the case where a bank has obtained multiple types of collateral it may apply
the formula set out in CRE32.10 sequentially for each individual type of
collateral. In doing so, after each step of recognising one individual type of
collateral, the remaining value of the unsecured exposure (EU) will be reduced
by the adjusted value of the collateral (ES) recognised in that step. In line
with CRE32.10, the total of ES across all collateral types is capped at the
value of E ∙ (1+HE) . This results in the formula that follows, where for each
collateral type i:

(1)

LGDSi is the LGD applicable to that form of collateral (as specified in
CRE32.11).

(2)

ESi is the current value of the collateral received after the application of the
haircut applicable for the type of collateral (Hc) (as specified in CRE32.11).



LGD UNDER THE ADVANCED APPROACH

32.15

Subject to certain additional minimum requirements specified below (and the
conditions set out in CRE30.34), supervisors may permit banks to use their own
internal estimates of LGD for corporate and sovereign exposures. LGD must be
measured as the loss given default as a percentage of the EAD. Banks eligible
for the IRB approach that are unable to meet these additional minimum
requirements must utilise the foundation LGD treatment described above.

32.16

The LGD for each corporate exposure that is used as input into the risk weight
formula and the calculation of expected loss must not be less than the parameter
floors indicated in the table below (the floors do not apply to the LGD for
exposures in the sovereign asset class):

LGD parameter floors for corporate exposures

Unsecured

Secured

25%

Varying by collateral type:

 * 0% financial
 * 10% receivables
 * 10% commercial or residential real estate
 * 15% other physical

32.17

The LGD floors for secured exposures in the table above apply when the exposure
is fully secured (ie the value of collateral after the application of haircuts
exceeds the value of the exposure). The LGD floor for a partially secured
exposure is calculated as a weighted average of the unsecured LGD floor for the
unsecured portion and the secured LGD floor for the secured portion. That is,
the following formula should be used to determine the LGD floor, where:

(1)

LGDU floor and LGDS floor are the floor values for fully unsecured and fully
secured exposures respectively, as specified in the table in CRE32.16.

(2)

The other terms are defined as set out in CRE32.10 and CRE32.11.



32.18

In cases where a bank has met the conditions to use their own internal estimates
of LGD for a pool of unsecured exposures, and takes collateral against one of
these exposures, it may not be able to model the effects of the collateral (ie
it may not have enough data to model the effect of the collateral on
recoveries). In such cases, the bank is permitted to apply the formula set out
in CRE32.10 or CRE32.14, with the exception that the LGDU term would be the
bank’s own internal estimate of the unsecured LGD. To adopt this treatment the
collateral must be eligible under the F-IRB and the bank’s estimate of LGDU must
not take account of any effects of collateral recoveries.

32.19

The minimum requirements for the derivation of LGD estimates are outlined in
CRE36.83 to CRE36.88.

TREATMENT OF CERTAIN REPO-STYLE TRANSACTIONS

32.20

Banks that want to recognise the effects of master netting agreements on
repo-style transactions for capital purposes must apply the methodology outlined
in CRE32.38 for determining E* for use as the EAD in the calculation of
counterparty credit risk. For banks using the advanced approach, own LGD
estimates would be permitted for the unsecured equivalent amount (E*) used to
calculate counterparty credit risk. In both cases banks, in addition to
counterparty credit risk, must also calculate the capital requirements relating
to any credit or market risk to which they remain exposed arising from the
underlying securities in the master netting agreement.

TREATMENT OF GUARANTEES AND CREDIT DERIVATIVES

32.21

There are two approaches for recognition of credit risk mitigation (CRM) in the
form of guarantees and credit derivatives in the IRB approach: a foundation
approach for banks using supervisory values of LGD, and an advanced approach for
those banks using their own internal estimates of LGD.

32.22

Under either approach, CRM in the form of guarantees and credit derivatives must
not reflect the effect of double default (see CRE36.102). As such, to the extent
that the CRM is recognised by the bank, the adjusted risk weight will not be
less than that of a comparable direct exposure to the protection provider.
Consistent with the standardised approach, banks may choose not to recognise
credit protection if doing so would result in a higher capital requirement.

TREATMENT OF GUARANTEES AND CREDIT DERIVATIVES: RECOGNITION UNDER THE FOUNDATION
APPROACH

32.23

For banks using the foundation approach for LGD, the approach to guarantees and
credit derivatives closely follows the treatment under the standardised approach
as specified in CRE22.70 to CRE22.84. The range of eligible guarantors is the
same as under the standardised approach except that companies that are
internally rated may also be recognised under the foundation approach. To
receive recognition, the requirements outlined in CRE22.70 to CRE22.75 of the
standardised approach must be met.

32.24

Eligible guarantees from eligible guarantors will be recognised as follows:

(1)

For the covered portion of the exposure, a risk weight is derived by taking:

(a)

the risk-weight function appropriate to the type of guarantor, and

(b)

the PD appropriate to the guarantor’s borrower grade.

(2)

The bank may replace the LGD of the underlying transaction with the LGD
applicable to the guarantee taking into account seniority and any
collateralisation of a guaranteed commitment. For example, when a bank has a
subordinated claim on the borrower but the guarantee represents a senior claim
on the guarantor this may be reflected by using an LGD applicable for senior
exposures (see CRE32.6) instead of an LGD applicable for subordinated exposures.

(3)

In case the bank applies the standardised approach to direct exposures to the
guarantor it may only recognise the guarantee by applying the standardised
approach to the covered portion of the exposure.

32.25

The uncovered portion of the exposure is assigned the risk weight associated
with the underlying obligor.

32.26

Where partial coverage exists, or where there is a currency mismatch between the
underlying obligation and the credit protection, it is necessary to split the
exposure into a covered and an uncovered amount. The treatment in the foundation
approach follows that outlined in CRE22.80 to CRE22.81 of the standardised
approach, and depends upon whether the cover is proportional or tranched.

TREATMENT OF GUARANTEES AND CREDIT DERIVATIVES: RECOGNITION UNDER THE ADVANCED
APPROACH

32.27

Banks using the advanced approach for estimating LGDs may reflect the
risk-mitigating effect of guarantees and credit derivatives through either
adjusting PD or LGD estimates. Whether adjustments are done through PD or LGD,
they must be done in a consistent manner for a given guarantee or credit
derivative type. In doing so, banks must not include the effect of double
default in such adjustments. Thus, the adjusted risk weight must not be less
than that of a comparable direct exposure to the protection provider. In case
the bank applies the standardised approach to direct exposures to the guarantor
it may only recognise the guarantee by applying the standardised approach to the
covered portion of the exposure. In case the bank applies the F-IRB approach to
direct exposures to the guarantor it may only recognise the guarantee by
determining the risk weight for the comparable direct exposure to the guarantor
according to the F-IRB approach.

32.28

A bank relying on own-estimates of LGD has the option to adopt the treatment
outlined in CRE32.23 to CRE32.26 above for banks under the F-IRB approach, or to
make an adjustment to its LGD estimate of the exposure to reflect the presence
of the guarantee or credit derivative. Under this option, there are no limits to
the range of eligible guarantors although the set of minimum requirements
provided in CRE36.104 to CRE36.105 concerning the type of guarantee must be
satisfied. For credit derivatives, the requirements of CRE36.110 to CRE36.111
must be satisfied.1 For exposures for which a bank has permission to use its own
estimates of LGD, the bank may recognise the risk mitigating effects of
first-to-default credit derivatives, but may not recognise the risk mitigating
effects of second-to-default or more generally nth-to-default credit
derivatives.

1 Footnote

EXPOSURE AT DEFAULT (EAD)

32.29

The following sections apply to both on and off-balance sheet positions. All
exposures are measured gross of specific provisions or partial write-offs. The
EAD on drawn amounts should not be less than the sum of: (i) the amount by which
a bank’s regulatory capital would be reduced if the exposure were written-off
fully; and (ii) any specific provisions and partial write-offs. When the
difference between the instrument’s EAD and the sum of (i) and (ii) is positive,
this amount is termed a discount. The calculation of risk-weighted assets is
independent of any discounts. Under the limited circumstances described in
CRE35.4, discounts may be included in the measurement of total eligible
provisions for purposes of the EL-provision calculation set out in CRE35.

EXPOSURE MEASUREMENT FOR ON-BALANCE SHEET ITEMS

32.30

On-balance sheet netting of loans and deposits will be recognised subject to the
same conditions as under CRE22.68 of the standardised approach. Where currency
or maturity mismatched on-balance sheet netting exists, the treatment follows
the standardised approach, as set out in CRE22.10 and CRE22.12 to CRE22.15.

EXPOSURE MEASUREMENT FOR OFF-BALANCE SHEET ITEMS (WITH THE EXCEPTION OF
DERIVATIVES)

32.31

For off-balance sheet items there are two approaches for the estimation of EAD:
a foundation approach and an advanced approach. When only the drawn balances of
revolving facilities have been securitised, banks must ensure that they continue
to hold required capital against the undrawn balances associated with the
securitised exposures.

32.32

In the foundation approach, EAD is calculated as the committed but undrawn
amount multiplied by a credit conversion factor (CCF). In the advanced approach,
EAD for undrawn commitments may be calculated as the committed but undrawn
amount multiplied by a CCF or derived from direct estimates of total facility
EAD. In both the foundation approach and advanced approaches, the definition of
commitments is the same as in the standardised approach, as set out in CRE20.94.

EAD UNDER THE FOUNDATION APPROACH

32.33

The types of instruments and the CCFs applied to them under the F-IRB approach
are the same as those in the standardised approach, as set out in CRE20.94 to
CRE20.101.

32.34

The amount to which the CCF is applied is the lower of the value of the unused
committed credit line, and the value that reflects any possible constraining of
the availability of the facility, such as the existence of a ceiling on the
potential lending amount which is related to a borrower’s reported cash flow. If
the facility is constrained in this way, the bank must have sufficient line
monitoring and management procedures to support this contention.

32.35

Where a commitment is obtained on another off-balance sheet exposure, banks
under the foundation approach are to apply the lower of the applicable CCFs.

EAD UNDER THE ADVANCED APPROACH

32.36

Banks which meet the minimum requirements for use of their own estimates of EAD
(see CRE36.89 to CRE36.98) will be allowed for exposures for which A-IRB is
permitted (see CRE30.33) to use their own internal estimates of EAD for undrawn
revolving commitments2 to extend credit, purchase assets or issue credit
substitutes provided the exposure is not subject to a CCF of 100% in the
foundation approach (see CRE32.33). Standardised approach CCFs must be used for
all other off-balance sheet items (for example, undrawn non-revolving
commitments), and must be used where the minimum requirements for own estimates
of EAD are not met. The EAD for each exposure that is not in the sovereign asset
class that is used as input into the risk weight formula and the calculation of
expected loss is subject to a floor that is the sum of: (i) the on balance sheet
amount; and (ii) 50% of the off balance sheet exposure using the applicable CCF
in the standardised approach.

1 Footnote

EXPOSURES THAT GIVE RISE TO COUNTERPARTY CREDIT RISK

32.37

For exposures that give rise to counterparty credit risk according to CRE51.4
(ie OTC derivatives, exchange-traded derivatives, long settlement transactions
and securities financing transactions (SFTs)), the EAD is to be calculated under
the rules set forth in CRE50 to CRE54.

32.38

For SFTs, banks may recognise a reduction in the counterparty credit risk
requirement arising from the effect of a master netting agreement providing that
it satisfies the criteria set out in CRE22.62 and CRE22.63 of the standardised
approach. The bank must calculate E*, which is the exposure to be used for the
counterparty credit risk requirement taking account of the risk mitigation of
collateral received, using the formula set out in CRE22.65 of the standardised
approach. In calculating risk-weighted assets and expected loss (EL) amounts for
the counterparty credit risk arising from the set of transactions covered by the
master netting agreement, E* must be used as the EAD of the counterparty.

32.39

As an alternative to the use of standard haircuts for the calculation of the
counterparty credit risk requirement for SFTs set out in CRE32.38, banks may be
permitted to use a value-at-risk (VaR) models approach to reflect price
volatility of the exposures and the financial collateral. This approach can take
into account the correlation effects between security positions. This approach
applies to single SFTs and SFTs covered by netting agreements on a
counterparty-by-counterparty basis, both under the condition that the collateral
is revalued on a daily basis. This holds for the underlying securities being
different and unrelated to securitisations. The master netting agreement must
satisfy the criteria set out in CRE22.62 and CRE22.63 of the standardised
approach. The VaR models approach is available to banks that have received
supervisory recognition for an internal market risk model according to MAR30.2.
Banks which have not received market risk model recognition can separately apply
for supervisory recognition to use their internal VaR models for the calculation
of potential price volatility for SFTs, provided the model meets the
requirements of MAR30.2. Although the market risk standards have changed from a
99% VaR to a 97.5% expected shortfall, the VaR models approach to SFTs retains
the use of a 99% VaR to calculate the counterparty credit risk for SFTs. The VaR
model needs to capture risk sufficient to pass the backtesting and profit and
loss attribution tests of MAR30.4. The default risk charge of MAR33.18 to
MAR33.39 is not required in the VaR model for SFTs.

32.40

The quantitative and qualitative criteria for recognition of internal market
risk models for SFTs are in principle the same as in MAR30.5 to MAR30.16 and
MAR33.1 to MAR33.12. The minimum liquidity horizon or the holding period for
SFTs is 5 business days for margined repo-style transactions, rather than the 10
business days in MAR33.12. For other transactions eligible for the VaR models
approach, the 10 business day holding period will be retained. The minimum
holding period should be adjusted upwards for market instruments where such a
holding period would be inappropriate given the liquidity of the instrument
concerned.

32.41

The calculation of the exposure E* for banks using their internal model to
calculate their counterparty credit risk requirement will be as follows, where
banks will use the previous day's VaR number:



32.42

Subject to supervisory approval, instead of using the VaR approach, banks may
also calculate an effective expected positive exposure for repo-style and other
similar SFTs, in accordance with the internal models method set out in the
counterparty credit risk standards.

32.43

As in the standardised approach, for transactions where the conditions in
CRE22.36 are met, and in addition, the counterparty is a core market participant
as specified in CRE22.37, supervisors may choose not to apply the haircuts
specified under the comprehensive approach, but instead to apply a zero H. A
netting set that contains any transaction that does not meet the requirements in
CRE22.36 of the standardised approach is not eligible for this treatment.

EFFECTIVE MATURITY (M)

32.44

Effective maturity (M) will be 2.5 years for exposures to which the bank applies
the foundation approach, except for repo-style transactions where the effective
maturity is 6 months (ie M=0.5). National supervisors may choose to require all
banks in their jurisdiction (those using the foundation and advanced approaches)
to measure M for each facility using the definition provided below.

32.45

Banks using any element of the A-IRB approach are required to measure effective
maturity for each facility as defined below. However, national supervisors may
allow the effective maturity to be fixed at 2.5 years (the “fixed maturity
treatment”) for facilities to certain smaller domestic corporate borrowers if
the reported sales (ie turnover) as well as total assets for the consolidated
group of which the firm is a part of are less than €500 million. The
consolidated group has to be a domestic company based in the country where the
fixed maturity treatment is applied. If adopted, national supervisors must apply
the fixed maturity treatment to all IRB banks using the advanced approach in
that country, rather than on a bank-by-bank basis.

32.46

Except as noted in CRE32.51, the effective maturity (M) is subject to a floor of
one year and a cap of 5 years.

32.47

For an instrument subject to a determined cash flow schedule, effective maturity
M is defined as follows, where CFt denotes the cash flows (principal, interest
payments and fees) contractually payable by the borrower in period t:



32.48

If a bank is not in a position to calculate the effective maturity of the
contracted payments as noted above, it is allowed to use a more conservative
measure of M such as that it equals the maximum remaining time (in years) that
the borrower is permitted to take to fully discharge its contractual obligation
(principal, interest, and fees) under the terms of loan agreement. Normally,
this will correspond to the nominal maturity of the instrument.

32.49

For derivatives subject to a master netting agreement, the effective maturity is
defined as the weighted average maturity of the transactions within the netting
agreement. Further, the notional amount of each transaction should be used for
weighting the maturity.

32.50

For revolving exposures, effective maturity must be determined using the maximum
contractual termination date of the facility. Banks must not use the repayment
date of the current drawing.

32.51

The one-year floor, set out in CRE32.46 above, does not apply to certain
short-term exposures, comprising fully or nearly-fully collateralised3 capital
market-driven transactions (ie OTC derivatives transactions and margin lending)
and repo-style transactions (ie repos/reverse repos and securities
lending/borrowing) with an original maturity of less than one year, where the
documentation contains daily remargining clauses. For all eligible transactions
the documentation must require daily revaluation, and must include provisions
that must allow for the prompt liquidation or setoff of the collateral in the
event of default or failure to re-margin. The maturity of such transactions must
be calculated as the greater of one-day, and the effective maturity (M,
consistent with the definition above), except for transactions subject to a
master netting agreement, where the floor is determined by the minimum holding
period for the transaction type, as required by CRE32.54.

1 Footnote
32.52

The one-year floor, set out in CRE32.46 above, also does not apply to the
following exposures:

(1)

Short-term self-liquidating trade transactions. Import and export letters of
credit and similar transactions should be accounted for at their actual
remaining maturity.

(2)

Issued as well as confirmed letters of credit that are short term (ie have a
maturity below one year) and self-liquidating.

32.53

In addition to the transactions considered in CRE32.51 above, other short-term
exposures with an original maturity of less than one year that are not part of a
bank’s ongoing financing of an obligor may be eligible for exemption from the
one-year floor. After a careful review of the particular circumstances in their
jurisdictions, national supervisors should define the types of short-term
exposures that might be considered eligible for this treatment. The results of
these reviews might, for example, include transactions such as:

(1)

Some capital market-driven transactions and repo-style transactions that might
not fall within the scope of CRE32.51.

(2)

Some trade finance transactions that are not exempted by CRE32.52.

(3)

Some exposures arising from settling securities purchases and sales. This could
also include overdrafts arising from failed securities settlements provided that
such overdrafts do not continue more than a short, fixed number of business
days.

(4)

Some exposures arising from cash settlements by wire transfer, including
overdrafts arising from failed transfers provided that such overdrafts do not
continue more than a short, fixed number of business days.

(5)

Some exposures to banks arising from foreign exchange settlements.

(6)

Some short-term loans and deposits.

32.54

For transactions falling within the scope of CRE32.51 subject to a master
netting agreement, the effective maturity is defined as the weighted average
maturity of the transactions. A floor equal to the minimum holding period for
the transaction type set out in CRE22.57 of the standardised approach will apply
to the average. Where more than one transaction type is contained in the master
netting agreement a floor equal to the highest holding period will apply to the
average. Further, the notional amount of each transaction should be used for
weighting maturity.

32.55

Where there is no explicit definition, the effective maturity (M) assigned to
all exposures is set at 2.5 years unless otherwise specified in CRE32.44.

TREATMENT OF MATURITY MISMATCHES

32.56

The treatment of maturity mismatches under IRB is identical to that in the
standardised approach (see CRE22.10 to CRE22.14).


RISK COMPONENTS FOR RETAIL EXPOSURES

32.57

This section, CRE32.57 to CRE32.67, sets out the calculation of the risk
components for retail exposures. In the case of an exposure that is guaranteed
by a sovereign, the floors that apply to the risk components do not apply to
that part of the exposure covered by the sovereign guarantee (ie any part of the
exposure that is not covered by the guarantee is subject to the relevant
floors).

PROBABILITY OF DEFAULT (PD) AND LOSS GIVEN DEFAULT (LGD)

32.58

For each identified pool of retail exposures, banks are expected to provide an
estimate of the PD and LGD associated with the pool, subject to the minimum
requirements as set out in CRE36. Additionally, the PD for retail exposures is
the greater of: (i) the one-year PD associated with the internal borrower grade
to which the pool of retail exposures is assigned; and (ii) 0.1% for qualifying
revolving retail exposure (QRRE) revolvers (see CRE30.24 for the definition of
QRRE revolvers) and 0.05% for all other exposures. The LGD for each exposure
that is used as input into the risk weight formula and the calculation of
expected loss must not be less than the parameter floors indicated in the table
below:

LGD parameter floors for retail exposures

Type of exposure

Unsecured

Secured

Mortgages

Not applicable

5%

QRRE (transactors and revolvers)

50%

Not applicable

Other retail

30%

Varying by collateral type:

 * 0% financial
 * 10% receivables
 * 10% commercial or residential real estate
 * 15% other physical

32.59

Regarding the LGD parameter floors set out in the table above, the LGD floors
for partially secured exposures in the “other retail” category should be
calculated according to the formula set out in CRE32.17. The LGD floor for
residential mortgages is fixed at 5%, irrespective of the level of collateral
provided by the property.

RECOGNITION OF GUARANTEES AND CREDIT DERIVATIVES

32.60

Banks may reflect the risk-reducing effects of guarantees and credit
derivatives, either in support of an individual obligation or a pool of
exposures, through an adjustment of either the PD or LGD estimate, subject to
the minimum requirements in CRE36.100 to CRE36.111. Whether adjustments are done
through PD or LGD, they must be done in a consistent manner for a given
guarantee or credit derivative type. In case the bank applies the standardised
approach to direct exposures to the guarantor it may only recognise the
guarantee by applying the standardised approach risk weight to the covered
portion of the exposure.

32.61

Consistent with the requirements outlined above for corporate and bank
exposures, banks must not include the effect of double default in such
adjustments. The adjusted risk weight must not be less than that of a comparable
direct exposure to the protection provider. Consistent with the standardised
approach, banks may choose not to recognise credit protection if doing so would
result in a higher capital requirement.

EXPOSURE AT DEFAULT (EAD)

32.62

Both on- and off-balance sheet retail exposures are measured gross of specific
provisions or partial write-offs. The EAD on drawn amounts should not be less
than the sum of: (i) the amount by which a bank’s regulatory capital would be
reduced if the exposure were written-off fully; and (ii) any specific provisions
and partial write-offs. When the difference between the instrument’s EAD and the
sum of (i) and (ii) is positive, this amount is termed a discount. The
calculation of risk-weighted assets is independent of any discounts. Under the
limited circumstances described in CRE35.4, discounts may be included in the
measurement of total eligible provisions for purposes of the EL-provision
calculation set out in chapter CRE35.

32.63

On-balance sheet netting of loans and deposits of a bank to or from a retail
customer will be permitted subject to the same conditions outlined in CRE22.68
and CRE22.69 of the standardised approach. The definition of commitment is the
same as in the standardised approach, as set out in CRE20.94. Banks must use
their own estimates of EAD for undrawn revolving commitments to extend credit,
purchase assets or issue credit substitutes provided the exposure is not subject
to a CCF of 100% in the standardised approach (see CRE20.92) and the minimum
requirements in CRE36.89 to CRE36.99 are satisfied. Foundation approach CCFs
must be used for all other off-balance sheet items (for example, undrawn
non-revolving commitments), and must be used where the minimum requirements for
own estimates of EAD are not met.

32.64

Regarding own estimates of EAD, the EAD for each exposure that is used as input
into the risk weight formula and the calculation of expected loss is subject to
a floor that is the sum of: (i) the on balance sheet amount; and (ii) 50% of the
off balance sheet exposure using the applicable CCF in the standardised
approach.

32.65

For retail exposures with uncertain future drawdown such as credit cards, banks
must take into account their history and/or expectation of additional drawings
prior to default in their overall calibration of loss estimates. In particular,
where a bank does not reflect conversion factors for undrawn lines in its EAD
estimates, it must reflect in its LGD estimates the likelihood of additional
drawings prior to default. Conversely, if the bank does not incorporate the
possibility of additional drawings in its LGD estimates, it must do so in its
EAD estimates.

32.66

When only the drawn balances of revolving retail facilities have been
securitised, banks must ensure that they continue to hold required capital
against the undrawn balances associated with the securitised exposures using the
IRB approach to credit risk for commitments.

32.67

To the extent that foreign exchange and interest rate commitments exist within a
bank’s retail portfolio for IRB purposes, banks are not permitted to provide
their internal assessments of credit equivalent amounts. Instead, the rules for
the standardised approach continue to apply.

Previous chapter:
CRE31 IRB approach: risk weight functions
CRE20CRE21CRE22CRE30CRE31CRE32CRE33CRE34CRE35CRE36CRE40CRE41CRE42CRE43CRE44CRE45CRE50CRE51CRE52CRE53CRE54CRE55CRE56CRE60CRE70CRE90CRE99CRE32
Next chapter:
CRE33 IRB approach: supervisory slotting approach for specialised lending
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