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Title[ Part 2: The First Pillar - Minimum Capital Requirements

Section[ C. Treatment of counterparty credit risk in the trading book

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702.     Banks will  be required to calculate the counterparty credit risk charge for OTC derivatives, repo-style and other transactions booked in the trading book, separate from the capital charge for general market risk and specific risk.¹¹¹ The risk weights to be used in this calculation must be consistent with those used for calculating the capital requirements in the banking book. Thus, banks using the standardised approach in the banking book will use the standardised approach risk weights in the trading book and banks using the IRB approach in the banking book will use the IRB risk weights in the trading book in a manner consistent with the IRB roll out situation in the banking book as described in paragraphs 256 to 262. For counterparties included in portfolios where the IRB approach is  being used the IRB risk weights will have to be applied. The 50% cap on risk weights for OTC derivative transactions is abolished (see paragraph 82).

¹¹¹ The treatment for unsettled foreign exchange and securities trades is set forth in paragraph 88.

703.     In the trading book, for repo-style transactions, all instruments, which are included in the trading book, may be used as eligible collateral. Those instruments which fall outside the banking  book  definition  of  eligible  collateral  shall  be  subject  to  a  haircut  at  the  level applicable to non-main index equities listed on recognised exchanges (as noted in paragraph (151). However, where banks are using the own estimates approach to haircutting they may also apply it in the trading book in accordance with paragraphs 154 and 155. Consequently, for instruments that count as eligible collateral  in the trading book, but not in the  banking book, the haircuts must be calculated for each individual security. Where banks are using a VaR approach to measuring exposure for repo-style transactions, they also may apply this approach in the trading book in accordance with paragraphs 178 to 181 (i) and Annex 4.

704.     The  calculation  of  the  counterparty  credit  risk  charge  for  collateralised  OTC derivative transactions is the same as the rules prescribed for such transactions booked in the banking book.

705.     The  calculation  of  the  counterparty  charge  for  repo-style  transactions  will  be conducted  using the rules in paragraphs 147 to 181 (i) and Annex 4 spelt out for such transactions booked in the banking book. The firm-size adjustment for SMEs as set out in paragraph 273 shall also be applicable in the trading book.

Credit derivatives

706.      (deleted)

707.     The counterparty credit risk charge for single name credit derivative transactions in the trading book will be calculated using the following potential future exposure add-on factors:

Total Return Swap

                                                                                    Protection buyer         Protection seller

“qualifying” reference obligation                              5%                               5%

“Non-qualifying” reference obligation                      10%                             10%

Credit Default Swap

“qualifying” reference obligation                              5%                               5%**

“Non-qualifying” reference obligation                      10%                             10%**

There will be no difference depending on residual maturity.

The definition of “qualifying” is the  same as for the “qualifying” category for the treatment of specific risk under the standardised measurement method in the Market Risk Amendment.

** The protection seller of a credit default swap shall only be subject to the add-on factor where it is subject to closeout upon the insolvency of the protection buyer while the underlying is still solvent. Add-on should then be capped to the amount of unpaid premiums.

708.     Where  the  credit  derivative  is  a  first  to  default  transaction,  the  add-on  will  be determined by the lowest credit quality underlying in the basket, i.e. if there are any non- qualifying items in the basket, the non-qualifying reference obligation add-on should be used. For second and subsequent to default transactions, underlying assets should continue to be allocated according to the credit quality, i.e. the second lowest credit quality will determine the add-on for a second to default transaction etc.

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