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

Section[ D. Rules for Retail Exposures

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326.     Section D presents in detail the method of calculating the UL capital requirements for retail exposures. Section D.1 provides three risk-weight functions, one for residential mortgage exposures, a second for qualifying revolving retail exposures, and a third for other retail exposures. Section D.2 presents the risk  components to serve as inputs to the risk- weight  functions.  The  method  of  calculating  expected  losses,  and  for  determining  the difference between that measure and provisions is described in Section III.G.

1. Risk-weighted assets for retail exposures

327.     There are three separate risk-weight functions for retail exposures, as defined in paragraphs  328  to  330.  Risk   weights  for  retail  exposures  are  based  on  separate assessments of PD and LGD as inputs to the risk-weight functions. None of the three retail risk-weight functions contains an explicit maturity adjustment. Throughout this section, PD and LGD are measured as decimals, and EAD is measured as currency (e.g. euros).

(i) Residential mortgage exposures

328.     For exposures defined in paragraph 231 that are not in default and are secured or partly  secured79  by  residential  mortgages,  risk  weights  will  be  assigned  based  on  the following formula:

Correlation (R) = 0.15

Capital requirement (K) =      LGD × N[(1 – R)^-0.5 × G(PD) + (R / (1 – R))^0.5 × G(0.999)]

– PD x LGD

Risk-weighted assets = K x 12.5 x EAD

The capital requirement (K) for a defaulted exposure is equal to the greater of zero and the difference between its LGD (described in paragraph 468) and the bank’s best estimate of expected  loss  (described  in  paragraph  471).  The  risk-weighted  asset  amount  for  the defaulted exposure is the product of K, 12.5, and the EAD.

(ii)        Qualifying revolving retail exposures

329.     For qualifying revolving retail exposures as defined in paragraph 234 that are not in default, risk weights are defined based on the following formula:

Correlation (R) = 0.04

Capital requirement (K) =      LGD × N[(1 – R)^-0.5 × G(PD) + (R / (1 – R))^0.5 × G(0.999)]

– PD x LGD

Risk-weighted assets = K x 12.5 x EAD

The capital requirement (K) for a defaulted exposure is equal to the greater of zero and the difference between its LGD (described in paragraph 468) and the bank’s best estimate of expected  loss  (described  in  paragraph  471).  The  risk-weighted  asset  amount  for  the defaulted exposure is the product of K, 12.5, and the EAD.

(iii)       Other retail exposures

330.     For all other retail exposures that are not in default, risk weights are assigned based on the following function, which allows correlation to vary with PD:

Correlation (R) =         0.03 × (1 – EXP(-35 × PD)) / (1 – EXP(-35)) +

0.16 × [1 – (1 – EXP(-35 × PD))/(1 – EXP(-35))]

Capital requirement (K) =      LGD × N[(1 – R)^-0.5 × G(PD) + (R / (1 – R))^0.5 × G(0.999)]

– PD x LGD

Risk-weighted assets = K x 12.5 x EAD

The capital requirement (K) for a defaulted exposure is equal to the greater of zero and the difference between its LGD (described in paragraph 468) and the bank’s best estimate of

79   This means that risk weights for residential mortgages also apply to the unsecured portion of such residential mortgages.

73

expected  loss  (described  in  paragraph  471).  The  risk-weighted  asset  amount  for  the defaulted exposure is the product of K, 12.5, and the EAD.

Illustrative risk weights are shown in Annex 5.

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