Minimum Capital Requirements for Counterparty Credit Risk (CCR) and Credit Valuation Adjustment (CVA)

(1) . It intends to recognize the risk reducing effect of hedging. For example, when hedging the counterparty credit spread component of CVA risk for a specific counterparty by buying credit protection on the counterparty: if the counterparty’s credit spread widens, the CVA (expressed as a positive value) increases resulting in the positive CVA sensitivity to the counterparty credit spread. At the same time, as the value of the hedge from the bank’s perspective increases as well (as credit protection becomes more valuable), the sensitivity of the hedge is also positive. The positive weighted sensitivities of the CVA and its hedge offset each other using the formula with the minus sign. If CVA loss had been expressed as a negative value, the minus sign in 11.52 would have been replaced by a plus sign. 45 For example, if a SAR-reporting bank holds an instrument that references the USD-GBP exchange rate, the bank must measure CVA sensitivity both to the SAR-GBP exchange rate and to the SAR- USD exchange rate. Application Guidance/ Illustrative Examples 12. The Application of the (SA-CCR) to Sample Portfolios 12.1. This section sets out the calculation of exposure at default (EAD) for five sample portfolios using SA-CCR. The calculations for the sample portfolios assume that intermediate values are not rounded (i.e. the actual results are carried through in sequential order). However, for ease of presentation, these intermediate values as well as the final EAD are rounded. 12.2. The EAD for all netting sets in SA-CCR is given by the following formula, where alpha is assigned a value of 1.4: EAD = alpha * (RC + multiplier * AddOn aggregate Example 1: Interest rate derivatives (unmargined netting set) 12.3. Netting set 1 consists of three interest rates derivatives: two fixed versus floating interest rate swaps and one purchased physically-settled European swaption. The table below summarizes the relevant contractual terms of the three derivatives. All notional amounts and market values in the table are given in USD thousands. Trade # Nature Residual maturity Base currency Notional (USD thousands) Pay Leg (*) Receive Leg (*) Market value (USD thousands) 1 Interest Rate Swap 10 years USD 10,000 Fixed Floating 30 2 Interest Rate Swap 4 years USD 10,000 Floating Fixed -20 3 European Swaption 1 into 10 years EUR 5,000 Floating Fixed 50 (*) For the swaption, the legs are those of the underlying swap 12.4. The netting set is not subject to a margin agreement and there is no exchange of collateral (independent amount/initial margin) at inception. For unmargined netting sets, the replacement cost is calculated using the following formula, where: (1) V is a simple algebraic sum of the derivatives' market values at the reference date (2) C is the haircut value of the initial margin, which is zero in this example RC = max{ V - C ; 0} 12.5. Thus, using the market values indicated in the table (expressed in USD thousands): RC = max{30 — 20 + 50 — 0; 0} = 60 12.6. Since V-C is positive (i.e. USD 60,000), the value of the multiplier is 1, as explained in 6.24 . 12.7. The remaining term to be calculated in the calculation EAD is the aggregate add-on ( AddOn aggregate ). All the transactions in the netting set belong to the interest rate asset class. The AddOn aggregate for the interest rate asset class can be calculated using the seven steps set out in 6.60 . 12.8. Step 1: Calculate the effective notional for each trade in the netting set. This is calculated as the product of the following three terms: (i) the adjusted notional of the trade (d); (ii) the supervisory delta adjustment of the trade (δ); and (iii) the maturity factor (MF). That is, for each trade i, the effective notional Di is calculated as D i = d i * MF i * δ . 12.9. For interest rate derivatives, the trade-level adjusted notional ( d i ) is the product of the trade notional amount and the supervisory duration ( SD i ), i.e. d i = notional * SD i . The supervisory duration is calcul