Minimum Capital Requirements for Market Risk

For measures based on stressed observations (ES R,S ), banks must identify the 12-month period of stress over the observation horizon in which the portfolio experiences the largest loss. The observation horizon for determining the most stressful 12 months must, at a minimum, span back to and include 2007. Observations within this period must be equally weighted. Banks must update their 12- month stressed periods at least quarterly, or whenever there are material changes in the risk factors in the portfolio. Whenever a bank updates its 12-month stressed periods it must also update the reduced set of risk factors (as the basis for the calculations of E R,C and E R,S ) accordingly. 13.8 For measures based on current observations (ES F,C ), banks must update their data sets no less frequently than once every three months and must also reassess data sets whenever market prices are subject to material changes. (1) This updating process must be flexible enough to allow for more frequent updates. (2) SAMA may also require a bank to calculate its ES using a shorter observation period if, in SAMA’s judgement; this is justified by a significant upsurge in price volatility. In this case, however, the period should be no shorter than six months. 13.9 No particular type of ES model is prescribed. Provided that each model used captures all the material risks run by the bank, as confirmed through profit and loss (P&L) attribution (PLA) tests and backtesting, and conforms to each of the requirements set out above and below, SAMA may permit banks to use models based on either historical simulation, Monte Carlo simulation, or other appropriate analytical methods. 13.10 Banks will have discretion to recognise empirical correlations within broad regulatory risk factor classes (interest rate risk, equity risk, foreign exchange risk, commodity risk and credit risk, including related options volatilities in each risk factor category). Empirical correlations across broad risk factor categories will be constrained by SAMA aggregation requirements, as described in [13.14] to [13.15] , and must be calculated and used in a manner consistent with the applicable liquidity horizons, clearly documented and able to be explained to SAMA on request. 13.11 Banks’ models must accurately capture the risks associated with options within each of the broad risk categories. The following criteria apply to the measurement of options risk: (1) Banks’ models must capture the non-linear price characteristics of options positions. (2) Banks’ risk measurement systems must have a set of risk factors that captures the volatilities of the rates and prices underlying option positions, ie vega risk. Banks with relatively large and/or complex options portfolios must have detailed specifications of the relevant volatilities. Banks must model the volatility surface across both strike price and vertex (ie tenor).