Minimum Capital Requirements for Market Risk

Under the alternative duration method, banks with the necessary capability may, with SAMA’ consent, use a more accurate method of measuring all of their general market risk by calculating the price sensitivity of each position separately. Banks must elect and use the method on a continuous basis (unless a change in method is approved by SAMA) and will be subject to SAMA monitoring of the systems used. The mechanics of this method are as follows: (1) First calculate the price sensitivity of each instrument in terms of a change in interest rates of between 0.6 and 1.0 percentage points depending on the maturity of the instrument (see Table 6); (2) Slot the resulting sensitivity measures into a duration-based ladder with the 15 time bands set out in Table 6; (3) Subject long and short positions in each time band to a 5% vertical disallowance designed to capture basis risk; and (4) Carry forward the net positions in each time band for horizontal offsetting subject to the disallowances set out in Table 5 above. Duration method: time bands and assumed changes in yield Table 6 Assumed change in yield Assumed change in yield Zone 1: Zone 3: 1 month or less 1.00 3.6 to 4.3 years 0.75 1 to 3 months 1.00 4.3 to 5.7 years 0.70 3 to 6 months 1.00 5.7 to 7.3 years 0.65 6 to 12 months 1.00 7.3 to 9.3 years 0.60 Zone 2: 9.3 to 10.6 years 0.60 1.0 to 1.9 years 0.90 10.6 to 12 years 0.60 1.9 to 2.8 years 0.80 12 to 20 years 0.60 2.8 to 3.6 years 0.75 Over 20 years 0.60 14.30 In the case of residual currencies (see [14.24] above) the gross positions in each time band will be subject to either the risk weightings set out in [14.26], if positions are reported using the maturity method, or the assumed change in yield set out in [14.29], if positions are reported using the duration method, with no further offsets. Interest rate derivatives 14.31 The measurement system should include all interest-rate derivatives and off- balance sheet instruments in the trading book which react to changes in interest rates (eg FRAs, other forward contracts, bond futures, interest rate and cross-currency swaps and forward foreign exchange positions). Options can be treated in a variety of ways as described in [14.74] to [14.86] . A summary of the rules for dealing with interest rate derivatives is set out in [14.40]. 14.32 The derivatives should be converted into positions in the relevant underlying and become subject to specific and general market risk charges as described above. In order to calculate the standard formula described above, the amounts reported should be the market value of the principal amount of the underlying or of the notional underlying resulting from the Prudent Valuation Guidance. 14.33 Futures and forward contracts (including FRAs) are treated as a combination of a long and a short position in a notional government security. The maturity of a future or an FRA will be the period until delivery or exercise of the contract, plus – where applicable – the life of the underlying instrument. For example, a long position in a June three-month interest rate future (taken in April) is to be reported as a long position in a government security with a five-month maturity and a short position in a government security with a two-month maturity. Where a range of deliverable instruments may be delivered to fulfil the contract, the bank has flexibility to elect which deliverable security goes into the maturity or duration ladder but should take account of any conversion factor defined by the exchange. In the case of a future on a corporate bond index, positions will be included at the market value of the notional underlying portfolio of securities.