Minimum Capital Requirements for Market Risk

For claims on an equity investment in a fund that is subject to the treatment specified in [7.36] (3) (ie treated as an unrated “other sector” equity), the equity investment in the fund shall be treated as an unrated equity instrument. Where the mandate of that fund allows the fund to invest in primarily high-yield or distressed names, banks shall apply the maximum risk weight per Table 2 in [8.24] that is achievable under the fund’s mandate (by calculating the effective average risk weight of the fund when assuming that the fund invests first in defaulted instruments to the maximum possible extent allowed under its mandate, and then in CCC-rated names to the maximum possible extent, and then B-rated, and then BB-rated). Neither offsetting nor diversification between these generated exposures and other exposures is allowed. Default Risk Capital Requirement for Non-Securitisations Gross jump-to-default risk positions (gross JTD) 8.9 The gross JTD risk position is computed exposure by exposure. For instance, if a bank has a long position on a bond issued by Apple, and another short position on a bond issued by Apple, it must compute two separate JTD exposures. 8.10 For the purpose of DRC requirements, the determination of the long/short direction of positions must be on the basis of long or short with respect to whether the credit exposure results in a loss or gain in the case of a default. (1) Specifically, a long exposure is defined as a credit exposure that results in a loss in the case of a default. (2) For derivative contracts, the long/short direction is also determined by whether the contract will result in a loss in the case of a default (ie long or short position is not determined by whether the option or credit default swap (CDS), is bought or sold). Thus, for the purpose of DRC requirements, a sold put option on a bond is a long credit exposure, since a default results in a loss to the seller of the option. 8.11 The gross JTD is a function of the loss given default (LGD), notional amount (or face value) and the cumulative profit and loss (P&L) already realised on the position, where: (1) notional is the bond-equivalent notional amount (or face value) of the position; and (2) P&L is the cumulative mark-to-market loss (or gain) already taken on the exposure. P&L is equal to the market value minus the notional amount, where the market value is the current market value of the position. 8.12 For calculating the gross JTD, LGD is set as follows: (1) Equity instruments and non-senior debt instruments are assigned an LGD of 100%. (2) Senior debt instruments are assigned an LGD of 75%. (3) Covered bonds, as defined within [7.51], are assigned an LGD of 25%. (4) When the price of the instrument is not linked to the recovery rate of the defaulter (eg a foreign exchange-credit hybrid option where the cash flows are swap of cash flows, long EUR coupons and short USD coupons with a knockout feature that ends cash flows on an event of default of a particular obligor), there should be no multiplication of the notional by the LGD. 8.13 In calculating the JTD as set out in [8.11], the notional amount of an instrument that gives rise to a long (short) exposure is recorded as a positive (negative) value, while the P&L loss (gain) is recorded as a negative (positive) value. If the contractual or legal terms of the derivative allow for the unwinding of the instrument with no exposure to default risk, then the JTD is equal to zero.