Calculating Car

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Calculating Car

  1. 1. COMMISSION BANCAIRE General Secretariat Office of International Affairs Paris, February 17 , 2006 METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS __ Update of January 1, 20061 1 For further information regarding this document, contact the Office of International Affairs by telephone at 01.42.92.60.34, 01.42.92.60.33, or 01.42.92.70.18, or by fax at 01.42.92.20.15. Methods for Calculating International Capital Adequacy Ratios can also be consulted on the Internet page of the Banque de France, www.banque-france.fr, under the heading Banking Regulation and Supervision / Banking and Financial Supervision / Supervision. It is also available, along with the text of all banking regulations issued since January 1, 1999, on the Internet site of the Commission Bancaire, www.commission-bancaire.org.
  2. 2. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 Since January 1, 1998, internationally active French credit institutions2 have been required to measure the market risk to which they are exposed and to apply minimum capital adequacy requirements, as they were already required to do for their credit risk. The international requirements relating to market risk (laid out in Amendment to the Capital Accord to Incorporate Market Risks, published by the Basel Committee in January 1996) were incorporated in the November 1997 edition of this Notice. The provisions relating to the calculation of capital requirements for credit risk are updated in this Notice. 3 2 Internationally active credit institutions are defined as those institutions : − having subsidiaries or branches outside France and/or, − whose transactions in foreign currencies with residents and foreigners, combined with their transactions in euros with non-residents, amount to more than one third of their total consolidated balance sheet. Of course, any other credit institution may adopt the international capital adequacy framework voluntarily if it judges this to be conducive to the development of its activities. 3 Paragraphs that have been added or modified are underlined. 2
  3. 3. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 INDEX 1. DEFINITIONS..................................................................................................................................... 7 1.1. MARKET RISK .................................................................................................................................. 7 1.2. THE TRADING BOOK......................................................................................................................... 7 1.3. METHODS FOR MEASURING MARKET RISK........................................................................................ 7 1.4. OVERALL MINIMUM CAPITAL REQUIREMENTS.................................................................................. 8 1.5. DEFINITION OF CAPITAL AND COVERAGE OF MARKET RISK .............................................................. 8 1.6. CALCULATING THE CAPITAL RATIO.................................................................................................. 8 2. THE CONSTITUENTS OF CAPITAL............................................................................................. 8 2.1. CORE CAPITAL (“ TIER 1 ”) .............................................................................................................. 9 2.2. SUPPLEMENTARY CAPITAL (quot;TIER 2quot;)............................................................................................ 10 2.2.1. Upper Tier 2 Capital ............................................................................................................ 10 2.2.2. Lower Tier 2 Capital ............................................................................................................ 11 2.3. DEDUCTION OF PARTICIPATIONS ................................................................................................... 12 2.4. TIER 3 CAPITAL ............................................................................................................................. 13 3. RISK WEIGHTING OF ASSETS AND OFF-BALANCE SHEET EXPOSURES..................... 13 3.1. ON-BALANCE SHEET EXPOSURES ................................................................................................... 13 3.1.1. Exposures risk weighted at 0%............................................................................................. 13 3.1.2. Exposures risk weighted at 20%........................................................................................... 14 3.1.3. Exposures risk weighted at 50%........................................................................................... 15 3.1.4. Exposures risk weighted at 100%......................................................................................... 16 3.1.5. On-balance sheet netting ...................................................................................................... 16 3.1.6. Additional details.................................................................................................................. 18 3.1.6.1. Amount of claims to be taken into account...................................................................................18 3.1.6.2. Amount of claims to be included in exposures .............................................................................18 3.1.6.3. Collateral.......................................................................................................................................18 3.1.6.4. Guarantees .................................................................................................................................... 16 3.1.6.5. Securitisations...............................................................................................................................19 3.1.6.6. Securities held as assets ................................................................................................................20 3.1.6.7. Shares in UCITs and ordinary shares in FCCs..............................................................................20 3.1.6.8. Repurchase agreements.................................................................................................................20 3.1.6.9. Securities lending and borrowing..................................................................................................21 3.1.6.10. Temporary sales of securities (repurchase agreements, securities lending and borrowing and securities received in repurchase agreements) .............................................................................21 3.1.6.11. Sales with repurchase options ......................................................................................................23 3.1.6.12. Guarantee deposits and contributions to Clearnet clearing fund................................................. 22 3.1.6.13. Option premiums .........................................................................................................................22 3.1.6.14. Special cases ................................................................................................................................23 3.2. OFF-BALANCE SHEET EXPOSURES ................................................................................................. 23 3.2.1. Off-balance sheet exposures, excluding derivative instruments ........................................... 24 3.2.1.1. Instruments for which the credit conversion factor is 100% ..........................................................24 3.2.1.2. Instruments for which the credit conversion factor is 50% ............................................................ 24 3.2.1.3. Instruments for which the credit conversion factor is 20% ............................................................ 25 3.2.1.4. Instruments for which the credit conversion factor is 0%..............................................................25 3.2.2. Off-balance sheet exposures in the form of derivative instruments. ..................................... 26 3.2.2.1. Measurement of gross exposure..................................................................................................... 26 3.2.2.2. Netting ........................................................................................................................................... 29 3.2.2.3. Assets collateralising derivative transactions.................................................................................31 3.2.2.4. Special cases ..................................................................................................................................32 4. CAPITAL REQUIREMENTS FOR MARKET RISK .................................................................. 32 4.1. THE STANDARDISED APPROACH .................................................................................................... 33 4.2. THE INTERNAL MODELS APPROACH ............................................................................................... 33 5. METHODS FOR CALCULATING AND APPLYING THE RATIO ......................................... 33 3
  4. 4. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 5.1. MINIMUM STANDARDS RELATING TO THE RATIO AND CAPITAL ..................................................... 33 5.2. DENOMINATOR OF THE RATIO ....................................................................................................... 34 5.3. NUMERATOR OF THE RATIO ........................................................................................................... 34 5.4. RULES OF CALCULATION ............................................................................................................... 34 ANNEX 1 - CALCULATING NET POSITIONS............................................................................... 37 1. PRINCIPLES....................................................................................................................................... 37 2. INCLUSION OF FORWARD POSITIONS AND OPTIONS............................................................ 37 3. SPECIAL CASES ............................................................................................................................... 39 ANNEX 2 - INTEREST RATE RISK ................................................................................................. 40 1. SPECIFIC RISK.................................................................................................................................. 40 2. GENERAL RISK ................................................................................................................................ 41 2.1. FOR EACH CURRENCY, CALCULATE THE CAPITAL REQUIREMENT FOR THE NET POSITIONS DEFINED IN ANNEX 1.................................................................................................................................... 42 2.2. FOR EACH CURRENCY, CALCULATE THE ADDITIONAL CAPITAL REQUIREMENT FOR OPTION RISK USING THEMETHODS OF ANNEX 6 .................................................................................................. 42 2.2.1. Maturity method.................................................................................................................... 42 2.2.2. Duration method................................................................................................................... 45 2.2.3. Use of a sensitivity algorithm ............................................................................................... 47 ANNEX 3 - EQUITY-POSITION RISK ............................................................................................. 48 1 - GENERAL RISK............................................................................................................................... 48 2 - SPECIFIC RISK ................................................................................................................................ 48 3. ARBITRAGE BETWEEN SPOT AND FORWARD POSITIONS ................................................... 49 ANNEX 4 - FOREIGN EXCHANGE RISK ....................................................................................... 50 1. CALCULATING THE OVERALL NET POSITION ........................................................................ 50 1.1. STAGE 1......................................................................................................................................... 50 1.1.1. Items included....................................................................................................................... 50 1.1.2. Items excluded ...................................................................................................................... 51 1.1.3. Use of present value.............................................................................................................. 51 1.1.4. Gold position ........................................................................................................................ 51 1.2. STAGE 2......................................................................................................................................... 51 2. CALCULATING CAPITAL REQUIREMENTS ............................................................................... 51 ANNEX 5 - COMMODITIES RISK.................................................................................................... 52 1. CALCULATING POSITIONS ........................................................................................................... 52 1.1. GENERAL RULES............................................................................................................................ 52 1.2. SPECIAL RULES FOR DERIVATIVE PRODUCTS ................................................................................. 52 1.3. FINANCING POSITIONS ................................................................................................................... 53 1.4. MATURITY TABLE AND SPREAD RATES .......................................................................................... 53 2. CALCULATING CAPITAL REQUIREMENTS ............................................................................... 53 2.1. MATURITY TABLE METHOD ........................................................................................................... 53 2.2. SIMPLIFIED APPROACH .................................................................................................................. 54 ANNEX 6 - OPTION RISK .................................................................................................................. 55 4
  5. 5. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 1. DELTA PLUS METHOD ................................................................................................................... 55 2. SCENARIO ANALYSIS .................................................................................................................... 56 3. SIMPLIFIED METHOD ..................................................................................................................... 57 ANNEX 7 - USE OF INTERNAL MODELS IN CALCULATING CAPITAL REQUIREMENTS ............................................................................................................. 59 1. PRINCIPLES....................................................................................................................................... 59 2. QUALITATIVE CRITERIA............................................................................................................... 59 3. SPECIFICATION OF MARKET RISK FACTORS........................................................................... 61 4. TREATMENT OF SPECIFIC RISK................................................................................................... 62 5. QUANTITATIVE CRITERIA............................................................................................................ 62 6. STRESS TESTING ............................................................................................................................. 63 7. COMBINED USE OF INTERNAL MODELS AND THE STANDARDISED APPROACH........... 64 8. BACK-TESTING ................................................................................................................................ 64 9. CALCULATING CAPITAL REQUIREMENTS ............................................................................... 64 ANNEX 8 - LIST OF OECD GROUP COUNTRIES ........................................................................ 67 ANNEX 9 - LIST OF PUBLIC-SECTOR GUARANTEE AGENCIES AND PUBLIC-SECTOR EXPORT-INSURANCE AGENCIES LOCATED IN OECD GROUP COUNTRIES ............................................................ 68 1. LIST OF FRENCH PUBLIC-SECTOR AGENCIES AUTHORISED TO GIVE GUARANTEES..................................................................................... 68 2. LIST OF PUBLIC-SECTOR EXPORT INSURANCE AGENCIES IN OECD GROUP COUNTRIES..................................................................................................... 69 ANNEX 10 - LIST OF FRENCH AGENCIES TREATED AS PART OF THE CENTRAL GOVERNMENT OR CENTRAL BANK....................................... 71 ANNEX 11 - REGIONAL AND LOCAL AUTHORITIES RISK-WEIGHTED AT 0% .............. 73 ANNEX 12 - LIST OF MISCELLANEOUS LOCAL FRENCH ADMINISTRATIVE BODIES RISK WEIGHTED AT 20% .................................... 75 ANNEX 13 - LIST OF MULTILATERAL DEVELOPMENT BANKS RISK WEIGHTED AT 20%.................................................................................................................................. 78 ANNEX 14 - LIST OF STOCKS CONSIDERED SUFFICIENTLY LIQUID AND INDEXES JUDGED BROADLY DIVERSIFIED ......................................................................... 79 ANNEX 15 - PRUDENTIAL TREATMENT OF CREDIT DERIVATIVES ................................. 81 1. CRITERIA FOR CLASSIFICATION OF CREDIT DERIVATIVES IN THE TRADING BOOK OR THE BANKING BOOK ................................................................................................... 81 1.1. CLASSIFICATION IN THE TRADING BOOK ........................................................................................ 81 1.2. CLASSIFICATION IN THE BANKING BOOK ........................................................................................ 82 5
  6. 6. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 2. TREATMENT OF CREDIT DERIVATIVES IN THE BANKING BOOK ...................................... 83 2.1. TREATMENT OF RISK FOR THE SELLER OF PROTECTION ................................................................. 83 2.2. TREATMENT OF RISK FOR THE BUYER OF PROTECTION .................................................................. 83 2.2.1. Maturity mismatch ................................................................................................................ 84 2.2.2. Basis and currency mismatch ............................................................................................... 85 3. TREATMENT OF CREDIT DERIVATIVES IN THE TRADING BOOK....................................... 85 3.1. GENERAL AND SPECIFIC RISK ........................................................................................................ 85 3.2. COUNTERPARTY RISK .................................................................................................................... 86 3.2. LIQUIDITY AND MODELLING RISK .................................................................................................. 86 ANNEX 16 - LIST OF MASTER AGREEMENTS WHICH PERMIT PRUDENTIAL RECOGNITION OF NETTING ....................................................... 87 1. NATIONAL MASTER AGREEMENT ...................................................................................................... 87 2. INTERNATIONAL MASTER AGREEMENTS ........................................................................................... 87 ANNEX 17 - PRESS RELEASE ISSUED BY THE BASEL COMMITTEE ON OCTOBER 27, 1998 : INSTRUMENTS ELIGIBLE FOR INCLUSION IN TIER 1 CAPITAL.................................................................... 88 ANNEX 18 - PRUDENTIAL TREATMENT OF SECURITISATION TRANSACTIONS........... 91 1. PRINCIPLES ....................................................................................................................................... 92 2. METHODS OF APPLICATION ............................................................................................................... 93 6
  7. 7. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 1. DEFINITIONS 1.1. Market risk Market risk, defined as the risk of loss on on-balance sheet or off-balance sheet positions arising from fluctuations in market prices, covers :  Risks pertaining to interest rate-related instruments and equity positions in the trading book ;  Foreign exchange risk and commodities risk arising from all on- and off-balance sheet activities 1.2. The trading book For the purposes of this Notice, the trading book consists of the elements listed in article 6 of regulation 95-02, as amended by regulation 99-01 of June, 1999. Temporary sales of securities and repurchase agreements in the trading book are included in the calculation of general market risk. They are excluded from the scope of specific market risk, but continue to be fall within the scope of the capital adequacy requirements for credit risk set by the 1988 Capital Accord. The Secrétariat Général de la Commission Bancaire will pay particular attention to the economic substance of transactions assigned to the trading book, and to the continuity in the methods used to decide which financial instruments belong in the trading book. There should be a accurate and exhaustive audit trail which makes it possible to verify that the criteria for apportionment between the portfolios have been respected. In this connection, the General Secretariat of the Commission Bancaire reminds credit institutions that, in order to be placed in the trading book, positions must have been taken either for trading purposes, or to hedge other positions in the institution’s trading book. In either case, the marketability of the instruments used must be well established. Furthermore, the institution must have the means and the experience for ensuring the active management of its trading positions, as well as adequate systems of internal control. The Secrétariat Général de la Commission Bancaire reserves the right to reclassify to the banking book any elements whose marketability becomes doubtful; for example if there is a shortage of liquidity or an absence of genuine trading in the instrument in question, a fortiori if the average holding period for the instruments is longer than is consistent with a short-term trading intent. 1.3. Methods for measuring market risk Capital requirements for market risk apply on a consolidated basis in the same way as for credit risk. Banks can choose between two broad categories of methods for measuring their market risks, subject to the approval of the Secrétariat Générale de la Commission Bancaire : 7
  8. 8. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006  The first approach consists of standardised methods for measuring risks, using the mechanisms set forth in Section 4.1.  The other approach, referred to as “internal models” is set forth in Section 4.2. The use of this approach is subject to certain conditions and requires the explicit approval of the Secrétariat Général de la Commission Bancaire, It permits banks to rely on risk measures obtained from their own internal risk management models, provided the bank satisfies qualitative and quantitative conditions stated in Annex 7. 1.4. Overall minimum capital requirement The overall minimum capital requirement is composed of : a) the requirements for credit risk set forth in the 1988 Basel Accord, calculated excluding debt and equity securities held in the trading book and all positions in commodities, but including 4 counterparty risk on all over-the-counter derivative products in both the trading and banking books. ; plus the requirements for market risk : b) either the arithmetic sum of the capital requirements for market risk described in Section 4.1 ; c) or the capital requirements obtained from the modelling approach described in Section 4.2 ; d) or a combination of b) and c) summed arithmetically. 1.5. Definition of capital and coverage of market risk The principal forms of capital accepted for covering market risk are core capital and supplementary capital, as those terms are defined in the 1988 Accord, and in such amounts as remain available after the capital requirements for credit risk have been covered. A third form of capital, Tier 3 capital (defined in Section 2.4), consists of short-term subordinated debt and, may be used only to cover a portion of banks’ capital requirements for market risk. The conditions for its eligibility are set forth in Part 5 of this Notice. 1.6. Calculating the capital ratio The capital ratio represents the capital available to cover both credit risk and market risk. If a bank disposes of eligible Tier 3 capital which is not being used to cover market risk, it may report that excess as unused but eligible Tier 3 capital alongside its standard ratio. 2. THE CONSTITUENTS OF CAPITAL It is important to distinguish between core capital and supplementary capital, some deductions from capital being deducted entirely from core capital, and others from total capital.. 4 or, more precisely, quot;continuing to includequot;, these risks are already included in the calculation of credit risk and counterparty risk under the 1988 Accord. 8
  9. 9. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 2.1. Core Capital (“Tier 1”)5 2.1.1 For institutions non subject to IFRS For institutions not subject to IFRS, core capital (“Tier 1”) includes : – ordinary shares/common stock and certificates of investment, – non-cumulative preferred shares (Article L228-11 and following of the Code de Commerce) with the prior consent of the Secrétariat Général de la Commission Bancaire, – non-cumulative preferred shares (Article L228-35-1 of the Code de Commerce) and preferred certificates of investment, excluding preferred shares without voting rights (Article L228-35- 2), – deeply subordinated notes issued under the conditions set in the article L.228-97 of the Code de Commerce, revised by the Financial Security Law dated August 1, 2003, with the prior consent of the Secrétariat Général de la Commission Bancaire and provided that these notes meet the eligibility criteria for Tier 1 as defined in Annex 17, – consolidated reserves (including revaluation reserves), – retained earnings, – undistributed earnings (if not yet approved by the general shareholders’ meeting), – positive goodwill – differences arising from consolidation by the equity method, – minority interests except those on which there is a put, – positive foreign currency translation reserves, – Reserve for general banking risks (“fonds pour risques bancaires généraux”) as defined in the Governors’ agreement of November 6, 1991. The following elements are deducted from Core Capital : – holdings of own shares 6, – the unpaid portion of capital, – accumulated losses, – formation expenses, – intangible assets (excluding leaseholds), 5 In accordance with the 27 October 1998 press release issued by the Basel Committee on instruments eligible for Tier 1, reproduced in French in Annex 17, certain innovative products may be included in core capital subject to the prior approval of the Secrétariat Générale de la Commission Bancaire. 6 At their accounting value. 9
  10. 10. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 – negative goodwill – minority interests in loss-making units, – negative foreign currency translation reserves - provisions for pensions and similar advantages evaluated according to the recommendation of Conseil national de la comptabilité n°2003-R.01 of 1st April 2003 not booked as provisions for risks and charges - revaluation differences on tangible and financial fixed assets, net of tax deducted. These differences are included for 45% before tax in supplementary capital. Notwithstanding the provisions relating to fixed assets set forth above, institutions subject to the present regulation may include in supplementary capital, after tax and application of a discount where relevant, 100% of revaluation differences on such fixed assets under French accounting standards until 31 December 2004. In that case, the restatements shall apply to unrealised capital gains and revaluation differences that exceed the fraction included for 100% in supplementary capital. 2.1.2 For institutions subject to IFRS For institutions subject to IFRS, core capital includes items listed in 2.1.1 except reserves for general banking risks and except revaluation reserves, and shall be restated as follows. All shares issued by mutual institutions shall be included in core capital. The as yet non-amortised share of hybrid debt included in book capital under IFRS shall be deducted from core capital. The instrument may be included in capital if it complies with inclusion conditions in core capital or supplementary capital. The positive impact on capital of components of derivatives on own stock booked as shareholders’ equity shall be neutralised. However, it may be included in capital if it complies with inclusion conditions in core capital or supplementary capital. If the impact is negative, causing a decrease in capital, it shall not be restated. Net actuarial gains booked to earnings or reserves (in the latter case reflecting variations in previous years) in the framework of defined benefit pension schemes must be restated so that they are neutralised in core capital. The reserves shall include unrealised or deferred gains or losses, especially if they are attributable to IFRS. However, unrealised capital gains and losses on financial assets available for sale, booked directly as shareholders’ equity, shall be restated as follows : - for own equity instruments, net unrealised capital gains shall be deducted from core capital, currency by currency, net of tax deducted, and included for 45%, currency by currency and before tax, in supplementary capital. Net unrealised capital losses are not restated ; - unrealised capital gains or losses on other financial instruments, comprising debt instruments or loans and receivables, shall be neutralised ; - losses of value on any asset available for sale booked to the income statement are not restated ; 10
  11. 11. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 - restatements of financial assets available for sale do not apply to elements deducted from capital pursuant to article 2.3. Unrealised capital gains or losses booked directly to shareholders’ equity as the result of a cashflow hedging transaction shall be neutralised. Revaluation differences on tangible fixed assets shall be deducted from core capital, item by item, net of tax deducted, and included for 45%, item by item and before tax, in supplementary capital. Unrealised capital gains on investment properties booked in application of the fair value model shall be deducted from core capital, item by item, net of tax deducted, and included for 45%, item by item and before tax, in supplementary capital. Unrealised capital losses are not restated. The positive impacts of revaluations made on first application of IFRS to tangible fixed assets or investment properties, whether or not they are subsequently valued at amortised cost under IFRS, shall be deducted from core capital, item by item, net of tax deducted, and included for 45%, item by item and before tax, in supplementary capital. Negative impacts are not restated. These restatements do not concern elements included in the difference of “mise en equivalence”. Notwithstanding the provisions relating to fixed assets set forth above, institutions subject to the present regulation may include in supplementary capital, after tax and application of a discount where relevant, 100% of revaluation differences on such fixed assets under French accounting standards until 31 December 2004. In that case, the restatements shall apply to unrealised capital gains and revaluation differences that exceed the fraction included for 100% in supplementary capital. The prudential restatements of IFRS set forth above shall not apply to items included in the difference of “mise en equivalence”. However, the Commission Bancaire keep the possibility of applying these prudential restatements to the difference of “mise en equivalence” if the inclusion of all or part of these items seems inappropriate or can mislead of the point of view of prudential supervision objectives. The Commission Bancaire may decide other prudential restatements in order to maintain the definition and required qualities of regulated capital, especially if the fair value option is used. 2.2. Supplementary Capital (“Tier 2”) Supplementary capital may be included only up to the limit of 100% of core capital. A distinction is drawn between upper Tier 2 capital and lower Tier 2 capital. The following elements may be included in supplementary capital : 2.2.1. UPPER TIER 2 CAPITAL – items included in supplementary capital according to the restatements presented in article 2.1.1 for institutions not subject to IFRS and 2.1.2 for institutions subject to IFRS ; – deeply subordinated notes issued but not included in Tier 1 because they are in excess of the 15% limitation as defined Annex 17 ; – unrealised gains on holdings of marketable securities. A discount of 55% is applied, line by line, to the difference between the market price of the securities and their price of acquisition, 11
  12. 12. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 in order to take into account the potential volatility of share prices and the notional tax charge on gains ; – general provisions 7 not held against materialised and measurable losses may be included in supplementary capital as well as, for institutions subject to IFRS, provisions constituted for depreciation of portfolio according to IAS 39 (collective provisions) if they constitute general provisions from the prudential point of view; both up to a limit of 1,25% of risk-weighted assets ; – guarantee funds, under the conditions set in Regulation n° 90-02 of the Comité de la Réglementation Bancaire ; – hybrid capital instruments 8 (including subordinated bonds which are convertible or redeemable only in shares) that meet the following four conditions : they are subordinated 9 in capital and interest and are fully paid up, they are perpetual and cannot be redeemed except at the initiative of the issuer and with the prior consent of the Secrétariat Général de la Commission Bancaire 10. Under no circumstances should a request for redemption be made before a period of five years has elapsed, unless the redeemed borrowings are replaced with capital of equal or better quality. they include a clause giving the borrower the right to defer the payment of interest in the event that the profitability of the banks renders their payment inadvisable 11, they are available to cover losses without the bank being obliged to cease operations. Methodological details for hybrid capital instruments All perpetual subordinated debt issued prior to December 31, 1998 is included in upper Tier 2 capital, subject to the ceiling mentioned above. For new issuances, the debt contracts should be submitted for approval by the Secrétariat Général de la Commission Bancaire. When a hybrid instrument or an instrument of higher quality is part of a financing whose structure makes it impossible to determine with certainty if the instrument is perpetual, the instrument is classified as term subordinated debt. This policy, adopted by the Basel Committee on May 26, 1989, does not apply to instruments issued prior to that date. 7 Provisions on the liability side of the balance sheet and which are taken against probable losses or charges are deducted from the corresponding exposures. For country risk provisions, the 1991 Governors’ Accord, also referred to as the “Accord on cleaning provisions,” has applied since 31 December 1993. 8 Institutions should include a list of these instruments in an annex to the table of capital ratio calculations. 9 The requirement that instruments be subordinated precludes them in particular from having quot;negative pledgequot; clauses, as noted in Bulletin n° 13 of the Commission Bancaire. 10 The Secrétariat Général de la Commission Bancaire will grant approval if the redemption is at the initiative of the issuer, the redemption will not affect the solvency of the institution, and new instruments of lower quality are not issued at the same time as the redemption. 11 If the payment of interest is deferred, the payment of interest not paid on its normal due date cannot take place before the next date on which interest is due. 12
  13. 13. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 When a perpetual subordinated debt instrument incorporates a clause providing for progressive escalation in the interest rate (TSIP or perpetual subordinated debt with interest step-up), the recognition of the perpetual character of the instrument depends on limits placed on the step-ups. The following cumulative limits apply, subject to approval by the Secrétariat Général de la Commission Bancaire on a case-by-case basis : – The interest rate cannot increase by more than 75 basis points at a time ; – The increase cannot exceed 75 basis points in a five-year period ; however the combination of two five-year periods is acceptable, yielding a maximum increase of 150 basis points in the tenth year of the borrowing. – The interest rate cannot be more than 250 basis points above the yield on a government bond. These limits are computed in terms of the market conditions prevailing at the time of issuance. If the reference rate changes, the size of the step-up is measured by combining the spread over the variable rate to which it is indexed (PIBOR, LIBOR, or similar reference rate) with the swap rate quoted at the time of issuance between that reference rate and the initial reference rate. 2.2.2. LOWER TIER 2 CAPITAL This category includes term subordinated debt instruments 12 whose initial maturity is greater than or equal to five years, with the application of a annual amortisation once the residual life of the instrument falls below five years. Early redemption of these instruments is permitted, with the approval of the Secrétariat Général de la Commission Bancaire. However, under no circumstances should a request for redemption be made before a period of five years has elapsed, unless the redeemed borrowings are replaced with capital of equal or better quality. Furthermore, redemption must not occasion payment of compensatory indemnification by the borrower. Subordinated debt that is convertible to or redeemable in shares or cash is treated as equivalent to shares or cash. For the rate of amortisation in the last five years of a subordinated debt instrument, two cases are possible. For instruments that are redeemed in full at maturity, the amortisation is set at 20% per year. For instruments that are redeemed on a predetermined annual schedule, the security or subordinated loan is broken down into as many pieces as there are redemption dates and a linear discount of 20% per year is applied to each piece. To illustrate the latter case, take the example of a subordinated loan in the amount of 1 MEUR with an initial maturity of 10 years and redemption of half the principal after 7 years. The amount included in capital is indicated in the diagram. In this example, at the end of six years the amount of the loan included in capital is 20% of 500,000 plus 80% of 500,000 = 0,5 MEUR. In other words, the discount is 50% in the seventh year. 12 See note at the bottom of the following page. 13
  14. 14. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 The preceding limits on step-ups, which apply to perpetual hybrid capital instruments, are reduced in the case of term subordinated debt to 50 basis points per adjustment and per period of five years, without any option of combining two five-year periods. When the step-up is greater than 50 basis points, the date of the step-up is considered as the final maturity of the loan for purposes of calculating the discount. In addition, the yield must not be more than 250 basis points higher than the reference rate used. Capitalised interest on subordinated debt is eligible for inclusion in lower Tier 2 capital, provided that it has the same degree of subordination as principal on the debt and that the residual period of capitalisation is at least five years. Capitalised interest is subject to a prudential discount of 20% per year in the last four years of the period of capitalisation. All of the instruments in this category of subordinated debt may be included in capital only up to the limit of 50% of the amount of core capital. 2.3. Deduction of participations After applying the respective ceilings, the following investments in the capital (or its equivalent) of credit institutions or investment firms 13 must be deducted from total core capital and total supplementary capital : Loans made, and participating notes and subordinated debt issued by credit institutions 14 15, – or investment firms. – Shares, preference shares, and “parts sociales” issued by credit institutions or investment firms. – Deeply subordinated notes issued by credit institutions or investment firms. – Guarantees provided in securitisation transactions as defined in Regulation n°93-06 of the Comité de la Réglementation Bancaire (see Section 3.1.6.5). 2.4. Tier 3 capital Tier 3 capital consists of subordinated loans whose initial maturity is greater than two years, which do not carry guarantees, and which satisfy the following conditions : – the loan must be fully paid out, and the loan contract must provide that the loan cannot be redeemed before the agreed maturity without the approval of the Secrétariat Général de la Commission Bancaire ; – neither interest nor principal on these subordinated loans may be paid if it would result in the institution no longer satisfying its minimum capital requirement. 13 The deduction applies to all securities constituting capital (or equivalent) of credit institutions or investment firms, even when they carry a guarantee provided by a third party. (See Bulletin de la Commission Bancaire n° 9). 14 The amount of term subordinated debt to be deducted is calculated after applying the cumulative annual discount when the remaining maturity falls below five years. The amount corresponding to the discount must be recorded as exposures risk-weighted at 100% and included in the denominator of the ratio. 15 Including participating notes and subordinated debt issued and then repurchased by the institution. 14
  15. 15. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 Upper Tier 2 capital that is above the ceiling applied in calculating capital requirements for credit risk is eligible without restriction for inclusion in Tier 3 capital. Lower Tier 2 capital that is above the ceiling applied in calculating capital requirements for credit risk is eligible only if it strictly satisfies the conditions stated above. Furthermore, the amortised portion of lower Tier 2 capital discounted its the last five years may not be included in Tier 3 capital. Tier 3 capital may be used to cover market risk within certain limits, as set forth in Part 5 of this Notice. 3. RISK WEIGHTING OF ASSETS AND OFF-BALANCE SHEET EXPOSURES The framework for measuring credit risk set forth in this section does not apply to debt and equity securities held in the trading book. It does apply to over-the-counter derivative instruments, temporary sales of securities and inter-bank transactions, even when they fall within the trading book for the calculation of market risk. 3.1. On-balance sheet exposures 3.1.1. EXPOSURES RISK-WEIGHTED AT 0% – Cash. – Claims 16 on central governments 17 and central banks of OECD Group countries 18, on the European Communities (ECSC, EC, EURATOM) and on the institutions by prescribed treaty (European Commission, ECJ). – Claims 17 on (or guaranteed directly by) central governments and central banks of countries that do not belong to the OECD Group, if denominated in their national currency and financed in the same currency. – Claims 17 guaranteed directly by (or collateralised by securities issued by) central governments or central banks of OECD Group countries or by the European communities, or guaranteed by public sector agencies authorised to give their guarantee 19. – Claims on Public Sector Entities (PSEs) which are not part of the central government but which are assigned a preferential risk weight of 0% by the supervisory authority of the country in which they are located, provided that the country belongs to the OECD Group 20. 16 Taking the form of loans or securities. For a given counterparty, the risk-weighting of off-balance sheet exposures is identical. 17 See Annex 10 for a list of French agencies treated as part of the central government or central bank. 18 See Annex 8 for the composition of the OECD Group. 19 See Annex 9 for a list of these agencies. 20 To preserve competitive equality and in accordance with the decision published by the Basel Committee on September 21, 2001, claims on these entities may henceforth be risk-weighted at 0% (or 10% in certain cases) if the entities are assigned 15
  16. 16. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 – Claims 17 collateralised by cash or certificates of deposit issued by and deposited at the lending bank. 3.1.2. EXPOSURES RISK-WEIGHTED AT 20% – Claims 17 on regional and local authorities of OECD Group countries 21, claims on institutions not of an industrial or commercial nature over which public authorities exercise control, either through capital holdings or through the nomination of managers, and claims on miscellaneous administrative bodies listed in Annex 12. – Claims 17 guaranteed directly by, or collateralised with securities issued by regional or local authorities of OECD Group countries 16. – Claims 17 on the multilateral development banks listed in Annex 13, and claims guaranteed directly by them or collateralised with securities issued by them. – Claims 17 on credit institutions 22 and investment firms 23 whose headquarters are located in an OECD Group country and on financial companies as that term is defined in Council Directive 92/30/CEE, including claims guaranteed directly by them but excluding claims collateralised by notes or zero-coupon bonds issued by them. – Claims 17 with a residual maturity of one year or less on credit institutions whose headquarters are located outside the OECD Group of countries, and claims guaranteed by such credit institutions. – Claims on 17 banking “economic interest groups” (groupes d’intérêts économiques - GIE) – or on structures considered by the Secrétariat Général de la Commission Bancaire to be that risk weight by the OECD authorities responsible their supervision. This rule extends the decision taken in July 2001 for the Province of Quebec to all member countries of the OECD. 21 Claims on or guaranteed by regional and local authorities of a member State of the European Economic Area (EEA) may be assigned a risk weight of 0% if that member State has authorised its credit institutions to apply a 0% risk weight to those claims. See Annex 11 for a list of regional and local authorities in EU countries that are risk-weighted at 0%. Note, however, that when the guarantee takes the form of collateralisation with securities issued by such authorities, the risk weight may not be lower than 20%. 22 For institutions having their headquarters outside France, “credit institution” means any institution whose usual business is carrying out banking transactions and which is subject to supervision by a bank regulatory agency. A list of credit institutions authorised in the European Union is published in the Official Journal of the European Communities (OJEC of December 20, 1999) 23 Claims on investment firms authorised by the competent authorities in a Member State of the European Union or in another State that is party to the Agreement on the European Economic Area are automatically risk-weighted at 20%. Claims on investment firms authorised by competent authorities in other States must satisfy certain conditions in order to qualify for a 20% risk weight. These conditions are as follows : – the legal status of the entity : the entity cannot be a holding company at the top of a group. This type of entity is risk-weighted at 100%, as are any of its subsidiaries that do not have the legal status of bank or broker-dealer, even when they can carry out activities resembling those of investment service providers ; – the activity of the entity : it must correspond to an activity of an investment service provider as defined in Directive 93/22/CEE dated May 10, 1993 (the Investment Services Directive) ; – the entity’s administrative authority : this authority, which can be either a bank supervisory agency or a market regulatory agency, gives an indication of the entity’s field of activity. 16
  17. 17. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 equivalent – all of whose members are credit institutions, but excluding any GIE the object of which is to structure or grant loans 24. _ Securities issued by a land bank (société de crédit foncier) as that term is defined in Law n° 99-532 of June 25, 1999 on saving and financial security, and which qualify for the privilege defined in Article 98 of that law (securities referred to as obligations foncières); and securities issued by a credit institution having its headquarters in the European Economic Area and whose legal status is intended to protect the holders of securities equivalent to those referred to above (such as Pfandbriefe and Cedulas hipotecarias) – Assets in the course of collection 25. 3.1.3. EXPOSURES RISK-WEIGHTED AT 50% – Mortgage loans fully secured by residential real estate which is or will be occupied by the borrower or which is intended for rental, as well as mortgage loans that finance alterations or improvements to such properties. – Securities representing claims mentioned in the preceding paragraph, with the exception of portions that are guaranteed, which are assigned the risk weight of the guarantor, and “specific shares” in Fonds Communs de Créances, which are deducted from capital within the limits specified in Regulation n° 93-07. – Real estate leasing transactions. – Accrued interest and prepaid expenses where the counterparty cannot be identified. 3.1.4. EXPOSURES RISK-WEIGHTED AT 100% – Claims 17 on central governments and central banks of countries which do not belong to the OECD Group and which are not denominated and financed in the local currency. 17 – Claims on regional and local authorities of countries which do not belong to the OECD Group. – Claims 17 on credit institutions whose headquarters are located outside the OECD Group of countries with a residual maturity of more than one year. – Claims 17 on investment firms whose headquarters are located outside the OECD Group of countries. – Claims 17 on customers, including claims on insurance companies, firms not authorised as credit institutions but affiliated with credit institutions (or parents of credit institutions), and state-owned enterprises which are not assigned a more favourable risk weight in the preceding paragraphs. – The portion of holdings in capital (participating or subordinated loans and securities) of other credit institutions that is not deducted from capital. 24 In this case, the risk weight is 100%. 25 The net amount after deduction of corresponding liabilities. 17
  18. 18. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 – Fixed assets. – Real estate investments. – All other assets. 3.1.5. ON-BALANCE SHEET NETTING In accordance with the guiding principles established by the Basel Committee in April 1998, the Sevrétariat Gé,érale de la Commission Bancaire has decided to authorise the netting of certain balance sheet elements, subject to the following conditions : a. Institutions are authorised to net transactions covered by a novation agreement, under which all of the institution’s obligations to a counterparty in a given currency and on a given delivery date are integrated in a single net amount which substitutes contractually for the previous gross obligations. ; b. Institutions may also net transactions covered by legally valid bilateral netting agreements ; c. In both case a) and case b), the bank must demonstrate to its national supervisor that it possesses : – a netting contract or agreement with the counterparty covering all transactions, and giving the institution the right to receive or the obligation to pay only the overall net amount of the positive or negative market values of all the transactions covered in the event the counterparty defaults on payments for one of the following reasons : default or cessation of payments, initiation of legal reorganisation or liquidation procedures, or similar circumstances ; – well-founded written legal opinions indicating that, in case of legal challenge, the legal and administrative authorities involved will rule that the institution’s exposure is limited to the net amount under : the laws in force in the country where the counterparty is established, and, if a foreign branch of the counterparty is involved, the laws in the country where that branch is located ; the law governing the various transactions ; the law governing the netting contract or agreement ; – procedures to ensure that the legal framework governing the netting procedures will be reviewed for consistency with any changes in the applicable laws. Two points should be noted regarding the recognition of master agreements : – First, netting contracts that contain “walkaway clauses” are not recognised for prudential purposes ; – Second, in the absence of a common understanding from the Basel Committee on the application of the Accord to multi-branch netting agreements, it will be required : either that netting agreements be concluded only with countries that recognise the legal validity of netting, so that it is possible to report a net amount for all of the transactions covered by the agreement ; 18
  19. 19. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 or, if the agreement covers a larger set of countries, either the institution must provide legal opinions which establish that the failure to execute the agreement in some countries will not jeopardise the netting of obligations for which prudential recognition of the net balance is required, or the agreement must contain a “severability clause” which permits the isolation of the transactions carried out in countries where the legal validity of netting is established (in which case the institutions must possess legal opinions guaranteeing that the existence of the severability clause does not jeopardise the validity of the netting agreement under the relevant laws). If these conditions are satisfied, institutions may report net balances with branches located in countries recognising the legal validity of netting and gross amounts with branches located in other countries ; d. the maturity of the liability must be equal to or greater than the maturity of the asset with which it is netted ; e. the positions must be denominated in the same currency ; f. the institution must have control systems permitting it to manage its risk exposure on a net basis. In particular, an institution wishing to net on-balance sheet items must be able to demonstrate that it manages its risk exposure on a net basis in a prudent manner and on an ongoing basis ; g. The institution must be able at any time to determine the gross amount its claims on and debts to each of the counterparties with which it has concluded a netting agreement ; h. the scope of on-balance sheet netting is limited to bilateral elements (loans and deposits). 3.1.6. ADDITIONAL DETAILS 3.1.6.1. Amount of claims to be taken into account The amount of claims to be taken into account is the principal plus interest accrued but not yet due, whether the claims take the form of inter-bank loans, loans to customers, or securities (balance adjusted for any premium or discount). 3.1.6.2. Amount of claims to be included in exposures The amount of claims to be included in exposures is the balance net of provisions. 3.1.6.3. Collateral The collateral must be legally valid and binding on third parties. In particular, the pledging of financial instruments provided for in the law on modernisation of financial activities of July 2, 1996 is recognised as collateral, it being understood that the substitution of risk weights is accepted only for claims collateralised by securities which are perfectly separable and which are accepted in reduction of the risk-weightings of the commitments which they cover (see preceding paragraphs). Collateral and equivalent guarantees are not recognised unless their maturity is at least equal to that of the assets which they cover when the latter have a residual maturity less than or equal to one year. If the residual maturity of the assets covered is greater than one year, and if the maturity of the collateral or equivalent guarantees is greater than one year but less than that of the assets covered, the beneficiary may transfer the risk to the guarantor : i.e. the risk-weighted exposure on the covered assets is calculated using the risk weight of the collateral or of the guarantor. In order to capture the future exposure that results from the disappearance of the collateral before the maturity of the covered items, the beneficiary must record an additional exposure equal to 50% of the risk-weighted exposure to the covered items. 19
  20. 20. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 3.1.6.4. Guarantees In general, when a claim is guaranteed, the risk weight that applies to the guarantor, if more favourable, substitutes for that of the counterparty. To qualify for this treatment, the guarantee must be direct, unconditional, and legally certain. If the guarantee is partial, only the portion of the claim which is covered by the guarantee receives the reduced risk weight. When a guarantee takes the form of collateralisation with a zero-coupon security (excluding zero-coupons issued by credit institutions or customers), a fraction of the guaranteed claim corresponding to the market price of the security, or in the absence of a market price, its capitalised value, is risk-weighted at the rate corresponding to the issuer of the security. Guarantees are not recognised unless they cover a period at least equal to the maturity of the assets which they cover when the latter have a residual maturity less than or equal to one year. If the residual maturity of the assets covered is greater than one year, and if the term of the guarantee is greater than one year but less than that of the assets covered, the beneficiary may transfer the risk to the guarantor : i.e. the risk- weighted exposure on the covered assets is calculated using the risk weight of the guarantor. In order to capture the future exposure that results from the disappearance of the guarantee before the maturity of the covered items, the beneficiary must record an additional exposure equal to 50% of the risk- weighted exposure to the covered items. Claims which are guaranteed and for which the repayment risk on principal and interest are not the same 26 must be broken into a set of flows each of which presents a homogenous credit risk. Each set of homogenous flows is then valued at its financial contribution to the total amount of the claim – i.e. in proportion to its share of the net present value of the claim – and then risk-weighted according to the risk attached to it. The Secrétariat Général de la Commission Bancaire will set the conditions for application of these provisions as the need arises. 3.1.6.5. Securitisations The treatment of securitisation transactions is specified in Annex 18, which reproduces the provisions published in Bulletin n° 27 of the Commission Bancaire 27. It applies without prejudice of the accounting treatment required for these operations. Recourse clauses that engage the selling institution to take back claims before or after they reach their maturity (aside from cases of liquidation of a fund or a vehicle), whatever their nature – recourse obligations or rights, rights of pre-emption – are considered a form of credit enhancement. They oblige the selling institution to apply the prudential treatment defined in Annex 18, and also : - to record in its off-balance sheet positions any recourse “commitments,” including implicit recourse commitments (recourse rights or rights of pre-emption) ; - to publish, in an annex to its annual financial accounts, detailed information on the securitisation transaction, in accordance with the provisions of Regulation n° 93-06 of the Comité de la Réglementation Bancaire et Financière ; - to pass provisions, as needed and in accordance with Article 3 of Regulation n° 93-06, in the amount of the risk of default on the claims sold as valued at the end of each accounting period. 26 This is the case for transactions in which interest or coupons, but not principal, are indexed to a reference portfolio, or for securities for which only the payment of principal on the contractually agreed date is guaranteed (claims of a “composite” nature). 27 Bulletin n° 27 of the Commission Bancaire, November 2002 – New prudential provisions relating to securitisation transactions. 20
  21. 21. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 In the expectation of the results of works led internationally on the prudential notion of “significant risk transfer”, the treatment of transactions specified in Annex 18 applies for all the positions held by a credit institution or an investment firm. Nevertheless, if the sum of these positions is higher than 8 % of the risk-weighted exposure on securitised exposures, the Secrétariat Général de la Commission Bancaire could require, for the purposes of the calculation of capital requirements, an appropriate prudential treatment in the case where the application of the 8 % cap could be misleading from the point of view of the objectives of prudential surveillance. Finally, a 0% credit conversion factor applies to liquidity facilities extended in the framework of securitisation transactions when the following conditions are satisfied : - the liquidity facility is protected from credit risk by a credit enhancement mechanism, and - the contractual maturity of the liquidity facility is less than or equal to one year, or the institution providing the liquidity facility can cancel it unconditionally, at any time and without notice. On the one hand, liquidity facilities which can be drawn in order to cover a credit risk, notably in the case of default of the selling institution, cannot receive a 0% credit conversion factor. In that veine, it should be noted that the « commingling » risk, defined as the risk, notably in the case of default of the selling institution, that cash flow payments could be freezed, must be viewed as a credit risk. Consequently, a 0% credit conversion factor cannot apply to liquidity facilities which are not protected from such a risk by a specific mechanism. On the other hand, the contractual maturity of a liquidity facility covered by a commitment for renewal for a fixed period is calculated from the date on which the commitment is signed. Liquidity facilities which provide credit enhancement must be treated in accordance with the provisions of Annex 18. Liquidity facilities which do not provide credit enhancement and which do not satisfy the conditions cited above receive a credit conversion factor of 50%. This prudential treatment shall be applied without prejudice of the accounting treatment applied to these liquidity facilities, including when the special purpose vehicles that are the beneficiaries of these liquidity facilities are consolidated according to accounting rules, by the credit institutions or the investment firms that have granted them to the SPVs. 3.1.6.6. Securities held as assets Securities held as assets are risk weighted according to their issuer. The risk weight is applied to the balance net of deliverables if the securities are the object of a forward sale on the monthly settlement market (this netting must be carried out security by security). Such netting does not extend to options covering spot positions in securities (in particular; securities covered by the sale of call options). 3.1.6.7. Shares in UCITs and ordinary shares in FCCs Shares in UCITs and ordinary shares in Fonds Communs de Créances (FCCs) may be assigned the risk weights corresponding to the nature of each asset held by such organisations, provided that the credit institution is able to establish the composition of the assets. However, the pledging of such shares as collateral does not reduce the risk weight of the assets covered by the collateral. 21
  22. 22. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 3.1.6.8. Repurchase agreements : – securities received in repurchase agreements in the framework of a master agreement established under the auspices of the Banque de France are treated as guarantees. They valued at their market value and risk-weighted at the lower of the risk weight of the counterparty and the risk weight of the issuer of the securities. When the securities are not delivered, the risk weight of the counterparty applies ; – securities delivered in a repurchase agreement continue to be treated as exposures of the seller (and the applicable risk weight remains that of the issuer of the securities) ; – margin calls paid in the framework of the master agreement can take the form of supplementary remittance of cash, bills or securities. When these supplementary remittances are made in cash, they are recorded as miscellaneous receivables and risk weighted according to the nature of the counterparty. When the remittances are made in the form of bills or securities, they are recorded off-balance sheet as other values transferred in guarantee and are not counted as such in the calculation of risk-weighted exposures. However, the corresponding bills or securities continue to be risk-weighted according to the nature of the issuer of the securities. 3.1.6.9. Securities lending and borrowing : – Unsecured (“sec”) lending and borrowing of securities and “irregular” deposits of securities 28: for the lender, securities lent are risk-weighted by the higher of the rate that applies to the borrower and the rate for the issuer of the securities ; securities borrowed are not counted as exposures of the borrower. – Lending and borrowing of securities secured by cash : these transactions are treated in all respects like repurchase agreements (see above). – Lending and borrowing of securities secured by securities : for the lending institution, the securities 29 are risk weighted at the higher of : the risk weight of the issuer of the securities lent, • the lower of the risk weight of the borrower and the risk weight of the issuer of the • securities received in collateral, for the borrowing institution, the securities borrowed are not counted as exposures. The securities given in guarantee in the transaction continue to be risk-weighted according to the nature of the issuer of the securities, whether or not they are delivered, in accordance with the general provisions governing values given in guarantee. The Secrétariat Général de la Commission Bancaire will set the conditions for application of these provisions as the need arises. 28 Securities on deposit may be used by the borrowing institution, as long as the lender has not failed ; for example they may be sold or used to guarantee refinancing operations. 29 Whether the securities lent are held on the lender’s its own account or have previously been borrowed. 22
  23. 23. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 3.1.6.10. Temporary sales of securities (repurchase agreements, securities lending and borrowing and securities received in repurchase agreements) : In place of the provisions set forth in Points 3.1.6.8 and 3.1.6.9, institutions may apply the regime set forth in Regulation n° 95-02, subject to the modifications given below : - For each temporary sale of assets, Regulation n° 95-02 defines the risk basis as the value of the items sold minus the value of the items received, multiplied by the risk weight that applies to the counterparty involved. - Accrued interest is included in the calculation of the market value of the amounts lent or borrowed and of the guarantee. Netting of these transactions is recognised subject to the conditions set forth in Point 3.1.5. - Institutions must adhere to the following rules : No credit is given for securities received if either of the following conditions applies : • the issuer of the securities is related to the counterparty, in the meaning of Article 3 of Regulation n° 93-05 ; • the securities are not delivered or the transaction does not receive an equivalent guarantee. In order to take account of the volatility of the net exposure to the counterparty, a flat- rate deduction of 5% is applied to the market value of the assets received, whatever their form (cash, government securities, or securities issued by other entities). This discount is applied to the position net of repurchase and reverse repurchase agreements for the same security. When an institution uses this method, it must also apply it to unsecured securities lending and to “irregular” deposits of securities. - By reference to the provisions of Article 3 of Regulation n° 89-07 and to Article 1 of Instruction n° 94-06, securities transferred with a guarantee against the risk of failure of the issuer 30 must be recorded as “shares received in repurchase agreements” and treated as temporary sales of securities. 3.1.6.11. Sales with repurchase option : – for the transferee, securities received in a sale with repurchase option referred to in Article 4-II of Regulation n° 89-07 are considered guarantees by the transferor. They are risk-weighted at the lower of the risk weight of the transferor and the risk weight of the issuer of the securities ; – for the transferor, the securities sold are recorded as off-balance sheet instruments with a credit conversion factor of 100% (see below). 30 The guarantee can take the form of a credit derivative instrument or an equity swap. 23
  24. 24. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 3.1.6.12. Guarantee deposits and contributions to Clearnet’s clearing fund and to Euroclear France Guarantee deposits placed with clearing houses are risk-weighted at 20% if the clearing body is a credit institution, 0% if the commitments of the body are guaranteed by an entity which is itself risk-weighted at 0%, and 100% in all other cases. Contributions paid into the clearing fund of Clearnet and into the mutual fund to secure the system RVG2 Filière Révocable from Euroclear are risk-weighted at 20%. 3.1.6.13. Option premiums For option premiums purchased by the institution, two cases are distinguished : – for transactions which are not carried out on an organised exchange with daily margin adjustment, the underlying is included in the calculations for off-balance sheet financial instruments, and the premiums therefore are not counted as exposures ; – for instruments which are traded on an organised exchange, and whose underlying are not counted as off-balance sheet forward financial instruments, the purchased premiums are counted as exposures in the amount of the asset and risk-weighted according to the type of clearing house (see above) 3.1.6.14. Special cases The following risk weight applies to “carry-back” tax claims of businesses on the Public Treasury which are sold to a credit institution in a “Dailly” transaction : - 20% for commitments covered by a “Dailly” sale of the receivable from the Public Treasury, provided the Public Treasury has acknowledged receipt of the notification of the sale, and both the existence of the claim and the absence of potential adverse claims on the situation of the seller have been verified. The 20% risk weight is composed of a credit-risk equivalent of 20%, risk-weighted at 100%, on the seller ; plus a credit-risk equivalent of 80%, risk- weighted at 0%, on the State, - 0% for irrevocable off-balance sheet commitments of less than one year to purchase “carry- back” tax claims. If the credit is approved in advance, i.e. before the conditions mentioned above have been completely satisfied, a risk weight of 100% applies until the conditions have been fulfilled. 3.2. Off-balance sheet exposures Off-balance sheet exposures are converted into credit-risk equivalents ; the resulting amounts are then risk-weighted in the same way as on-balance sheet transactions, according to the type of counterparty or, in the case of certain transactions in securities, the type of issuer. The credit conversion factors applied to the nominal amounts of commitments are intended to reflect both the probability that a commitment will result in an on-balance sheet exposure and the estimated magnitude of the risk. Two fixed credit conversion factor values have been assigned to commitments that take the form of a line of credit or a revolving credit : 0% for commitments with an original maturity of less than one year or for commitments of any maturity which can be unconditionally cancelled at any time 24
  25. 25. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 (or cancelled upon the expiration of a notice period that conforms strictly to legislation or banking practice relating to consumer protection) ; and 50% for all other commitments 31. The initial maturity – which determines the choice of credit conversion factor – should be evaluated in terms of the economic substance of the commitment and may therefore differ from the contractual maturity. In practice, this means that the factor of 50% should be applied in cases where the bank is committed to the beneficiary for a period of more than one year following the date that the facility is granted. A maximum risk weight of 50% applies to commitments which take the form of derivative instruments and which are made to counterparties who would normally be risk-weighted at 100%. 3.2.1. OFF-BALANCE SHEET EXPOSURES, EXCLUDING DERIVATIVE INSTRUMENTS 3.2.1.1. INSTRUMENTS FOR WHICH THE CREDIT CONVERSION FACTOR IS 100% – Financial guarantees (“financial standby letter of credit”). In particular, this category includes guarantees of payment or repayment. _ Counter-guarantees provided to credit institutions covering exposures to other credit institutions. – Guarantees of repayment to credit institutions by other credit institutions. – Acceptances and commitments to pay. – Uncancellable lines of credit which are certain to be drawn, and surety bonds serving as credit substitutes. – Substitution for a counterparty “decredere” (“ducroires”). – Securities due to the institution 32 33. – Temporary asset sales 27 in which the bank retains the credit risk (i.e. there is a strong probability that the selling bank will repurchase the asset 34). – Forward asset purchases and 27.28, and unpaid purchases of shares and other securities. 31 All “Note Issuance Facilitiesquot; and quot;Revolving Underwriting Facilitiesquot; are assigned a credit conversion factor of 50%. 32 These instruments must be risk-weighted according to the type of asset and not the nature of the counterparty i the transaction. 33 This includes in particular commitment, net of Cette rubrique comprend notamment les engagements, nets des rétrocessions, relatifs à des interventions à l'émission, garanties de prise ferme ou autres garanties de placement, ainsi que les achats sur les marchés à terme de valeurs mobilières jusqu'à la date de règlement des titres. 34 In particular, sales with repurchase rights referred to in Article 4-II of Regulation ° 89-07 (sales with repurchase option). 25
  26. 26. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 3.2.1.2. INSTRUMENTS FOR WHICH THE CREDIT CONVERSION FACTOR IS 50% – First demand guarantees of a technical nature (“performance standby letter of credit”) including performance guarantees and guarantees of contract execution or completion, repayment of deposit, bids, or contract holdbacks. – Refinancing agreements and confirmed lines of credit with an initial maturity greater than one year. – Surety bonds, endorsements and other guarantees (other than first-demand guarantees and repayment guarantees), i.e. instruments that do not constitute direct credit substitutes), including in particular guarantees of repayment of deposits or financing of subcontractors. – Note Issuance Facilities and Revolving Underwriting Facilities. – Project finance commitments. – Lines of credit that can be drawn in several segments, if any of the segments is longer than one year; however, the segments may be considered separately if there is no possibility of transfer between them and if they serve distinct and independent purposes.. – Commitments of more than one year in an amount that varies seasonally (the credit conversion factor applies to the maximum amount of the commitment). – Commitments of indefinite maturity, or renewable commitments that the bank can cancel unconditionally at any time after a notice period (“evergreen” commitments). – Documentary lines of credit issued or confirmed by a credit institution, where the underlying goods do not serve as collateral. – Backup lines for commercial paper. – Guarantees provided by the presenting institution for the payment of cash compensation payable by the initiator in a purchase of securities as part of a takeover bid (“offre publique d’achat”) or exchange offer (“offre publique d’échange”). 3.2.1.3. INSTRUMENTS FOR WHICH THE CREDIT CONVERSION FACTOR IS 20% – Guarantees (other than on first demand) covering good execution of contracts, bids or contract holdbacks, taking the form of surety bonds. – Issued or confirmed documentary credits where the underlying merchandise serves as collateral. – Guarantees of administrative or tax obligations. – EC Surety bonds (“cautions communautaires”). – Commitments provided to UCITs to guarantee their capital or yield 35. 35 In accordance with Note n° 92-09 of the Secrétariat Général de la Commission Bancaire, these commitments are treated for accounting purposes as commitments to customers, in the amount specified in the contract, or the contract does not specifiy an amount, for the nominal value of the shares which are covered by the guarantee. In calculating the capital 26
  27. 27. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 – Surety bonds prescribed by laws governing financial guarantees required to practice certain professions, including in particular surety bonds covering the restoration of mine sites. – Guarantees covering financing of a takeover bid (“offre publique d’achat”). 3.2.1.4. INSTRUMENTS FOR WHICH THE CREDIT CONVERSION FACTOR IS 0% – Refinancing agreements and confirmed lines of credit with an initial maturity of one year or less. Commitments which can be cancelled unconditionally at any time and without notice 36. – – Commitments which can be renegotiated at the end of a period of at most one year, if the renegotiation procedure involves a complete new review of the financial structure of the beneficiary and if the bank has complete discretion not to renew the commitment. – Simple OPE tenders, provided that the commitment is included in the bank’s off-balance accounts and the bank can confirm the magnitude of its commitment Multi-optional financing facilities (MOFF) and other forms of composite financing must be split into their constituent components (lines of credit, NIF,...) and each component assigned a corresponding credit conversion factor. If the total value of the components exceeds the value of the facility, the components with the smallest credit conversion factors are ignored until the excess is eliminated. In the case of commitments to commit where the credit conversion factor of the second commitment depends on the maturity (for example, a commitment to extend a future credit line), the initial maturity is measured from the date that the first commitment is granted. If the first commitment is cancellable at any time, the credit conversion factor is 0%. In the case of commitments to commit where the credit conversion factor of the second commitment does not depend on the maturity (for example, a commitment to extend a future surety bond), the credit conversion factor is 0% if the maturity of the first commitment is less than or equal to one year or if the first commitment is cancellable at any time. Otherwise it is equal to the credit conversion factor of the second commitment. Lines of credit where the credit is for more than one year and the line must be drawn within one year at most are considered to have a maturity of one year at most, provided that at the end of that time the undrawn portion of the credit line is automatically cancelled. 3.2.2. OFF-BALANCE SHEET EXPOSURES IN THE FORM OF DERIVATIVE INSTRUMENTS. 3.2.2.1. MEASUREMENT OF GROSS EXPOSURE – The credit-risk equivalent of derivative instruments is calculated using the method of “mark to market.” ratio, a credit conversion factor of 20% is applied. Institutions may apply the principle of transparance to these transactions, i.e. they may apply the risk weights associated with the assets held by the UCIT. 36 This does not include lending that falls within the scope of application of Article L. 313-12 of the Code Monétaire et Financier. 27
  28. 28. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 – The calculation covers only over-the-counter derivative transactions; commitments involving exchange-traded derivatives are excluded. 37. Five broad categories of instruments are defined : interest rate, currency and gold, equity, precious metals (excluding gold), and commodities. Contracts which do not fall clearly into one of these categories are treated as commodities instruments. 3.2.2.1.1. TYPES OF TRANSACTIONS Interest-rate instruments means : • interest-rate swaps in the same currency ; • forward rate agreements (FRA) ; • interest-rate forwards ; • interest rate options (purchased contracts only) ; • other contracts of the same nature (caps, floors, collars,...). Currency and gold instruments means : • interest-rate and foreign-currency swaps ; • foreign exchange forwards ; • currency forwards ; • currency options (purchased contracts only) ; • other contracts of the same nature 38. Currency contracts with an initial maturity of 14 calendar days or less are exempted. This exemption does not apply, however, to gold contracts, which are subject to credit risk capital requirements whatever their initial maturity. Equity instruments means all forward and swap contracts, purchased options and similar derivative instruments based on shares or share indexes. Precious metal instruments means all forward and swap contracts, purchased options and similar derivative instruments based on metals other than gold, such as silver, platinum, palladium... Finally, commodities instruments means all forward and swap contracts, purchased options and similar derivative instruments whose underlying are contracts for energy products, agricultural products, non-ferrous metals (such as aluminium, copper and zinc), or other non-precious metals. 37 However, transactions carried out on markets treated as organised exchanges in accounting valuation (within the meaning of Regulation n° 88-02 of the CRB) are included. 38 Foreign exchange warrants are treated as foreign exchange options. Only purchased warrants are included, unless the transaction involves a bank repurchasing a warrant issued by the same bank. 28
  29. 29. METHODS FOR CALCULATING INTERNATIONAL CAPITAL ADEQUACY RATIOS, 01/01/2006 Credit derivative instruments, which are designed to buy or sell the credit risk of a reference asset, is accorded a conservative treatment. The institution selling protection records a credit risk on the reference asset; the exposure is treated as a direct credit substitute attracting a credit conversion factor of 100%, and risk-weighted according to the nature of the issuer of the reference asset. The buyer of protection also records a risk on the reference asset, but it is permitted to substitute the risk weight of the protection seller for the risk weight of the issuer. This treatment is subject to prudential conditions set forth in Annex 15. (The treatment of credit-linked notes is slightly different : see Annex 15.) 3.2.2.1.2. METHOD FOR MEASURING THE CREDIT-RISK EQUIVALENT (CURRENT EXPOSURE AND POTENTIAL FUTURE EXPOSURE) The credit-risk equivalent of derivative instruments is determined by taking the sum of : – the total replacement cost (valued at the market price 39) of all contracts that are in-the-money, – an add-on for the potential future exposure, calculated on the basis of the nominal amount recorded on the institution’s books 40 and multiplied by the following add-ons factors 41 42 which depend on the residual maturity and the type of contract. Precious metal Commodities Interest-rate Currency and Equity Residual maturity 43 contracts contracts contracts gold contracts contracts (excluding gold) Up to one year................. 0,0% 1,0% 6,0% 7,0% 10% More than one year and less than or equal to five 0,5% 5,0% 8,0% 7,0% 12,0% years More than five years ....... 1,5% 7,5% 10,0% 8,0% 15,0% For contracts that are not covered by a novation agreement or a netting agreement satisfying the conditions set forth in Point 3.2.2.2.1, the replacement cost is equal to the market value of the contract, if greater than zero. If the market value is less than zero, the replacement value is zero. However, the replacement cost of any exchange rate contracts whose initial maturity does not exceed 14 calendar days is zero. 39 For interest-rate and currency swaps, the market price is calculating using one of the methods referred to in Regulation n° 90-15 as amended by Regulation n° 92-04 (before adjusting the market value for counterparty risk.). 40 The add-on is calculated on the notional amount of all contracts, whatever their market value, i.e. whether they are in or out of the money. 41 Except for variable rate swaps in the same currency, for which credit risk is calculated exclusively on the basis of replacement cost without an add-on for potential future risk. 42 For contracts involving multiple exchanges of principal, the add-on factors are multiplied by the number of payments remaining to be made. 43 For contracts whose value is automatically reset to zero after a payment, the residual maturity is the interval between two such resettings to zero (with a minimum add-on of 0,5% for interest-rate contracts which have a residual maturity of more than one year). 29

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