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BIPRU 10.4 Measurement of exposures to counterparties and issuers

General

BIPRU 10.4.1R

Unless specifically mentioned, BIPRU 10.4 applies both to non-trading book and trading book exposures.

BIPRU 10.4.2R

For the purpose of calculating the value of an exposure, exposures are divided into counterparty exposures and issuer exposures.

BIPRU 10.4.3R

When calculating a firm's total exposure to a counterparty it must sum the counterparty exposures and the issuer exposures to that counterparty.

BIPRU 10.4.4G

The same asset may give rise to a counterparty exposure and an issuer exposure. For example a purchased option creates an exposure to the other party to the option and the issuer of the underlying security.

Definition of issuer exposures

BIPRU 10.4.5R

The issuer exposure to an individual counterparty must be calculated by summing the following items:

  1. (1)

    the excess where positive of the firm's long positions over its short positions in all the CRD financial instruments issued by the counterparty in question, in accordance with BIPRU 10.4.28 R (Further details about the calculation of issuer exposures: Establishing the net position in the non-trading book) and BIPRU 10.4.30 R (Further details about the calculation of issuer exposures: Establishing the net position in the trading book); and

  2. (2)

    the firm's net underwriting exposure to that counterparty.

Definition of issuer exposures: Position risk

BIPRU 10.4.6R

An issuer exposure to a person in the non-trading book does not include an exposure that gives rise to a counterparty exposure to that person.

BIPRU 10.4.7G

In general an issuer exposure in the non-trading book means any exposure that, if it were in the trading book and subject to the standard market risk PRR rules:

  1. (1)

    (in the case of a derivative in relation to a CRD financial instrument) would give rise to a notional position in the CRD financial instrument underlying that derivative; or

  2. (2)

    would give rise to a similar notional position in a CRD financial instrument other than the one that the firm actually holds.

BIPRU 10.4.8G

A credit linked note may be an example of an instrument falling within BIPRU 10.4.7 G (2).

BIPRU 10.4.9G

A firm's long physical position in a security held in the non-trading book is generally included as a counterparty exposure rather than an issuer exposure.

BIPRU 10.4.10G

BIPRU 10.4.5 R (1) includes any exposure in the trading book or non-trading book that would give rise to a notional position under the standard market risk PRR rules.

BIPRU 10.4.11G

The netting of long and short positions under BIPRU 10.4.5 R (1) includes the notional positions in the underlying which arise from derivative transactions.

BIPRU 10.4.12R

For the purposes of BIPRU 10.4.5 R (1), a firm may, when calculating its net position in CRD financial instruments in the non-trading book, include counterparty exposures excluded from the issuer exposure calculation under BIPRU 10.4.6 R. However any counterparty exposure used in this way is still subject to the provisions of this chapter about counterparty exposures.

BIPRU 10.4.13G

This paragraph illustrates how BIPRU 10.4.12 R works. Say that a firm has a holding of shares in its non-trading book. Say that the firm has bought a put option over those shares, which it also holds in its non-trading book. The holding of shares gives rise to a counterparty exposure to the issuer of those shares and the option gives rise to a counterparty exposure to the person who wrote the option. The option also gives rise to an issuer exposure to the issuer of the shares. The firm may use BIPRU 10.4.12R to eliminate that issuer exposure by netting its position to zero by taking into account its long non-trading book position in those shares. If it does so, the firm will still have counterparty exposures to the issuer of the shares and the counterparty under the option.

BIPRU 10.4.14G

Another example of how BIPRU 10.4.12 R works is this. Say that a firm has a long non-trading book position in a debt security together with an offsetting credit derivative. If the conditions in BIPRU 10.3.3 R (Identification of counterparties for guaranteed exposures) are met the firm may, for the purposes of the calculation of the counterparty exposure, treat itself as having an exposure to the provider of the credit derivative rather than to the issuer of the debt security. This means that the counterparty exposure to the issuer of the debt security is zero. In calculating the issuer exposure the firm may net the long position in the debt security against the short notional position arising out of the credit derivative. The effect is that the issuer exposure to the issuer of the debt security is also zero. Hence the firm has no exposure to the issuer of the debt security.

BIPRU 10.4.15R

To the extent that BIPRU 10.4 does not otherwise explain what positions are included in BIPRU 10.4.5 R (1) or how to calculate a net position for the purpose of BIPRU 10.4.5 R (1), a firm must apply the provisions of the applicable standard market risk PRR rules or the ones that would apply if the position were in the trading book.

BIPRU 10.4.16R

A firm must not offset exposures in the non-trading book and trading book against each other for the purpose of calculating an issuer exposure except to the extent allowed by the standard market risk PRR rules.

BIPRU 10.4.17R

For the purposes of this chapter, the counterparties with respect to an exposure falling into BIPRU 10.4.5 R (1) are the persons who are or would be treated as an obligor under the standard market risk PRR rules in question.

Definition of issuer exposures: Underwriting

BIPRU 10.4.18G

In accordance with BIPRU 7.8 (Securities underwriting), a firm should include net underwriting exposures to an issuer in the calculation of its total exposure to that issuer.

Definition of counterparty exposures

BIPRU 10.4.19R

A counterparty exposure means, with respect to the non-trading book, any exposure as defined in BIPRU 10.2 (Identification of exposures) held in the non-trading book.

BIPRU 10.4.20R

A counterparty exposure means, with respect to the trading book, any exposure as defined in BIPRU 10.2 (Identification of exposures) due to the transactions, agreements and contracts referred to in BIPRU 14.2.2 R (List of trading book exposures that give rise to a counterparty risk credit charge) and held in the trading book, including credit derivatives.

BIPRU 10.4.21G

For example BIPRU 10.4.19 R to BIPRU 10.4.20 R mean that a share only gives rise to a counterparty exposure when it is held in the non-trading book.

Calculation of counterparty exposures

BIPRU 10.4.22R

Subject to BIPRU 10.4.23 R to BIPRU 10.4.24 R, the value of a firm's counterparty exposures, whether in its non-trading book or its trading book, is the amount at risk calculated in line with GENPRU 1.3 (Valuation).

BIPRU 10.4.23R

A firm must calculate the value of its counterparty exposures in its trading book in the manner laid down in BIPRU 14 (Capital requirements for settlement and counterparty risk) for the calculation of exposure values. For these purposes the reference in BIPRU 14.2.11 R (How to calculate exposure values and risk weighted exposure amounts for the purpose of calculating the counterparty risk capital component) to the provisions of the IRB approach does not apply.

BIPRU 10.4.24R

Counterparty exposures arising from financial derivative instruments must be calculated in accordance with one of the methods set out in BIPRU 13 (Financial derivatives, SFTs and long settlement transactions). For the purposes of this chapter, BIPRU 13.6.6 R (Scope of CCR internal model method) also applies.

BIPRU 10.4.25R

A firm must not offset exposures in the non-trading book and trading book for the purpose of calculating counterparty exposures except to the extent permitted under the standardised approach or, if applicable, the IRB approach.

BIPRU 10.4.26R

For the purposes of this chapter, the counterparty with respect to a counterparty exposure is the person who would be treated as the person to which the firm has the exposure under the standardised approach or, if applicable, the IRB approach.

Further details about the calculation of issuer exposures: General

BIPRU 10.4.27R

Further details about the calculation of issuer exposures: Establishing the net position in the non-trading book

BIPRU 10.4.28R

A firm must calculate the value of an exposure to the issuer of a CRD financial instrument which is held in the firm's non-trading book as the sum of the excess, where positive, of the book value of all long positions over all short positions (the net long position), for each identical CRD financial instrument issued by that issuer.

BIPRU 10.4.29R

For the purposes of BIPRU 10.4.28 R, short positions in one CRD financial instrument may be used to offset long positions in a non-identical CRD financial instrument issued by the same issuer if both the CRD financial instrument are denominated in the same currency, and:

  1. (1)

    where both the CRD financial instrument are fixed rate, they are within the same residual maturity time band, one year or less, or over one year; or

  2. (2)

    where both the CRD financial instrument are index linked, they are within the same residual maturity time band referred to in (1); or

  3. (3)

    both the CRD financial instrument are floating rate.

Further details about the calculation of issuer exposures: Establishing the net position in the trading book

BIPRU 10.4.30R

A firm must calculate the value of an exposure to the issuer of a CRD financial instrument which is held in the firm's trading book by calculating the excess of the current market value of all long positions over all short positions in all the CRD financial instruments issued by that issuer.

Further details about the calculation of issuer exposures: Netting

BIPRU 10.4.31R

For the purposes of BIPRU 10.4.28 R and BIPRU 10.4.30 R, the short positions must be netted against the long positions in CRD financial instruments with the highest specific risk PRAs.

Further details about the calculation of issuer exposures: Netting between different issuers

BIPRU 10.4.32R

A firm must not offset an exposure to one issuer against an exposure to another issuer (whether in the trading book or the non-trading book) even where:

  1. (1)

    the issuers are a group of connected clients; and

  2. (2)

    the exposures are non-identical exposures which meet the conditions in BIPRU 10.4.29 R.

Further details about the calculation of issuer exposures: Forward agreements

BIPRU 10.4.33R

A firm must include as a long position a commitment by it to buy:

  1. (1)

    a debt security or an equity at a future date; and

  2. (2)

    under a note issuance facility, at the request of the issuer, a security which is unsold on the issue date.

BIPRU 10.4.34R

A firm must include as a short position a commitment by it to sell a debt security or an equity at a future date.

Further details about the calculation of issuer exposures: Interest rate, foreign currency and equity swaps

BIPRU 10.4.35G

An interest rate leg of an equity swap, or an interest rate or currency swap, does not generate an issuer exposure.

BIPRU 10.4.36R

Where the equity leg of an equity swap is based on the change in value of an individual equity, it must be treated as giving rise to an exposure to the issuer of the equity.

Further details about the calculation of issuer exposures: Option positions

BIPRU 10.4.37R

When determining its exposure to an issuer arising from an option, a firm must value an option as the amount of principal underlying the option.

BIPRU 10.4.38R

A firm must treat:

  1. (1)

    a written put option as a long position in the underlying security valued at the strike price or the market price of the underlying security, whichever is lower;

  2. (2)

    a purchased put option as a short position in the underlying security valued at the strike price or the market price of the underlying security, whichever is lower; and

  3. (3)

    a purchased call option as a long position in the underlying security equal to the book value of the option provided that the contract has been given a book value in the firm's accounts.

BIPRU 10.4.39G

A written call option does not generate an issuer exposure.

BIPRU 10.4.40R

  1. (1)

    This rule applies in relation to an option if a firm:

    1. (a)

      has a CAD 1 permission;

    2. (b)

      the scope of the CAD 1 waiver covers that option; and

    3. (c)

      the CAD 1 permission is for a CAD 1 model for option risk aggregation as described in BIPRU 7.9.7 G (Types of CAD 1 model).

  2. (2)

    This rule also applies in relation to an option if a firm:

    1. (a)

      has a VaR model permission; and

    2. (b)

      the scope of the VaR model permission covers that option.

  3. (3)

    A firm may take as the exposure value of an option the delta weighted value of the notional underlying the option calculated using the models described in (1) and (2), to the extent that those values are relevant for the calculations in BIPRU 10.4.37 R.

Further details about the calculation of issuer exposures: Indices and baskets of equities or securities

BIPRU 10.4.41R

Subject to BIPRU 10.4.42 R, a firm must treat an index or basket of debt securities or equities as giving rise to a series of exposures to the issuers of the underlying securities or equities in accordance with the provisions of BIPRU 7.2 (Interest rate PRR) or BIPRU 7.3 (Equity PRR and basic interest rate PRR for equity derivatives).

BIPRU 10.4.42R

A qualifying equity index does not generate an exposure of the type described in BIPRU 10.4.41 R.

Securities financing transactions

BIPRU 10.4.43R

A firm with securities financing transactions in its trading book or its non-trading book must calculate its exposure to:

  1. (1)

    the issuer of the security it has sold in a repurchase agreement; and

  2. (2)

    the counterparty to the securities financing transaction (subject to BIPRU 10.3.3 R (Identification of counterparties for guaranteed exposures) and BIPRU 10.6 (Exemptions)).

Treatment of accrued interest and dividends due

BIPRU 10.4.44R

Subject to BIPRU 10.4.45 R, when calculating an exposure, a firm must include accrued interest and dividends due.

BIPRU 10.4.45R

A firm may use the following method of calculating the total amount of a firm's exposures in the non-trading book to a counterparty, connected counterparties or a group of connected clients as an alternative to that in BIPRU 10.4.44 R:

  1. (1)

    if the total amount of the exposures is less than 20% of the firm's capital resources (ignoring accrued interest), the accrued interest element need not be included in the calculation of the amount of the exposures in the non-trading book; and

  2. (2)

    if the total amount of the exposures (ignoring accrued interest) is more than 20% (but less than 25%) of the firm's capital resources, the firm must be able to demonstrate that the total amount of the exposures, including the accrued interest element, meet the limits in BIPRU 10.5 (Limits on exposures and large exposures) and that it meets any related CNCOM.

BIPRU 10.4.46G

The reason for BIPRU 10.4.45 R is the systems difficulties of including accrued interest in the total amount of exposures in the non-trading book.

Exposures to undisclosed counterparties

BIPRU 10.4.47R

A firm must not incur an exposure to an undisclosed counterparty unless:

  1. (1)

    it has satisfied itself that it will continue to meet the limits in BIPRU 10.5 (Limits on exposures and large exposures) for non-trading book exposures and trading book exposures and will continue to meet any CNCOM; and

  2. (2)

    it has made and retained a record of the steps it has taken to comply with (1).