Prudential reporting of credit risk under the standardised approach to credit risk

1 Overview

Introduction

1.1 Every Jersey incorporated registered deposit taker (JIB) that uses the standardised approach to calculate its credit risk capital requirement will be required to complete the relevant sheets in the prudential return. The return covers the reporting institution’s balance sheet assets and off-balance sheet exposures in its banking book, including OTC derivative contracts.

Definitions and clarifications

1.2 Amounts should be reported net of specific provisions for all balance sheet assets and off-balance sheet exposures other than OTC derivative transactions. Specific provisions for OTC derivative transactions should be deducted from the credit equivalent amount (CEA).

1.3 Amount after CRM means the reported amount, adjusted for the capital effect of recognised CRM techniques. The latter refers to techniques the reporting institution may use to mitigate credit risk and hence reduce the capital requirement of a credit exposure. Four types of CRM techniques are recognised for this purpose:

1.3.1 Collateral;

1.3.2 Netting;

1.3.3 Guarantees; and

1.3.4 Credit derivatives.

In order to be recognised, a CRM technique should satisfy the relevant operational requirements and conditions set out in Appendix F.

1.4 Under the standardised approach, there are two methods that can be used for recognising the impact of collateral. Institutions must choose between the “simple” and “comprehensive” approaches and use that chosen method exclusively.

1.5 Netting, guarantees and credit derivatives are always handled using the same approach, being the “comprehensive” approach for netting and the “simple” approach for guarantees and credit derivatives.

1.6 Double counting of exposures arising from the same contract or transaction should be avoided. For example, only the undrawn portion of a loan commitment should be reported as an off-balance sheet exposure; the actual amount which has been lent will be reported as a balance sheet asset in the relevant portfolio. Trade-related contingencies such as shipping guarantees for which the exposures have already been reported as letters of credit issued or loans against import bills are not required to be reported as trade-related contingencies.

1.7 In certain cases, credit exposures arising from derivative contracts may already be reflected, in part, on the balance sheet. For example, the reporting institution may have recorded current credit exposures to counterparties (i.e. mark-to-market values) under foreign exchange and interest rate related contracts on the balance sheet, typically as either sundry debtors or sundry creditors. To avoid double counting, such exposures should be excluded from the balance sheet assets and treated as off-balance sheet exposures for the purposes of this return.

1.8 Accruals on a claim should be classified and weighted in the same way as the claim. Accruals that cannot be so classified, e.g. due to systems constraints, should, with the prior consent of the JFSC, be categorised within “Other, including prepayments and debtors” within Portfolio L.

1.9 Other than those covered by a valid bilateral netting agreement, the reporting institution should adopt the “economic substance” approach for capital treatment of repo-style transactions and report them as balance sheet assets in the following manner:

1.9.1 Repos of securities - where the reporting institution has sold securities under repo agreements, the securities sold should continue to be treated as assets with capital requirement provided for the credit risk to the securities;

1.9.2 Reverse repos of securities - where the reporting institution has acquired securities under reverse repo agreements, the transaction should be treated as a collateralised lending to the counterparty, providing the securities acquired meet the relevant criteria for recognising collateral. The capital requirement should then be provided for the credit risk to the counterparty, taking into account the CRM effect of the collateral;

1.9.3 Securities lending - the treatment is similar to that of repo transactions. This means that the securities lent should continue to remain as an asset on the balance sheet of the institution, with the capital requirement being derived from the credit risk of the securities; and

1.9.4 Securities borrowing - the treatment depends on whether the collateral provided is cash or other securities:

1.9.4.1 Where the collateral provided is cash, it should be treated as a collateralised lending to the counterparty, providing the securities received meet the relevant criteria for recognising collateral, as set out in Appendix F. The capital requirement should then be derived from the credit risk to the counterparty, taking into account the CRM effect of the collateral;

1.9.4.2 Where the collateral provided is not cash but securities, the securities borrowed should be reported as assets on the balance sheet of the institution.

1.9.5 For securities lending or borrowing where the contractual agreement is made between the securities borrower/lender and the custodian (e.g. Clearstream Banking or Euroclear Bank) and the securities borrower/lender has no knowledge as from/to whom the security is borrowed/lent, the custodian becomes the “counterparty” of the stock borrower/lender.

Read our full prudential reporting of credit risk under the standardised approach to credit risk guidance note.