Please refer to the Master Circular No. DBOD. BP. BC. 13/ 21.01.002/ 2005-2006 dated July 4, 2005 consolidating instructions/ guidelines issued to banks till 4th July 2005 on matters relating to prudential norms on capital adequacy. The Master Circular has been suitably updated by incorporating instructions issued up to 30th June 2006 and has also been placed on the RBI web-site (http: // www.rbi.org.in).
It may be noted that all relevant instructions on the above subject contained in the circulars listed in the Appendix have been consolidated. We advise that the revised Master Circular supersedes the instructions contained in these circulars issued by the RBI.
Yours faithfully,
(Prashant Saran)
Chief General Manager-in-Charge PRUDENTIAL NORMS ON CAPITAL ADEQUACY
1. General
1.1 With a view to adopting the Basle Committee framework on capital adequacy norms which takes into account the elements of risk in various types of assets in the balance sheet as well as off-balance sheet business and also to strengthen the capital base of banks, Reserve Bank of India decided in April 1992 to introduce a risk asset ratio system for banks (including foreign banks) in India as a capital adequacy measure.
1.2 Essentially, under the above system the balance sheet assets, non-funded items and other off-balance sheet exposures are assigned weights according to the prescribed risk weights and banks have to maintain unimpaired minimum capital funds equivalent to the prescribed ratio on the aggregate of the risk weighted assets and other exposures on an ongoing basis. The broad details of the capital adequacy framework are given below.
2. Capital funds
2.1 Capital funds of Indian banks
For Indian banks, 'capital funds' would include the following elements:
2.1.1 Elements of Tier I capital
i) Paid-up capital (ordinary shares), statutory reserves, and other disclosed free reserves, if any.
ii) Innovative Perpetual Debt Instruments (IPDI) eligible for inclusion as Tier 1 capital;
iii) Perpetual non-cumulative preference shares eligible for inclusion as Tier 1 capital - subject to laws in force from time to time;
iv) Capital reserves representing surplus arising out of sale proceeds of assets.
The guidelines governing the instruments at (ii) above, indicating the minimum regulatory requirements are furnished in Annex 1. Detailed guidelines regarding item (iii) above will be issued separately as appropriate in due course.
2.1.2 Elements of Tier II capital
i) Undisclosed reserves
These often have characteristics similar to equity and disclosed reserves. These elements have the capacity to absorb unexpected losses and can be included in capital, if they represent accumulations of post-tax profits and not encumbered by any known liability and should not be routinely used for absorbing normal loss or operating losses.
ii) Revaluation reserves
These reserves often serve as a cushion against unexpected losses, but they are less permanent in nature and cannot be considered as �Core Capital�. Revaluation reserves arise from revaluation of assets that are undervalued on the bank�s books, typically bank premises and marketable securities. The extent to which the revaluation reserves can be relied upon as a cushion for unexpected losses depends mainly upon the level of certainty that can be placed on estimates of the market values of the relevant assets, the subsequent deterioration in values under difficult market conditions or in a forced sale, potential for actual liquidation at those values, tax consequences of revaluation, etc. Therefore, it would be prudent to consider revaluation reserves at a discount of 55 percent while determining their value for inclusion in Tier II capital. Such reserves will have to be reflected on the face of the Balance Sheet as revaluation reserves.
iii) General provisions and loss reserves
Such reserves, if they are not attributable to the actual diminution in value or identifiable potential loss in any specific asset and are available to meet unexpected losses, can be included in Tier II capital. Adequate care must be taken to see that sufficient provisions have been made to meet all known losses and foreseeable potential losses before considering general provisions and loss reserves to be part of Tier II capital. General provisions/loss reserves will be admitted up to a maximum of 1.25 percent of total risk weighted assets.
'Floating Provisions' held by the banks, which is general in nature and not made against any identified assets, may be treated as a part of Tier II capital within the overall ceiling of 1.25 percent of total risk weighted assets, if such provisions are not netted off from gross NPAs to arrive at disclosure of net NPAs
iv) Hybrid debt capital instruments
In this category, fall a number of capital instruments, which combine certain characteristics of equity and certain characteristics of debt. Each has a particular feature, which can be considered to affect its quality as capital. Where these instruments have close similarities to equity, in particular when they are able to support losses on an ongoing basis without triggering liquidation, they may be included in Tier II capital. At present following instruments have been recognized and placed under this category.
(a) Debt capital instruments eligible for inclusion as Upper Tier 2 capital; and
(b) Redeemable cumulative preference shares eligible for inclusion as Tier 2 capital - subject to laws in force from time to time
The guidelines governing the instruments at (a) above, indicating the minimum regulatory requirements are furnished in Annex 2. Detailed guidelines regarding item (b) above will be issued separately as appropriate in due course
v) Subordinated debt
(a) To be eligible for inclusion in Tier II capital, the instrument should be fully paid-up, unsecured, subordinated to the claims of other creditors, free of restrictive clauses, and should not be redeemable at the initiative of the holder or without the consent of the Reserve Bank of India. They often carry a fixed maturity, and as they approach maturity, they should be subjected to progressive discount, for inclusion in Tier II capital. Instruments with an initial maturity of less than 5 years or with a remaining maturity of one year should not be included as part of Tier II capital. Subordinated debt instruments eligible to be reckoned as Tier II capital will be limited to 50 percent of Tier I capital.
(b) Banks can raise, with the approval of their Boards, rupee-subordinated debt as Tier II capital, subject to the terms and conditions given in the Annexure 3.
(c) Banks should indicate the amount of subordinated debt raised as Tier II capital by way of explanatory notes/ remarks in the Balance Sheet as well as in Schedule 5 under 'Other Liabilities & Provisions'.
(vi) Deferred Revenue Expenditure under VRS
In the case of public sector banks, the bonds issued to the VRS employees as a part of the compensation package, net of the unamortised VRS Deferred Revenue Expenditure, could be treated as Tier II capital, subject to compliance with the terms and conditions stipulated in para 2.1.2 (v)(b).
vii) Investment Reserve Account
In the event provisions created on account of depreciation in the �Available for Sale� or �Held for Trading� categories are found to be in excess of the required amount in any year, the excess should be credited to the Profit & Loss account and an equivalent amount ( net of taxes, if any and net of transfer to Statutory Reserves as applicable to such excess provision) should be appropriated to an Investment Reserve Account in Schedule 2 ��Reserves & Surplus� under the head �Revenue and other Reserves� and would be eligible for inclusion under Tier II within the overall ceiling of 1.25 per cent of total Risk Weighted Assets prescribed for General Provisions/ Loss Reserves.
(vii) Banks are allowed to include the �General Provisions on Standard Assets� and �provisions held for country exposures� in Tier II capital. However, the provisions on �standard assets together with other �general provisions/ loss reserves� and �provisions held for country exposures� will be admitted as Tier II capital up to a maximum of 1.25 per cent of the total risk-weighted assets.
2.1.3. Deductions from Computation of Capital funds
(i) Tier I Capital
a) Equity investments in subsidiaries, intangible assets and losses in the current period and those brought forward from previous periods, should be deducted from Tier I capital.
b) In the case of public sector banks which have introduced Voluntary Retirement Scheme (VRS), in view of the extra-ordinary nature of the event, the VRS related Deferred Revenue Expenditure would not be reduced from Tier I capital. However, it will attract 100% risk weight for capital adequacy purpose.
c) Creation of deferred tax asset (DTA) results in an increase in Tier I capital of a bank without any tangible asset being added to the banks� balance sheet. Therefore, DTA, which is an intangible asset, should be deducted from Tier I capital.
(ii). Tier I & Tier II Capital
Credit Enhancements pertaining to Securitisation of Standard Assets
a) Treatment of First Loss Facility
The first loss credit enhancement provided by the originator shall be reduced from capital funds and the deduction shall be capped at the amount of capital that the bank would have been required to hold for the full value of the assets, had they not been securitised. The deduction shall be made 50% from Tier 1 and 50% from Tier 2 capital.
b) Treatment of Second Loss Facility
The second loss credit enhancement provided by the originator shall be reduced from capital funds to the full extent. The deduction shall be made 50% from Tier 1 and 50% from Tier 2 capital.
c) Treatment of credit enhancements provided by third party
In case, the bank is acting as a third party service provider, the first loss credit enhancement provided by it shall be reduced from capital to the full extent as indicated at para (a) above.
d) Underwriting by an originator
Securities issued by the SPVs and devolved / held by the banks in excess of 10 per cent of the original amount of issue, including secondary market purchases, shall be deducted 50% from Tier 1 capital and 50% from Tier 2 capital.
e) Underwriting by third party service providers
If the bank has underwritten securities issued by SPVs devolved and held by banks which are below investment grade will be deducted from capital at 50% from Tier 1 and 50% from Tier 2.
2.1.4 Limit for Tier II elements
Tier II elements should be limited to a maximum of 100 percent of total Tier I elements for the purpose of compliance with the norms.
2.1.5 Norms on cross holdings
(i) A bank�s / FI�s investments in all types of instruments listed at 2.1.5 (ii) below, which are issued by other banks / FIs and are eligible for capital status for the investee bank / FI, will be limited to 10 per cent of the investing bank's capital funds (Tier I plus Tier II capital).
(ii) Banks' / FIs' investment in the following instruments will be included in the prudential limit of 10 per cent referred to at 2.1.5(i) above.
a) Equity shares;
b) Innovative Perpetual Debt Instruments eligible for Tier I capital status
c) Preference shares eligible for capital status;
d) Subordinated debt instruments;
e) Debt capital Instruments qualifying for Upper Tier 2 status ; and
f) Any other instrument approved as in the nature of capital.
(iii) Banks / FIs should not acquire any fresh stake in a bank's equity shares, if by such acquisition, the investing bank's / FI's holding exceeds 5 per cent of the investee bank's equity capital.
(iv) Banks� / FIs� investments in the equity capital of subsidiaries are at present deducted from their Tier I capital for capital adequacy purposes. Investments in the instruments issued by banks / FIs which are listed at paragraph 2.1.5(ii) above, which are not deducted from Tier I capital of the investing bank/ FI, will attract 100 per cent risk weight for credit risk for capital adequacy purposes.
Note:
Following investments are excluded from the purview of the ceiling of 10 percent prudential norm prescribed above:
a) Investments in equity shares of other banks /FIs in India held under the provisions of a statute.
b) Strategic investments in equity shares of other banks/FIs incorporated outside India as promoters/significant shareholders (i.e. Foreign Subsidiaries / Joint Ventures / Associates).
c) Equity holdings outside India in other banks / FIs incorporated outside India.
2.2. Capital funds of foreign banks operating in India
For foreign banks, 'capital funds' would include the following elements:
2.2.1 Elements of Tier I capital
i) Interest-free funds from Head Office kept in a separate account in Indian books specifically for the purpose of meeting the capital adequacy norms.
ii) Innovative Instruments for inclusion as Tier 1 capital: Foreign banks in India may raise Head Office (HO) borrowings in foreign currency for inclusion as Tier 1 capital subject to the same terms and conditions as indicated at para 6 of Annex I.
iii) Statutory reserves kept in Indian books.
iv) Remittable surplus retained in Indian books which is not repatriable so long as the bank functions in India.
Notes:
a) The foreign banks are required to furnish to Reserve Bank, (if not already done), an undertaking to the effect that the banks will not remit abroad the remittable surplus retained in India and included in Tier I capital as long as the banks function in India.
b) These funds may be retained in a separate account titled as 'Amount Retained in India for Meeting Capital to Risk-weighted Asset Ratio (CRAR) Requirements' under 'Capital Funds'.
c) An auditor's certificate to the effect that these funds represent surplus remittable to Head Office once tax assessments are completed or tax appeals are decided and do not include funds in the nature of provisions towards tax or for any other contingency may also be furnished to Reserve Bank.
d) Foreign banks operating in India are permitted to hedge their entire Tier I capital held by them in Indian books subject to the following conditions:
(i) the forward contract should be for tenor of one year or more and may be rolled over on maturity. Rebooking of cancelled hedge will require prior approval of Reserve Bank.
(ii) the capital funds should be available in India to meet local regulatory and CRAR requirements. Therefore, foreign currency funds accruing out of hedging should not be parked in nostro accounts but should remain swapped with banks in India at all times.
v) Capital reserve representing surplus arising out of sale of assets in India held in a separate account and which is not eligible for repatriation so long as the bank functions in India.
vi) Interest-free funds remitted from abroad for the purpose of acquisition of property and held in a separate account in Indian books.
vii) The net credit balance, if any, in the inter-office account with Head Office/overseas branches will not be reckoned as capital funds. However, any debit balance in Head Office account will have to be set-off against the capital.
2.2.2 Elements of Tier II capital
a) Foreign banks in India may raise Head Office (HO) borrowings in foreign currency for inclusion as Upper Tier 2 capital subject to the same terms and conditions as mentioned at para 6 of Annex 2.
b) To the extent relevant, elements of Tier II capital as indicated above in paragraph 2.1.2 in respect of Indian banks will be eligible.
c) Foreign banks also would not require prior approval of RBI for raising subordinated debt in foreign currency through borrowings from Head Office for inclusion in Tier II capital. To ensure transparency and uniformity, detailed guidelines in this regard are given at Annexure 3A
d) Foreign banks operating in India are also required to comply with the instructions contained at paras 2.1.4 and 2.1.5 above.
e) The elements of Tier I & Tier II capital do not include foreign currency loans granted to Indian parties.
2.3. Swap Transactions
Banks are advised not to enter into swap transactions involving conversion of fixed rate rupee liabilities in respect of Innovative Tier I/Tier II bonds into floating rate foreign currency liabilities
2.4 Minimum requirement of capital funds
Banks are required to maintain a minimum CRAR of 9 percent on an ongoing basis.
3. Risk adjusted assets and off-balance sheet items
3.1 Risk adjusted assets would mean weighted aggregate of funded and non-funded items. Degrees of credit risk expressed as percentage weightings, have been assigned to balance sheet assets and conversion factors to off-balance sheet items.
3.2 The banks� overall minimum capital requirement will be the sum of the following:
(a) capital requirement for credit risk on all credit exposures excluding items comprising trading book as defined in para 4.5.1 and including counter party credit risk on all OTC derivatives on the basis of the risk weights indicated in Annexure 4 and
(b) capital requirement for market risks in the trading book.
3.3 The value of each asset/ item shall be multiplied by the relevant weights to produce risk adjusted values of assets and off-balance sheet items. The aggregate will be taken into account for reckoning the minimum capital ratio.
3.4 The risk-weights allotted to each of the items of assets and off-balance sheet items are furnished in the Annexure 4.
4. Capital charge for market risk
Introduction
4.1 The Basel Committee on Banking Supervision (BCBS) had issued the �Amendment to the Capital Accord to incorporate market risks� containing comprehensive guidelines to provide explicit capital charge for market risks. Market risk is defined as the risk of losses in on-balance sheet and off-balance sheet positions arising from movements in market prices. The market risk positions subject to capital charge requirement are:
� The risks pertaining to interest rate related instruments and equities in the trading book; and
� Foreign exchange risk (including open position in precious metals) throughout the bank (both banking and trading books).
4.2 As an initial step towards prescribing capital requirement for market risks, banks were advised to:
i) assign an additional risk weight of 2.5 per cent on the entire investment portfolio;
ii) assign a risk weight of 100 per cent on the open position limits on foreign exchange and gold; and
iii) build up Investment Fluctuation Reserve up to a minimum of five per cent of the investments held in Held for Trading and Available for Sale categories in the investment portfolio.
4.3 The interim measures adopted in India represent a broad brush and simplistic approach. Besides, over a period of time, banks� ability to identify and measure market risk has improved. Keeping in view the ability of banks to identify and measure market risk, it was decided to assign explicit capital charge for market risks. Banks are required to maintain capital charge for market risk on securities included in the Held for Trading and Available for Sale categories, open gold position, open forex position, trading positions in derivatives and derivatives entered into for hedging trading book exposures. Consequently, the additional risk weight of 2.5% towards market risk on the investment included under Held for Trading and Available for Sale categories is not required.
4.4 The guidelines in this regard are organized under the following four seven sections:
| Section |
Particulars |
| A |
Scope and coverage of capital charge for market risks |
| B |
Measurement of capital charge for interest rate risk in the trading book |
| C |
Measurement of capital charge for equities in the trading book |
| D |
Measurement of capital charge for foreign exchange risk and gold open positions |
Section A
4.5 Scope and coverage of capital charge for market risks
General
4.5.1. These guidelines seek to address the issues involved in computing capital charges for interest rate related instruments in the trading book, equities in the trading book and foreign exchange risk (including gold and other precious metals) in both trading and banking books. Trading book for the purpose of these guidelines will include:
� Securities included under the Held for Trading category
� Securities included under the Available for Sale category
� Open gold position limits
� Open foreign exchange position limits
� Trading positions in derivatives, and
� Derivatives entered into for hedging trading book exposures.
4.5.2 To begin with, capital charge for market risks is applicable to banks on a global basis. At a later stage, this would be extended to all groups where the controlling entity is a bank.
4.5.3. Banks are required to manage the market risks in their books on an ongoing basis and ensure that the capital requirements for market risks are being maintained on a continuous basis, i.e. at the close of each business day. Banks are also required to maintain strict risk management systems to monitor and control intra-day exposures to market risks.
4.5.4 The capital charge for interest rate related instruments and equities would apply to current market value of these items in bank�s trading book. The current market value will be determined as per extant RBI guidelines on valuation of investments
Section B
4.6 Measurement of capital charge for interest rate risk in the trading book other than derivatives
4.6.1 This section describes the framework for measuring the risk of holding or taking positions in debt securities and other interest rate related instruments in the in the trading book.
4.6.2 The minimum capital requirement is expressed in terms of two separately calculated charges, (i) �specific risk� charge for each security, which is akin to the conventional capital charge for credit risk, both for short (short position is not allowed in India except in derivatives) and long positions, and (ii) �general market risk� charge towards interest rate risk in the portfolio, where long and short positions (which is not allowed in India except in derivatives) in different securities or instruments can be offset.
Specific risk
4.6.3 The capital charge for specific risk is designed to protect against an adverse movement in the price of an individual security owing to factors related to the individual issuer. The specific risk charge is graduated for various exposures as follows:
| Sr. No. |
Nature of investment |
Maturity |
Specific risk capital charge(as % of exposure) |
| |
Claims on Government |
|
|
| 1. |
Investments in Government Securities. |
All |
0.0 |
| 2. |
Investments in other approved securities guaranteed by Central/ State Government. |
All |
0.0 |
| 3. |
Investments in other securities where payment of interest and repayment of principal are guaranteed by Central Govt. (This will include investments in Indira/Kisan Vikas Patra (IVP/KVP) and investments in Bonds and Debentures where payment of interest and principal is guaranteed by Central Govt.) |
All |
0.0 |
| 4. |
Investments in other securities where payment of interest and repayment of principal are guaranteed by State Governments. |
All |
0.0 |
| 5. |
Investments in other approved securities where payment of interest and repayment of principal are not guaranteed by Central/State Govt. |
All |
1.80 |
| 6. |
Investments in Government guaranteed securities of Government Undertakings which do not form part of the approved market borrowing programme. |
All |
1.80 |
| 7 |
Investment in state government guaranteed securities included under items 2, 4 and 6 above where the investment is non-performing. However the banks need to maintain capital at 9.0% only on those State Government guaranteed securities issued by the defaulting entities and not on all the securities issued or guaranteed by that State Government. |
All |
9.00 |
| |
Claims on Banks |
|
|
| 8 |
Claims on banks, including investments in securities which are guaranteed by banks as to payment of interest and repayment of principal |
For residual term to final maturity 6 months or less |
0.30 |
| For residual term to final maturity between 6 and 24 months |
1.125 |
| For residual term to final maturity exceeding 24 months |
1.80 |
| 9. |
Investments in subordinated debt instruments and bonds issued by other banks for their Tier II capital. |
All |
9.00 |
| |
Claims on Others |
|
|
| 10. |
Investment in Mortgage Backed Securities (MBS) of residential assets of Housing Finance Companies (HFCs) which are recognised and supervised by National Housing Bank (subject to satisfying terms & conditions given in Annexure 4B). |
All |
6.75 |
| 11. |
Investment in securitised paper pertaining to an infrastructure facility. (subject to satisfying terms & conditions given in Annexure 5). |
All |
4.50 |
| 12. |
All other investments including investment in securities issued by SPVs set up for securitisation transactions |
All |
9.00 |
| 13 |
Direct investment in equity shares, convertible bonds, debentures and units of equity oriented mutual funds |
All |
11.25 |
| 14 |
Investment in Mortgaged Backed Securities and other securitised exposures to Commercial Real Estate |
All |
13.5 |
| 15 |
Investments in Venture Capital Funds |
All |
13.5 |
4.6.4. The category �claim on government� will include all forms of government securities including dated Government securities, Treasury bills and other short-term investments and instruments where repayment of both principal and interest are fully guaranteed by the Government. The category 'Claims on Others' will include issuers of securities other than Government and banks.
General Market Risk
4.6.5. The capital requirements for general market risk are designed to capture the risk of loss arising from changes in market interest rates. The capital charge is the sum of four components:
� the net short (short position is not allowed in India except in derivatives) or long position in the whole trading book;
� a small proportion of the matched positions in each time-band (the �vertical disallowance�);
� a larger proportion of the matched positions across different time-bands (the �horizontal disallowance�), and
� a net charge for positions in options, where appropriate.
4.6.6. The Basle Committee has suggested two broad methodologies for computation of capital charge for market risks. One is the standardised method and the other is the banks� internal risk management models method. As banks in India are still in a nascent stage of developing internal risk management models, it has been decided that, to start with, banks may adopt the standardised method. Under the standardised method there are two principal methods of measuring market risk, a �maturity� method and a �duration� method. As �duration� method is a more accurate method of measuring interest rate risk, it has been decided to adopt standardised duration method to arrive at the capital charge. Accordingly, banks are required to measure the general market risk charge by calculating the price sensitivity (modified duration) of each position separately. Under this method, the mechanics are as follows:
� first calculate the price sensitivity (modified duration) of each instrument;
� next apply the assumed change in yield to the modified duration of each instrument between 0.6 and 1.0 percentage points depending on the maturity of the instrument (see Table-1 below);
� slot the resulting capital charge measures into a maturity ladder with the fifteen time bands as set out in Table-1;
� subject long and short positions (short position is not allowed in India except in derivatives) in each time band to a 5 per cent vertical disallowance designed to capture basis risk; and
� carry forward the net positions in each time-band for horizontal offsetting subject to the disallowances set out in Table-2.
Table 1
Duration method � time bands and assumed changes in yield
| Time Bands |
Assumed Change in Yield |
| Zone 1 |
|
| 1 month or less |
1.00 |
| 1 to 3 months |
1.00 |
| 3 to 6 months |
1.00 |
| 6 to 12 months |
1.00 |
| Zone 2 |
|
| 1.0 to 1.9 years |
0.90 |
| 1.9 to 2.8 years |
0.80 |
| 2.8 to 3.6 years |
0.75 |
| Zone 3 |
|
| 3.6 to 4.3 years |
0.75 |
| 4.3 to 5.7 years |
0.70 |
| 5.7 to 7.3 years |
0.65 |
| 7.3 to 9.3 years |
0.60 |
| 9.3 to 10.6 years |
0.60 |
| 10.6 to 12 years |
0.60 |
| 12 to 20 years |
0.60 |
| over 20 years |
0.60 |
Table 2
Horizontal Disallowances
| Zones |
Time band |
Within the zones |
Between adjacent zones |
Between zones 1 and 3 |
| Zone 1 |
1 month or less |
40% |
40%
40% |
100% |
| 1 to 3 months |
| 3 to 6 months |
| 6 to 12 months |
| Zone 2 |
1.0 to 1.9 years |
30% |
| 1.9 to 2.8 years |
| 2.8 to 3.6 years |
| Zone 3 |
3.6 to 4.3 years |
30% |
| 4.3 to 5.7 years |
| 5.7 to 7.3 years |
| 7.3 to 9.3 years |
| 9.3 to 10.6 years |
| 10.6 to 12 years |
| 12 to 20 years |
| over 20 years |
4.6.7. Capital charges should be calculated for each currency separately and then summed with no offsetting between positions of opposite sign. In the case of those currencies in which business is insignificant (where the turnover in the respective currency is less than 5 per cent of overall foreign exchange turnover), separate calculations for each currency are not required. The bank may, instead, slot within each appropriate time-band, the net long or short position for each currency. However, these individual net positions are to be summed within each time-band, irrespective of whether they are long or short positions, to produce a gross position figure. In the case of residual currencies the gross positions in each time-band will be subject to the assumed change in yield set out in table with no further offsets.
Capital charge for interest rate derivatives
4.6.8 The measurement of capital charge for market risks should include all interest rate derivatives and off-balance sheet instruments in the trading book and derivatives entered into for hedging trading book exposures which would react to changes in the interest rates, like FRAs, interest rate positions etc. The details of measurement of capital charge for interest rate derivatives are furnished in Attachment I.
Worked out Examples
4.6.9. Two examples for computing capital charge for market risks, including the vertical and horizontal disallowances are given in Para 7 below.
Section C
4.7 Measurement of capital charge for equities in the trading book
4.7.1 Minimum capital requirement to cover the risk of holding or taking positions in equities in the trading book is set out below. This is applied to all instruments that exhibit market behaviour similar to equities but not to non-convertible preference shares (which are covered by the interest rate risk requirements described earlier). The instruments covered include equity shares, whether voting or non-voting, convertible securities that behave like equities, for example: units of mutual funds, and commitments to buy or sell equity.
Specific and general market risk
4.7.2 Capital charge for specific risk (akin to credit risk) will be 9% and specific risk is computed on the banks� gross equity positions (i.e. the sum of all long equity positions and of all short equity positions � short equity position is, however, not allowed for banks in India). The general market risk charge will also be 9% on the gross equity positions.
Section D
4.8. Measurement of capital charge for foreign exchange and gold open positions
4.8.1 Foreign exchange open positions and gold open positions are at present risk weighted at 100%. Thus, capital charge for foreign exchange and gold open position is 9% at present. These open positions, limits or actual whichever is higher, would continue to attract capital charge at 9%. This is in line with the Basel Committee requirement.
5. Capital Adequacy for Subsidiaries
5.1 The Basel Committee on Banking Supervision has proposed that the New Capital Adequacy Framework should be extended to include, on a consolidated basis, holding companies that are parents of banking groups. On prudential considerations, it is necessary to adopt best practices in line with international standards, while duly reflecting local conditions.
5.2 Accordingly, banks may voluntarily build-in the risk weighted components of their subsidiaries into their own balance sheet on notional basis, at par with the risk weights applicable to the bank's own assets. Banks should earmark additional capital in their books over a period of time so as to obviate the possibility of impairment to their net worth when switchover to unified balance sheet for the group as a whole is adopted after sometime. The additional capital required may be provided in the bank's books in phases, beginning from the year ended March 2001.
5.3 A Consolidated bank defined as a group of entities which include a licensed bank should maintain a minimum Capital to Risk-weighted Assets Ratio (CRAR) as applicable to the parent bank on an ongoingbasis. . While computing capital funds, parent bank may consider the following points :
(i) Banks are required to maintain a minimum capital to risk weighted assets ratio of 9%. Non-bank subsidiaries are required to maintain the capital adequacy ratio prescribed by their respective regulators. In case of any shortfall in the capital adequacy ratio of any of the subsidiaries, the parent should maintain capital in addition to its own regulatory requirements to cover the shortfall.
(ii) Risks inherent in deconsolidated entities (i.e., entities which are not consolidated in the Consolidated Prudential Reports) in the group need to be assessed and any shortfall in the regulatory capital in the deconsolidated entities should be deducted (in equal proportion from Tier 1 and Tier 2 capital) from the consolidated bank's capital in the proportion of its equity stake in the entity.
6. Procedure for computation of CRAR
6.1 While calculating the aggregate of funded and non-funded exposure of a borrower for the purpose of assignment of risk weight, banks may �net-off� against the total outstanding exposure of the borrower -
(a) advances collateralised by cash margins or deposits,
(b) credit balances in current or other accounts which are not earmarked for specific purposes and free from any lien,
(c) in respect of any assets where provisions for depreciation or for bad debts have been made
(d) claims received from DICGC/ ECGC and kept in a separate account pending adjustment, and
(e) subsidies received against advances in respect of Government sponsored schemes and kept in a separate account.
6.2 After applying the conversion factor as indicated in Annexure 4, the adjusted off Balance Sheet value shall again be multiplied by the risk weight attributable to the relevant counter-party as specified.
6.3 Foreign exchange contracts with an original maturity of 14 calendar days or less, irrespective of the counterparty, may be assigned "zero" risk weight as per international practice.
6.4 Foreign Exchange and Interest Rate related Contracts
(i) Foreign exchange contracts include the following:
(a) Cross currency interest rate swaps
(b) Forward foreign exchange contracts
(c) Currency futures
(d) Currency options purchased
(e) Other contracts of a similar nature
(ii) As in the case of other off-Balance Sheet items, a two stage calculation prescribed below shall be applied:
(a) Step 1 - The notional principal amount of each instrument is multiplied by the conversion factor given below:
| Original Maturity |
Conversion Factor |
| Less than one year |
2% |
| One year and less than two years |
5% (i.e. 2% + 3%) |
| For each additional year |
3% |
(b) Step 2 - The adjusted value thus obtained shall be multiplied by the risk weightage allotted to the relevant counter-party as given in II of Annex 4 and above.
(iii) Interest rate contracts include the following:
(a) Single currency interest rate swaps
(b) Basis swaps
(c) Forward rate agreements
(d) Interest rate futures
(e) Interest rate options purchased
(f) Other contracts of a similar nature
(iv) As in the case of other off-Balance Sheet items, a two stage calculation prescribed below shall be applied:
(a) Step 1 - The notional principal amount of each instrument is multiplied by the percentages given below:
| Original Maturity |
Conversion Factor |
| Less than one year |
0.5% |
| One year and less than two years |
1.0% |
| For each additional year |
1.0% |
(b) Step 2 - The adjusted value thus obtained shall be multiplied by the risk weightage allotted to the relevant counter-party as given in II of Annex 4 above.
6.5 Aggregation of capital charge for market risks
Calculation of the risk-weighted assets for market risk
6.5.1. As explained earlier capital charges for specific risk and general market risk are to be computed separately before aggregation. For computing the total capital charge for market risks, the calculations may be plotted in the following table:
Proforma 1
|
(Rs. in crore) |
| Risk Category |
Capital charge |
| I. Interest Rate (a+b) |
|
| a. General market risk |
|
� Net position (parallel shift)
� Horizontal disallowance (curvature)
� Vertical disallowance (basis)
� Options |
|
| b. Specific risk |
|
| II. Equity (a+b) |
|
| a. General market risk |
|
| b. Specific risk |
|
| III. Foreign Exchange & Gold |
|
| IV.Total capital charge for market risks (I+II+III) |
|
6.5.2 Calculation of total risk-weighted assets and capital ratio
a) Arrive at the risk weighted assets for credit risk in the banking book and for counterparty credit risk on all OTC derivatives.
b) Convert the capital charge for market risk to notional risk weighted assets by multiplying the capital charge arrived at as above in Proforma-1 by 100 � 9 [the present requirement of CRAR is 9% and hence notional risk weighted assets are arrived at by multiplying the capital charge by (100 � 9)]
c) Add the risk-weighted assets for credit risk as at (a) above and notional risk-weighted assets of trading book as at (b) above to arrive at total risk weighted assets for the bank.
d) Compute capital ratio on the basis of regulatory capital maintained and risk-weighted assets.
Computation of capital available for market risk:
6.5.3 Capital required for supporting credit risk should be deducted from total capital funds to arrive at capital available for supporting market risk. This is illustrated below:
Illustration 1
|
(Rs. in crore) |
| 1 |
Capital funds�
Tier I capital ------------------------------�
Tier II capital ------------------------------ |
55
50 |
105 |
| 2 |
Total risk weighted assets�
RWA for credit risk -------------------------�
RWA for market risk ------------------------- |
1000
140 |
1140 |
| 3 |
Total CRAR |
|
9.21 |
| 4 |
Minimum capital required to support credit risk (1000*9%) �
Tier I - 45 (@ 4.5% of 1000) ---------------�
Tier II - 45 (@ 4.5% of 1000) ------------- |
45
45 |
90 |
| 5 |
Capital available to support market risk (105 - 90)�
Tier I - (55 - 45) ------------------------�
Tier II - (50 - 45) -------------------------- |
10
5 |
15 |
7. Worked out examples for computing capital charge for credit and market risks
Example I
7.1. Where the trading book does not contain equities and interest rate related derivative instruments
7.1.1 A bank may have the following position:
| Sl. No |
Details |
Amount Rs. Crore |
| 1 |
Cash & Balances with RBI |
200.00 |
| 2 |
Bank balances |
200.00 |
| 3. |
Investments |
2000.00 |
| 3.1 Held for Trading (Market Value) |
500.00 |
| 3.2 Available for Sale (Market Value) |
1000.00 |
| 3.3 Held to Maturity |
500.00 |
| 4 |
Advances (net) |
2000.00 |
| 5 |
Other Assets |
300.00 |
| 6 |
Total Assets |
4700.00 |
7.1.2 In terms of counter party, the investments are assumed to be as under:
Government - Rs.1000 crore
Banks - Rs. 500 crore
Others - Rs. 500 crore For simplicity sake let us assume the details of investments as under:
i) Government securities
| Date of Issue |
Date of reporting |
Maturity Date |
Amount Rs.in crore |
Coupon(%) |
Type |
| 01/03/1992 |
31/03/2003 |
01/03/2004 |
100 |
12.50 |
AFS |
| 01/05/1993 |
31/03/2003 |
01/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1994 |
31/03/2003 |
31/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1995 |
31/03/2003 |
01/03/2015 |
100 |
12.00 |
AFS |
| 01/03/1998 |
31/03/2003 |
01/03/2010 |
100 |
11.50 |
AFS |
| 01/03/1999 |
31/03/2003 |
01/03/2009 |
100 |
11.00 |
AFS |
| 01/03/2000 |
31/03/2003 |
01/03/2005 |
100 |
10.50 |
HFT |
| 01/03/2001 |
31/03/2003 |
01/03/2006 |
100 |
10.00 |
HTM |
| 01/03/2002 |
31/03/2003 |
01/03/2012 |
100 |
8.00 |
HTM |
| 01/03/2003 |
31/03/2003 |
01/03/2023 |
100 |
6.50 |
HTM |
| Total |
|
|
1000 |
|
|
ii) Bank Bonds
| Date of Issue |
Date of reporting |
Maturity Date |
Amount Rs. in crore |
Coupon(%) |
Type |
| 01/03/1992 |
31/03/2003 |
01/03/2004 |
100 |
12.50 |
AFS |
| 01/05/1993 |
31/03/2003 |
01/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1994 |
31/03/2003 |
31/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1995 |
31/03/2003 |
01/03/2006 |
100 |
12.50 |
AFS |
| 01/03/1998 |
31/03/2003 |
01/03/2007 |
100 |
11.50 |
HFT |
| Total |
|
|
500 |
|
|
iii) Other securities
| Date of Issue |
Date of reporting |
Maturity Date |
Amount Rs. in crore |
Coupon(%) |
Type |
| 01/03/1992 |
31/03/2003 |
01/03/2004 |
100 |
12.50 |
HFT |
| 01/05/1993 |
31/03/2003 |
01/05/2003 |
100 |
12.00 |
HFT |
| 01/03/1994 |
31/03/2003 |
31/05/2003 |
100 |
12.00 |
HFT |
| 01/03/1995 |
31/03/2003 |
01/03/2006 |
100 |
12.50 |
HTM |
| 01/03/1998 |
31/03/2003 |
01/03/2017 |
100 |
11.50 |
HTM |
| Total |
|
|
500 |
|
|
iv) Overall position
| |
Break-up of total investments (Rs. in crore) |
| |
Government Securities |
Bank bonds |
Other securities |
Total |
| HFT |
100 |
100 |
300 |
500 |
| AFS |
600 |
400 |
0 |
1000 |
| Trading Book |
700 |
500 |
300 |
1500 |
| HTM |
300 |
0 |
200 |
500 |
| Total |
1000 |
500 |
500 |
2000 |
7.1.3 Computation of risk weighted assets
A. Risk weighted assets for credit risk
As per the guidelines, Held for Trading and Available for Sale securities would qualify to be categorized as Trading Book. Thus, trading book in the instant case would be Rs.1500 crore as indicated above. While computing the credit risk, the securities held under trading book would be excluded and hence the risk-weighted assets for credit risks would be as under:
| (Rs. in crore) |
| Sl.No. |
Details of Assets |
Market Value* |
Risk Weight(%) |
Risk weighted Assets |
| 1 |
Cash & balances with RBI |
200 |
0 |
0 |
| 2 |
Bank balances |
200 |
20 |
40 |
| 3 |
Investments:
Government
Banks
Others |
300
0
200 |
0
20
100 |
0
0
200 |
| 4 |
Advances (net) |
2000 |
100 |
2000 |
| 5 |
Other Assets |
300 |
100 |
300 |
| 6 |
Total Assets |
3200 |
|
2540 |
*Assumed as Market Value for illustration
B. Risk weighted assets for market risk ( Trading Book)
( Please refer to table in para 7.1.2(iv)
a. Specific Risk
(i) Government securities: Rs.700 crore � Nil
(ii) Bank bonds :
| (Rs. in crore) |
| Details |
Capital charge |
Amount |
Capital charge |
| For residual term to final maturity 6 months or less |
0.30% |
200 |
0.60 |
| For residual term to final maturity between 6 and 24 months |
1.125% |
100 |
1.125 |
| For residual term to final maturity exceeding 24 months |
1.80% |
200 |
3.60 |
| Total |
|
500 |
5.325 |
(iii) Other securities : Rs.300 crore @ 9% =Rs. 27 crore
Total charge for specifc risk (i)+(ii)+(iii)
= Rs.0 crore+Rs.5.325 crore + Rs.27 crore = Rs. 32.325 crore
Therefore, capital charge for specific risk in trading book is Rs.32.33 crore.
b. General Market Risk
Modified duration is used to arrive at the price sensitivity of an interest rate related instrument. For all the securities listed below, date of reporting is taken as 31/3/2003.
| (Rs. in crore) |
| Counter Party |
Maturity Date |
Amount(market value) |
Coupon(%) |
Capital Charge for general market risk |
| Govt. |
01/03/2004 |
100 |
12.50 |
0.84 |
| Govt. |
01/05/2003 |
100 |
12.00 |
0.08 |
| Govt. |
31/05/2003 |
100 |
12.00 |
0.16 |
| Govt. |
01/03/2015 |
100 |
12.50 |
3.63 |
| Govt. |
01/03/2010 |
100 |
11.50 |
2.79 |
| Govt. |
01/03/2009 |
100 |
11.00 |
2.75 |
| Govt. |
01/03/2005 |
100 |
10.50 |
1.35 |
| Banks |
01/03/2004 |
100 |
12.50 |
0.84 |
| Banks |
01/05/2003 |
100 |
12.00 |
0.08 |
| Banks |
31/05/2003 |
100 |
12.00 |
0.16 |
| Banks |
01/03/2006 |
100 |
12.50 |
1.77 |
| Banks |
01/03/2007 |
100 |
11.50 |
2.29 |
| Others |
01/03/2004 |
100 |
12.50 |
0.84 |
| Others |
01/05/2003 |
100 |
12.00 |
0.08 |
| Others |
31/05/2003 |
100 |
12.00 |
0.16 |
| |
Total |
1500 |
|
17.82 |
c. Total charge for market risk
Adding the capital charges for specific risk as well as general market risk would give the total capital charge for the trading book of interest rate related instruments. Therefore, capital charge for Market Risks = Rs.32.33 crore + Rs.17.82 crore, i.e., Rs.50.15 crore.
d. To facilitate computation of CRAR for the whole book, this capital charge needs to be converted into equivalent risk weighted assets. In India, the minimum CRAR is 9%. Hence, the capital charge could be converted to risk weighted assets by multiplying the capital charge by (100 � 9), Thus risk weighted assets for market risk is 50.15*(100 � 9) = Rs.557.23 crore.
7.1.4 Computing the capital ratio
| (Rs. in crore) |
| 1 |
Total Capital |
400 |
| 2 |
Risk weighted assets for Credit Risk |
2540.00 |
| 3 |
Risk weighted assets for Market Risk |
557.23 |
| 4 |
Total Risk weighted assets (2+3) |
3097.23 |
| 5 |
CRAR [(1�4)*100] |
12.91 % |
Example II
7.2 Example indicating computation of capital charge for credit and market risks � with equities and interest rate related derivative instruments. Foreign exchange and gold open positions also have been assumed.
7.2.1 A bank may have the following position:
| Sl. No |
Details |
Rs. in Crore |
| 1 |
Cash & Balances with |
200.00 |
| 2 |
Bank balances |
200.00 |
| 3 |
Investments |
|
| 3.1 Interest Rate related Securities |
|
| Held for Trading |
500.00 |
| Available for Sale |
1000.00 |
| Held to Maturity |
500.00 |
| 3.2 Equities |
300.00 |
| 4 |
Advances (net) |
2000.00 |
| 5 |
Other Assets |
300.00 |
| 6 |
Total Assets |
5000.00 |
In addition,
(a) foreign exchange open position limit is assumed as Rs.60 crore and
(b) Gold open position is assumed at Rs.40 crore.
(c) Let us also assume that the bank is having the following positions in interest rate related derivatives:
(i) Interest Rate Swaps (IRS), Rs.100 crore � bank received floating rate interest and pays fixed, next interest fixing after 6 months, residual life of swap 8 years, and
(ii) Long position in interest rate future (IRF), Rs.50 crore, delivery after 6 months, life of underlying government security 3.5 years.
7.2.2 In terms of counter party the investments are assumed to be as under:
| a) Interest rate related securities |
| Government |
Rs.1000 crore |
| Banks |
Rs. 500 crore |
| Corporate Bonds |
Rs. 500 crore |
| b) Equities |
| Others |
Rs.300 crore |
For interest rate swaps and interest rate futures the counterparties are assumed to be corporates. For simplicity sake let us assume the details of investments in interest rate related securities as under:
i) Government securities
| Date of Issue |
Date of reporting |
Maturity Date |
Amount Rs.crore |
Coupon(%) |
Type |
| 01/03/1992 |
31/03/2003 |
01/03/2004 |
100 |
12.50 |
AFS |
| 01/05/1993 |
31/03/2003 |
01/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1994 |
31/03/2003 |
31/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1995 |
31/03/2003 |
01/03/2015 |
100 |
12.50 |
AFS |
| 01/03/1998 |
31/03/2003 |
01/03/2010 |
100 |
11.50 |
AFS |
| 01/03/1999 |
31/03/2003 |
01/03/2009 |
100 |
11.00 |
AFS |
| 01/03/2000 |
31/03/2003 |
01/03/2005 |
100 |
10.50 |
HFT |
| 01/03/2001 |
31/03/2003 |
01/03/2006 |
100 |
10.00 |
HTM |
| 01/03/2002 |
31/03/2003 |
01/03/2012 |
100 |
8.00 |
HTM |
| 01/03/2003 |
31/03/2003 |
01/03/2023 |
100 |
6.50 |
HTM |
| Total |
|
|
1000 |
|
|
ii) Bank Bonds
| Date of Issue |
Date of reporting |
Maturity Date |
Amount Rs.crore |
Coupon(%) |
Type |
| 01/03/1992 |
31/03/2003 |
01/03/2004 |
100 |
12.50 |
AFS |
| 01/05/1993 |
31/03/2003 |
01/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1994 |
31/03/2003 |
31/05/2003 |
100 |
12.00 |
AFS |
| 01/03/1995 |
31/03/2003 |
01/03/2006 |
100 |
12.50 |
AFS |
| 01/03/1998 |
31/03/2003 |
01/03/2007 |
100 |
11.50 |
HFT |
| Total |
|
|
500 |
|
|
iii) Other securities
| Date of Issue |
Date of reporting |
Maturity Date |
Amount Rs.crore |
Coupon(%) |
Type |
| 01/03/1992 |
31/03/2003 |
01/03/2004 |
100 |
12.50 |
HFT |
| 01/05/1993 |
31/03/2003 |
01/05/2003 |
100 |
12.00 |
HFT |
| 01/03/1994 |
31/03/2003 |
31/05/2003 |
100 |
12.00 |
HFT |
| 01/03/1995 |
31/03/2003 |
01/03/2006 |
100 |
12.50 |
HTM |
| 01/03/1998 |
31/03/2003 |
01/03/2017 |
100 |
11.50 |
HTM |
| Total |
|
|
500 |
|
|
iv) Overall Position
| |
Break-up of total investments |
| |
Interest rate related instruments |
Equity |
|
| |
Govt. Securities |
Bank bonds |
Other securities |
Total |
|
GrandTotal |
| HFT |
100 |
100 |
300 |
500 |
300 |
800 |
| AFS |
600 |
400 |
0 |
1000 |
0 |
1000 |
| Trading Book |
700 |
500 |
300 |
1500 |
300 |
1800 |
| HTM |
300 |
0 |
200 |
500 |
0 |
500 |
| Grand Total |
1000 |
500 |
500 |
2000 |
300 |
2300 |
7.2.3 Computation of risk weighted assets
A. Risk weighted assets for credit risk
As per the guidelines, held for trading and available for sale securities would qualify to be categorized as Trading Book. Thus trading book in respect of interest rate related investments in the instant case would be Rs.1500 crore. In addition, equities position of Rs.300 crore would be in the trading book, as indicated above. The derivative products held by banks are to be considered as part of trading book. Open position on foreign exchange and gold also would be considered for market risk. While computing the capital charge for credit risk, the securities held under trading book would be excluded and hence the credit risk based risk-weights would be as under:
| (Rs. in crore) |
| Details of Assets |
Book Value |
Risk Weight |
Risk weighted Assets |
| Cash& RBI |
200 |
0% |
0 |
| Bank balances |
200 |
20% |
40 |
Investments in (HTM category)
Government
Banks
Corporate Bonds |
300
0
200 |
0%
20%
100% |
0
0
200 |
| Advances (net) |
2000 |
100% |
2000 |
| Other Assets |
300 |
100% |
300 |
| Total |
3200 |
|
2540 |
| Credit Risk for OTC Derivatives: |
|
|
|
| IRS |
100(Credit conversion factor - 1% + 1% per year) |
100% |
8.00 |
| IRF |
50(Credit conversion factor for maturities less than one year � 0.5% |
100% |
0.25 |
| Total |
3350 |
|
2548.25 |
B. Risk weighted assets for market risk ( Trading Book)
(please refer to table in para 7.2.2(iv))
a. Specific Risk
1. Investments in interest rate related instruments:
(i) Government securities � Rs.700 crore � Nil
(ii) Bank bonds
| (Rs.crore) |
| Details |
Capital charge |
Amount |
Capital Charge |
| For residual term to final maturity 6 months or less |
0.30% |
200 |
0.600 |
| For residual term to final maturity between 6 and 24 months |
1.125% |
100 |
1.125 |
| For residual term to final maturity exceeding 24 months |
1.80% |
200 |
3.600 |
| Total |
|
500 |
5.325 |
(iii) Others Rs.300 crore @ 9% = Rs.27 crore
Total : (i)+(ii)+(iii)
= Rs.0 crore+Rs.5.325 crore+Rs.27 crore = Rs.32.325 crore
2. Equities � capital charge of 9% - Rs.27 crore
Total specific charge (1+2)
Therefore, capital charge for specific risk in the trading book is Rs. 59.33 crore (Rs. 32.33 crore + Rs. 27 crore).
b. General Market Risk
(1). Investments in interest rate related instruments:
Modified duration is used to arrive at the price sensitivity of an interest rate related instrument. For all the securities listed below, date of reporting is taken as 31/3/2003.
| (Rs.crore) |
| Counter Party |
Maturity Date |
Amount market value |
Coupon(%) |
Capital charge for general market risk |
| Govt. |
01/03/2004 |
100 |
12.50 |
0.84 |
| Govt. |
01/05/2003 |
100 |
12.00 |
0.08 |
| Govt. |
31/05/2003 |
100 |
12.00 |
0.16 |
| Govt. |
01/03/2015 |
100 |
12.50 |
3.63 |
| Govt. |
01/03/2010 |
100 |
11.50 |
2.79 |
| Govt. |
01/03/2009 |
100 |
11.00 |
2.75 |
| Govt. |
01/03/2005 |
100 |
10.50 |
1.35 |
| Banks |
01/03/2004 |
100 |
12.50 |
0.84 |
| Banks |
01/05/2003 |
100 |
12.00 |
0.08 |
| Banks |
31/05/2003 |
100 |
12.00 |
0.16 |
| Banks |
01/03/2006 |
100 |
12.50 |
1.77 |
| Banks |
01/03/2007 |
100 |
11.50 |
2.29 |
| Others |
01/03/2004 |
100 |
12.50 |
0.84 |
| Others |
01/05/2003 |
100 |
12.00 |
0.08 |
| Others |
31/05/2003 |
100 |
12.00 |
0.16 |
| |
Total |
1500 |
|
17.82 |
(2) Positions in interest rate related derivatives
Interest rate swap
| Counter Party |
Maturity Date |
Notional Amount (i.e.,market value) |
Modified duration or price sensitivity |
Assumed change in yield(ACI) |
Capital charge* |
| GOI |
30/09/2003 |
100 |
0.47 |
1.00 |
0.47 |
| GOI |
31/03/2011 |
100 |
5.14 |
0.60 |
(-) 3.08 |
| |
|
|
|
|
(-) 2.61 |
Interest rate future
| Counter Party |
Maturity Date |
Notional Amount (i.e.,market value) |
Modified duration or price sensitivity |
Assumed change in yield |
Capital charge |
| GOI |
30/09/2003 |
50 |
0.45 |
1.00 |
(-) 0.225 |
| GOI |
31/03/2007 |
50 |
2.84 |
0.75 |
1.070 |
| |
|
|
|
|
0.840 |
(3) Disallowances
The price sensitivities calculated as above have been slotted into a duration-based ladder with fifteen time-bands (Attachment II). Long and short positions within a time band have been subjected to vertical disallowance of 5%. In the instant case, vertical disallowance is applicable under 3-6 month time band and 7.3-9.3 year time band. Then, net positions in each time band have been computed for horizontal offsetting subject to the disallowances mentioned in the table. In the instant case, horizontal disallowance is applicable only in respect of Zone 3. Horizontal disallowances in respect of adjacent zones are not applicable in the instant case.
(4) The total capital charge in this example for general market risk for interest rate related instruments is computed as under:
| Sl.No |
Capital charge |
Amount (Rs.) |
| 1 |
For the vertical disallowance (under 3-6 month time band) |
1,12,500 |
| 2 |
For the vertical disallowance (under 7.3-9.3 year time band) |
13,95,000 |
| 3 |
For the horizontal disallowance (under Zone 3) |
9,00,000 |
| 4 |
For the horizontal disallowances between adjacent zones |
0 |
| 5 |
For the overall net open position(17.82 � 2.61 + 0.84) |
16,06,00,000 |
| 6 |
Total capital charge for general market risk on interest rate related instruments (1 + 2 + 3 + 4 + 5) |
16,30,07,500 |
(5) Equities
Capital charge for General Market Risk for equities is 9%. Thus, general market risk capital charge on equities would work out to Rs.27 crore.
(6) Forex / Gold Open Position
Capital charge on forex/gold position would be computed at 9%. Thus the same works out to Rs.9 crore
(7) Capital charge for market risks in this example is computed as under:
| (Rs. crore) |
| Details |
Capital charge for Specific Risk |
Capital charge for General Market Risk |
Total |
| Interest Rate Related instruments |
32.33 |
16.30 |
48.63 |
| Equities |
27.00 |
27.00 |
54.00 |
| Forex/Gold |
- |
9.00 |
9.00 |
| Total |
59.33 |
52.30 |
111.63 |
Computing Capital Ratio
7.2.4 To facilitate computation of CRAR for the whole book, this capital charge for market risks in the Trading Book needs to be converted into equivalent risk weighted assets. As in India, a CRAR of 9% is required, the capital charge could be converted to risk weighted assets by multiplying the capital charge by (100 � 9), i.e. Rs. 111.63*(100 � 9) = Rs. 1240.33 crore. Therefore, risk weighted assets for market risk is : Rs. 1240.33 crore.
| (Rs. Crore) |
| 1 |
Total Capital |
400.00 |
| 2 |
Risk weighted assets for Credit Risk |
2548.25 |
| 3 |
Risk weighted assets for Market Risk |
1240.33 |
| 4 |
Total Risk weighted assets (2+3) |
3788.58 |
| 5 |
CRAR [(1�4)*100] |
10.56 % |
8. Reporting Formats
8.1 Reporting format for the purpose of monitoring the capital ratio is given hereunder:
Name of bank: _____________________ Position as on: _____________
A. Capital Base
| (Rs. Crore) |
| Sl. No. |
Details |
Amount |
| A1. |
Tier I Capital |
|
| A2. |
Tier II Capital |
|
| A3. |
Total Regulatory Capital |
|
B. Risk Weighted Assets
| B1. |
Risk Weighted Assets on Banking Book |
|
| |
a) On-balance sheet assets |
|
| |
b) Contingent Credits |
|
| |
c) Forex contracts |
|
| |
d) Other off-balance sheet items |
|
| |
Total |
|
| B2. |
Risk Weighted Assets on Trading Book |
AFS |
Other trading book exposures |
Total |
| |
a) Capital charge on account of Specific Risk |
|
|
|
| |
i) On interest rate related instruments |
|
|
|
| |
ii) On Equities |
|
|
|
| |
Sub-total |
|
|
|
| |
b) Capital charge on account of general market risk |
|
|
|
| |
i) On interest rate related instruments |
|
|
|
| |
ii) On Equities |
|
|
|
| |
iii) On Foreign Exchange and gold open positions |
|
|
|
| |
Sub-total |
|
|
|
| |
Total Capital Charge on Trading Book |
|
|
|
| |
Total Risk weighted Assets on Trading Book(total capital charge on trading book * (100/9)) |
|
|
|
| B3. |
Total Risk Weighted Assets (B1 + B2) |
|
C. Capital Ratio
| C1 |
Capital to Risk-weighted Assets Ratio (CRAR) (A3/B3*100) |
|
D. Memo items
| D1 |
Investment Fluctuation Reserve |
|
| D2 |
Book value of securities held in HFT category |
|
| D3 |
Book value of securities held in AFS category |
|
| D4 |
Net unrealised gains in HFT category |
|
| D5 |
Net unrealised gains in AFS category |
|
8.2 Banks should furnish data in the above format as on the last day of each calendar quarter to the Chief General Manager-in-Charge, Department of Banking Supervision, Central Office, World Trade Centre I, 3rd floor, Cuffe Parade, Mumbai 400 005 both in hard copy and soft copy. Soft copy in excel format may also be forwarded through e-mail to [email protected] and [email protected]..
Attachment I
(Para 4.6.8, Section B)
Measurement system in respect of interest rate derivatives and options
A. Interest rate derivatives
The measurement system should include all interest rate derivatives and off-balance-sheet instruments in the trading book, which react to changes in interest rates, (e.g. forward rate agreements (FRAs), other forward contracts, bond futures, interest rate and cross-currency swaps and forward foreign exchange positions). Options can be treated in a variety of ways as described in B.1 below. A summary of the rules for dealing with interest rate derivatives is set out in the Table at the end of this section.
1. Calculation of positions
The derivatives should be converted into positions in the relevant underlying and be subjected to specific and general market risk charges as described in the guidelines. In order to calculate the capital charge, the amounts reported should be the market value of the principal amount of the underlying or of the notional underlying. For instruments where the apparent notional amount differs from the effective notional amount, banks must use the effective notional amount.
(a) Futures and forward contracts, including forward rate agreements
These instruments are treated as a combination of a long and a short position in a notional government security. The maturity of a future or a FRA will be the period until delivery or exercise of the contract, plus - where applicable - the life of the underlying instrument. For example, a long position in a June three-month interest rate future (taken in April) is to be reported as a long position in a government security with a maturity of five months and a short position in a government security with a maturity of two months. Where a range of deliverable instruments may be delivered to fulfill the contract, the bank has flexibility to elect which deliverable security goes into the duration ladder but should take account of any conversion factor defined by the exchange.
(b) Swaps
Swaps will be treated as two notional positions in government securities with relevant maturities. For example, an interest rate swap under which a bank is receiving floating rate interest and paying fixed will be treated as a long position in a floating rate instrument of maturity equivalent to the period until the next interest fixing and a short position in a fixed-rate instrument of maturity equivalent to the residual life of the swap. For swaps that pay or receive a fixed or floating interest rate against some other reference price, e.g. a stock index, the interest rate component should be slotted into the appropriate repricing maturity category, with the equity component being included in the equity framework.
Separate legs of cross-currency swaps are to be reported in the relevant maturity ladders for the currencies concerned.
2. Calculation of capital charges for derivatives under the standardised methodology
(a) Allowable offsetting of matched positions
Banks may exclude the following from the interest rate maturity framework altogether (for both specific and general market risk);
� Long and short positions (both actual and notional) in identical instruments with exactly the same issuer, coupon, currency and maturity.
� A matched position in a future or forward and its corresponding underlying may also be fully offset, (the leg representing the time to expiry of the future should however be reported) and thus excluded from the calculation.
When the future or the forward comprises a range of deliverable instruments, offsetting of positions in the future or forward contract and its underlying is only permissible in cases where there is a readily identifiable underlying security which is most profitable for the trader with a short position to deliver. The price of this security, sometimes called the "cheapest-to-deliver", and the price of the future or forward contract should in such cases move in close alignment.
No offsetting will be allowed between positions in different currencies; the separate legs of cross-currency swaps or forward foreign exchange deals are to be treated as notional positions in the relevant instruments and included in the appropriate calculation for each currency.
In addition, opposite positions in the same category of instruments can in certain circumstances be regarded as matched and allowed to offset fully. To qualify for this treatment the positions must relate to the same underlying instruments, be of the same nominal value and be denominated in the same currency. In addition:
� for futures: offsetting positions in the notional or underlying instruments to which the futures contract relates must be for identical products and mature within seven days of each other;
� for swaps and FRAs: the reference rate (for floating rate positions) must be identical and the coupon closely matched (i.e. within 15 basis points); and
� for swaps, FRAs and forwards: the next interest fixing date or, for fixed coupon positions or forwards, the residual maturity must correspond within the following limits:
o less than one month hence: same day;
o between one month and one year hence: within seven days;
o over one year hence: within thirty days.
Banks with large swap books may use alternative formulae for these swaps to calculate the positions to be included in the duration ladder. The method would be to calculate the sensitivity of the net present value implied by the change in yield used in the duration method and allocate these sensitivities into the time-bands set out in Table 1 in Section B.
(b) Specific risk
Interest rate and currency swaps, FRAs, forward foreign exchange contracts and interest rate futures will not be subject to a specific risk charge. This exemption also applies to futures on an interest rate index (e.g. LIBOR). However, in the case of futures contracts where the underlying is a debt security, or an index representing a basket of debt securities, a specific risk charge will apply according to the credit risk of the issuer as set out in paragraphs above.
(c) General market risk
General market risk applies to positions in all derivative products in the same manner as for cash positions, subject only to an exemption for fully or very closely matched positions in identical instruments as defined in paragraphs above. The various categories of instruments should be slotted into the maturity ladder and treated according to the rules identified earlier.
Table - Summary of treatment of interest rate derivatives
| Instrument |
Specific risk charge |
General Market risk charge |
Exchange-traded future
- Government debt security
- Corporate debt security
- Index on interest rates (e.g. MIBOR) |
No
Yes
No |
Yes, as two positions
Yes, as two positions
Yes, as two positions |
OTC forward
- Government debt security
- Corporate debt security
- Index on interest rates (e.g. MIBOR) |
No
Yes
No |
Yes, as two positions
Yes, as two positions
Yes, as two positions |
| FRAs, Swaps |
No |
Yes, as two positions |
| Forward Foreign Exchange |
No |
Yes, as one position in each currency |
Options
- Government debt security
- Corporate debt security
- Index on interest rates (e.g. MIBOR)
- FRAs, Swaps |
No
Yes
No
No |
|
|