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Quantitative Impact Study 4 (QIS-4)
Frequently Asked Questions
Note: These
questions and answers are intended for QIS-4 purposes only.
Wholesale Portfolios
Question: Would you please clarify
what is meant by "translation risk" in question 18 of the QIS-4 questionnaire?
Answer: The term "translation risk" refers to transfer risk, or the risk that a customer borrowing in a non-local currency will be unable through its Central Bank and local capital markets to gain access to that currency and service the debt, regardless of its own financial circumstances. Most other translation risk (or foreign currency risk) that a bank incurs from lending in a local currency would likely be managed through its trading activities and captured for regulatory capital purposes through the VaR charge on trading. Any unhedged local currency exposures that the lending function retains (e.g., long-term exposures for which there are no active markets and, therefore, that traders cannot hedge) should also be considered for QIS-4 purposes, provided that your bank's information systems can identify them.
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Question: Where counterparties have posted financial collateral supporting over-the-counter (OTC) derivatives, can banks reflect the collateral by using either the loss given default (LGD) or exposure at default (EAD) adjustment methods?
Answer: Yes, as explained in paragraph 85 of the QIS-4 instructions, either approach can be applied as long as a bank is consistent for all OTC derivative products.
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Question: Do we need to generate our own haircuts for repo-style transactions and over the counter (OTC) derivatives to be eligible for the advanced internal-ratings based (A-IRB) approach?
Answer: As noted in Appendix C of the QIS-4 instructions, standard supervisory haircuts are permitted, so you do not need to generate your own haircuts to be eligible for the A-IRB approach.
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Question: Could you please provide some insight regarding the maturity we should assign to commercial credit cards and corporate overdrafts?
Answer: You should try to estimate the maturity of these exposures using historical data. Paragraph 91 of the QIS-4 instructions states that the value of the maturity should be the "weighted average remaining maturity of the expected cash flows, using the amounts of the cash flows as weights." You should note that despite the fact that these exposures may be "unconditionally cancelable," they would be viewed as being part of an institution's ongoing financing of a borrower and therefore not eligible for the exemption from the one-year maturity minimum, which is described in paragraph 92 of the QIS-4 instructions.
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Question: On the Current sheet, the cells in section 1c, Sov-Bank-Corp Counterparty exposures: Repo-style transactions, ask for information on a gross basis. The gross balances are then risk weighted. Under current US capital adequacy guidelines, net repo balances (which are net of FIN 41) are risk weighted. For QIS-4, should we enter repos net of FIN 41?
Answer: Yes, for QIS-4 please report repos as the notional amount taking into account netting permitted under FIN 41.
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Question: Could you please provide
additional clarity on which instruments would be exempt from the requirement
that maturity not be less than one year for wholesale portfolios? In
paragraph 92 of the QIS-4 instructions, it is specified that exceptions
on the lower bound of one year apply to transactions that (a) are not
part of an institution's ongoing financing of a borrower and (b) have
original maturity of less than three months - including repo-style transactions,
money market transactions, trade finance-related transactions, and exposures
arising from payment and settlement processes. Specifically, would inter-bank
placements (assuming they meet the criteria outlined above) be exempt
from the one-year maturity minimum? Would loans originated under forward
flow agreements be exempt from the one-year maturity minimum? These
latter are loans, such as mortgage or home equity line of credit (HELOC),
that are originated under an agreement to be purchased by another institution
in a very short time period (e.g., less than 30 days).
Answer: Paragraph 92 of the QIS-4 instructions is not intended to provide an exhaustive list of all types of transactions that could be exempt from the one-year maturity requirement (provided that they also meet criteria a and b, as described above). Other instruments that could have a maturity of less than one year include federal funds, US Treasury bills, municipal notes, government-sponsored enterprise securities, shares in money market instruments, futures contracts, futures options, swaps, trade-related letters of credit, bankers' acceptances, inter-bank placements, and due from banks. As noted in paragraph 92, for these transactions, maturity may be set as low as five days for repo-style transactions and OTC derivatives subject to a qualifying master netting agreement, and as low as one day for other wholesale transactions. Short-term commercial paper and forward flow agreements would not be exempt from the one-year maturity minimum.
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Question: We are planning to
include our high net worth portfolio in the wholesale portfolio, as
they do not meet the requirements for retail treatment. We wanted to
confirm that this treatment is appropriate, as the definition of corporate
in the QIS-4 instructions does not include exposures to individuals.
Answer: In general, a bank has flexibility to classify loans to high net worth individuals as corporate or retail, based upon the unique circumstances of the transactions. However, all retail exposures -- including those to such individuals -- must meet the requirements for retail treatment, as outlined in the recently released draft retail guidance. That guidance requires: (1) the exposure to be managed on a pool basis, and (2) the obligor to be an individual, except for those qualifying as retail business exposures. Institutions should note that loans primarily secured by residential properties may be treated as residential mortgage loans, without size limit and regardless of how the funds are used. The "Other Retail" category also contains no limit on the size of the exposure, but, as with all exposures treated as retail, must meet the "pooled" and "individual" criteria cited above. If exposures to high net worth individuals do not meet these conditions, banks should report them as corporate exposures. Note that retail margin lending is excluded from the internal-ratings based capital requirements for QIS-4 purposes.
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Question: Should we add back
interest applied to principal to the loan balance of defaulted assets,
as is done for partial charge-offs?
Answer: Yes, interest applied to principal should be added back to the balance of a defaulted loan.
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Question: We do not currently
have complete financial information (i.e., annual revenues) to apply
the small- and medium-sized enterprise (SME) threshold test. Is it acceptable
to use management/organizational definitions, based upon size cutoffs,
to identify SME exposures?
Answer: You should use a "best efforts" approach in reporting SMEs. Organizational definitions would be one approach. You should describe in detail the approach used to identify and allocate SMEs in the QIS-4 questionnaire.
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Question: Does the presence of
a Credit Support Annex (CSA) Agreement have an impact on the assumed
maturity (M) when calculating the capital requirement for over-the-counter
(OTC) derivative transactions?
Answer: No. The existence of a CSA Agreement as a supplement to a master netting agreement in an OTC derivative transaction does not permit a bank to reduce M below the one-year floor. The master netting agreement allows a bank to use the exposure at default (EAD) approach for recognition of collateral in OTC derivative transactions. The bank may assume a ten-day holding period when adjusting the collateral value to reflect potential market price volatility. For OTC derivative transactions subject to qualifying master netting agreements, M should be set equal to the weighted-average remaining maturity of the individual transactions, using the notional amounts of the individual transactions as the weights. An exception to the one-year floor on M is available for OTC derivative transactions subject to qualifying master netting agreements that (a) are not part of an institution's ongoing financing of a borrower and (b) have a maturity of less than three months. When those conditions are satisfied, M may be set as low as five days.
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Question: When calculating the
maturity for derivative exposures, should the five-year cap be applied
at the transaction level or at the final result level? For example,
assume we have a customer with the following two derivative exposures
that are covered under an International Swaps and Derivatives Association
(ISDA) agreement:
| Transaction # |
Type |
Notional |
Maturity |
| 1 |
Interest Rate Swap |
$100 |
1 year |
| 2 |
Interest Rate Swap |
$200 |
30 years |
Should M be equal to:
| 1 |
 |
| 2 |
 |
Answer: The five-year cap should be applied at the transaction level. In the above example, M would equal 3.667 years.
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Question: In the above example, what would maturity (M) equal if the customer's exposures were not covered under an International Swaps and Derivatives Association (ISDA) agreement?
Answer: If the two transactions are not covered under an ISDA master netting agreement, they would be treated as two separate transactions: one with a maturity of one year, and the second with a maturity of five years. However, the net effect on M is the same as if two transactions were subject to a master netting agreement: assuming the two exposures are slotted into the same probability of default (PD)/loss given default (LGD) bucket, M for that bucket is calculated as a weighted-average maturity for the exposures in that bucket.
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Question: Are government sponsored
entities (GSEs) corporate or bank exposures?
Answer: Under the advanced internal ratings-based (AIRB)
approach, it doesn’t matter if GSEs are treated as corporate or
bank exposures: the same risk-weight function applies to both. The important
point to note is that they are subject to the probability of default
(PD) floor of three basis points.
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Question: Would you please clarify
when bank inputs that are lower than the specified floors on parameters
for certain exposures are or are not overridden by these floors in the
relevant formulas in the QIS-4 worksheets? Examples of floors include
the three basis point floor for probability of default (PD) for all
corporate, bank (including government sponsored entities), and state
and local government exposures, and the 10 percent floor for loss given
default (LGD) for retail mortgages.
Answer: The Sov-Bank-Corp worksheet will not override
bank inputs for either PDs or LGDs with any prescribed floors. As paragraph
71 of the QIS-4 instructions states, "under the advanced internal
ratings-based (AIRB) approach, all corporate, bank (including government
sponsored entities), and state and local government exposures are subject
to a PD floor of 0.03 percent." Therefore, PDs below 0.03 percent
should reflect only sovereign exposures.
The worksheets for the following portfolios will
impose a 0.03 percent PD floor but will not impose an LGD floor: SME
Corporate, HVCRE, IPRE, QRE, RBE, and Other Retail.
For HELOCs and Other Mortgage, both a 0.03 percent
floor for PDs and a 10 percent floor for LGDs will be imposed and will
override any input below these levels. Nonetheless, please enter your
actual LGD estimates, even if below 10 percent.
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Question: Should we exclude from
the data any exposures to US and sovereign counterparties that have
a probability of default (PD) of zero? Examples of such exposures include
US Treasury securities in banks’ investment portfolios.
Answer: Banks should include data for exposures with
a zero PD. The spreadsheets accommodate such entries, and the risk-weight
functions allow for them. Please see previous question for further information
on this topic.
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Question: The Mid-Year-Text indicates
that a 2.5 year effective maturity default value for small- and medium-sized
enterprises (SMEs) treated as corporate exposures is subject to national
discretion. However, the advanced notice on proposed rulemaking (ANPR)
is silent on this point. Should SMEs therefore be subject to the same
maturity rules as corporate exposures?
Answer: Yes, treat maturity for SMEs as you would for
large corporate exposures.
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Question: Should all short-term
wholesale exposures between three and 12 months default to a one-year
maturity?
Answer: Yes, short-term wholesale exposures between
three and 12 months should be assigned a maturity of one year. As explained
in paragraph 92 of the QIS-4 instructions, exceptions on the lower bound
of one year apply to transactions that (a) are not part of an institution’s
ongoing financing of a borrower and (b) have an original maturity of
less than three months – including repo-style transactions, money
market transactions, trade finance-related transactions, and exposures
arising from payment and settlement processes. When these conditions
are satisfied, M may be set as low as five days for repo-style transactions
and OTC derivatives exposures subject to a qualifying master netting
agreement, and as low as one day for other wholesale transactions.
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Question: We are unable to electronically
identify small- and medium-sized enterprises (SMEs). Therefore, for
any counterparty where we don't have information regarding its annual
sales or assets, we will assume it doesn't qualify and input it in the
Bank-Sov-Corp worksheet. Is this approach acceptable?
Answer: Yes, that would be an acceptable approach.
That said, it is important to note that QIS-4 is being conducted on
a “best efforts” basis, and the agencies want institutions
to apply the instructions in a manner that reflects their best judgment
of the likely effects of new standards, recognizing the limitations
of their systems and their knowledge of the nature of their businesses
and products. If your institution has an alternative way to estimate
SME exposures that you believe is sound, then you should take that approach
and describe it in the questionnaire. Such techniques could, for example,
be based on a sampling of portfolios based on informed discussions within
your bank.
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Question: Should Government National
Mortgage Association (GNMA) securities be input on the Corp-Bank-Sov
sheet with a probability of default (PD) of less than three basis points,
or on the securitization worksheet under the ratings-based approach
(RBA)?
Answer: GNMA securities should
be reported in the Corp-Bank-Sov worksheet, as stated in paragraph 53
of the QIS-4 instructions.
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Question: Should foreign exchange
derivative transactions with an original maturity less than or equal
to 14 days be excluded from the worksheets?
Answer: You should exclude foreign exchange derivative
contracts with an original maturity of less or equal to 14 days, as
you do according to current US capital adequacy guidelines.
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Question: Under the Basel II
rules, can collateral received from a customer be reflected in the net
gross ratio?
Answer: No, the net replacement cost to gross replacement
cost ratio (NGR) should not reflect collateral received. Paragraph 87
of the QIS-4 instructions specifies that when an institution chooses
to reflect collateral posted to an OTC derivative through an adjustment
to the exposure at default (EAD), it should offset the current exposure
and potential future exposure by the haircut value of the collateral
(CA = C-C*Hc). However, as shown in the formula below, the adjustment
for collateral is made after the NGR is calculated.
EAD = max {0, (CE + .4 * PFE + .6 * NGR
* PFE - CA)}
where,
CE = current exposure
C = current value of collateral
CA = volatility adjusted collateral amount
Hc = haircut appropriate for the collateral type, adjusted for minimum
holding period, 10 days for OTC derivatives
NGR = net replacement cost to gross replacement cost ratio
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Question: As specified in paragraphs
75 and 76 of the QIS-4 instructions, banks are expected to compute capital
for defaulted assets as the difference between potential loss given
default (PLGD) and best estimate of expected loss (BEEL). Could you
please clarify how the PLGD differs from the downturn LGD for non-defaulted
assets mentioned in paragraphs 72 and 74?
Answer: The PLGD differs from the downturn LGD in that
the PLGD is estimated after default, based on the conditions prevailing
at the time of actual default, while the economic downturn LGD assigned
to a non-defaulted exposure is an ex-ante estimate based on its risk
characteristics. The PLGD may be equal to, larger, or smaller than the
economic downturn LGD. However, the PLGD should exceed the BEEL to reflect
the possibility that the bank may need to recognize additional unexpected
losses during the recovery period.
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Question: For defaulted corporate
and retail exposures, should fully charged-off loans be included? Does
the treatment differ for retail and corporate exposures?
Answer: No, fully charged-off loans should not be included.
For partially charged-off loans, the exposure at default (EAD) should
add back the partially charged-off amount. The treatment is the same
for both retail and corporate exposures. Note that the partial charge-off
amount is also added to the level of reserves for the purpose of comparing
reserves to the expected loss (EL) in forming the numerator of the risk-based
capital ratio.
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Question: Over what time period
do we include partial charge-offs? For example, is it life-to-date,
year-to-date, quarter-to-date, or month-to-date?
Answer: The correct amount of charge-off to add back
in forming the exposure at default (EAD) and the level of reserves is
the total amount that has been charged-off over the life of the loan.
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Retail Portfolios
Question: We are planning to
include our high net worth portfolio in the wholesale portfolio, as
they do not meet the requirements for retail treatment. We wanted to
confirm that this treatment is appropriate, as the definition of corporate
in the QIS-4 instructions does not include exposures to individuals.
Answer: In general, a bank has flexibility to classify loans to high net worth individuals as corporate or retail, based upon the unique circumstances of the transactions. However, all retail exposures -- including those to such individuals -- must meet the requirements for retail treatment, as outlined in the recently released draft retail guidance. That guidance requires: (1) the exposure to be managed on a pool basis, and (2) the obligor to be an individual, except for those qualifying as retail business exposures. Institutions should note that loans primarily secured by residential properties may be treated as residential mortgage loans, without size limit and regardless of how the funds are used. The "Other Retail" category also contains no limit on the size of the exposure, but, as with all exposures treated as retail, must meet both the "pooled" and "individual" criteria cited above. If exposures to high net worth individuals do not meet these conditions, report them as corporate exposures. Note that retail margin lending is excluded from the internal-ratings based capital requirements for QIS-4 purposes.
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Question: Should we add back
interest applied to principal to the loan balance of defaulted assets,
as is done for partial charge-offs?
Answer: Yes, interest applied to principal should be added back to the balance of a defaulted loan.
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Question: In paragraph 107 of
the QIS-4 instructions, the definition for Retail Business Exposures
(RBE) includes a stipulation that the aggregate exposure per business
be less than $1 million. Does "exposure" in this context refers to drawn,
total commitment amount (drawn plus undrawn), or the exposure at default
(EAD)?
Answer: The correct measure for each exposure should be the total committed amount (i.e., drawn plus undrawn).
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Question: Are a business owner's
individual Qualifying Revolving Exposures (QRE) and Other Retail exposures
intended to be included with the owner's business loans in the threshold
test for classification as Retail Business Exposures (RBE)?
Answer: QREs are included in the $1 million limit for RBE only if explicitly in the name of a business and/or originated as part of a small-business card program. Other Retail loans to individual proprietors would not be included in the $1 million limit unless they are originated through a small business program and/or clearly identified (i.e., documented as part of the approval and advance process) as being for business purposes. (Obviously, there is very substantial small-business financing in the US that takes the form of Home Equity Line of Credit (HELOC) secured by proprietors' homes and personal credit cards; however, these exposures are impossible to identify clearly and would not count towards the $1 million limit.)
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Question: Would you please clarify
when bank inputs that are lower than the specified floors on parameters
for certain exposures are or are not overridden by these floors in the
relevant formulas in the QIS-4 worksheets? Examples of floors include
the three basis point floor for probability of default (PD) for all
corporate, bank (including government sponsored entities), and state
and local government exposures, or the 10 percent floor for loss given
default (LGD) for retail mortgages.
Answer: The Sov-Bank-Corp worksheet will not override
bank inputs for either PDs or LGDs with any prescribed floors. As our
instructions state, "under the advanced internal ratings-based
(AIRB) approach, all corporate, bank (including government sponsored
entities), and state and local government exposures are subject to a
PD floor of 0.03 percent." Therefore, PDs below 0.03 percent should
reflect only sovereign exposures.
The worksheets for the following portfolios will
impose a 0.03 percent PD floor but will not impose an LGD floor: SME
Corporate, HVCRE, IPRE, QRE, RBE and Other Retail.
For HELOCs and Other Mortgage, both a 0.03 percent
floor for PDs and a 10 percent floor for LGDs will be imposed and will
override any input below these levels. Nonetheless, please enter your
actual LGD estimates, even if below 10 percent.
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Question: Probability of default
(PD) is defined differently for segments containing "fully seasoned
exposures" (paragraph 114 of the QIS-4 instructions) and those
containing "unseasoned loans" (paragraph 115). However, the
QIS-4 instructions do not define "fully-seasoned" or "unseasoned.”
Could you please provide additional information?
Answer: Since the time profile
of default can vary systematically by asset type, neither the QIS-4
instructions nor the recently released draft retail guidance put forth
a prescriptive definition of "seasoned" or “unseasoned”
for each asset type. Rather, each bank is expected to apply good judgment
in a consistent fashion. When preparing their QIS-4 results, banks are
requested to comply with the QIS-4 instructions on a “best efforts”
basis. The QIS-4 questionnaire asks banks to summarize key assumptions
and estimation methods underlying such “best-efforts” assessments.
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Question: As specified in paragraphs
75 and 76 of the QIS-4 instructions, banks are expected to compute capital
for defaulted assets as the difference between potential loss given
default (PLGD) and best estimate of expected loss (BEEL). Could you
please clarify how the PLGD differs from the downturn LGD for non-defaulted
assets mentioned in paragraphs 72 and 74?
Answer: The PLGD differs from the downturn LGD in that
the PLGD is estimated after default, based on the conditions prevailing
at the time of actual default, while the economic downturn LGD assigned
to a non-defaulted exposure is an ex-ante estimate based on its risk
characteristics. The PLGD may be equal to, larger, or smaller than the
economic downturn LGD. However, the PLGD should exceed the BEEL to reflect
the possibility that the bank may need to recognize additional unexpected
losses during the recovery period.
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Question: For defaulted corporate
and retail exposures, should fully charged-off loans be included? Does
the treatment differ for retail and corporate exposures?
Answer: No, fully charged-off loans should not be included.
For partially charged-off loans, the exposure at default (EAD) should
add back the partially charged-off amount. The treatment is the same
for both retail and corporate exposures. Note that the partial charge-off
amount is also added to the level of reserves for the purpose of comparing
reserves to the expected loss (EL) in forming the numerator of the risk-based
capital ratio.
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Question: Over what time period
do we include partial charge-offs? For example, is it life-to-date,
year-to-date, quarter-to-date, or month-to-date?
Answer: The correct amount of
charge-off to add back in forming EAD and the level of reserves is the
total amount that has been charged-off over the life of the loan.
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Question: Should personal lines
of credit be reported on the Qualifying Revolving Exposure (QRE) worksheet
or on the Other Retail worksheet?
Answer: To qualify for reporting
as a QRE, the exposure should be a revolving facility of $100,000 or
less, unsecured, and unconditionally cancelable. The exposure should
also meet all of the other criteria listed in the instructions for retail
treatment.
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Question: Are Fannie- and Freddie-guaranteed
mortgages exempt from the 10 percent loss given default (LGD) floor
for mortgages?
Answer: Because Fannie and Freddie
mortgage-backed securities are treated as securitizations in QIS-4,
the risk weight (using the look-up table of the securitization section)
would likely be 7 percent. Thus, the issue of whether or not to apply
a 10 percent LGD floor generally does not arise.
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Credit Risk Mitigation
Question: Where counterparties have posted financial collateral supporting over-the-counter (OTC) derivatives, can banks reflect the collateral by using either the loss given default (LGD) or exposure at default (EAD) adjustment methods?
Answer: Yes, as explained in paragraph 85 of the QIS-4 instructions, either approach can be applied as long as the approach is consistent for all OTC derivative products.
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Question: Do we need to generate our own haircuts for repo-style transactions and over the counter (OTC) derivatives to be eligible for the advanced internal-ratings based approach (A-IRB)?
Answer: As noted in Appendix C of the QIS-4 instructions, standard supervisory haircuts are permitted, so you do not need to generate your own haircuts to be eligible for A-IRB.
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Question: In what types of collateralized
transactions with “core market participants” is a zero percent
haircut on the collateral permitted?
Answer: The June Mid-Year Text
(MYT) offers an alternative approach for certain repo-style transactions
that national supervisors may adopt at their discretion. As described
in paragraphs 170 and 171 of the June MYT, for repo-style transactions
that meet certain conditions and are conducted with “core market
participants,” a bank may use a zero percent haircut on the collateral
instead of the standard supervisory haircuts or own estimates of haircuts
when calculating the exposure at default (EAD). The US agencies opted
not to include this alternative approach in QIS-4.
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Question: Under the Basel II
rules, can collateral received from a customer be reflected in the net
gross ratio?
Answer: No, the net replacement
cost to gross replacement cost ratio (NGR) should not reflect collateral
received. Paragraph 87 of the QIS-4 instructions specifies that when
an institution chooses to reflect collateral posted to an OTC derivative
through an adjustment to the exposure at default (EAD), it should offset
the current exposure and potential future exposure by the haircut value
of the collateral (CA = C-C*Hc). However, as shown in the formula below,
the adjustment for collateral is made after the NGR is calculated.
EAD = max {0, (CE + .4 * PFE + .6
* NGR * PFE - CA)}
where,
CE = current exposure
C = current value of collateral
CA = volatility adjusted collateral amount
Hc = haircut appropriate for the collateral type, adjusted for minimum
holding period, 10 days for OTC derivatives
NGR = net replacement cost to gross replacement cost ratio
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Question: How should credit derivatives
held in the trading book be reported?
Answer: The appropriate treatment
is to apply the market risk approach to credit derivatives held in the
trading book. In cases where the credit derivative is hedging a banking
book exposure, the bank is not required to hold any counterparty credit
risk capital for the credit derivative (please see question below).
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Question: When a credit derivative
held in the trading book is used to hedge the credit risk of a banking
book exposure, is the bank required to compute the counterparty credit
risk capital charge for OTC derivatives on the credit derivative?
Answer: No, if a banking book
exposure is hedged by a credit derivative, no counterparty credit risk
capital is required for the credit derivative under QIS-4, regardless
of whether the derivative is in the banking or trading book. Note that
this treatment is different from current US capital adequacy rules,
which do require a counterparty credit risk charge when the derivative
is in the trading book, but not if it is held in the banking book.
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Securitization Exposures
Question: On the securitization
tab, how do we calculate risk-weighted assets (RWA) post credit risk
mitigation (column P) for securitization exposures benefiting from guarantees?
Answer: As per the QIS-4 instructions,
use the probability of default (PD) and loss given default (LGD) of
the guarantor.
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Question: Question 33 of the
QIS-4 questionnaire states: "for liquidity facilities to asset-backed
commercial paper (ABCP) programs on an aggregate basis, what is the
proportion of the total notional amount and the amount that can be drawn
as of the report date?" What do you mean by "can be drawn?"
Liquidity facilities to ABCP programs can have certain stipulations
that must occur before they can be drawn upon, including market disruption
or early amortization. As of June 30, 2004 if a liquidity facility to
an ABCP program is written for a market disruption, and no market disruption
occurred, does the situation qualify as "can be drawn?"
Answer: Give us the total amount
that the liquidity facility is written for (e.g., $100), the amount
of assets in the conduit today (e.g., $60), and the amount of eligible
assets that can be funded in the liquidity facility today (e.g., $55).
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Question: In what types of collateralized
transactions with “core market participants” is a zero percent
haircut on the collateral permitted?
Answer: The June Mid-Year Text
(MYT) offers an alternative approach for certain repo-style transactions
that national supervisors may adopt at their discretion. As described
in paragraphs 170 and 171 of the June MYT, for repo-style transactions
that meet certain conditions and are conducted with “core market
participants,” a bank may use a zero percent haircut on the collateral
instead of the standard supervisory haircuts or own estimates of haircuts
when calculating the exposure at default (EAD). The US agencies opted
not to include this alternative approach in QIS-4
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Question: The QIS-4 instructions
(paragraph 170) indicate that credit enhancing interest only (CEIOs)
strips should be deducted from capital. However, paragraph 172 indicates
that interest only (IO) and principal only (PO) strips should be assigned
a risk-weight of 100%. Is there a reason why CEIOs would be treated
differently from IOs and POs?
Answer: Yes, IOs and POs are
generally not in a subordinated position. Note the definition of the
term "credit enhancing IOs". CEIOs strips are generally in
a subordinated, first-loss position. For example, excess spread in a
credit card securitization would meet the definition of a CEIO. In contrast,
a senior, mortgage IO strip is not subordinated and would not be subject
to a deduction.
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Question: Should Government National
Mortgage Association (GNMA) securities be input on the Corp-Bank-Sov
sheet with a probability of default (PD) of less than three basis points,
or on the securitization worksheet under the ratings-based approach
(RBA)?
Answer: GNMA securities should
be reported in the Corp-Bank-Sov worksheet, as stated in paragraph 53
of the QIS-4 instructions.
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Question: Paragraph 197 shows
the formula to calculate the early amortization capital charge (i.e.,
EAD*KIRB*CCF). Please confirm that EAD is dollar based, KIRB is percent
based, and the CCF is percent based.
Answer: Yes, that's correct.
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Question: In section D of the
Securitization worksheet, we would like to confirm that the agencies
want us to separate between drawn balances and undrawn exposures. For
example, if a customer has a $1,000 balance/$2,500 credit limit and
is expected to draw 20% of available credit line, $1,000 would fall
into the drawn bucket, and $300 would fall into the undrawn bucket.
Is this correct?
Answer: Yes.
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Question: When we measure the
early amortization capital charge, how should we treat the accrued interest
receivable (AIR) related to securitized loans? Should we include it
in the risk-weighted assets (RWA) before the credit conversion factor
(CCF), and then have the CCF applied to both the principal securitized
loans and the AIR?
Answer: The AIR should not be
subject to the early amortization charge or the CCF accompanying such
a charge since it is already being treated like a credit enhancing interest
only (CEIO) strip. It should be deducted equally from Tier 1 and Tier
2 capital and does not contribute to the cap on the maximum amount of
required capital for QIS-4 purposes.
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Question: Are Fannie and Freddie-guaranteed
mortgages exempt from the 10 percent loss given default (LGD) floor
for mortgages?
Answer: Because Fannie and Freddie
mortgage-backed securities are treated as securitizations in QIS-4,
the risk weight (using the look-up table of the securitization section)
would likely be 7 percent. Thus, the issue of whether or not to apply
a 10 percent LGD floor generally does not arise.
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Equity Exposures
Question: Under current US capital adequacy guidelines, there is no explicit definition of private equity; instead, the rules refer to non-financial equity investments, as defined in FR Y-12. For QIS-4 the definition of private equity is expanded beyond the Y-12 definition and includes other types of equity positions. Consequently, the total exposure under current US capital adequacy guidelines (which is required in the Current tab of the QIS-4 template) will not match the amount required in the QIS-4 input tab. The validation check will therefore indicate "No." Should we make the exposure amount in the Current tab the same as the exposure amount in the QIS-4 Input tab?
Answer: The amount entered into the Input sheet should reflect the broader QIS-4/Basel II definition. The amount entered into the Current worksheet should also reflect that definition, with the amounts distributed to the appropriate risk-weight buckets.
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Question: Should the quarterly
99.0% loss amount under the internal models approach to equity exposures
(paragraph 235 of the QIS-4 instructions) be net of an appropriate risk-free
rate, as stipulated in paragraph 346 of the Mid-Year Text?
Answer: Yes, the quarterly 99.0% loss amount should be net of an appropriate risk-free rate under the internal models approach to equities.
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Question: Should non-financial
equity investments currently backed out of Tier 1 capital be included
in the population of equities covered under the advanced internal ratings-based
(AIRB) approach to equities? If so, should either of the following adjustments
be made? (1) Should we adjust Tier 1 for this current deduction prior
to the 10 percent test? Or (2) should we exempt the non-financial investments
and not include them in the 10 percent test, because they have already
been backed out of Tier 1?
Answer: All non-financial equity
investments, such as those for which a portion are currently deducted
from Tier 1, should be included in the set of equities incorporated
into the AIRB approach to equities.
Banks should not adjust Tier 1 for this current
deduction prior to the 10 percent test. The reason is as follows: the
program (using the data provided on the "input" sheet, which are drawn
from the HC-R schedule of the Y-9) has been adjusted so that it implements
the "10 percent materiality test" using the measure of Tier 1 before
the current regulatory treatment to make a partial deduction of equity
instruments. Thus, the Tier 1 number used in QIS-4 is "gross" of (i.e.,
before) equity deductions. Note also that line 21of the Input sheet
requests the amount of "other additions to (deductions from) Tier 1
capital." If the other deductions exceed the other additions, then that
number should be negative. For QIS-4, banks should retain the sign (i.e.,
plus for additions, minus for deductions), so that the program will
correctly add only those deductions (the negative values that represent
the current capital requirements on equity positions) back to the other
components of Tier 1. Once the equity deductions have been added back
by the program, the materiality test and the AIRB capital measures are
formed using that "corrected" value of Tier 1 capital.
The current treatment of those equity investments (i.e., their deduction from the current measure of Tier 1) does not make them "exempt" from the AIRB calculation. The only "excluded" equity investments under the AIRB approach are those related to small business investment company (SBIC) activities and community development corporation (CDC) investments (and these are risk-weighted at 100 percent or less). As noted above, because the QIS-4 program uses the measure of Tier 1 capital that is calculated "prior to" the current treatment that deducts portions of those equity exposures" all those "non-excluded" equity investments should be included in the Equity sheet.
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Question: Are there differences
between the QIS-4 definition of equity exposures and the current FR
Y-12 (Consolidated Bank Holding Company Report of Equity Investments
in Nonfinancial Companies) definition of equity investments? If so,
what are the differences?
Answer: The QIS-4 definition
of equity is different than the definition used for the Y-12. For QIS-4,
only mandatory convertible debt should be treated as equity, with all
other convertible debt treated as debt. (In contrast, for the Y-12 report,
all convertible debt is reported as equity). The other difference between
the QIS-4 and Y-12 definitions is that, in QIS-4, all equity holdings,
regardless of the authority under which they are held, should be included
as equity, while in the Y-12, only equity investments held under the
listed authorities are reported.
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Question: Under the advanced
internal ratings-based (A-IRB) approach to equities, may we split the
"non-excluded" material exposure between the two approaches?
For example, may we allocate some equities to the simple market based
approach (with the 300% and 400 % risk weights) and the remaining equities
to the internal models approach?
Answer: No, for QIS-4 purposes,
please report the entire non-excluded (and material) portion of the
equity portfolio in either the simple approach or the internal models
approach of A-IRB. If this limitation materially alters the reported
results, please note this in the questionnaire.
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Operational Risk
Question: We used a 99.95% confidence
interval in calculating the 2005 Advanced Measurement Approach (AMA)
capital charge. For QIS-4 purposes, we will try to calculate the capital
charge using a 99.9% confidence interval as required in the instructions;
however, in the event that it is not possible or the calculation is
not entirely accurate, would it be acceptable to use the 99.95% confidence
interval?
Answer: Yes, for QIS-4 purposes, that would be fine.
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Question: In the Operational
Risk worksheet, would it be acceptable to calculate the exposure in
cell G111 without adjustments for qualitative factors or diversification?
Answer: Yes, for QIS-4 purposes, that would be fine
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Question: What is the appropriate
scope for diversification in the Operational Risk worksheet?
Answer: For QIS-4 purposes, the scope for diversification should consider the institutions at the level used in completing the QIS-4 results.
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Question: Please clarify whether
the additional data requested for fraud (paragraph 245 of the QIS-4
instructions) is defined as external only or both internal and external?
Also, should the fraud numbers be provided pre- or post-diversification
impact?
Answer: The fraud numbers should include both internal and external fraud, especially if the external fraud caused a loss (e.g., identity theft from an external party). Banks can provide these numbers either before or after making an adjustment for diversification; however, they should specify what they do in the questionnaire.
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Question: With regards to the
Total Advanced Measurement Approach (AMA) capital charge (99.9% confidence
level) on the operational risk worksheet, would it be preferable for
banks to use a 2005 projected number based on the proposed AMA or one
for the twelve-month period used in completing the rest of the study?
Answer: Banks should use the
2005 projected number based on the proposed AMA.
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Other
Question: Where should investments in minority subsidiaries be accounted for in the QIS-4 spreadsheets?
Answer: Investments in minority subsidiaries should be accounted for in the Input sheet, line item 115, "All other assets."
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Question: Where should other
assets that have not been slotted into a particular portfolio, such
as asset management, be accounted for in the QIS-4 spreadsheets?
Answer: Unlike the process for QIS-3, for QIS-4 we ask banks to incorporate 100 percent of their assets into the workbook on a best-efforts basis. For those assets that do not fall under any particular portfolio using a probability of default (PD)/loss given default (LGD) matrix, we suggest placing these exposures under the section for "Other assets not subject to the PD/LGD framework" line item "All other assets" (line 115). In response to the particular query about asset management, banks' risks associated with these activities should be incorporated into the operational risk charge (please refer to paragraph 654 of the June Mid-Year Text).
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Question: For certain loan asset classes, specifically margin lending, banks mitigate credit risk by hedging the credit exposure in whole or in part by taking eligible financial collateral. For such transactions, there is little or no reliance on the obligor and no process to measure and assign a risk-rating to the obligor. The focus is on assessing the credit risk of the facility as a function of the sufficiency of the collateral. For QIS-4 purposes, will banks be required to assess probabilities of default (PDs) for each client for every facility? Will banks be required to manage these exposures on a pool basis, or can they continue to manage the exposure of the facility on a collateralized basis?
Answer: Given the significant similarities of these types of exposures to retail margin lending, for QIS-4 purposes, please slot them on the Input sheet along with Retail Margin Loans (line 113). This approach should be taken with the understanding that this is a very low -- virtually no -- credit risk business because of the high collateralization of these exposures, much like retail margin loans. Note that for QIS-4, all exposures listed on the "Retail Margin Loans" line item receive a zero percent risk-weight under the advanced internal ratings-based approach and a 100 percent risk-weight under the current US capital adequacy rules.
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Question: In the Input worksheet,
there are several asset categories under "Other assets (not subject
to a PD/LGD framework)" for which only a 100 percent risk-weighting
is available even though there may be certain types of assets that fall
into these categories that should be risk weighted by 0, 20, or 50 percent
according to current US capital adequacy guidelines. For example, under
the category "Accrued interest receivable and work in progress," Government
Securities should be 0 percent risk weighted, Federal Funds Sold and
Loans to Banks should be risk weighted at 20 percent, and accrued interest
on Mortgages should be 50 percent risk weighted. Shouldn't the spreadsheet
be revised to accommodate such entries?
Answer: In order to account for instruments that should not receive a 100 percent risk-weight, we recommend that instead of providing a gross notional number, banks provide only a risk-weighted value in the appropriate cell. For example, if total accrued interest is $100, and $20 should receive a zero percent risk weight, $20 should receive a 20 percent risk weight and the remaining $60 should receive a 100 percent risk weight, banks should enter in cell E99: (0% x $20) + (20% x $20) + (100% x $60) = $64. The remaining interest ($36) would then receive a zero percent risk-weight, which banks should include in the Cash line item (cell E93). This approach should be applied to all "Other assets" that fit this category and require a risk-weight other than zero or 100 percent.
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Question: Should mortgage servicing
rights be treated as other assets (and risk weighted at 100 percent),
as noted in section I.C. of the Advance Notice of Proposed Rulemaking?
Answer: Yes, mortgage servicing rights should be treated as other assets with a 100% risk-weight.
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Question: In the Input sheet,
the line item for "All other assets" is 100 percent risk weighted under
the current accord. However, there are certain assets in this category
that are 0 percent risk weighted (e.g., FAS 133 adjustments), as well
others with a 20 percent risk-weighting (e.g., accounts receivable from
affiliate banks). Therefore, shouldn't additional cells for the 0 percent
and 20 percent categories be added?
Answer: As above, please provide a risk-weighted amount in the line item for "All other assets" (cell E115), which will be risk weighted at 100 percent and then include the remaining assets in Cash (cell E93), which will be risk weighted at 0 percent.
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Question: Reverse repos are accounted
for as "on-balance sheet" assets (reported under item 3b on schedule
HC-Consolidated Balance Sheet of the FR Y-9C report). The Input sheet,
however, appears to populate these exposures in the counterparty exposures
section (cell E99). Won't this treatment cause a difference in reconciling
total assets (cell E142) to the FR Y-9C report?
Answer: Given the way that we have structured the breakdown of assets on the Input sheet, you are correct that reverse repos (despite these instruments being on balance-sheet assets) are included in the section for counterparty exposures and not in the section for on balance-sheet items. The rationale for this treatment is that, given the ability to net these exposures and use the "adjusted EAD" method, we wanted to keep repos, reverse repos, and other securities lending and borrowing transactions in the same section. We understand that cell E142 will not fully reflect all on-balance sheet items (e.g., reverse repos), but this number does not flow through to any other worksheets, and we are aware that the balance sheet total will not include these items.
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Question: Would it be possible
to increase the number of rows in the QIS-4 spreadsheets, so that less
aggregation will be required when reporting QIS-4 results?
Answer: No, banks should aggregate information as necessary to fit into the allotted number of rows in the spreadsheet. Having the same number of rows will greatly facilitate data aggregation and analysis by the regulatory agencies.
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Question: Has the interagency
QIS-4 project team developed an analysis of the differences in the data
requirements between QIS-3 and QIS-4?
Answer: The short answer is
no. You should note that paragraph 4 of the QIS-4 instructions highlights
some of the differences between QIS-4 and QIS-3. However, that list
omits several differences, listed below:
- Loss given default (LGD). In QIS-4, banks
are asked to provide a stress, ex-ante LGD for performing exposures
and two versions of LGD for defaulted exposures: (a) the Best Estimate
of Economic Loss (BEEL), which should reflect all partial charge-offs
and also current economic conditions and the unique circumstances involving
the specific exposure, and (b) the potential LGD (PLGD) that recognizes
the uncertainty around the BEEL. In QIS-3, banks were only asked for
a generic LGD for the portfolio. The agencies recognize that this new
request is confusing and likely to be troublesome for most banks. For
QIS-4 purposes, you should do your best in light of the information
you have and the thrust of our request.
- Lease residuals. While covered in QIS-3,
in QIS-4 the agencies ask for the exposures (in a green section) aligned
by probability of default (PD) and LGD.
- Advised lines. QIS-4 asks for advised
lines as a separate entry (also in green); they were conceptually taken
into consideration in QIS-3 along with other potential exposures arising
from commitments in deriving the exposure at default (EAD).
- Dilution risk. This is new to QIS-4.
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Question: What can our bank expect
in terms of feedback from the agencies after completion of QIS-4 and
the submission of our results?
Answer: It is expected that
the agencies will be able to address many or most of our questions (and
there may be only a few for a given institution) through phone calls,
or perhaps through a discussion with on-site supervisors. QIS-4 team
members will probably visit few institutions during the analysis phase
of the project. To a large extent, the amount of follow-up work required
will be determined by the quality and completeness of the questionnaires,
and the information already available to supervisors about an institution’s
risk management practices.
As you may know, after the review period and after
we have developed our conclusions and reported them to our principals,
we expect to hold meetings or conference calls with participants to
provide them with feedback regarding the study and how their results
compare generally with those of other participants (using averages or
aggregates). The agencies expect this process to be similar to the feedback
process in QIS-3.
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Question: Did the agencies summarize
key QIS-3 findings for US and non-US banks that took part in the QIS-3
exercise?
Answer: Please refer to the
Federal Reserve's web site (www.federalreserve.gov),
then click "banking information," "Basel II, "Regional
outreach meetings," and finally "QIS-4." The related
briefing notes do not provide much detail, but they do summarize some
of the findings and considerations regarding US participation in QIS-3.
The web site of the Basel Committee (www.bis.org)
includes a more extensive summary of the study based on worldwide data.
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