At
present, paragraphs 2.4.3 and 2.4.4 of the ‘Master Circular on Prudential Norms
on Capital Adequacy’, DBOD.No.BP.BC.4/21.01.002/2007-08 dated
July 2, 2007, stipulate the applicable credit conversion factors (CCF) for
the foreign exchange and interest-rate related contracts under Basel-I framework.
Likewise, paragraph 5.15.4 of our circular on ‘Guidelines for Implementation of
the New Capital Adequacy Framework’ DBOD.No.BP.BC.
90/20.06.0001/2006-07 dated April 27, 2007, prescribes the CCFs for these
contracts under the Basel-II framework. Further, in terms of paragraph 2.3.2 of
the ‘Master Circular on Exposure Norms’, DBOD.No.Dir.BC.11/
13.03.000/2007-08 dated July 2, 2007, the banks have the option of measuring
the credit exposure of derivative products either through the ‘Original Exposure
Method’ or ‘Current Exposure Method’.
2. In accordance
with the proposal contained in the paragraph 165 (reproduced in Annex
1) of the Annual Policy Statement for the year 2008-09, released on April
29, 2008, it is proposed to effect the following modifications to
the existing instructions on the above aspects:
2.1 Credit
Exposure – Method of computing the credit exposure
For
the purpose of exposure norms, banks shall compute their credit exposures, arising
on account of the interest rate & foreign exchange derivative transactions
and gold, using the ‘Current Exposure Method’, as detailed in Annex
2.
2.2 Capital Adequacy – Computation of the
credit equivalent amount
For the purpose of capital
adequacy also, all banks, both under Basel-I as well as under Basel-II framework,
shall use the ‘Current Exposure Method’, as detailed in Annex
2, to compute the credit equivalent amount of the interest rate &
foreign exchange derivative transactions and gold.
2.3 Provisioning
requirements for derivative exposures
Credit exposures
computed as per the ‘current exposure method’, arising on account of the interest
rate & foreign exchange derivative transactions, and gold, shall also attract
provisioning requirement as applicable to the loan assets in the ‘standard’ category,
of the concerned counterparties. All conditions applicable for treatment of the
provisions for standard assets would also apply to the aforesaid provisions for
derivative and gold exposures.
2.4 Asset Classification
of the receivables under the derivatives transactions
It
is reiterated that, in respect of derivative transactions, any amount receivable
by the bank, which remains unpaid for a period of 90 days from the specified due
date for payment, will be classified as non-performing assets as per the ‘Prudential
Norms on Income Recognition, Asset Classification and Provisioning pertaining
to the Advances Portfolio’, contained in our Master Circular DBOD.
No. BP.BC.12/ 21.04.048/2007-08 dated July 2, 2007.
2.5
Cash settlement of derivatives contracts
Any restructuring
of the derivatives contracts, including the foreign exchange contracts, shall
be carried out only on cash settlement basis.
3. The
foregoing modifications will come into effect from the financial year 2008-09.
The banks will, however, have the option of complying with the additional capital
and provisioning requirements, arising from these modifications, in a phased manner,
over a period of four quarters, ending March 31, 2009.
Annex
1
Extracts of paragraph
165 from the
Annual Policy Statement for the year 2008 - 09
b)
Off-Balance Sheet Exposures of Banks
165. The Reserve
Bank has, in the light of domestic developments, taken steps to strengthen the
prudential framework in respect of on-balance sheet exposures of banks. Such measures
included additional risk weights and provisioning requirements for exposures to
specific sectors. In view of the recent developments in the global financial markets
and drawing from suggestions for ensuring financial stability, it is proposed:
- to review current stipulations regarding conversion
factors, risk weights and provisioning requirements for specific off-balance sheet
exposures of banks and prescribe prudential requirements as appropriate. The guidelines
in this regard would be placed on the Reserve Bank's website by May 15, 2008
iv)
For contracts with multiple exchanges of principal, the add-on factors are to
be multiplied by the number of remaining payments in the contract.
v)
For contracts that are structured to settle outstanding exposure following specified
payment dates and where the terms are reset such that the market value of the
contract is zero on these specified dates, the residual maturity would be set
equal to the time until the next reset date. However, in the case of interest
rate contracts which have residual maturities of more than one year and meet the
foregoing criteria, the CCF or "add-on factor" applicable shall be subject
to a floor of 1.00 per cent.
vi) No potential future credit
exposure would be calculated for single currency floating/floating interest rate
swaps; the credit exposure on these contracts would be evaluated solely on the
basis of their mark-to- market value.
vii) Potential future
exposures should be based on effective rather than apparent notional amounts.
In the event that the stated notional amount is leveraged or enhanced by the structure
of the transaction, banks must use the effective notional amount when determining
potential future exposure. For example, a stated notional amount of USD 1 million
with payments based on an internal rate of two times the BPLR would have an effective
notional amount of USD 2 milllion. "