TMI BlogLarge Exposures FrameworkX X X X Extracts X X X X X X X X Extracts X X X X ..... ation vehicles and other structures. 3. Revised guidelines superseding the above mentioned circulars are annexed. These have come into effect from April 1, 2019 (as was already specified in our LEF circular dated December 1, 2016), except guidelines in respect of para 2(ii) above (contained in paragraphs 6.2(b), 6.7, 6.8, 6.9, and 6.10 of the Annex) and non-centrally cleared derivatives exposures, which will become applicable with effect from April 1, 2020. Yours faithfully, (Saurav Sinha) Chief General Manager-in-Charge Annex Large Exposures Framework 1. Introduction 1.1 A bank s exposures to its counterparties may result in concentration of its assets to a single counterparty or a group of connected counterparties. As a first step to address the concentration risk, the Reserve Bank, in March 1989, fixed limits on bank exposures to an individual business concern and to business concerns of a group. RBI s prudential exposure norms have evolved since then and a bank s exposure to a single borrower and a borrower group was restricted to 15 percent and 40 percent of capital fund ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s secured by financial instruments issued by the Government of India, to the extent that the eligibility criteria for recognition of the credit risk mitigation (CRM) are met in terms of paragraph 7.III of this circular; e. Intra-day interbank exposures; f. Intra-group exposures 4 ; g. Borrowers, to whom limits are authorised for food credit; h. Banks clearing activities related exposures to Qualifying Central Counterparties (QCCPs), as detailed in paragraph 10.I of this circular; i. Deposits maintained with NABARD on account of shortfall in achievement of targets for priority sector lending. 3.2 Where two (or more) entities that are outside the scope of the sovereign exemption are controlled by or are economically dependent on an entity that falls within the scope of the sovereign exemption (para 3.1 (a) and 3.1 (b)), and are otherwise not connected, those entities will not be deemed to constitute a group of connected counterparties. 3.3 However, a bank s exposure to an exempted entity which is hedged by a credit derivative shall be treated as an exposure to the counterparty providing the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... alues of a bank to a group of connected counterparties (as defined in paragraph 6 of this circular) must not be higher than 25 percent of the bank s available eligible capital base at all times. 5.3 The eligible capital base for this purpose is the effective amount of Tier 1 capital fulfilling the criteria defined in the Master Circular on Basel III Capital Regulation dated July 1, 2015 (as amended from time to time) as per the last audited balance sheet. However, the infusion of capital under Tier I after the published balance sheet date may also be taken into account for the purpose of Large Exposures Framework. Banks shall obtain an external auditor s certificate on completion of the augmentation of capital and submit the same to the Reserve Bank of India (Department of Banking Supervision) before reckoning the additions to capital funds. Further, for Indian Banks, profits accrued during the year, subject to provisions contained in para 4.2.3.1 (vii) of Master Circular on Basel III Capital Regulation dated July 01, 2015 (as amended from time to time), will also be reckoned as Tier I capital for the purpose of Large Exposures Framework 5.4 The exposu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... above in order to establish the existence of a group of connected counterparties. In assessing whether there is a control relationship between counterparties, banks must automatically consider that the control relationship criterion (paragraph 6.2(a) above) is satisfied if one entity owns more than 50 percent of the voting rights of the other entity. In addition, banks must assess connectedness between counterparties based on control using the following evidences: a. Voting agreements (e.g., control of a majority of voting rights pursuant to an agreement with other shareholders); b. Significant influence on the appointment or dismissal of an entity s administrative, management or supervisory body, such as the right to appoint or remove a majority of members in those bodies, or the fact that a majority of members have been appointed solely as a result of the exercise of an individual entity s voting rights; c. Significant influence on senior management, e.g., an entity has the power, pursuant to a contract or otherwise, to exercise a controlling influence over the management or policies of another entity (e.g., through consent rights over key d ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... unterparty; Where one counterparty has fully or partly guaranteed the exposure of the other counterparty, or is liable by other means, and the exposure is so significant that the guarantor is likely to default if a claim occurs; Where a significant part of one counterparty s production/output is sold to another counterparty, which cannot easily be replaced by other customers; When the expected source of funds to repay the loans of both counterparties is the same and neither counterparty has another independent source of income from which the loan may be serviced and fully repaid; Where it is likely that the financial problems of one counterparty would cause difficulties for the other counterparties in terms of full and timely repayment of liabilities; Where the insolvency or default of one counterparty is likely to be associated with the insolvency or default of the other(s); When two or more counterparties rely on the same source for the majority of their funding and, in the event of the common provider s default, an alternative provider cannot be found - in this case, the funding problems of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ok and instruments with counterparty credit risk. Definitions and measurements of such exposures are given in this section. 7.II Definitions of exposure values under the LE Framework 7.2 Banking book on-balance sheet non-derivative assets: The exposure value is defined as the accounting value of the exposure 6 . As an alternative, a bank may consider the exposure value gross of specific provisions and value adjustments. 7.3 Banking book and trading book OTC derivatives (and any other instrument with counterparty credit risk): The exposure value for instruments which give rise to counterparty credit risk and are not securities financing transactions, should be determined as per the extant instructions as prescribed by the Reserve Bank (on exposure at default) for the counterparty credit risk 7 . 7.4 Securities financing transactions (SFTs): Banks should use the method they currently use for calculating their risk-based capital requirements against SFTs. 7.5 Banking book traditional off-balance sheet commitments: For the purpose of the LEF, off-balance sheet items will be converted into credit exposure equivalents ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sure 7.12. Under the LEF, a bank may reduce the value of the exposure to the original counterparty by the amount of the eligible CRM technique (except for cases mentioned in paragraph 7.14 below) recognised for risk-based capital requirements purposes. This recognised amount is: the value of the protected portion in the case of unfunded credit protection; the value of the collateral as recognized in calculation of the counterparty credit risk exposure value for any instruments with counterparty credit risk, such as OTC derivatives; the value of the collateral adjusted after applying the required haircuts, in the case of financial collateral. The haircuts used to reduce the collateral amount are the supervisory haircuts under the comprehensive approach 11 as specified under risk based capital requirements. 7.V Recognition of exposures to CRM providers 7.13 Where a bank reduces its exposure to the original counterparty on account of an eligible CRM instrument provided by another counterparty (CRM provider) with respect to that exposure, it must also recognise an exposure to the CRM provider. T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ore, a bank s exposures to financial instruments issued by counterparties not exempted under this Framework will be governed by the LE limit, but concentrations in a particular commodity or currency will not be. 7.16 The exposure value of straight debt instruments and equities will be equal to the market value of the exposure 12 . 7.17 Instruments such as swaps, futures, forwards and credit derivatives 13 must be converted into positions following the risk-based capital requirements 14 . These instruments should be decomposed into their individual legs. Only transaction legs representing a bank s exposures to the counterparty within the scope of the large exposures framework should be considered 15 for calculating a bank s total exposure to that counterparty. 7.18 In the case of credit derivatives that represent sold protection, the exposure will be to the referenced name, and it will be the amount due in case the respective referenced name triggers the instrument, minus the absolute value of the credit protection 16 . For credit-linked notes (CLNs) 17 , the protection seller bank will be required to consider its positions both i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 7.24 In order to determine the relative seniority of positions, securities may be allocated into broad buckets of degrees of seniority (for example, Equity , Subordinated Debt and Senior Debt ). 7.25 The banks that find it excessively burdensome to allocate securities to different buckets based on relative seniority, should not recognise offsetting of long and short positions in different issues relating to the same counterparty in calculating exposures. 7.26 Offsetting short positions in the trading book against long positions in the banking book: Netting across the banking and trading books is not permitted. 7.27 Net short positions after offsetting: When the result of the offsetting is a net short position with a single counterparty, this net exposure need not be considered as an exposure for the purpose of LEF. 8. Treatment of specific exposure types 8.1 This section covers exposures for which a specific treatment is deemed necessary. Interbank Exposures 8.2 The interbank exposures, except intra-day interbank exposures, will be subject to the large exposure limit of 25% of a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... b) Otherwise (i.e. if the exposure to the structure equals or exceeds 0.25 per cent of its eligible capital base), it must assign this total exposure amount to the unknown client . The large exposure limit will apply on the aggregate of all such exposures to unknown clients as if they are a single counterparty. 8.7 Where the LTA is not required (para 8.4 above), a bank must nevertheless be able to demonstrate that regulatory arbitrage considerations have not influenced the decision whether to look through or not e.g. that the bank has not circumvented the large exposure limit by investing in several individually immaterial transactions with identical underlying assets. 8.8 If LTA need not be applied, a bank s exposure to the structure must be the nominal amount it invests in the structure. 8.9 Any structure where all investors rank pari passu (e.g., CIU) - When the LTA is required according to the paragraphs above, the exposure value assigned to a counterparty is equal to the pro rata share that the bank holds in the structure multiplied by the value of the underlying asset in the structure. Thus, a bank holding a ₹1 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eporting requirements as defined in paragraph 4.2. 10.2 The definition of QCCP for the purpose of this Framework is the same as that used for risk-based capital requirement purposes. A QCCP is an entity that is licensed to operate as a CCP (including a license granted by way of confirming an exemption), and is permitted by the appropriate regulator/overseer to operate as such with respect to the products offered. This is subject to the provision that the CCP is based and prudentially supervised in a jurisdiction where the relevant regulator/overseer has established, and publicly indicated that it applies to the CCP on an ongoing basis, domestic rules and regulations that are consistent with the CPSS-IOSCO Principles for Financial Market Infrastructures. 10.3 In the case of non-QCCPs, banks must measure their exposure as a sum of both the clearing exposures described in paragraph 10.5 and the non-clearing exposures described in paragraph 10.7, and the same will be subject to the LE limit of 25 percent of the eligible capital base. 10.4 The concept of connected counterparties described in paragraph 6 does not apply in the context of exposures to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ve exposure limits are subject to all other instructions in relation to banks exposures to NBFCs. 23 10.III Large exposures rules for global systemically important banks (G-SIBs) and domestic systemically important banks (D-SIBs) 10.10 The LE limit applied to a G-SIB s exposure to another G-SIB is set at 15 percent of the eligible capital base. 10.11 The LE limit of a non G-SIB in India to a G-SIB in India or overseas will be 20 percent of the eligible capital base. 10.12 For above paragraphs, the limit applies to G-SIBs as identified by the Basel Committee and published annually by the FSB. When a bank becomes a G-SIB, it must apply the 15 percent exposure limit to another G-SIB within 12 months from the date of becoming G-SIB, which is the same time frame within which a bank that has become a G-SIB would need to satisfy its higher loss absorbency capital requirement. Similarly, when a counterparty bank becomes G-SIB, banks may apply limits as indicated in para 10.10 or 10.11, as applicable, within 12 months from the date of counterparty bank becoming G-SIB. For the purpose of computing exposure limits under LEF, Indian branc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing overseas operations through branches), which should measure the exposures to a counterparty based on its standalone capital strength and risk profile 3 The exemptions available under the Master Circular on Exposure Norms not listed herein will cease to exist under the LE Framework. 4 Intra-group exposures will continue to be governed by the circular dated February 11, 2014 on Guidelines on Management of Intra-Group Transactions and Exposures . 5 Banks are required to assess connectedness based on economic interdependence from April 01, 2020. 6 Net of specific provisions and value adjustments. 7 Refer to Master Circular Basel III Capital Regulation, as amended from time to time 8 Unfunded credit protection refers collectively to credit derivatives and guarantees the treatment of which is described in paragraphs 5.17 7.5 respectively (The standardised approach credit risk mitigation) of the Master Circular Basel III Capital Regulations dated July 1, 2015 9 Refer to the Master Circular on Basel III Capital Regulations 10 Paragraph 7.4 of the Master Circular on Basel III Capital Regulation. 11 ..... 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