Large exposures - frequently asked questions
Updated: 18 December 2019
These FAQs are for clarification purposes only and are not legal advice. APRA encourages you to obtain professional advice about the application of any legislation or prudential standard to your particular circumstances. You should also exercise skill and care when relying on any material contained in these FAQs. APRA disclaims any liability for any loss or damage arising out of any use of or reliance on these FAQs. The FAQs may include links to external websites that are beyond APRA’s control. APRA accepts no responsibility for the accuracy, completeness or currency of any externally linked or referenced material in these FAQs.
Note: the numbering of these questions is fixed and will not change as new questions are added.
These frequently asked questions (FAQs) provide information to assist regulated entities to interpret Prudential Standard APS 221 Large Exposures and Reporting Standard ARS 221.0 Large Exposures.
They do not provide an exhaustive list of examples and regulated entities are encouraged to contact APRA where they have questions regarding the interpretation of the relevant prudential standards.
1. Structured vehicle requirements
1.1 How are exposures to a structured vehicle and its underlying assets measured?
- APS 221 paragraphs 15, 18, 32
- APS 221 Attachment A paragraphs 22 to 26
Exposures to a structured vehicle must be measured on a basis that is consistent with exposures to any other counterparty, unless otherwise required by APS 221. Under paragraph 32 of APS 221, in measuring large exposures an ADI must include all on-balance sheet exposures and off-balance sheet exposures in both the banking book and trading book and instruments that would give rise to counterparty credit risk, in this case in relation to a structured vehicle.
A large exposure is calculated net of those exposures excluded under paragraph 18 of APS 221. Where an exposure to a structured vehicle satisfies the criteria of paragraph 18 of APS 221 and is therefore excluded, it is then also excluded from the requirements relating to look-through in paragraphs 22 to 26 of Attachment A of APS 221.
For the purposes of applying the look-through requirements, it is intended that ADIs look through to the underlying assets that the structured vehicle holds as part of its pool of investments. An ADI’s potential future claims on investor commitments (e.g. through subscription credit facilities) are not considered to be assets of the structured vehicle and hence these are not included as exposures that an ADI has for the purposes of looking through structured vehicles.
Exposures to underlying assets of the structured vehicle are to be measured according to paragraphs 25 and 26 of Attachment A of APS 221. Worked examples A and B, which can be found below, can be followed to determine the exposure to the underlying assets of a structured vehicle.
1.2 Does the threshold of 0.25 per cent of an ADI’s Tier 1 Capital, in paragraphs 23 and 24 of Attachment A of APS 221, apply after completing the calculations in paragraphs 25 or 26 of Attachment A of APS 221?
- APS 221 Attachment A, paragraphs 23 to 26
Paragraph 23 of Attachment A of APS 221, outlines that an ADI is not required to assign an exposure to an underlying asset of a structured vehicle if the exposure to an underlying asset is less than 0.25 per cent of the ADI’s Tier 1 Capital. Paragraphs 25 and 26 outline how exposure values to underlying assets of a structured vehicle are calculated.
To apply the test included in paragraph 23, the exposure values first need to be calculated in accordance with paragraphs 25 and 26. Hence the calculations in paragraphs 25 and 26 need to be completed first.
1.3 When an ADI has an exposure to a structured vehicle that is subject to the look-through requirements for the purposes of measuring and reporting exposures, how often is the ADI expected to receive updated information on the structured vehicle’s asset composition?
- APS 221 Attachment A, paragraphs 24 to 26
An ADI will use information provided by a structured vehicle to measure exposures to underlying assets of a structured vehicle, in accordance with paragraphs 24 to 26 of Attachment A of APS 221.
APRA expects that an ADI will receive information about the composition of a structured vehicle’s underlying assets on a frequency that reflects the volatility of the structured vehicle’s composition. For structured vehicles with very stable asset compositions, less frequent (for example annual) reporting may be acceptable. Where the underlying composition is volatile, the ADI should receive reporting on a frequency which will limit the risk that reported values become unreliable. This may also mean that an ADI will need to request additional reporting when markets or market indicators that impact the value of a structured vehicle’s assets are also experiencing volatility.
1.4 Paragraph 24(b) of Attachment A of APS 221 outlines the treatment of assets of a structured vehicle that cannot be identified. What does it mean for an ADI to have an exposure to an underlying asset that ‘cannot be identified’?
- APS 221 Attachment A, paragraph 24(b)
Paragraph 24 of Attachment A of APS 221 requires that where an ADI has an exposure to an underlying asset that cannot be identified and the exposure value is greater than or equal to 0.25 per cent of the ADI’s Tier 1 Capital, the ADI must assign the exposure value to an unknown counterparty which is treated as a distinct counterparty to the ADI.
An underlying asset that ‘cannot be identified’ is one where the ADI has an exposure to an underlying asset but the legal name of the counterparty of the asset cannot be identified (e.g. due to the reporting limitations of the structured vehicle).
Additionally, APRA considers that it would be reasonable for an ADI to treat an underlying asset as one that ‘cannot be identified’ where the ADI does not have a direct exposure to the counterparty of the asset, and the ADI’s only exposure to the counterparty arises from the application of the look-through requirements in paragraphs 22 to 26 of Attachment A of APS 221. In this case, it is not expected that an ADI establish a counterparty in its systems for the purposes of recording a look-through exposure. In this circumstance, the ADI would treat its exposure to the counterparty as an unknown counterparty exposure in accordance with paragraph 24(b) of Attachment A of APS 221.
1.5 How do the look-through requirements apply to a structured vehicle which holds assets such as investments in other structured vehicles?
- APS 221 Attachment A, paragraphs 22 to 26
The look-through requirements should generally be applied using a single level look-through (i.e. an ADI will look through its exposure to a structured vehicle and recognise its exposure to the underlying assets held directly by the structured vehicle).
In some circumstances, however, to align with the intent of the look-through requirements it may be appropriate to look through a second level of the structure in order to appropriately identify the underlying risk. This could occur for example if the asset that had been identified when looking-through a structured vehicle was an investment in another structured vehicle. In that case, if the size of the exposure were material, it would be appropriate for the ADI to apply look-through at the next level down as well.
Worked Example A
This worked example outlines the calculation methodology for an ADI’s exposure to a structured vehicle with a single tranche structure, per paragraph 25 of Attachment A of APS 221.
The amounts listed under (1) are the nominal value of each underlying asset in the structure.
The ADI has a $15 exposure to the vehicle, meaning the ADI holds a 15 per cent share of the securities in the vehicle.
The ADI’s exposure to each underlying asset for the purposes of measuring large exposures is calculated as the nominal value of the underlying asset (1) divided by the total value of the vehicle multiplied by the value of the ADI’s exposure to the vehicle. In the case of Asset 1, that is:
$30 / $100 x $15 = $4.50, which is the answer provided in (3).
(2) ADI holds: $ 15.00
Worked Example B
This worked example outlines the calculation methodology for an ADI’s exposure to a structured vehicle with a multiple tranche structure, per paragraph 26 of Attachment A of APS 221.
- The amounts listed under (1a) are the nominal value of each underlying asset in the structure. The amounts listed under (1b) are the nominal value of each tranche and the amount of that tranche that the ADI has an exposure to.
- As per paragraph 26(a) of Attachment A, identify the lower of the value of the tranche and the nominal value of each underlying asset. In this example:
- For Tranche A and Asset 1, the lower of $80 and $30, which is $30.
- For Tranche A and Asset 6, the lower of $80 and $2, which is $2.
- As per paragraph 26(b) of Attachment A, apply the pro rata share of the ADI’s exposure in the tranche to the value determined in paragraph 26(a) (step 2 in this example). In this example:
- For Tranche A and Asset 1, $30 x $6 / $80 = $2.25.
- For Tranche A and Asset 6, $2 x $6 / $80 = $0.15.
- As per paragraph 26 of Attachment A, the ADI’s exposure to each asset is then calculated as the sum of its exposures to the asset as calculated in step 3, capped at the total nominal value of the underlying asset. In the case of Asset 6:
- The lower of $2 and $2.06 (where $2.06 is equal to the sum of $0.15, $0.77 and $1.14), which is $2.
2. Trading book and settlement exposures
2.1 When a bank has sold protection through a credit derivative to a counterparty and the derivative has a positive market value, is there a need, beyond recognising the exposure at default calculated under APS 180, to add a further exposure to the protection buyer?
- Footnote 11 in Attachment A of APS 221
Consistent with paragraph 1(b) of Attachment A of APS 221, the exposure to the protection buyer is measured as the exposure at default (EAD). There is no further exposure to be added if the credit derivative has a positive mark to market (MTM) as this positive MTM is already accounted for in the EAD exposure measurement.
2.2 When, after the delivery due date, does the settlement of a market-related contract become an exposure for the purposes of measuring an exposure under APS 221?
- Paragraph 18(g) of APS 221
Under paragraph 18(g) of APS 221, a large exposure excludes exposures arising in the course of settlement of market-related contracts unless the transaction remains unsettled after its delivery due date in which case the exposure value is the positive current exposure amount.
The settlement of a market-related contract becomes an exposure under APS 221 after the delivery due date, allowing for time zone differences.
2.3 What settlement exposures should be reported under section C of ARF 221.0?
- Section C of ARF 221.0 and paragraph 18(g) of APS 221
Section C of ARF 221.0 requires an ADI to report settlement exposures exceeding or equal to 10 per cent of Tier 1 Capital. Settlement exposures are defined in paragraph 18(g) of APS 221 as those exposures arising from the settlement of market-related contracts which are excluded from large exposures. ARF 221.0 instructions require these settlement exposures to be reported as at the end of the reporting period.
Settlement exposures on non-delivery-versus-payment (non-DVP) transactions will be the positive current exposure amount (i.e. the notional amount on the derivative) on the reporting date. As both legs of a DVP transaction are settled simultaneously, there is no exposure to be reported under section C of ARF 221.0.
Note: These FAQs are published for information purposes only. The content of these FAQs is not legal advice. Users are encouraged to obtain professional advice about the application of any legislation or prudential standard to their particular circumstances.
Users should exercise their own skill and care when relying on any material contained in the FAQs. APRA disclaims any liability for any loss or damage arising out of any use of or reliance on these FAQs.
3. Collateral exposures
3.1 How are ADIs expected to treat collateral exposures that are subject to general eligibility criteria such that the ADI does not have day-to-day discretion to decline the acceptance of collateral meeting the eligibility criteria?
- Paragraphs 12(a)(i), 15, 16, 30, 34, 35, 37 and 38 of APS 221
Under paragraph 12(a)(i) of APS 221 an ADI must have policies on large exposures and risk concentrations that cover exposure limits for various types of counterparties including credit risk mitigation providers. An ADI may have collateral exposures that are subject to general eligibility criteria where they do not have day-to-day discretion to decline the acceptance of collateral meeting the eligibility criteria (e.g. arising from a Credit Support Annex which specifies a list of eligible collateral and the counterparty (which is not the ADI) has the choice to deliver any collateral that meets this eligibility criteria).
APRA expects ADIs to monitor all of their collateral exposures including those that are subject to general eligibility criteria. However, APRA recognises that while an ADI can broadly influence the types of collateral that it will be exposed to at the time agreements affecting collateral are negotiated, it does not have day-to-day discretion to decline the acceptance of collateral meeting the eligibility criteria once agreed. ADIs are expected to appropriately recognise this distinction in their internal risk management policies and limit framework.
ADIs are expected to measure the collateral exposure based on current collateral balances. In recognition that the ADI does not have day-to-day discretion to decline the acceptance of collateral, changes in exposure arising from collateral subject to general eligibility criteria are not considered to fall under the scope of an ADI committing to a proposed large exposure for the purpose of prior notification requirements (see paragraphs 34 and 35 of APS 221). The large exposure limits in APS 221 continue to apply, as do the notification requirements in paragraphs 37 and 38 of APS 221.
3.2 How should an exposure to the issuer of collateral be recognised in cases where the underlying exposure and collateral is captured under the Standardised Approach to Counterparty Credit Risk (SA-CCR)?
- Paragraphs 4 and 5 of Attachment A to APS 221
Paragraph 5 of Attachment A to APS 221 requires the recognition of an exposure to the Credit Risk Mitigation (CRM) provider. The exposure amount to be recognised in paragraph 5 should be equal to the amount referred to in paragraph 4(c) of Attachment A to APS 221 that is, the value of the collateral recognised in the calculation of the counterparty credit risk exposure value. In other words, the exposure to the issuer of collateral should be equal to the value of the collateral net of haircuts and not the difference between the SA-CCR Exposure at Default (EAD) amount calculated without the collateral and with the collateral.
4. Treatment of government and government-related exposures
4.1 How are ADIs expected to recognise government exposures and what limits apply to government exposures?
- Paragraphs 12, 18(c), 18(d), 18(e), 25, and 30 of APS 221.
An ADI may have an exposure to any level of government e.g. local government, state or territory government or federal government, or government-related entity. APS 221 refers to governments in relation to a number of areas: policies on large exposures and risk concentrations (paragraph 12 of APS 221); exclusions from being a large exposure (paragraph 18 of APS 221); connecting counterparties involving governments or government-related entities (paragraph 25 of APS 221); and large exposure limits (paragraph 30 of APS 221).
Under paragraph 12 of APS 221 an ADI must have policies on large exposures and risk concentrations which cover, among other aspects, exposure limits for governments and government-related entities that are commensurate with the ADI’s risk appetite, risk profile, capital and balance sheet size. APRA expects an ADI to consider exposure limits and how they may apply to all levels of governments in these policies.
Paragraphs 18(c), (d) and (e) of APS 221 provides exclusions for certain government exposures. This applies for exposures to all levels of government, including a local, state, territory or federal government, which satisfy the exclusion criteria set out in paragraph 18 of APS 221.
Paragraph 25 of APS 221 provides that a government-related entity is not required to be treated as a connected counterparty with its related government or other government-related entities that are related to the same government. This applies for all levels of government, including a local, state, territory, or federal government.
Paragraph 30 of APS 221 prescribes large exposure limits for the aggregate large exposures of an ADI to a counterparty or a group of connected counterparties. Under paragraph 30(a) of APS 221 an ADI would determine whether the government associated with an exposure receives a zero per cent risk-weight in accordance with Attachment A of Prudential Standard APS 112 Capital Adequacy: Standardised Approach to Credit Risk (APS 112) and, if it does, apply the 50 per cent of Tier 1 Capital limit. If the government does not receive a zero per cent risk-weight then the 25 per cent of Tier 1 Capital limit applies. As set out in footnote 4 of APS 221, these limits apply to exposures guaranteed by, or secured against securities issued by, foreign governments or central banks that receive a zero per cent risk weight under Attachment A of APS 112, provided the criteria for recognition of the credit risk mitigation in paragraphs 2 to 3 of Attachment A are met. All other government-related entities are subject to the 25 per cent of Tier 1 Capital limit.
4.2 How are ADIs expected to treat exposures to counterparties whose exposures are considered to be high-quality liquid assets in foreign jurisdictions?
- Paragraph 18(d) of APS 221.
Under paragraph 18(d) of APS 221, any exposures to governments or central banks that are held as high-quality liquid assets (HQLA) under Attachment A to Prudential Standard APS 210 Liquidity (APS 210) can be excluded from large exposures. ADIs must ensure that the exposures meet the operational requirements in paragraphs 22 to 29 of Attachment A to APS 210. This applies to exposures considered to be HQLA using the Reserve Bank of New Zealand’s BS13A Liquidity Policy Annex: Liquid Assets.
4.3 How are ADIs expected to treat government securities that have been held as high-quality liquid assets and that are now subject to a repurchase agreement under the large exposures framework?
- Paragraph 18(d) of APS 221.
Under paragraph 18(d) of APS 221, any exposures to governments or central banks that are held as HQLA under Attachment A to APS 210 can be excluded from large exposures. Government securities that have been held as HQLA and that are now subject to a repurchase agreement remain eligible for exclusion from the definition of large exposures under paragraph 18(d) of APS 221 for the duration of the repurchase agreement.
5. Connected counterparties
5.1 If the definition of control is satisfied in the Australian Accounting Standards, does this mean a control relationship exists under APS 221?
- Paragraphs 22 and 23 of APS 221.
A control relationship exists between two counterparties if the criteria in paragraph 22 of APS 221 are satisfied or an ADI assesses that a control relationship exists. As part of determining whether such a control relationship exists, paragraph 23 of APS 221 requires ADIs to refer to the criteria in relevant Australian Accounting Standards.
APRA expects that, in most circumstances, the determination when considering control under the Australian Accounting Standards and APS 221 would align. In exceptional circumstances an ADI may determine that while a control relationship exists under Australian Accounting Standards there is no control relationship under APS 221. Where such a determination is made, an ADI should be prepared to justify why that decision was made.
5.2 What are the grouping requirements for government-related entities for the period between the commencement of the new standard (1 January 2019) and the commencement of the connected counterparties requirements (1 January 2020)?
- Paragraphs 20 to 29 of, and Attachment B to, APS 221 (January 2019).
Paragraph 20 of APS 221 (January 2019) allows ADIs to have a transition period until 1 January 2020 to group connected counterparties in accordance with paragraphs 21 to 29 of APS 221 (January 2019). From 1 January 2019 to 31 December 2019 a group of connected counterparties means a group of related counterparties in Attachment B of APS 221 (January 2019). The intention of the transition period is to allow ADIs to continue with the current treatment of grouping for government-related entities before the commencement of the new requirements in paragraphs 21 to 29 of APS 221 (January 2019). If an ADI has any concerns, they should contact their APRA supervisor.
5.3 Can a pragmatic approach to assessing economic interdependence relationships for non-retail counterparties be taken?
- Paragraphs 16, 24 and 30 of APS 221.
Under paragraph 24 of APS 221, when an ADI’s exposure to a non-retail counterparty exceeds five per cent of its Tier 1 Capital, it must identify all non-retail counterparties linked by an economic interdependence relationship to that counterparty. When ADIs are considering counterparties for assessment, APRA recognises that ADIs may take pragmatic approaches, such as adopting thresholds based on a percentage of Tier 1 Capital, below which the assessment is proportionate to the counterparty’s capacity to contribute additional risk.
ADIs must remain within large exposure limits in paragraph 30 of APS 221 even where they adopt some form of pragmatic approach to adhering to paragraph 24 of APS 221. If an ADI’s exposures to a counterparty or group of connected counterparties approaches the level quantified in the definition of a large exposure under paragraph 16 of APS 221 or the applicable large exposure limits, the ADI will need to extend its assessments as necessary.
6. Reporting of large exposures
6.1 Can a generic connection type of “group of related counterparties” be reported under Reporting Standard ARS 221.0 Large Exposures to denote the connection type for counterparty grouping from 1 January 2019 to 31 December 2019?
- Attachment B to APS 221 (January 2019) and ARS 221.0 (January 2019).
ARS 221.0 (January 2019) states that from 1 January 2019 until 31 December 2019 a connection can be any of the following (in line with paragraph 2 of Attachment B of APS 221 (January 2019)):
- cross guarantees;
- common ownership or management;
- financial interdependency; or
- other connections or relationships.
ADIs can report connections using the generic connection type of “group of related counterparties” in their submission of Reporting Form ARF 221.0 Large Exposures or Reporting Form ARF 221.1 Large Exposures – Foreign ADI during the transition period.
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