§ 1240.39 - Collateralized transactions.

§ 1240.39 Collateralized transactions.

Cross Reference

Link to an amendment published at 88 FR 83481, Nov. 30, 2023.

of

(a) General.

(1) To An Enterprise may use the following methodologies to recognize the risk-mitigating effects benefits of financial collateral (other than with respect to a retained CRT exposure) , an Enterprise may use:

(i) The simple approach in paragraph (b) of this section for any exposure; or

(ii) The collateral haircut approach in paragraph (c) of this section for

in mitigating the counterparty credit risk of repo-style transactions, eligible margin loans, collateralized OTC derivative contracts

,

and single

-

product netting sets of such transactions

.

:

(

2) An Enterprise may use any approach described in this section that is valid for a particular type of exposure or transaction; however, it must use the same approach for similar exposures or transactions.

(b) The simple approach —

(1) General requirements.

(i) An Enterprise may recognize the credit risk mitigation benefits of financial collateral that secures any exposure (other than a retained CRT exposure).

(ii) To qualify for the simple approach, the financial collateral must meet the following requirements:

(A) The collateral must be subject to a collateral agreement for at least the life of the exposure;

(B) The collateral must be revalued at least every six months; and

(C) The collateral (other than gold) and the exposure must be denominated in the same currency.

(2) Risk weight substitution.

(i) An Enterprise may apply a risk weight to the portion of an exposure that is secured by the fair value of financial collateral (that meets the requirements

i) The collateral haircut approach set forth in paragraph (b)(

1

2) of this section

) based on the risk weight assigned to the collateral under this subpart D. For repurchase agreements, reverse repurchase agreements, and securities lending and borrowing transactions, the collateral is the instruments, gold, and cash the Enterprise has borrowed, purchased subject to resale, or taken as collateral from the counterparty under the transaction. Except as provided

; and

(ii) For single product netting sets of repo-style transactions and eligible margin loans, the simple VaR methodology set forth in paragraph (b)(3) of this section

, the risk weight assigned to the collateralized portion of the exposure may not be less than 20 percent

.

(

ii) An Enterprise must apply a risk weight to the unsecured portion of the exposure based on the risk weight applicable to the exposure under this subpart. (3) Exceptions to the 20 percent risk-weight floor and other requirements. Notwithstanding paragraph (b)(

2)

(i) of this section:

(i) An Enterprise may assign a zero percent risk weight to an exposure to an OTC derivative contract that is marked-to-market on a daily basis and subject to a daily margin maintenance requirement, to the extent the contract is collateralized by cash on deposit.

(ii) An Enterprise may assign a 10 percent risk weight to an exposure to an OTC derivative contract that is marked-to-market daily and subject to a daily margin maintenance requirement, to the extent that the contract is collateralized by an exposure to a sovereign that qualifies for a zero percent risk weight under § 1240.32.

(iii) An Enterprise may assign a zero percent risk weight to the collateralized portion of an exposure where:

(A) The financial collateral is cash on deposit; or

(B) The financial collateral is an exposure to a sovereign that qualifies for a zero percent risk weight under § 1240.32, and the Enterprise has discounted the fair value of the collateral by 20 percent.

(c) Collateral haircut approach

An Enterprise may use any combination of the two methodologies for collateral recognition; however, it must use the same methodology for similar exposures or transactions.

(b) EAD for eligible margin loans and repo-style transactions —

(1) General. An Enterprise may recognize the credit risk mitigation benefits of financial collateral that secures an eligible margin loan, repo-style transaction,

collateralized derivative contract,

or single-product netting set of such transactions

,

by

using the

determining the EAD of the exposure using:

(i) The collateral haircut approach

in this section. An Enterprise may use the standard supervisory haircuts in

described in paragraph (

c

b)(

3paragraph (c)(4

2) of this section; or

, with prior written notice to FHFA, its own estimates of haircuts according to

(ii) For netting sets only, the simple VaR methodology described in paragraph (b)(3) of this section.

(2)

Exposure amount

Collateral haircut approach —

(i) EAD equation. An Enterprise

must

may determine

the exposure amount

EAD for an eligible margin loan, repo-style transaction,

collateralized derivative contract,

or

a single-product

netting set

of such transactions

by setting

the exposure amount

EAD equal to

max{0, [(

ΣE − ΣC

ΣE−ΣC) + Σ(

Es

E_s ×

Hs

H_s) + Σ(

Efx

E_fx ×

Hfx

H_fx)]},

where

Where:

(

i)(

A)

For eligible margin loans and repo-style transactions and netting sets thereof,

ΣE equals the value of the exposure (the sum of the current fair values of all instruments, gold, and cash the Enterprise has lent, sold subject to repurchase, or posted as collateral to the counterparty under the transaction (or netting set));

and

(B)

For collateralized derivative contracts and netting sets thereof, ΣE equals the exposure amount of the OTC derivative contract (or netting set) calculated under § 1240.36(b)(1) or (2). (ii)

ΣC equals the value of the collateral (the sum of the current fair values of all instruments, gold, and cash the Enterprise has borrowed, purchased subject to resale, or taken as collateral from the counterparty under the transaction (or netting set));

(

iii

C)

Es

E_s equals the absolute value of the net position in a given instrument or in gold (where the net position in

the

a given instrument or in gold equals the sum of the current fair values of the instrument or gold the Enterprise has lent, sold subject to repurchase, or posted as collateral to the counterparty minus the sum of the current fair values of that same instrument or gold the Enterprise has borrowed, purchased subject to resale, or taken as collateral from the counterparty);

(

iv

D)

Hs

H_s equals the market price volatility haircut appropriate to the instrument or gold referenced in

Es

E_s;

(

v

E)

Efx

E_fx equals the absolute value of the net position of instruments and cash in a currency that is different from the settlement currency (where the net position in a given currency equals the sum of the current fair values of any instruments or cash in the currency the Enterprise has lent, sold subject to repurchase, or posted as collateral to the counterparty minus the sum of the current fair values of any instruments or cash in the currency the Enterprise has borrowed, purchased subject to resale, or taken as collateral from the counterparty); and

(

vi

F)

Hfx

H_fx equals the haircut appropriate to the mismatch between the currency referenced in Efx and the settlement currency.

(

3

ii)Standard supervisory haircuts.

(i

Under the standard supervisory haircuts approach:

(A) An Enterprise must use the haircuts for market price volatility (

Hs

H_s)

provided

in table 1 to

this

paragraph (

c

b)(

3

2)(

i

ii)

,

(A) as adjusted in certain circumstances as provided in

accordance with the requirements of

paragraphs (

c

b)(

3

2)(

iii

ii)(C) and (

iv

D) of this section

. (ii)

;

Table 1 to Paragraph (b)(2)(ii)(A)—Standard Supervisory Market Price Volatility Haircuts¹

Residual maturity	Haircut (in percent) assigned based on:						Investment grade securitization exposures (in percent)
	Sovereign issuers risk weight under § 1240.322 (in percent)			Non-sovereign issuers risk weight under § 1240.32 (in percent)
	Zero	20 or 50	100	20	50	100
Less than or equal to 1 year	0.5	1.0	15.0	1.0	2.0	4.0	4.0
Greater than 1 year and less than or equal to 5 years	2.0	3.0	15.0	4.0	6.0	8.0	12.0
Greater than 5 years	4.0	6.0	15.0	8.0	12.0	16.0	24.0
Main index equities (including convertible bonds) and gold				15.0
Other publicly traded equities (including convertible bonds)				25.0
Mutual funds				Highest haircut applicable to any security in which the fund can invest.
Cash collateral held				Zero.
Other exposure types				25.0

¹ The market price volatility haircuts in table 1 are based on a 10 business-day holding period.

² Includes a foreign PSE that receives a zero percent risk weight.

(B) For currency mismatches, an Enterprise must use a haircut for foreign exchange rate volatility (

Hfx

H_fx) of 8

.0

percent, as adjusted in certain circumstances

under

as provided in paragraphs (

c

b)(

3

2)(

iii

ii)(C) and (

iv

D) of this section.

(

iii

C) For repo-style transactions and client-facing derivative transactions, an Enterprise may multiply the

standard

supervisory haircuts provided in paragraphs (

c

b)(

3

2)(

i

ii)(A) and (

ii

B) of this section by the square root of 1⁄2 (which equals 0.707107).

For

If the Enterprise determines that a longer holding period is appropriate for client-facing derivative transactions,

if

then it must use a larger scaling factor

is applied under § 1240.36(f), the same factor must be used to adjust the supervisory haircuts. (iv)

to adjust for the longer holding period pursuant to paragraph (b)(2)(ii)(F) of this section.

(D) An Enterprise must adjust the supervisory haircuts upward on the basis of a holding period longer than ten business days (for eligible margin loans) or five business days (for repo-style transactions), using the formula provided in paragraph (b)(2)(ii)(F) of this section where the conditions in this paragraph (b)(2)(ii)(D) apply. If the number of trades in a netting set exceeds 5,000 at any time during a quarter, an Enterprise must adjust the supervisory haircuts

provided in paragraphs (c)(3)(i) and (ii) of this section

upward on the basis of a minimum holding period of twenty business days for the following quarter

except in the calculation of the exposure amount for purposes of

(except when an Enterprise is calculating EAD for a cleared transaction under § 1240.37). If a netting set contains one or more trades involving illiquid collateral

or an OTC derivative that cannot be easily replaced

, an Enterprise must adjust the supervisory haircuts upward on the basis of a minimum holding period of twenty business days. If over the two previous quarters more than two margin disputes on a netting set have occurred that lasted

more (A

longer than the holding period, then the Enterprise must adjust the supervisory haircuts upward for that netting set on the basis of a minimum holding period that is at least two times the minimum holding period for that netting set.

(E)

(1) An Enterprise must adjust the supervisory haircuts upward on the basis of a holding period longer than ten business days for collateral associated with derivative contracts (five business days for client-facing derivative contracts) using the formula provided in paragraph (b)(2)(ii)(F) of this section where the conditions in this paragraph (b)(2)(ii)(E)(1) apply. For collateral associated with a derivative contract that is within a netting set that is composed of more than 5,000 derivative contracts that are not cleared transactions, an Enterprise must use a minimum holding period of twenty business days. If a netting set contains one or more trades involving illiquid collateral or a derivative contract that cannot be easily replaced, an Enterprise must use a minimum holding period of twenty business days.

(2) Notwithstanding paragraph (b)(2)(ii)(A) or (C) or (b)(2)(ii)(E)(1) of this section, for collateral associated with a derivative contract in a netting set under which more than two margin disputes that lasted longer than the holding period occurred during the two previous quarters, the minimum holding period is twice the amount provided under paragraph (b)(2)(ii)(A) or (C) or (b)(2)(ii)(E)(1).

(F) An Enterprise must adjust the standard supervisory haircuts upward, pursuant to the adjustments provided in paragraphs (b)(2)(ii)(C) through (E) of this section, using the following formula:

where

Where:

(1) T_M equals a holding period of longer than 10 business days for eligible margin loans and derivative contracts other than client-facing derivative transactions or longer than 5 business days for repo-style transactions and client-facing derivative transactions;

(B)

H

_S

_s equals the standard supervisory haircut; and

(

C

2) T

_S

_s equals 10 business days for eligible margin loans and derivative contracts other than client-facing derivative transactions or 5 business days for repo-style transactions and client-facing derivative transactions.

(

v

G) If the instrument an Enterprise has lent, sold subject to repurchase, or posted as collateral does not meet the definition of

“financial

financial collateral,

”

the Enterprise must use a 25.0 percent haircut for market price volatility (

Hs

H_s).

(

4

iii) Own internal estimates for haircuts. With the prior written notice to FHFA, an Enterprise may calculate haircuts (

Hs

H_s and

Hfx

H_fx) using its own internal estimates of the volatilities of market prices and foreign exchange rates

:

.

(

i

A) To use its own internal estimates, an Enterprise must satisfy the following minimum quantitative standards:

(

A

1) An Enterprise must use a 99th percentile one-tailed confidence interval.

(

B

2) The minimum holding period for a repo-style transaction

and client-facing derivative transaction

is five business days and for an eligible margin loan

and a derivative contract other than a client-facing derivative transaction

is ten business days except for transactions or netting sets for which paragraph (

c

b)(

4

2)(

i

iii)(

C(1

A)(3) of this section applies. When an Enterprise calculates an own-estimates haircut on a T_N-day holding period, which is different from the minimum holding period for the transaction type, the applicable haircut (H_M) is calculated using the following square root of time formula:

where

Where:

(i) T_M equals 5 for repo-style transactions and

client-facing derivative transactions and

10 for eligible margin loans

and derivative contracts other than client-facing derivative transactions

;

(

2

ii) T_N equals the holding period used by the Enterprise to derive H_N; and

(

3

iii) H_N equals the haircut based on the holding period T_N

.

(

C

3) If the number of trades in a netting set exceeds 5,000 at any time during a quarter, an Enterprise must calculate the haircut using a minimum holding period of twenty business days for the following quarter

except in the calculation of the exposure amount for purposes of

(except when an Enterprise is calculating EAD for a cleared transaction under § 1240.37). If a netting set contains one or more trades involving illiquid collateral or an OTC derivative that cannot be easily replaced, an Enterprise must calculate the haircut using a minimum holding period of twenty business days. If over the two previous quarters more than two margin disputes on a netting set have occurred that lasted more than the holding period, then the Enterprise must calculate the haircut for transactions in that netting set on the basis of a holding period that is at least two times the minimum holding period for that netting set.

(

D

4) An Enterprise is required to calculate its own internal estimates with inputs calibrated to historical data from a continuous 12-month period that reflects a period of significant financial stress appropriate to the security or category of securities.

(

E

5) An Enterprise must have policies and procedures that describe how it determines the period of significant financial stress used to calculate the Enterprise's own internal estimates for haircuts under this section and must be able to provide empirical support for the period used. The Enterprise must

provide prior written notice to FHFA

obtain the prior approval of FHFA for, and notify FHFA if the Enterprise makes any material changes to, these policies and procedures.

(

F

6) Nothing in this section prevents FHFA from requiring an Enterprise to use a different period of significant financial stress in the calculation of own internal estimates for haircuts.

(

G

7) An Enterprise must update its data sets and calculate haircuts no less frequently than quarterly and must also reassess data sets and haircuts whenever market prices change materially.

(

ii

B) With respect to debt securities that are investment grade, an Enterprise may calculate haircuts for categories of securities. For a category of securities, the Enterprise must calculate the haircut on the basis of internal volatility estimates for securities in that category that are representative of the securities in that category that the Enterprise has lent, sold subject to repurchase, posted as collateral, borrowed, purchased subject to resale, or taken as collateral. In determining relevant categories, the Enterprise must at a minimum take into account:

(

A

1) The type of issuer of the security;

(

B

2) The credit quality of the security;

(

C

3) The maturity of the security; and

(

D

4) The interest rate sensitivity of the security.

(

iii

C) With respect to debt securities that are not investment grade and equity securities, an Enterprise must calculate a separate haircut for each individual security.

(

iv

D) Where an exposure or collateral (whether in the form of cash or securities) is denominated in a currency that differs from the settlement currency, the Enterprise must calculate a separate currency mismatch haircut for its net position in each mismatched currency based on estimated volatilities of foreign exchange rates between the mismatched currency and the settlement currency.

(

v

E) An Enterprise's own estimates of market price and foreign exchange rate volatilities may not take into account the correlations among securities and foreign exchange rates on either the exposure or collateral side of a transaction (or netting set) or the correlations among securities and foreign exchange rates between the exposure and collateral sides of the transaction (or netting set).

(3) Simple VaR methodology. With the prior written notice to FHFA, an Enterprise may estimate EAD for a netting set using a VaR model that meets the requirements in paragraph (b)(3)(iii) of this section. In such event, the Enterprise must set EAD equal to max {0, [(ΣE−ΣC) + PFE]}, where:

(i) ΣE equals the value of the exposure (the sum of the current fair values of all instruments, gold, and cash the Enterprise has lent, sold subject to repurchase, or posted as collateral to the counterparty under the netting set);

(ii) ΣC equals the value of the collateral (the sum of the current fair values of all instruments, gold, and cash the Enterprise has borrowed, purchased subject to resale, or taken as collateral from the counterparty under the netting set); and

(iii) PFE (potential future exposure) equals the Enterprise's empirically based best estimate of the 99th percentile, one-tailed confidence interval for an increase in the value of (ΣE−ΣC) over a five-business-day holding period for repo-style transactions, or over a ten-business-day holding period for eligible margin loans except for netting sets for which paragraph (b)(3)(iv) of this section applies using a minimum one-year historical observation period of price data representing the instruments that the Enterprise has lent, sold subject to repurchase, posted as collateral, borrowed, purchased subject to resale, or taken as collateral. The Enterprise must validate its VaR model by establishing and maintaining a rigorous and regular backtesting regime.

(iv) If the number of trades in a netting set exceeds 5,000 at any time during a quarter, an Enterprise must use a twenty-business-day holding period for the following quarter (except when an Enterprise is calculating EAD for a cleared transaction under § 1240.37). If a netting set contains one or more trades involving illiquid collateral, an Enterprise must use a twenty-business-day holding period. If over the two previous quarters more than two margin disputes on a netting set have occurred that lasted more than the holding period, then the Enterprise must set its PFE for that netting set equal to an estimate over a holding period that is at least two times the minimum holding period for that

[88 FR 83481, Nov. 30, 2023]

Risk-Weighted Assets for Unsettled Transactions