Key Points:

From 1 January 2013 an amount equal to 2% of a bank’s derivatives exposure to certain central clearing counterparties will be added to the total risk-weighted assets of that bank for regulatory capital purposes.

Capital requirements for bank exposures to central clearing counterparties (CCPs) are recognised as one of the final pieces of the incoming Basel III capital framework for banks, and are part of the broader G20 derivatives reform agenda aimed at reducing systemic risk in global banking.

As part of the reform process, the Basel Committee on Banking Supervision (Basel Committee) last week released interim rules for the risk-weighting of exposures to CCPs. The rules are designed to create a financial incentive for banks to clear standardised over-the-counter (OTC) derivatives through CCPs, while at the same time ensuring that banks' exposures to CCPs are adequately capitalised.

The decision to publish the rules on an interim basis suggests that the Basel Committee will monitor the capital effect of the new rules and make further changes if necessary.

2% Capital Charge

From 1 January 2013, an amount equal to 2% of a bank’s derivatives exposure to "qualifying" CCPs will be added to its total risk-weighted assets for regulatory capital purposes. A "qualifying" CCP is a CCP that meets the new "Principles for Financial Market Infrastructures" published by the Committee on Payment and Settlement Systems and the International Organization of Securities Commissions.

Importantly, the paper clarifies that the 2% risk-weight will be calculated on the basis of a member's cleared exposures, rather than to trade exposures it has cleared on behalf of clients, unless the member has also guaranteed the trade against CCP default losses. This clarification has been welcomed by the dealer community and means that banks offering clearing services as intermediaries for non-members will not need to hold capital against non-guaranteed customer trades as though they were the bank's own positions.

This contrasts with the capital charges that will apply to non-CCP cleared trades. Exposures under non-cleared trades will be assigned a risk-weight in accordance with the Basel III rules for bilateral counterparty credit risk published in June last year, which is likely to result in a more onerous risk-weight for the affected trades.

CCP Default Fund Charge

Basel III will also impose a capital charge on a bank's exposure to a CCP's default fund. CCP default funds consist of contributions made by clearing members which are designed to protect the relevant CCP from losses caused by the default of a clearing member. Banks will have the option of applying a 1,250% risk-weighting to this exposure (effectively treating the exposure as a deduction from capital) or, in the case of a qualifying CCP, employing a risk-sensitive approach detailed in the interim rules that the Basel Committee has previously consulted on. For qualifying CCPs, the risk-weight of 1,250% will be capped at 20% of the total trade exposures to the relevant CCP.

The cap is another welcome development and was introduced in response to dealer concerns that earlier versions of the rules would generate a capital cost at levels that would discourage banks from providing intermediary clearing services to other derivatives users.

Implications for Australia

APRA is yet to release details of its intended treatment of bank exposures to CCPs. However, given the recent release by the Government of its proposed legislative framework to allow for mandatory clearing of OTC derivatives in Australia, it is likely that Australia will adopt similar incentives to encourage OTC derivatives exposures to be cleared through CCPs.