30.In the treatment of derivative exposures for the purpose of the leverage ratio exposure measure, the cash portion of VM exchanged between counterparties may be viewed as a form of pre-settlement payment if the following conditions are met:

• •For trades not cleared through a QCCP, the cash received by the recipient counterparty is not segregated. Cash VM would satisfy the non-segregation criterion if the recipient counterparty has no restrictions by law, regulation, or any agreement with the counterparty on the ability to use the cash received (i.e. the cash VM received is used as its own cash).
• •VM is calculated and exchanged on at least a daily basis based on mark-to-market valuation of derivative positions. To meet this criterion, derivative positions must be valued daily and cash VM must be transferred at least daily to the counterparty or to the counterparty’s account, as appropriate. Cash VM exchanged on the morning of the subsequent trading day based on the previous, end-of-day market values would meet this criterion.
• •The VM is received in a currency specified in the derivative contract, governing master netting agreement (MNA), credit support annex to the qualifying MNA, or as defined by any netting agreement with a CCP.
• •VM exchanged is the full amount that would be necessary to extinguish the mark-to-market exposure of the derivative subject to the threshold and minimum transfer amounts applicable to the counterparty.
• •Derivative transactions and VM are covered by a single MNA between the legal entities that are the counterparties in the derivative transaction. The MNA must explicitly stipulate that the counterparties agree to settle net any payment obligations covered by such a netting agreement, taking into account any VM received or provided if a credit event occurs involving either counterparty. The MNA must be legally enforceable and effective in all relevant jurisdictions, including in the event of default and bankruptcy or insolvency. For the purposes of this paragraph, the term “MNA” includes any netting agreement that provides legally enforceable rights of offset and a Master MNA may be deemed to be a single MNA.

31.If the conditions in the paragraph above are met, the cash portion of VM received may be used to reduce the RC portion of the leverage ratio exposure measure, and the receivables assets from cash VM provided may be deducted from the leverage ratio exposure measure as follows:

• •In the case of cash VM received, the receiving bank may reduce the RC (but not the PFE component) of the exposure amount of the derivative asset.
• •In the case of cash VM provided to a counterparty, the posting bank may deduct the resulting receivable from its leverage ratio exposure measure where the cash VM has been recognized as an asset under the bank’s operative accounting framework, and instead include the cash VM provided in the calculation of the derivative RC.

32.Where a bank acting as CM offers clearing services to clients, the CM’s trade exposures to the CCP that arise when the CM is obligated to reimburse the client for any losses suffered due to changes in the value of its transactions in the event that the CCP defaults must be captured by applying the same treatment that applies to any other type of derivative transaction. However, if the CM, based on the contractual arrangements with the client, is not obligated to reimburse the client for any losses suffered in the event that a QCCP defaults, the CM need not recognize the resulting trade exposures to the QCCP in the leverage ratio exposure measure. In addition, where a bank provides clearing services as a “higher level client” within a multi-level client structure, the bank need not recognize in its leverage ratio exposure measure the resulting trade exposures to the CM or to an entity that serves as a higher level client to the bank in the leverage ratio exposure measure if it meets all of the following conditions:

• •The offsetting transactions are identified by the QCCP as higher level client transactions and collateral to support them is held by the QCCP and/or the CM, as applicable, under arrangements that prevent any losses to the higher level client due to: (i) the default or insolvency of the CM, (ii) the default or insolvency of the CM’s other clients, and (iii) the joint default or insolvency of the CM and any of its other clients;
• •The bank must have conducted a sufficient legal review (and undertake such further review as necessary to ensure continuing enforceability) and have a wellfounded basis to conclude that, in the event of legal challenge, the relevant courts and administrative authorities would find that such arrangements mentioned above would be legal, valid, binding and enforceable under relevant laws of the relevant jurisdiction(s);
• •Relevant laws, regulation, rules, contractual or administrative arrangements provide that the offsetting transactions with the defaulted or insolvent CM are highly likely to continue to be indirectly transacted through the QCCP, or by the QCCP, if the CM defaults or becomes insolvent. In such circumstances, the higher level client positions and collateral with the QCCP will be transferred at market value unless the higher level client requests to close out the position at market value; and
• •The bank is not obligated to reimburse its client for any losses suffered in the event of default of either the CM or the QCCP.

33.Where a client enters directly into a derivative transaction with the CCP and the CM guarantees the performance of its client’s derivative trade exposures to the CCP, the bank acting as the CM for the client to the CCP must calculate its related leverage ratio exposure resulting from the guarantee as a derivative exposure as if it had entered directly into the transaction with the client, including with regard to the receipt or provision of cash VM.

34.For the above treatment of clearing services, an entity affiliated to the bank acting as a CM may be considered a client if it is outside the relevant scope of regulatory consolidation at the level at which the leverage ratio is applied. In contrast, if an affiliate entity falls within the regulatory scope of consolidation, the trade between the affiliate entity and the CM is eliminated in the course of consolidation but the CM still has a trade exposure to the CCP. In this case, the transaction with the CCP will be considered proprietary and must be included in the leverage ratio exposure measure.

35.In addition to the CCR exposure arising from the fair value of the contracts, written credit derivatives create a notional credit exposure arising from the creditworthiness of the reference entity. Therefore, written credit derivatives must be treated consistently with cash instruments (e.g. loans, bonds) for the purposes of the leverage ratio exposure measure.

36.The effective notional amount referenced by a written credit derivative is to be included in the leverage ratio exposure measure unless the written credit derivative is included in a transaction cleared on behalf of a client of the bank acting as a CM (or acting as a clearing services provider in a multi-level client structure) and the transaction meets the requirements for the exclusion of trade exposures to the QCCP (or, in the case of a multi- level client structure, the requirements for the exclusion of trade exposures to the CM or the QCCP). The “effective notional amount” is obtained by adjusting the notional amount to reflect the true exposure of contracts that are leveraged or otherwise enhanced by the structure of the transaction. Further, the effective notional amount of a written credit derivative may be reduced by any negative change in fair value amount that has been incorporated into the calculation of Tier 1 capital with respect to the written credit derivative.

The resulting amount may be further reduced by the effective notional amount of a purchased credit derivative on the same reference name, provided that:

• •the credit protection purchased through credit derivatives is otherwise subject to the same or more conservative material terms as those in the corresponding written credit derivative. Material terms include the level of subordination, optionality, credit events, reference and any other characteristics relevant to the valuation of the derivative;
• •the remaining maturity of the credit protection purchased through credit derivatives is equal to or greater than the remaining maturity of the written credit derivative;
• •the credit protection purchased through credit derivatives is not purchased from a counterparty whose credit quality is highly correlated with the value of the reference obligation;
• •in the event that the effective notional amount of a written credit derivative is reduced by any negative change in fair value reflected in the bank’s Tier 1 capital, the effective notional amount of the offsetting credit protection purchased through credit derivatives must also be reduced by any resulting positive change in fair value reflected in Tier 1 capital; and
• •the credit protection purchased through credit derivatives is not included in a transaction that has been cleared on behalf of a client (or that has been cleared by the bank in its role as a clearing services provider in a multi-level client services structure) and for which the effective notional amount referenced by the corresponding written credit derivative is excluded from the leverage ratio exposure measure according to this paragraph.

37.For the purposes of the leverage ratio, the term “written credit derivative” refers to a broad range of credit derivatives through which a bank effectively provides credit protection and is not limited solely to credit default swaps and total return swaps. When written options create a similar potential credit exposure to an underlying entity, that credit exposure also must be included in the leverage ratio exposure.

38.For the purposes of the leverage ratio, two reference names are considered to be the same only if they refer to the same legal entity.

39.Credit protection on a pool of reference names purchased through credit derivatives may offset credit protection sold on individual reference names if the credit protection purchased is economically equivalent to purchasing credit protection separately on each of the individual names in the pool. If a bank purchases credit protection on a pool of reference names through credit derivatives, but the credit protection purchased does not cover the entire pool (i.e. the protection covers only a subset of the pool, as in the case of an nth-to- default credit derivative or a securitization tranche), then the written credit derivatives on the individual reference names may not be offset. However, such purchased credit protection may offset written credit derivatives on a pool provided that the credit protection purchased through credit derivatives covers the entirety of the subset of the pool on which the credit protection has been sold.

40.Where a bank purchases credit protection through a total return swap and records the net payments received as net income, but does not record offsetting deterioration in the value of the written credit derivative (either through reductions in fair value or by an addition to reserves) in Tier 1 capital, the credit protection will not be recognized for the purpose of offsetting the effective notional amounts related to written credit derivatives.

41.Banks may choose to exclude from the netting set for the PFE calculation the portion of a written credit derivative which is not offset and for which the effective notional amount is included in the leverage ratio exposure measure.

43.For a bank acting as principal to an SFT, two components of exposure must be calculated, summed, and included in the leverage ratio exposure measure: adjusted gross SFT assets as described in the following paragraph, and a measure of CCR, as described below.

44.Gross SFT assets as recognized for accounting purposes (i.e. with no recognition of accounting netting) should be reduced by the value of any securities received under an SFT where the bank has recognized the securities as an asset on its balance sheet. In addition, cash payables and cash receivables in SFTs with the same counterparty may be measured net if all the following criteria are met:

• •The transactions have the same explicit final settlement date (transactions with no explicit end date but that can be unwound at any time by either party to the transaction are not eligible);
• •The right to set off the amount owed to the counterparty with the amount owed by the counterparty is legally enforceable both currently in the normal course of business and in the event of the counterparty’s default, insolvency, or bankruptcy; and
• •The counterparties intend to settle net, settle simultaneously, or the transactions are subject to a settlement mechanism that results in the functional equivalent of net settlement – that is, the cash flows of the transactions are equivalent, in effect, to a single net amount on the settlement date. To achieve such equivalence, both transactions must be settled through the same settlement system and the settlement arrangements must be supported by cash and/or intraday credit facilities intended to ensure that settlement of both transactions will occur by the end of the business day and that any issues arising from the securities legs of the SFTs do not interfere with the completion of the net settlement of the cash receivables and payables. If there is a failure of the securities leg of a transaction in such a mechanism at the end of the window for settlement in the settlement mechanism, then this transaction and its matching cash leg must be split out from the netting set and treated gross.

45.A bank must add a measure of CCR for SFTs to the adjusted gross SFT assets as calculated per the previous paragraph. The CCR measure is calculated as current exposure without an add-on for PFE, with current exposure calculated as follows:

• •Where a qualifying MNA is in place, the current exposure (E*) is the greater of zero and the total fair value of securities and cash lent to a counterparty for all transactions included in the qualifying MNA (∑E_i), less the total fair value of cash and securities received from the counterparty for those transactions (∑C_i). This is illustrated in the following formula:

  E* = max {0, [∑Ei – ∑Ci]}

           Where, E* = current exposure,

           ∑Ei = total fair value of securities and cash lent to counterparty “i” and

           ∑Ci = total fair value of securities and cash received from “i”

• •Where no qualifying MNA is in place, the current exposure for transactions with a counterparty must be calculated on a transaction-by-transaction basis – that is, each transaction is treated as its own netting set, as shown in the following formula:

  E* = max {0, [E – C]}

           where E* = current exposure,

           E = total fair value of securities and cash lent in the transaction, and C = total fair value of securities and cash received in the transaction.

E* may be set to zero if E is the cash lent to a counterparty, the transaction is treated as its own netting set, and the associated cash receivable is not eligible for the netting treatment in paragraph 45. For the purposes of this subparagraph, the term “counterparty” includes not only the counterparty of the bilateral repo transactions but also triparty repo agents that receive collateral in deposit and manage the collateral in the case of triparty repo transactions. Therefore, securities deposited at triparty repo agents are included in “total value of securities and cash lent to a counterparty”

(E) up to the amount effectively lent to the counterparty in a repo transaction. However, excess collateral that has been deposited at triparty agents but that has not been lent out may be excluded.

46.Where sale accounting is achieved for an SFT under the bank’s operative accounting framework, the bank must reverse all sales-related accounting entries, and then calculate its exposure as if the SFT had been treated as a financing transaction under the operative accounting framework (i.e. the bank must include the sum of amounts in paragraphs 45 and 46 for such an SFT) for the purpose of determining its leverage ratio exposure measure.

47.If a bank acting as agent in an SFT provides an indemnity or guarantee to only one of the two parties involved, and only for the difference between the value of the security or cash its customer has lent and the value of collateral the borrower has provided, the bank is exposed to the counterparty of its customer for the difference in values rather than to the full exposure to the underlying security or cash of the transaction.

48.Where a bank acting as agent in an SFT provides an indemnity or guarantee to a customer or counterparty for any difference between the value of the security or cash the customer has lent and the value of collateral the borrower has provided and the bank does not own or control the underlying cash or security resource, then the bank will be required to include a measure of CCR in its leverage ratio exposure measure by applying paragraph 46.

49.A bank acting as agent in an SFT and providing an indemnity or guarantee to a customer or counterparty will be considered eligible for the exceptional treatment set out in the paragraph above only if the bank’s exposure to the transaction is limited to the guaranteed difference between the value of the security or cash its customer has lent and the value of the collateral the borrower has provided. In situations where the bank is further economically exposed (i.e. beyond the guarantee for the difference) to the underlying security or cash in the transaction, a further exposure equal to the full amount of the security or cash must be included in the leverage ratio exposure measure.

50.Where a bank acting as agent provides an indemnity or guarantee to both parties involved in an SFT (i.e. securities lender and securities borrower), the bank will be required to calculate its leverage ratio exposure measure separately for each party involved in the transaction.

51.The effects of bilateral netting agreements for covering SFTs will be recognized on a counterparty-by-counterparty basis if the agreements are legally enforceable in each relevant jurisdiction upon the occurrence of an event of default and regardless of whether the counterparty is insolvent or bankrupt. In addition, netting agreements must:

• •provide the non-defaulting party with the right to terminate and close out in a timely manner all transactions under the agreement upon an event of default, including in the event of insolvency or bankruptcy of the counterparty;
• •provide for the netting of gains and losses on transactions (including the value of any collateral) terminated and closed out under it so that a single net amount is owed by one party to the other;
• •allow for the prompt liquidation or setoff of collateral upon the event of default; and
• •be legally enforceable in each relevant jurisdiction upon the occurrence of an event of default regardless of the counterparty’s insolvency or bankruptcy.

52.Netting across positions held in the banking book and trading book will only be recognized when all netted transactions are marked to market daily, and the collateral instruments used in the transactions are recognized as eligible financial collateral in the banking book.