14.In March 2014, the Basel Committee on Banking Supervision (BCBS) published a new approach for measurement of counterparty credit risk exposure associated with OTC derivatives, exchange-traded derivatives, and long settlement transactions, the standardised approach for CCR (SA-CCR). The approach in the Central Bank’s Standards for CCR closely follows the SA-CCR as developed by the BCBS in all material areas of substance.

15.The BCBS developed the SA-CCR to replace the two previous non-internal model methods, the Current Exposure Method (CEM) and the Standardized Method (SM). The SA-CCR was designed to be more risk sensitive than CEM and SM. It accurately recognizes the effects of collateralization and recognizes a benefit from over-collateralization. It also provides incentives for centralized clearing of derivative transactions.

16.As is the case with the CEM, under the SA-CCR the exposure at default (EAD) is calculated as the sum of two components: (i) replacement cost (RC), which reflects the current value of the exposure adjusted for the effects of net collateral including thresholds, minimum transfer amounts, and independent amounts; and (ii) potential future exposure (PFE), which reflects the potential increase in exposure until the closure or replacement of the transactions. The PFE portion consists of a multiplier that accounts for over-collateralization, and an aggregate add-on derived from the summation of add-ons for each asset class (interest rate, foreign exchange, credit, equity, and commodity), which in turn are calculated at the hedging set level.