EBA · 2018_4262 Archive

Supervisory Formula Method - calculation of parameters

Regulation
Regulation (EU) No 575/2013 (CRR)
Article
262, para. 1
Topic
Securitisation and Covered Bonds
Submitted by
Credit institution
Submitted
2018-09-11
Answer provided by
ESAs (EBA, ESMA, EIOPA)
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Question

When using the Supervisory Formula Method, how do you calculate parameters T and L for a securitisation whose underlying assets are made of drawn and undrawn Revolving Credit Facilities?

Background

Before the amendment introduced to Article 262 CRR by  Regulation (EU) 2017/2401 , in the Supervisory Formula Method, parameters T (thickness of the tranche) and L (credit enhancement level) are computed using the nominal amount of the exposures securitised. On the other hand, KIRBR is computed using the sum of the exposure values (EAD, or exposure at default) of the underlying assets of exposures that have been securitised. Usually, nominal amount and EAD are quite similar, except in the case of assets such as Revolving Credit Facilities, where a conversion factor is applied to the nominal amount of the undrawn part of the assets in order to obtain EAD. As parameters T, L and KIRBR are computed using two different asset base values, there may be some inconsistencies in the result.    To illustrate this point, let’s consider a portfolio of undrawn RCFs whose nominal outstanding is 100 and whose EAD is 50 (i.e. after applying a credit conversion factor of 50%). Let’s assume that KIRB amounts to 5 and that the junior tranche of the securitisation, which has been sold to a third party, amounts to 7  (Junior Tranche> KIRB). In these conditions, KIRBR = 10% (5/50) and T = 7% (7/100). Even though in absolute terms the amount of the tranche sold to third party is above the IRB charge in capital risk, in relative terms, T < KIRBR.

Answer

In the Supervisory Formula Method – as defined in Article 242(6) of Regulation (EU) No 575/2013 (CRR) before the amendment introduced by Regulation (EU) 2017/2401, the T (thickness) is calculated as the ratio of the nominal amount of the tranche to the sum of the nominal amounts of the exposures that have been securitised. L (credit enhancement) is measured as the ratio of: the nominal amount of all tranches subordinate to the tranche in which the position is held to the sum of the nominal amounts of the exposures that have been securitised. KIRBR is the ratio of KIRB  (that is the regulatory capital requirements in relation to the underlying exposures as if these had not been securitised) to the sum of the exposure values of the exposures that have been securitised, and is expressed in decimal form. In SFA both T and L parameters are calculated before the application of the relevant credit conversion factor.

Original source: European Banking Authority, Q&A ID 2018_4262

This Q&A is published by European Banking Authority and is non-binding. It does not constitute legal advice. Updated weekly from official ESA sources.

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