Trading Book and Credit Risk Mitigation Capital Review
This joint trade association study was produced by the International Swaps and Dealers Association (ISDA), London Investment Banking Association (LIBA) and the Bond Market Assocation (TBMA) to assist the Basel Committee and in the hope that regulators and member firms will find this compendium to be a useful resource both in terms of facilitating references and also in charting the evolution of certain issues.
*SIFMA is the product of a merger between the Securities Industry Association (SIA) and The Bond Market Association (TBMA) in 2006.
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Introduction and Background
ISDA advocated the adoption of a new regulatory measure of future exposure (expected positive exposure-EPE) for OTC derivatives1 in its response to the Committee’s second consultation paper on the Capital Accord reform, dated May 20012. Active dialogue followed with the Models Task Force (MTF), in the course of which ISDA provided further information on the treatment of wrong way risk and EPE validation3.
We also agreed to conduct a Counterparty Risk Survey aiming at assessing the use of EPE in firms’ internal economic capital models. We were pleased to see that the Federal Reserve Board4 had taken an interest in the theoretical parts of our 2001 proposal and sought to analyse the impact of relaxing the key assumptions we had made, in particular the appropriateness of postulating weak independence of exposures between counterparties. ISDA has undertaken additional research on the effect of granularity and exposure correlation on capital.
The purpose of the following document is to update the MTF on work conducted in the ISDA Counterparty Risk Working Group (CRWG) over the past eighteen months, including the research and Counterparty Risk Survey mentioned above.