(7) The total of the Bank’s net exposures to any 1 counterparty or any 1 group of connected counterparties must not exceed 25% of the Bank’s regulatory capital.

(8) The total of all of the Bank’s net large exposures must not exceed 800% of that capital.

(9) A Bank may apply to the AFSA for approval for a proposed exposure in excess of the limits set out in this Chapter. An approval will be granted only in exceptional circumstances and only after the Bank satisfies the AFSA that the proposed exposure does not expose the Bank to excessive risk.

(10) The AFSA may impose a higher capital ratio on the Bank to compensate for the additional risk associated with the proposed exposure.

Obligation to measure

(11) A Bank must measure, classify and make provision for each large exposure individually.

(12) The Bank must immediately notify the AFSA if it is concerned that risk concentrations or large exposures might significantly affect its capital adequacy. The notice must describe the Bank’s proposed measures to address its concerns.

5.27 Powers of the AFSA

(1) If the AFSA considers it necessary or desirable to do so in the interest of effective supervision of a Bank, the AFSA may direct the Bank to treat a party as connected to another party.

The AFSA can set different limits and ratios

(2) Despite anything in these rules, the AFSA may, in writing, set specific limits on a Bank’s exposure to particular counterparties, groups of counterparties, industries, sectors, regions, countries or asset classes on a case-by-case basis.

(3) If a Bank has 1 or more large exposures (excluding exposures to sovereigns and central banks) or if, in the AFSA’s opinion, the Bank is exposed to a significant level of risk concentration, the AFSA may impose a higher capital ratio on the Bank.

(4) In considering whether to increase the Bank’s capital ratio, the AFSA will take into account:

(a) whether the increased capital ratio would be consistent with the Bank’s concentration risk and large exposure policies;

(b) the number of exposures, and the size and nature of each; and

(c) the nature, scale and complexity of the Bank’s business and the experience of its Governing Body and senior management.

(5) The AFSA may also direct the Bank to take measures to reduce its level of risk concentration.

CHAPTER 6 Market Risk

Introduction

Guidance

(1) This Chapter addresses the regulatory requirements in respect of managing the Market Risk exposures of a Bank. Market Risk refers to the risk of incurring losses on positions held by a Bank with trading intent (usually in its Trading Book), caused by adverse movements in market prices or in underlying value drivers. This chapter aims to ensure that a Bank engaging in activities exposing it to such Market risks adopts appropriate and effective risk management practices and holds adequate regulatory capital of the right quality required to support the level of such risks assumed.

(2) This Chapter includes requirements that a Bank:

(a) implement a comprehensive Market Risk management framework to manage, measure and monitor Market Risk commensurate with the nature, scale and complexity of its operations; and

(b) calculate and hold the Market Risk Capital Requirement, according to the methodologies provided in the BPG issued by the AFSA.

(3) This Chapter includes rules requiring Banks to determine Market Risk Capital Requirement on exposures involving interest rate risk, equity risk, foreign exchange risk, commodities risk, options risk, collective investment fund risk and securities underwriting risk. The rules in this Chapter allow the use of standard pre-defined methodologies for estimating the Market Risk Capital Requirement as well as the use of AFSA-approved internal models to calculate a Bank’s Market Risk Capital Requirement.

(4) The detailed requirements specifying the calculation methodologies, parameters, metrics and formulae in respect of the primary requirements outlined in this chapter are provided in the Banking Prudential Guideline (BPG) issued by the AFSA. The BPG also provides detailed guidance on criteria on Trading Book and inclusion of exposures in a Trading Book, criteria for approval of internal models for calculation of Market Risk Capital Requirement, incorporation of incremental risk charges in internal models, if allowed and guidance on the required level of stress testing.

6.1 Market Risk Management – Systems and Controls

(1) A Bank must implement and maintain a Market Risk management policy which enables it to identify, assess, monitor, control and mitigate Market Risk.

(2) The Market Risk management policy must be documented and include the Bank’s risk appetite for Market Risk exposures. The policy must also set out as to how the Bank identifies, assesses, mitigates, controls and monitors that risk.

(3) A Bank must:

(a) identify, assess, monitor, mitigate and, control its Market Risk exposures;

(b) hold adequate Capital, at all times, to support Market Risk exposures assumed as part of its Trading Book and Banking Book activities;

(c) ensure that its risk management framework including but not limited to tools, methodologies and, systems enable it to implement its Market Risk management policy;

(d) review and update its Market Risk management policy at a frequency appropriate to the nature, scale and complexity of its Trading Book activities.

(4) A Bank’s Governing Body must ensure that its Market Risk management policy enables it to obtain a comprehensive bank-wide view of its Market Risk exposures and takes into account the risk of a significant deterioration in market liquidity of its exposures.

Guidance

Guidance in respect of the contents of a Bank’s Market Risk management policy which is required to satisfy the regulatory requirement in the Rule 6.1 is provided in the BPG issued by the AFSA.

6.2 Trading Book

(1) A Bank’s Trading Book consists of the positions held by the Bank (whether on-balance-sheet or off-balance-sheet) that must be included in the Trading Book in accordance with these rules. Other positions held by the Bank must be included in its Banking Book.

Note A Bank is required to have policies to distinguish consistently between trading activities and banking activities

(2) A Bank must have a Trading Book if:

(a) it has positions that must be included in the Trading Book; and

(b) the total value of the positions described in paragraph (a) has exceeded 5% of the total of the Bank’s on-balance-sheet and off- balance-sheet positions at any time in the previous 12 months.

(3) The Bank must include, in the Trading Book, positions and exposures of the following kinds:

(a) a position in a financial instrument, commodity or commodity derivative;

(b) a principal broking position in a financial instrument, commodity or commodity derivative;

(c) a position taken to hedge an exposure in the Trading Book;

(d) an exposure from a repurchase agreement, or securities or commodities lending, that is based on a position in a security or commodity included in the Trading Book;

(e) an exposure from a reverse repurchase agreement, or securities and commodities borrowing, that is based on a position in a security or commodity included in the Trading Book;

(f) an exposure from an unsettled transaction, a free delivery or an over the counter derivative;

(g) an exposure in the form of a fee, commission, interest, dividend or margin on an exchange-traded derivative directly related to a position included in the Trading Book.

(4) The Bank must also include in its Trading Book:

(a) total-rate-of-return swaps (except those that have been transacted to hedge a Banking Book credit exposure); and

(b) open short positions in credit derivatives.

(5) The Bank must not include in its Trading Book:

(a) positions held for liquidity management; and

(b) loans (unless they are used to hedge a position in the Trading Book).

(6) The Bank’s positions must be valued in accordance with the relevant accounting standards and prudent valuation guidance provided in the BPG issued by the AFSA.

(7) The Bank must have a well-documented Trading Book policy for keeping the Trading Book up-to- date and to ensure the inclusion of appropriate positions accurately.

(8) The Trading Book policy must be approved by the Bank’s governing body, and the Bank must be able to demonstrate compliance with it if directed by the AFSA to do so.

Guidance

Guidance relating to the contents of a Bank’s Trading Book policy, the detailed requirements in relation to switching of positions between its Trading Book and Banking Book which are required to satisfy the regulatory requirement in the Rule 6.2 and the related supervisory expectations of the AFSA are provided in the BPG issued by the AFSA.

6.3 Switching of positions or instruments between Books

(1) A Bank must not switch a position or an instrument between its Trading Book and Banking Book, unless it has received a written approval from the AFSA, allowing it to do so. The AFSA may approve such a switch subject to 1 or more conditions.

(2) The Bank must not benefit from any lower regulatory capital requirement resulting from such a switch even if that is approved by the AFSA.

6.4 Valuation of positions

(1) A Bank must use the mark-to-market method to value its positions and exposures in its Trading Book, if there is a market to mark the positions and exposures to. Mark-to-market means a valuation that is based on current market value.

(2) A position that is marked-to-market must be revalued daily, based on independently sourced current market prices.

(3) If it is not possible to value any of the positions in the Trading Book on a mark-to-market basis (for example, in the case of unlisted securities or where the market is illiquid), a Bank may use the mark-to-model method to value its positions and exposures. Mark-to-model means a valuation that has to be benchmarked, extrapolated or otherwise calculated from a market input, using a pre-defined model.

(4) A Bank must be able to demonstrate that its marking-to-model is prudent.

(5) A Bank must independently verify market prices and model inputs, to check that those prices and inputs are accurate. The verification must be done at least once a month.

(6) A Bank must consider making adjustments for positions that cannot be prudently valued (such as those that have become concentrated, less liquid or stale). For example, valuation adjustment would be appropriate if pricing sources are more subjective (such as when there is only one available broker quote).

(7) A Bank must establish and maintain procedures for considering valuation adjustments, irrespective of whether:

(a) the Bank uses the mark-to-market or mark-to-model method; and

(b) whether the valuation is done internally by the Bank or by a third party.

Guidance

Detailed guidance relating to the different valuation methods for the positions in a Bank’s Trading Book, the AFSA’s expectations regarding the use of those methods, the expectations of the AFSA regarding independent price verification as well as the issues to be considered as part of the valuation adjustments, are provided in the BPG issued by the AFSA.

6.5 Calculation of the Market Risk Capital Requirement

(1) A Bank must calculate its Market Risk Capital Requirement as the sum of the following components:

(a) Interest Rate Risk Capital Requirement;

(b) Equity Risk Capital Requirement;

(c) Foreign Exchange Risk Capital Requirement;

(d) Commodities Risk Capital Requirement; and

(e) Option Risk Capital Requirement.

(2) A Bank must calculate the Market Risk Capital Requirement for the following components, in respect of its Trading Book and Non-Trading Book positions for the relevant component, by applying the methodology, parameters, formulae and guidance set out in the BPG issued by the AFSA:

(a) Foreign Exchange Risk Capital Requirement;

(b) Commodities Risk Capital Requirement;

(3) A Bank must calculate the Market Risk Capital Requirement for the following components, in respect of its Trading Book positions for the relevant component, by applying the methodology, parameters, formulae and guidance set out in the BPG issued by the AFSA:

(a) Interest Rate Risk Capital Requirement;

(b) Equity Risk Capital Requirement; and

(c) Option Risk Capital Requirement.

Guidance

Detailed guidance specifying the tools, methodologies, parameters and formulae for calculating the various components of the Market Risk Capital Requirement outlined in Rule 6.2 above are included in the BPG issued by the AFSA.

6.6 Foreign Exchange Risk Capital Requirement

(1) A Bank must, subject to (2), calculate its Foreign Exchange Risk Capital Requirement in respect of Trading Book and Non-Trading Book foreign exchange positions.

(2) A Bank need not calculate a Foreign Exchange Risk Capital Requirement if:

(a) its foreign currency business, defined as the greater of the sum of its gross long positions and the sum of its gross short positions in all foreign currencies, does not exceed 100% of its Regulatory Capital as defined in Rule 4.13; and

(b) its overall net open position as defined in the BPG does not exceed 2% of its Regulatory Capital as defined in Rule 4.13.

6.7 Standard method and use of Internal Models

(1) A Bank is expected to use the standard methods for calculation of any component of the Market Risk Capital Requirement, which are detailed in the BPG.

(2) A Bank may use an internal model to calculate any specific component of its Market Risk Capital Requirement, if that internal model and its use have been approved in writing by the AFSA.

Guidance

Detailed Guidance in respect of criteria for approval and use of internal models for calculation of Market Risk capital requirement is provided in the BPG issued by the AFSA.

(3) If the AFSA approves the use of an internal model, it may:

(a) impose, withdraw or amend at any time conditions in respect of the use of the internal model; and

(b) withdraw approval if it forms the view that the internal model or its use is no longer suitable for the calculation of the Bank’s Market Risk Capital Requirement or any component of it.

(4) A Bank which uses an internal model in accordance with Rule 6.7 (2) must have in place a rigorous and comprehensive stress-testing programme which meets the criteria set out in the BPG issued by the AFSA.

(5) A Bank that has received approval for the use of an internal model may only revert to the use of standard method for calculating its Market Risk Capital Requirement or any component of it, with the prior written consent of the AFSA.

(6) In the standard method, capital requirement is the sum of the capital charges, calculated in accordance with this Chapter, for the risks included in Market Risk.

CHAPTER 7 Operational Risk

Introduction

Guidance

(1) This chapter sets out the regulatory requirements in respect of a Bank’s obligation to manage effectively its Operational Risk exposures. Operational Risk refers to the risk of incurring losses due to inadequate or failed internal systems, processes, and people, or from external events. Operational Risk losses also include losses arising out of legal risk but excludes strategic and reputational risk. This chapter aims to ensure that a Bank has a robust Operational Risk management framework commensurate with the nature, scale and complexity of its operations and that it holds sufficient regulatory capital against Operational Risk exposures.

(2) This chapter includes requirements that a Bank:

(a) implement a comprehensive Operational Risk management framework to manage, measure and monitor its operational Risk exposures commensurate with the nature, scale and complexity of its operations;

(b) address specific elements of an Operational Risk management framework relating to IT systems, information security, outsourcing, business continuity and disaster recovery and the management of Operational Risks in trading rooms; and

(c) calculate and hold the Operational Risk Capital Requirement, according to the methodologies provided in the BPG issued by the AFSA.

(3) The detailed requirements specifying the calculation methodologies, parameters, metrics and formulae in respect of the primary requirements outlined in this Chapter are provided in the BPG issued by the AFSA. The BPG also provides detailed guidance on the elements to be included in the policies, systems and controls for managing operational risk, qualitative guidance and standards to be followed in addressing specific components of operational risk like Business continuity risk, detailed parameters, formulae and methodology for calculation of Operational risk capital requirements mandated by this Chapter.

7.1 Operational Risk Management Framework and Governance

(1) A Bank must implement and maintain an Operational Risk management policy which enables it to identify, assess, monitor, control and mitigate its Operational Risk exposures.

(2) The Operational Risk management policy must be documented and include the Bank’s risk appetite for Operational Risk exposures. The policy must also set out as to how the Bank identifies, assesses, mitigates, controls and monitors Operational Risk.

(3) The Operational Risk management policy of a Bank must be approved by its Governing Body.

(4) A Bank must:

(a) identify, assess, monitor, mitigate and, control its Operational Risk exposures;

(b) ensure that its risk management framework including but not limited to tools, methodologies and, systems enable it to implement its Operational Risk management policy;

(c) hold adequate Capital, at all times, to support its Operational risk exposures;

(d) review and update its Operational Risk management policy at a frequency appropriate to the nature, scale and complexity of its Trading Book activities.

(5) A Bank’s Governing Body must ensure that its Operational risk management policy enables it to obtain a comprehensive bank-wide view of its Market Risk exposures and takes into account the risk of a significant deterioration in market liquidity of its exposures.

Note: Guidance in respect of the contents of a Bank’s Operational Risk management policy, systems and controls which is required to satisfy the regulatory requirement in the Rule 7.1 is provided in the BPG issued by the AFSA.

7.2 Technology Risk and Business Continuity – Policies

(1) A Bank’s operational risk management policy must include effective and comprehensive procedures for disaster recovery and business continuity. The Bank must have a business continuity plan for possible scenarios of severe business disruption. The plan must provide for the Bank to continue to operate as a going concern, and to minimise losses (especially those from disturbances to payment and settlement systems), in those scenarios.

(2) A Bank must establish and implement appropriate information technology policies for the accurate and timely identification, measurement, evaluation, management and control or mitigation of operational risk. In particular, the policies must enable the Bank to maintain an adequate and sound information infrastructure:

(a) that meets the Bank’s current and projected requirements (under normal circumstances and in times of stress);

(b) that ensures that the data, and the system itself, remain secure and available; and

(c) that supports integrated and comprehensive risk management

(3) The Bank’s information infrastructure must enable it to compile and analyse operational risk data, and must facilitate reporting to its Governing Body and senior management and the AFSA.

(4) A Bank must establish and maintain appropriate systems and controls to manage its information security risk.

7.3 Outsourcing risk - Policies

(1) A Bank must establish appropriate policies to assess, manage and monitor the operational risk associated with its outsourced activities. The management of those risks must include the following elements:

(a) carrying out due diligence for selecting service providers

(b) structuring outsourcing arrangements

(c) managing and reporting the risks associated with an outsourcing

(d) ensuring effective control over an outsourcing; and

(e) contingency planning

(2) The outsourcing policies must require a Bank to have comprehensive contracts and service level agreements. The contracts and agreements must clearly state the allocation of responsibilities between service providers and the Bank.

7.4 Powers of the AFSA

Despite anything in these rules, if the AFSA identifies points of exposure or vulnerability to operational risk that are common to 2 or more Banks, it may impose specific capital requirements or limits on each affected Bank.

7.5 Operational Risk Management

(1) A Bank must:

(a) ensure that it identifies and assesses the Operational Risks inherent in all the Bank’s products, activities, processes and systems;

(b) ensure the inherent risks identified are understood by relevant Employees of the Bank;

(c) systematically track Operational Risk events and any financial impact associated with such events; and

(d) ensure that the tracking in (c) is consistent with the Operational Risk event types described in the Basel III framework.

(e) regularly monitor material Exposures to Operational Risk losses;

(f) ensure that appropriate reporting mechanisms are in place at its Governing Body, senior management, and business line levels to support effective management of the Bank’s Operational Risk;

(g) have appropriate reporting procedures to keep the AFSA informed of developments affecting its operational risk profile; and

(h) immediately notify the AFSA of any material Operational Risk event including notification of any resulting financial impact, positive or negative, associated with such event.

(2) A Bank must ensure that its Operational Risk management policy referred in the Rule 7.1 (1):

(a) includes an approval process for all new products, activities, processes and systems; and

(b) such a process enables the Bank to identify and assess the Operational Risk exposures inherent in its new products, activities, processes and systems.

7.6 Basic indicator approach

(1) A Bank must use the basic indicator approach to operational risk. Operational risk capital requirement is the amount of capital that the Bank must have to cover its operational risk.

(2) The Bank’s Operational Risk capital requirement is calculated in accordance with the following formula:

where:

GI is the Bank’s average annual gross income (as defined in sub-rule (3) or (4)) for those years (out of the previous 3 years) for which the Bank’s annual gross income is more than zero.

α is 15% or a higher percentage set by the AFSA.

n is the number of years out of the previous 3 years for which the Bank’s gross income is more than zero.

(3) Because of the definitions of GI and n in (2) above, figures for any year in which the annual gross income of a Bank is negative or zero must be excluded from both the numerator and denominator when calculating the average.

(4) For a Bank, gross income, for a year, means net interest income plus net non-interest income for the year. It must be gross of:

(a) any provisions (including provisions for unpaid interest);

(b) operating expenses; and

(c) losses from the sale of securities in the ‘Held to Maturity’ and ‘Available for Sale’ categories in the Banking Book.

(5) For a Bank, gross income excludes:

(a) realised profits from the sale of securities in the Banking Book;

(b) realised profits from securities in the ‘Held to Maturity’ category in the Banking Book;

(c) extraordinary or irregular items of income;

(d) income derived from insurance;

(e) any collection from previously written-off loans; and

(f) income obtained from the disposal of real estate and other assets during the year

CHAPTER 8 Interest Rate Risk in the Banking Book

Introduction

Guidance

(1) Interest rate risk in the Banking Book or IRRBB is the risk to earnings or capital arising from movement of interest rates. IRRBB arises from changing rate relationships among yield curves that affect bank activities (basis risk), from changing rate relationships across the spectrum of maturities (yield curve risk), and from interest- rate-related options embedded in bank products (option risk).

(2) IRRBB is normally a major source of risk for a bank and for Broker Dealers that deal on their own account (including underwriting on a firm commitment basis). IRRBB is a significant risk driver for banks whose Banking Book assets equal or exceed 15% of their total assets. IRRBB may arise from a number of sources, for example:

(a) risks related to the mismatch of repricing of assets and liabilities and off balance sheet short and long-term positions;

(b) risks arising from hedging exposure to one interest rate with exposure to a rate which reprices under slightly different conditions;

(c) risks related to the uncertainties of occurrence, timing, pricing or value of transactions, for example, when expected future transactions do not equal the actual transactions;

(d) risks arising from consumers redeeming fixed rate products when market rates change; and

(e) risks from underwriting on a firm-commitment basis

(4) This Chapter relates to Interest rate risk in the Banking Book. Interest rate risk in the Trading Book is addressed as part of Market Risk in Chapter 6 of BBR.

(5) This Chapter sets out the regulatory requirements in respect of a Bank’s obligation to manage effectively its exposure to Interest Rate Risk in the Banking Book (IRRBB). This Chapter aims to ensure that a Bank has a robust framework commensurate with the nature, scale and complexity of its operations, for managing its exposure to IRRBB. In that regard, this Chapter sets out requirements that a Bank:

(a) implement IRRBB management framework to manage, measure and monitor its exposure to IRRBB, in a manner commensurate with the nature, scale and complexity of its operations;

(b) develop and implement policies to identify, measure, assess, manage, control and mitigate IRRBB;

(c) address stress testing of the Bank’s exposures to IRRBB; and

(d) address the relationship between IRRBB and the ICAAP.

(6) The detailed requirements specifying the methodologies, guidance and, parameters in respect of the primary requirements outlined in this chapter are provided in the Banking Prudential Guideline (BPG) issued by the AFSA. The BPG also provides detailed guidance on the elements to be included in the policies, systems and controls for managing IRRBB, qualitative guidance and standards to be followed in meeting the rules in this chapter.

8.1 IRRBB - Risk Management Framework and Governance

(1) A Bank must implement and maintain a policy for management of IRRBB which enables it to identify, assess, monitor, control and mitigate its exposure to IRRBB.

(2) This IRRBB management policy must be documented and must include the Bank’s risk appetite for IRRBB. The policy must also include an appropriate interest rate risk strategy as well as a bank-wide interest rate risk management framework appropriate to the nature, scale and complexity of the Bank’s Banking Book activities. The policy must also set out as to how the Bank assesses, mitigates, controls and monitors IRRBB exposure.

(3) A Bank must:

(a) identify, assess, monitor, mitigate and, control its exposure to IRRBB exposures;

(b) ensure that its risk management framework including but not limited to tools, and, systems enable it to implement its IRRBB management policy;

(c) hold adequate Capital, at all times, to address its exposure to IRRBB;

(d) review and update its IRRBB management policy at a frequency appropriate to the nature, scale and complexity of its Banking Book activities.

(4) The interest rate risk strategy and IRRBB management framework must:

(a) enable the Governing Body and senior management of the Bank to have a bank-wide view of IRRBB as it applies to Banking Book activities;

(b) include a system for identifying and assessing IRRBB and its sources;

(c) include a process for the measurement and monitoring of IRRBB, using robust and consistent methods which enable the Bank to comply with the requirements set out in Rule 8.4 on Stress testing; and

(d) include a system for controlling and managing IRRBB which enables it to comply with the overall risk management standards expected of a Bank and ensure continued compliance with the BBR Rules.

(5) A Bank must identify the IRRBB impact of any new product, activity or service that it proposes to start and ensure that such impacts are duly addressed with adequate controls before the new product or activity is undertaken or introduced.

(6) The IRRBB management policy of a Bank must be approved by its Governing Body.

(7) A Bank’s Governing Body must ensure that its IRRBB management policy enables it to obtain a comprehensive bank-wide view of its exposure to IRRBB in the light of the nature, scale and complexity of its Banking Book activities.

(8) The Governing Body must monitor:

(a) the nature and level of IRRBB assumed by the Bank;

(b) the bank’s overall IRRBB profile; and

(c) any changes in market conditions that may affect the bank’s current or prospective risk profile.

(9) The Governing Body must ensure that the Bank’s senior management establishes and implements an IRRBB management policy that adequately identifies, measures, monitors, reports and controls or mitigates IRRBB.

Note: Guidance in respect of the contents of a Bank’s IRRBB management framework, governance, policy, systems and controls which are required to satisfy the regulatory requirement in the Rule 8.1 is provided in the BPG issued by the AFSA.

8.2 Powers of the AFSA

A Bank must hold adequate capital to effectively mitigate its exposure to IRRBB. The AFSA may impose a capital requirement on a Bank based on the Bank’s ICAAP, if the AFSA is of the view that the Bank’s capital is insufficient to cover its exposure to IRRBB.

8.3 IRRBB Management – Processes and Standards

(1) A bank must not use an assumption or adjustment relating to the bank’s exposure to IRRBB unless the assumption or adjustment has been approved by its governing body, or a relevant committee of its governing body. The AFSA may require a bank to seek its explicit approval before using an assumption or adjustment.

(2) If required to do so by the AFSA, the bank must demonstrate how the Bank used an assumption or adjustment (whether or not the AFSA required the assumption or adjustment to be approved).

(3) A banking business bank must set a prudent limit on the extent to which floating-rate exposures are funded by fixed-rate sources (and vice versa). In floating-rate lending, the Bank must set a prudent limit to the extent to which it runs any basis risk that would arise if lending and funding were not based on identical market interest rates.

(4) A Bank must set a prudent limit on the extent to which floating-rate exposures are funded by fixed-rate sources (and vice versa). In floating-rate lending, the Bank must set a prudent limit to the extent to which it runs any basis risk that would arise if lending and funding were not based on identical market interest rates.

(5) A Bank must identify the effect of IRRBB before it introduces a new product or activity. The Bank must consider managing the effect through hedging (using swaps or other derivatives).

8.4 Stress Testing and IRRBB

(1) A Bank must carry out an evaluation of its exposure to IRRBB, in each currency in which 5% or more of its Banking Book assets or Banking Book liabilities is denominated. This evaluation must be carried out at least on an annual basis.

(2) A Bank must carry out stress-testing of its exposures to IRRBB at least on a quarterly basis. This stress-testing must:

(a) determine the re-pricing gap between the bank’s assets and liabilities, before and after the effect of derivative instruments is taken into consideration;

(b) determine the effect of a sudden and unexpected parallel change in interest rates of 200 basis points in both directions, on the Bank’s net interest income from the forecast Banking Book; and

(c) apply a 200 basis point shock to each material currency in which 5% or more of its Banking Book assets or Banking Book liabilities is denominated.

(3) The AFSA may, in writing, specify a different level of interest rate shock as compared to the standard 200 basis point shock, for specific Banks.

(4) A Bank must include appropriate scenarios in its stress-testing to measure the Bank’s vulnerability to loss under adverse interest rate movements. In determining the effect of a rate change on its net interest income, the Bank must not assume that the rate will become negative.

(5) A bank must report the results of its stress-testing to the AFSA, in the form prescribed by the AFSA.

(6) A Bank must immediately notify the AFSA, if any stress-testing under this Chapter involving an interest rate shock described in (2) above, indicates a potential decline in the economic value of the bank by an amount exceeding 20% of its Total Capital as defined in Chapter 4 of BBR.

8.5 Frequency of stress testing

(1) A Bank must carry out the stress testing required by Rule 8.4 (2) as frequently as necessary for it to be reasonably satisfied that it has at all times a sufficient understanding of the degree to which it is exposed to the risks referred to in that rule and the nature of that exposure. In any case it must carry out those evaluations no less frequently than required by Rule 8.4 (2).

(2) In order to carry out effectively the stress testing requirements specified in Rule 8.4 (2), a Bank must include appropriate scenarios into its stress testing programmes for measuring its vulnerability to loss arising from the impact of adverse interest rate movements on its Banking Book structure.

8.6 IRRBB and Relation to ICAAP

(1) A Bank must be able to demonstrate to the AFSA that its ICAAP adequately captures its exposure to IRRBB.

(2) In order to meet effectively the obligations it faced under ICAAP which includes the need to address IRRBB exposures, a Bank is required to make a written record of its assessments and stress testing made under this Chapter and rules relating to ICAAP.

CHAPTER 9 Liquidity Risk

Introduction

Guidance

(1) This Chapter addresses the regulatory requirements in respect of managing the Liquidity Risk exposures of a Bank. Liquidity risk is the risk that a Bank may not be able to meet its financial obligations as they fall due. Among all the prudential risks faced by a Bank, Liquidity Risk is highly related to group risk in that a Bank that is a member of a group could be called on to make good on commitments and guarantees in favour of the other members of its group, whether financial or non-financial members.

(2) This Chapter includes requirements that a Bank:

(a) implement a comprehensive Liquidity Risk management framework to manage, measure and monitor Liquidity Risk commensurate with the nature, scale and complexity of its operations;

(b) adopt prudent practices in managing Liquidity Risk;

(c) have adequate sources of stable long-term funding;

(d) have sufficient resources and funding to withstand severe liquidity stress; and

(e) maintain an adequate level of liquidity, according to the norms, methodologies, standards and guidance provided in the BPG issued by the AFSA.