The CRM Framework sets requirements on CRM techniques which an institution must meet in order to qualify for a reduction of its capital requirements. The Framework also determines how application of CRM techniques affects capital requirements under the Standardised Approach (SA) and the Foundation Internal Ratings Based approach (FIRB). Institutions that use the Advanced Internal Ratings Based approach (AIRB) build the approved CRM techniques into their internal models. If application of credit risk mitigation does not result in reduction of the risk-weighted items, a financial undertaking need not take account of the credit mitigating effect in its calculations.
The CRM framework distinguishes the following protection categories:
- Funded credit protection
- financial collateral (e.g. collateral in the form of cash or debt securities)
- additional collateral eligible under the Foundation IRB approach (e.g. collateral in the form of real estate or short-term claims)
- other funded credit protection (e.g. collateral in the form of deposits held with third-party financial undertakings or life insurance policies)
- on-balance sheet netting vis-à-vis the same counterparty, the same customer or group or affiliated entities
- master netting agreements covering repurchase transactions and capital market-driven transactions
- Unfunded credit protection
- guarantees and credit derivatives
- General conditions applying to all forms of protection
In order to qualify as protection under the CRM Framework, the security must be legally effective and enforceable in all relevant jurisdictions. Also, the financial undertaking must take any and all measures required to ensure the effectiveness of its credit risk mitigation and to limit the risks inherent in it. Supplementary conditions apply to the several protection categories.
- General conditions applying to funded protection
A condition applying to funded protection is that in the event of default, insolvency or bankruptcy on the part of the debtor, the financial undertaking may without delay liquidate or appropriate the assets used as collateral. Also, the value of the assets used as collateral must not be closely associated with the risk of default by the debtor. This is in order to prevent depreciation of the protection at a time when it is needed to compensate for the debtor’s default. Further conditions may apply to the several subtypes of funded protection.
- General conditions applying to unfunded protection
In order to qualify as protection under the CRM Framework, unfunded protection must be provided by a reliable counterparty. Further conditions apply to the several subtypes of unfunded protection.