HKMA Proposes Revisions to Credit Valuation Adjustment Risk Framework

The revised CVA risk framework of BCBS aims to align its design with the new market risk framework and considers the exposure variability driven by daily changes of market risk factors in determining the CVA risk. HKMA intends to implement the revised CVA risk framework in close alignment with the BCBS standards. Therefore, the wording in this consultation paper closely follows the standards set out in the targeted revisions issued by BCBS. The consultation paper notes that under the revised CVA risk framework, CVA stands for regulatory credit valuation adjustment specified at a counterparty level, which excludes the effect of the own default of an authorized institution. CVA reflects the adjustment of default risk-free prices of derivatives and securities financing transactions due to a potential default of an authorized institution’s counterparty. To determine the risk-weighted amount for CVA risk, all locally incorporated authorized institutions will be required to calculate the CVA capital charge in accordance with the new CVA risk standards. Authorized institutions may choose to calculate the CVA capital charge under the BA-CVA or, subject to approval, under the SA-CVA:

• An authorized institution using the BA-CVA may, at its discretion, choose to implement either the reduced (reduced BA-CVA) or the full version of the BA-CVA (full BA-CVA). No matter which version an authorized institution chooses, the authorized institution should calculate and report the CVA capital charges to HKMA on a monthly basis. The full BA-CVA recognizes the counterparty spread hedges and is intended for authorized institutions that hedge their CVA risk. The reduced BA-CVA eliminates the element of hedging recognition from the full BA-CVA and is intended for authorized institutions that do not hedge their CVA risk or prefer a simpler approach.
• The use of the SA-CVA, however, requires an explicit approval from HKMA. This approach uses, as inputs, the sensitivities of regulatory CVA to counterparty credit spreads and market risk factors driving the fair values of covered transactions. An authorized institution should calculate and report the CVA capital charges under the SA-CVA to the HKMA on a monthly basis. An authorized institution should also be able to determine its regulatory capital charges according to the SA-CVA at any time at the demand of HKMA. The aggregate capital charge calculated under the SA-CVA can be scaled up by a multiplier m_CVA. The basic level of m_CVA is set at 1. However, HKMA may require an authorized institution to use a higher level of m_CVA, taking into account the level of model risk for the calculation of CVA sensitivities. Authorized institutions that are planning to adopt the SA-CVA for reporting purposes, with effect from January 01, 2023, are invited to discuss their implementation plans with their usual supervisory contact at the HKMA by June 30, 2021. 

The revised CVA risk capital framework represents a significant overhaul of the existing CVA risk capital framework. Thus, it is likely to have impact on, among other things, the capital charges, systems, data, and resources of authorized institutions, particularly for those with material CVA risk exposures. All relevant authorized institutions are, therefore, strongly recommended to consider the implications of implementation for their institutions and to start preparing for the local implementation of the revised framework in due course. HKMA will incorporate the new standards into the Banking (Capital) Rules by replacing the entire Division 3 in Part 6A with a new Division. The revised framework will also necessitate certain consequential changes to other Parts of the Banking (Capital) Rules. Locally incorporated authorized institutions shall continue the calculation of their regulatory CVA capital charges based on the rules set out in the existing Banking (Capital) Rules up to a specified date that would be no earlier than January 01, 2023. 

Comment Due Date: February 26, 2021

Effective Date: January 01, 2023

Keywords: Asia Pacific, Hong Kong, Banking, Basel, CVA Risk, Regulatory Capital, Credit Valuation Adjustment, Market Risk, FRTB, BA-CVA, Reporting, HKMA