BANK 3.4.12 Calculation of derivatives exposure — contracts covered by eligible bilateral netting agreement

(1) For contracts covered by an eligible bilateral netting agreement, a banking business firm must calculate its derivatives exposure as follows:


NRC = max {∑Mi, 0} (in which {∑Mi is the sum of the positive and negative mark-to-market values of all the contracts covered by the agreement).

PFCEadj is the potential future credit exposure in relation to the contracts covered by the relevant netting agreement (see rule 3.4.13).

(2) A bilateral netting agreement is an eligible bilateral netting agreement if:
(a) it is in writing;
(b) it creates a single legal obligation that covers all contracts and collateral to which it applies, so that, if the counterparty fails to perform due to default, liquidation or bankruptcy or other similar circumstances, each party has the following rights:
(i) the right to terminate and close-out, in a timely way, all contracts covered by the agreement;
(ii) the right to net gains and losses on contracts (including the value of any collateral) terminated and closed out under the agreement so that the firm would have either a claim to receive or an obligation to pay only the net sum of the close-out values of the individual contracts;

Note For forward contracts, swaps, options and similar derivative contracts, this right would include the positive and negative mark-to-market values of the individual contracts.
(iii) the right to liquidate or set-off collateral;
(c) it is supported by a written, reasoned legal opinion that in the event of a counterparty's default, liquidation, insolvency, bankruptcy or other similar circumstances:
(i) the relevant courts and authorities would find that the other party's claims and obligations are limited to the single net sum determined in the agreement; and
(ii) in particular, in the insolvency or external administration of the counterparty, the netting will be recognised under all relevant laws, so that it would not be possible for a liquidator or other external administrator of the counterparty to claim a gross amount from the other party while only being liable to pay a dividend in insolvency to that party (as separate money flows); and
(d) it is not subject to a walkaway clause.
(3) A banking business firm that has obtained a legal opinion about the enforceability of a netting agreement:
(a) must ensure that the opinion is not based on unduly restrictive assumptions or subject to unduly restrictive qualifications;
(b) must review the assumptions regarding the enforceability of the agreement and must ensure they are specific, factual and adequately explained in the opinion; and
(c) must review and assess all assumptions, qualifications and omissions in the opinion to decide whether they give rise to any doubt about the enforceability of the agreement.
(4) If the legal opinion covers a group of which the firm is a member, the firm may rely on the opinion in relation to a netting agreement to which the firm is a party, if the group and the firm have satisfied themselves that the opinion applies to the agreement.
(5) A banking business firm must not rely on a netting agreement if there is any doubt about whether the agreement is enforceable.
(6) A banking business firm may rely on a general legal opinion about the enforceability of a netting agreement in a particular jurisdiction if the firm is satisfied that the opinion applies to a netting agreement of that type.
(7) A banking business firm must satisfy itself that a netting agreement and its supporting general legal opinion apply to each counterparty, to each contract and product type undertaken with the counterparty, and in all jurisdictions where contracts are originated.
Inserted by QFCRA RM/2019-6 (as from 1st January 2020).