Basel collateral

[ajsa]

Hi David,

1. What is a haircut?

2. Does the haircut% of the loan have to be the same as the haircut% of the collateral?

3. In the COMPREHENSIVE approach, if there is portion of th loan not collaralized, will the standard approach kick in and apply?

4. why in COMPREHENSIVE approach the collateral does not have any risk weight? at the result, the capital charge from COMPREHENSIVE is much lower than that from standard approach:
http://www.bionicturtle.com/premium/spreadsheet/7.d.4._basel_collateral/

5. what is "Hfx" in the forumla in your screencast?

Thanks.

 

[ajsa]

Hi David,

Could you take a look this when you have chance?

Thanks.

 

[David Harper CFA FRM]

Hi asja,

1. Similar to the repo haircut, it's a number to reduce the value of the collateral.
But here in Basel 2, the haircuts are used to adjust for the uncertain future. Forgetting Hfx, the simple version is:

Today's exposure after mitigation = Exposure - Collateral

Basel refers to the haircuts, interestingly, as "volatilty adjustments." That's a way of saying, how can the net exposure increase going forward, over time? Worst is: the exposure can increase and the collateral can decrease, so you get the *conservative" adjustments that are trying to account for possible *future* deterioriation:

Exposure before mitigation = Exposure - Collateral
Exposure after mitigation = Exposure * (1 + He) – C * (1 – Hc)
see how the haircut serves to increase (H-C) by tweaking both?

2. The "simple" approach to CRM will not, to my knowledge, kick in.
Rather, as reflected by scenarios (ii) and (iii), what isn't collateralized is exposure.
And, yes, as simple/comprehensive are part of the standardized approach, the "remaining exposure" (i.e, after haircutted deduction for collateral) is multiplied by a risk weight.
So, not revert to simple, but yes, standardized still applies

3. That's right, the collateral (except for haircut) is getting deducted from the exposure.
(There are qualiftying collateral, and supervisor overrides; e.g., "superisor is confident about liquidity")

4. It's a currency haircut to similarly, essentially deduct the offset the value of the collateral due to the currency mismatch, if the collateral is denominated if different currency.

David