• Hedging of a Trading Book Exposure by a non-Financial Instrument

    • PRU A2.1.11 PRU A2.1.11

      (1) An Authorised Person may hedge a Trading Book Exposure, completely or partially, by a non-Financial Instrument that is not listed in A2.1.3. The General Market Risk Exposure associated with the non-Financial Instrument may be incorporated into the calculation of General Market Risk in the Trading Book if:
      (a) the specific instrument is used to hedge an Exposure in an Authorised Person's Trading Book;
      (b) the hedge position satisfies the Netting rules contained in the relevant Sections of the Market Risk Chapter; and
      (c) the hedge position is marked to market or marked to model and is valued regularly on a prudent and consistent basis.
      (2) For the purposes of (1), the non-Financial Instrument must be treated as attracting capital charges as if it were a Financial Instrument.

      • Guidance

        1. If the conditions for incorporating non-Financial Instruments in the calculation of General Market Risk in the Trading Book under Rule A2.1.11 are not met, they will be treated as Non-Trading Book items.
        2. For the purposes of Section A2.1, a loan will attract General Market Risk (see Chapter 5) and Counterparty Risk (see Chapter 4) on the marked-to-market valuation.

    • PRU A2.1.12 PRU A2.1.12

      (1) If an internal hedge meets the criteria specified in (2), an Authorised Person may include it in the Trading Book without prejudice to the Capital Requirement application to the Non-Trading Book "leg" of the internal hedge.
      (2) Positions arising from internal hedges are eligible for Trading Book capital treatment, provided that they meet the criteria for trading intent specified in Rule A2.1.5 and the following criteria on prudent valuation:
      (a) the internal hedge is not primarily intended to avoid or reduce Capital Requirements which the Authorised Person would be otherwise required to maintain;
      (b) the internal hedge is properly documented and subject to specific internal approval and audit procedures;
      (c) the internal hedge is dealt with at market conditions;
      (d) the bulk of the Market Risk which is generated by the internal hedge is dynamically managed in the Trading Book within the limits approved by senior management; and
      (e) the internal hedge is carefully monitored with adequate procedures.
      (3) Where an Authorised Person hedges a Non-Trading Book Exposure using a Credit Derivative booked in the Trading Book, the Non-Trading Book Exposure is not deemed to be hedged for the purpose of calculating its regulatory Capital Requirement, unless the Authorised Person purchases from an eligible protection provider a Credit Derivative which complies with the requirements and meets the guidelines set out in the relevant Section of Chapter 4. Where eligible credit protection is purchased and is recognised as a hedge of the Non-Trading Book Exposure for the purpose of calculating its regulatory Capital Requirement, the Authorised Person may exclude both the internal and external Credit Derivative hedge from the Trading Book for the purpose of calculating its regulatory Capital Requirement for the period of the hedge.

      • Guidance

        An internal hedge is a position that materially or completely offsets the component risk element of a Non-Trading Book position or a set of positions.