What changed
Previously, banks could use the Current Exposure Method for credit equivalent amounts. Now, RBI explicitly prohibits bilateral netting of MTM values, requiring gross positive MTM to be counted for capital and exposure norms.
What it means for you
Banks must hold more capital against derivative exposures as netting is not permitted. This increases capital costs and may reduce derivative trading appetite. Lenders need to reassess counterparty credit risk and capital planning for off-balance sheet items.
What you must do
- Review derivative portfolios to calculate gross positive MTM for each counterparty.
- Update capital adequacy and exposure limit calculations to exclude bilateral netting.
- Communicate with risk and treasury teams to adjust capital planning and pricing.
- Monitor legal developments on netting for future policy changes.
Who it affects
All scheduled commercial banks (excluding Local Area Banks and RRBs), Treasury and risk management departments, Derivative trading desks, Capital planning teams
Why did RBI disallow bilateral netting?
RBI found the legal position on bilateral netting unclear, so it decided not to permit netting of MTM values for derivative contracts.
How does this affect capital requirements?
Banks must use gross positive MTM instead of netted amounts, increasing credit equivalent amounts and thus capital requirements for derivatives.
Does this apply to all derivative types?
Yes, it applies to interest rate and foreign exchange derivative transactions and gold, as per the Current Exposure Method.