The U.K. Prudential Regulation Authority has issued a consultation on proposed additions to its Supervisory Statement on counterparty credit risk. The additions are intended to provide clarity to the market on how firms should satisfy the Capital Requirements Regulation's requirement to ensure senior management are aware of the limitations and assumptions included in models used to calculate exposure values for derivatives. The consultation is relevant to all firms captured by the provisions of the Capital Requirements Directive. Responses to the consultation are requested by October 25, 2019.

The Capital Requirements Regulation requires that firms using the "internal model method" to calculate their exposures under certain derivatives and other transactions put in place a formal process to ensure that senior management are aware of the limitations and assumptions of the model and the impacts they can have on the reliability of output calculations. The PRA has identified variability in how firms comply with this requirement, including the processes used to track such limitations and assumptions, the type of limitations and assumptions considered, how rigorously the materiality of the limitations and assumptions is interrogated by firms and the application of capital add-ons to mitigate limitations and assumptions. The PRA has therefore decided to amend its Supervisory Statement in order to clarify its expectations on how the CRR requirements should be implemented.

The PRA's additions to the Supervisory Statement take the form of a new section on the monitoring of model limitations. The new section sets out, among other things, the PRA's expectations that firms should make the limitations and assumptions of their models available by reference to a single, comprehensive inventory of various key aspects of their models. The new section also describes the PRA's expectation that firms have a process in place for estimating the potential impact that limitations and assumptions may have on key model outputs. 

View the Consultation Paper.

View the current Supervisory Statement on Counterparty Credit Risk.

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