Federal Register: December 27, 2001 (Volume 66, Number 248)
DOCID: FR Doc 01-31570
FEDERAL HOUSING FINANCE BOARD
Federal Housing Finance Board
CFR Citation: 12 CFR Parts 930 and 932
RIN ID: RIN 3069-AB11
DOCUMENT ID: [No. 2001-28]
NOTICE: RULES
ACTION: Federal home loan bank system:
DOCUMENT ACTION: Final rule.
SUBJECT CATEGORY:
Unsecured Credit Limits for Federal Home Loan Banks
EFFECTIVE DATES: The final rule is effective on March 27, 2002.
DOCUMENT SUMMARY:
The Federal Housing Finance Board (Finance Board) is amending the unsecured credit provision of its rules, which was adopted as part of its capital rule on December 20, 2000 and governs the amount of unsecured credit that a Federal Home Loan Bank (Bank) can extend to a particular counterparty. The unsecured credit limits adopted in December were generally stricter than the limits under which the Banks operated with the Finance Board's Financial Management Policy (FMP). The amendments adopted herein will require the Banks to base the credit limit on the longterm credit rating of the counterparty. They also will set the amount of unsecured credit that a Bank can extend to a governmentsponsored enterprise (GSE) at the level allowed under the FMP, and adjust the limits for sales of overnight federal funds and the limits for unsecured credit that can be extended to groups of affiliated counterparties. The amendments also address how the unsecured credit limits should be applied to certain housing finance agency bonds, and clarify how a Bank should calculate its credit exposures from on and offbalance sheet items and derivative contracts. The Finance Board also is adding to Sec. 932.9 a requirement that a Bank report promptly noncompliance with the unsecured credit limits set forth in the rule as well as making other technical or clarifying changes to the rule.
SUMMARY:
Unsecured credit limits,
SUPPLEMENTAL INFORMATION
I. Introduction
On December 20, 2000, in accordance with the GrammLeachBliley Act, Pub.
[[Page 66719]]
L. No. 106102, 133 Stat. 1338 (November 12, 1999) (GLB Act), the
Finance Board adopted a final rule to implement the new capital
structure that the GLB Act established for the Banks. 66 FR 8262
(January 30, 2001). As part of the final capital rule, the Finance
Board adopted Sec. 932.9 of its rules, 12 CFR 932.9, which set new
limits on a Bank's unsecured credit exposures to a single counterparty
or a group of affiliated counterparties. Id. at 831819. These new
limits represented a revision and codification of the unsecured credit
guidelines of section VI of the FMP, Finance Board Res. No. 9645 (July
3, 1996), as amended by Finance Board Res. No. 9690 (December 6,
1996), Finance Board Res. No. 9705 (January 14, 1997), and Finance
Board Res. No. 9786 (December 17, 1997). Given concerns raised by the
Banks about the unsecured limits adopted in December 2000, the Finance
Board delayed the effective date of these requirements on the condition
that the FMP restrictions remained in effect, and, on March 7, 2001,
published a proposed rule requesting comment on potential amendments to
the unsecured credit requirements. See 66 FR 13688 (Mar. 7, 2001).
After considering comments on this rule proposal, the Finance Board believed more changes were needed than those it had previously considered and, as a consequence, published for comment in the Federal Register a new set of proposed amendments to Sec. 932.9 on August 8, 2001 (the proposed rule). See 66 FR 41474 (Aug. 8, 2001). The Finance Board also again extended the effective date for compliance with Sec. 932.9 subject to the condition that section VI of the FMP remained in effect. Id. at 41475. The comment period on the second proposed rule closed on September 7, 2001. After considering the comments received, the Finance Board has made a number of changes to the rule proposed in August 2001, and is adopting an amended version of Sec. 932.9, as discussed below.
II. Discussion of the Comments Received
The Finance Board received seven comment letters on the proposed rule, all of which were from Banks. Two commenters submitted followup comment letters to the Finance Board, after the close of the comment period. Nevertheless, these followup letters were considered in developing this rule. The comments requested both changes to the proposed rule and amendments and clarifications of how the proposed rule would be applied. The Finance Board agrees with many of the comments made, and as a result has made a number of changes to the proposed rule. The Finance Board addresses the comments received on its proposed changes to Sec. 932.9 below.
Effective Date of Rule
Four of the commenters requested that the Finance Board delay the effective date of Sec. 932.9, which had been scheduled to take effect on October 1, 2001 or on the date the proposed rule was adopted in final form, whichever was earlier. See Fin. Brd. Res. No. 200111 (June 5, 2001). The commenters suggested that the effective date of the rule be set at various dates that ranged from three to six months after a final rule had been published. The commenters stated that the extension was necessary to give the Banks sufficient time to conform recordkeeping and reporting systems to whatever limits were ultimately adopted by the Finance Board.
The Finance Board generally agrees with these comments. On
September 26, 2001, it extended the effective date of Sec. 932.9 until
January 28, 2002 to provide sufficient time to complete the rulemaking
process. See Fin. Brd. Res. No. 200120 (Sept. 26, 2001). However,
given the date of approval of these final rule amendments, the Banks
will have less than ninety days to prepare for implementing the amended
version of Sec. 932.9 adopted herein if the January 28, 2002 date for
complying with Sec. 932.9 is not changed.\1\ Thus, the Finance Board is
also adopting separate from these rule amendments, a resolution that
delays the date for complying with Sec. 932.9 until the effective date
of these final rule amendments. This new effective date will be 90 days
from the date this final rule is published in the Federal Register.\2\
The delay in the effective date is conditioned upon the Banks'
continued compliance with the unsecured credit limits in section VI of
the FMP. The Finance Board believes that this time frame should be
sufficient for the Banks to conform their recordkeeping and reporting systems to the rule as amended.
\1\ Further, the Finance Board recognizes that given the large
number of amendments adopted by this rulemaking, it would serve no
purpose to require the Banks to implement Sec. 932.9, as adopted in
December 2000, on January 28, 2002, and then implement this amended
version of the rule soon thereafter. It is more reasonable to
continue to apply the current unsecured credit restrictions of
section VI of the FMP to the Banks until section VI of the FMP is superceded by the amended version Sec. 932.9.
\2\ The Finance Board is also extending the effective date for
the liquidity requirements set forth in Sec. 932.8 so that both the
amended unsecured credit limits and the new liquidity requirements will take effect on the same day.
General Approach
The proposed rule would have required a Bank to determine the applicable maximum capital exposure limits for a particular counterparty based on the longterm credit rating received by that counterparty from an organization regarded as a Nationally Recognized Statistical Rating Organization (NRSRO) by the Securities and Exchange Commission, except in certain limited circumstances. The proposed amendment represented a change from the approach adopted in December 2000 which required a Bank to determine the maximum capital exposure limit for a shortterm credit based on an NRSRO's shortterm credit rating for the counterparty and to determine the maximum capital exposure limit for a longterm credit based on an NRSRO's longterm credit rating for the counterparty. Under the proposed rule (as under the rule adopted in December 2000), the unsecured credit limit for a particular counterparty (subject to certain exceptions set forth in the rule) would equal the maximum capital exposure limit for that counterparty multiplied by the lesser of the Bank's total capital or the counterparty's Tier 1 or total capital.
Two commenters objected to the reliance on longterm credit ratings, as proposed. The commenters argued that shortterm credit exposures presented a markedly different credit risk to a Bank than would a longterm exposure to the same counterparty, and that by disregarding shortterm ratings, the Finance Board was ignoring important information about a counterparty embodied in that rating. The commenters also believed that the proposed approach would greatly restrict the amount of unsecured credit a Bank could provide from levels permitted under the FMP or under Sec. 932.9 as adopted in December 2000. One commenter stated that this reduction would force the Banks to seek lowerrated counterparties and increase the term of their lending, thereby raising overall credit risk. The other commenter stated the proposed change, if adopted, would reduce the amount of unsecured credit that a Bank would have available to its members, which may result in membership becoming less attractive to some institutions.
Given these concerns, one commenter urged the Finance Board not to
adopt the proposed change and continue to base unsecured credit limits
for shortterm exposures on shortterm credit ratings. The other
commenter suggested the Finance Board provide the Banks the option of using shortterm credit
[[Page 66720]]
ratings. The second commenter also urged the Finance Board to develop
new short and longterm limits and a new total limit which would be
the sum of the short and longterm limits plus capacity for additional overnight lending.
A third commenter believed that it was inappropriate to use the counterparty's capital as a basis for setting the unsecured credit limits because this approach could result in unduly large Bank System wide unsecured credit exposures to a counterparty in relation to that counterparty's total assets. The commenter urged the Finance Board to set the unsecured credit limits at the lesser of a percentage of a Bank's total capital or a counterparty's total assets.
The Finance Board has considered these comments but has decided not
to make any changes to the proposed rule in response. In the
SUPPLEMENTARY INFORMATION section of the Federal Register proposing
release for this rule, the Finance Board noted three reasons to require
the Banks to determine the applicable maximum capital exposure limit
based solely a counterparty's longterm credit rating. First, the
Finance Board stated that the reliance on longterm credit ratings was
consistent with the approach being suggested by the Basel Committee on
Banking Supervision (Basel Committee) for establishing riskweightings
under its standardized approach in the proposed New Capital Accord,
which generally proposes using longterm ratings assigned by rating
agencies (i.e., NRSROs) and disregarding the maturity of a credit in
setting risk weightings. See 66 FR at 4147980 (citing Basel Committee,
``A New Capital Adequacy Framework'' 2636 (June 1999); and Basel
Committee, ``Overview of the New Basel Accord'' 1314 (Jan. 2000)).\3\
Second, the Finance Board noted that parties that would be assigned the
same shortterm credit rating may have markedly different maximum 30
day default rates, depending on a party's longterm credit rating, so
that use of longterm ratings would assure more restrictive limits were
imposed on borrowers with the higher maximum 30day default rate. 66 FR
at 41480. Finally, the Finance Board stated that exclusive reliance on
longterm credit ratings for determining the maximum exposure limits
would simplify the Banks' monitoring of their counterparties' ratings. Id.
\3\ See also, Basel Committee, ``Consultative Document: The new
Basel Capital Accord'' 1415 (Jan. 2001) (``if there is a longterm
issue or issuer assessment [i.e., rating], that assessment should be
used not only for longterm claims but also for shortterm claims,
regardless of the availability of a shortterm assessment * * *).
The comments received do not alter the Finance Board's basic reasoning for proposing exclusive use of longterm credit ratings to determine the maximum capital exposure limit applicable to a counterparty. In this regard, the Finance Board emphasizes that its approach is consistent with the standardized approach being proposed by the Basel Committee in the New Capital Accord for establishing risk weightings. The Basel Committee decided generally to ignore maturity of claims in establishing risk weighting in large part because of ``the difficulties in pursuing greater precision in differentiating among the maturities of claims through capital charges'' and the ``broad brush'' nature of the proposed capital requirements. See Basel Committee, ``A New Capital Adequacy Framework'' at 33. The same reasoning can be applied to the unsecured credit limits being adopted herein, especially given that the credit limits are designed to provide a broad framework to prevent concentration of credit in single counterparties or groups of affiliated counterparties and not to differentiate with precision the risks of lending to particular counterparties. See 66 FR at 8302 (explaining reasoning for adopting Sec. 932.9).
The Finance Board also disagrees with the suggestions of the one commenter that the unsecured credit limits will create more risk by lowering the quality of the Bank's credit portfolios. The unsecured credit limits adopted herein are themselves restrictive as to the amounts of credit that can be lent to lower rated counterparties. At the same time, before undertaking any significant lending or investment activity that was not allowed under the FMP, a Bank will first have to demonstrate pursuant to part 980 of the Finance Board rules, 12 CFR part 980, that it is able to undertake the new lending in a safe and sound manner. In addition, the lending undertaken by a Bank will eventually be subject to the capital requirements of part 932 of the Finance Board rules, helping to assure a Bank holds sufficient capital if it is indeed engaging in lending to lower quality counterparties. Even before the requirements of part 932 become effective, however, a Bank will be subject to the capital requirements set forth in Sec. 956.4 of the Finance Board rules, 12 CFR 956.4, if the Bank undertakes unsecured transactions with any counterparty rated below the second highest credit rating by an NRSRO. Further, with regard to the second commenter's concern about unsecured lending to members, the unsecured credit rules will not in any way limit a Bank's ability to continue to provide liquidity to members using shortterm advances.
The Finance Board also continues to believe that it is appropriate
to base the unsecured credit limits on the lesser of the capital of the
Bank or the capital of the counterparty rather than adopt the
commenter's suggestion of using a percentage of a counterparty's
assets. The approach adopted herein addresses the Finance Board's
concerns with potential concentrations of unsecured credit as a
percentage of Bank capital on both the individual Bank and Bank System level. See 66 FR at 8302. The approach also is relatively
straightforward to implement so the Finance Board sees no reason to alter it in response to the commenter's concerns.
Further, basing the limit on a percentage of counterparty assets rather than counterparty capital would result in higher limits as a percentage of counterparty capital for counterparties with lower capital ratios. For example, two counterparties with the same credit rating and same amount of total assets would be subject to the same limit. If one of the two has a lower capital ratio than the other, however, the Bank's lending to the less capitalized counterparty could equal a higher percentage of that counterparty's capital (i.e., the limit as a percentage of capital would be higher). Because capital serves as a cushion against loss, this methodology suggested by the commenter would allow the Bank a higher exposure relative to capital to the lesscapitalized counterparty and provide less protection against potential losses. Thus, the Finance Board believes that limiting extensions of unsecured credit to a percent of capital is the more appropriate methodology.
Overnight Federal Funds Transactions
The proposed rule would have amended Sec. 932.9 to require a Bank
to meet two unsecured credit limits for each private counterparty. The
first, the term limit, would have applied to all unsecured credit
transactions except sales of federal funds with a maturity of one day
or less or sales of federal funds subject to a continuing contract
(together ``overnight federal funds''). The term limit for a particular
counterparty equaled the maximum capital exposure limit times the
lesser of the Bank's total capital or the appropriate measure of the
counterparty's capital. The second limit, the overall limit, would have applied to all transactions with a particular
[[Page 66721]]
counterparty including any overnight federal funds transactions. The
overall limit for a particular counterparty equaled twice the counterparty's term limit.
The Finance Board received two comments on this proposed amendment. One commenter felt that the special treatment afforded overnight Federal Funds transactions by the proposed amendment offered only limited relief to, what the commenter believed were, the unnecessarily restrictive limits of Sec. 932.9. This commenter urged the Finance Board to exclude all overnight federal funds transactions from the unsecured credit limits, or in the alternative, to allow a flat 15 percent of capital addon to the term limit for overnight federal funds transactions for counterparties with the highest shortterm rating and at least the third highest longterm rating. The commenter argued that the ``funding advantage'' that may be enjoyed by the Banks, which the commenters viewed as the reason the Finance Board failed to exclude all overnight federal funds transactions from the rule, was a myth, noting that if such an advantage existed, depository institutions would get most of their funds from the Banks. The commenter also pointed out that given the low spread on advances, the Banks needed to maintain leverage through shortterm investments such as selling overnight federal funds. More generally, the commenter believed that the Finance Board's ``conservative'' approach to the unsecured credit limits was inconsistent with the GLB Act because the GLB Act made clear that the Finance Board's responsibility was safety and soundness regulation and not management of the Banks. The other commenter on the proposed amendment recommended that the Finance Board apply the proposed special limits only to overnight investment transactions between a Bank and a member institution, and that the Finance Board include in the overall limit all types of unsecured overnight transactions, not just overnight federal funds transactions.
As the Finance Board has previously stated, it adopted the
unsecured credit limits as a safety and soundness regulation to prevent
undue concentrations of credit in a single counterparty or groups of
affiliated counterparties. See 66 FR at 830102. Other banking
regulators have similar limits in effect.\4\ These types of regulations
also are consistent with practices for sound management of credit risk
as articulated by the Basel Committee. See Basel Committee,
``Principles for Management of Credit Risk'' 10 (Sept. 2000). Thus, the
Finance Board is confident that these regulations are consistent with
its obligations and authority to ensure that the Banks operate in a
financially safe and sound manner, and are not inconsistent with the
GLB Act or the Bank Act more generally. See 12 U.S.C. 1422a(a)3 and 1422b.
\4\ The Office of the Comptroller of the Currency sets forth its lending limits at 12 CFR part 32.
Further, as noted in the SUPPLEMENTARY INFORMATION section of the preamble of the proposed rule, the Finance Board considered excluding overnight federal funds transactions from its unsecured credit limits because other banking regulators excluded these transactions from their lending limits. See 66 FR at 41476. The Finance Board also noted that the Banks have different incentives than commercial depository institutions to lend into the federal funds markets. The differing incentives include both the funding advantage enjoyed by GSEs in borrowing and the more varied lending and investment opportunities available to commercial banking enterprises which reduces these institutions' incentives to engage in federal funds lending. Id. The Finance Board also emphasized that overnight federal funds transactions are currently subject to the unsecured credit limits of the FMP and that completely excluding overnight federal funds transactions from the restrictions of Sec. 932.9 would have represented a significant loosening of its restrictions, which was not the purpose of adopting these limits. Given these considerations, the Finance Board concluded that it was not appropriate to completely exclude overnight federal funds transactions from the unsecured credit limits, and instead, proposed the overall limit discussed above.
The Finance Board continues to believe that its initial reasoning remains sound. In particular, the Finance Board believes there is a basis for concluding that Banks have a financial incentive to lend to the federal funds markets, and that to permit such lending without limits would be imprudent. The Finance Board also believes that the rule as adopted provides the Banks with sufficient flexibility to invest funds to both meet their liquidity needs and to counter cyclical fluctuations in their business. Based on the same reasoning discussed above, the Finance Board also sees no compelling reasons to extend the treatment offered to overnight federal funds transactions to other types of overnight transactions in which a Bank may engage or to limit the additional lending capacity for overnight federal funds transactions just to transactions with members. Such restrictions would unnecessarily limit a Bank's investment opportunities with little apparent gain from a safety and soundness perspective. Moreover, nothing would prevent a Bank from implementing internal policies that would achieve this goal so long as the policies were consistent with Sec. 932.9 and other Finance Board regulations.
Affiliated Counterparties
In response to concerns that the unsecured credit limits were too
restrictive, the Finance Board proposed to amend Sec. 932.9 so that the unsecured credit limit applicable to groups of affiliated
counterparties would equal 30 percent of the Banks total capital. 66 FR
at 41482. The Finance Board explained that the proposed aggregate limit
on extensions of unsecured credit to affiliated counterparties would
have allowed the Banks to extend somewhat larger amounts of credit to
large financial conglomerates than did the provisions in Sec. 932.9 as adopted in December 2000. Id. at 41480.
The Finance Board also proposed amending the definition of ``affiliated counterparty.'' Id. at 41481. The Finance Board believed that new definition was more understandable and was more consistent with the meaning of the phrase ``corporate group'' as used in regulations issued by the Office of the Comptroller of the Currency (OCC), which addressed lending to affiliated counterparties. Id. at 41480. The effects of the proposed definition would have generally been to raise the threshold for control when defining an affiliate from (either direct or indirect) ownership of 25 percent of the voting securities or interests of an entity to 50 percent of such securities or interests. The Finance Board did not believe the change would generally alter the number or groupings of affiliated counterparties covered by the restrictions in Sec. 932.9. Id.
The Finance Board received only one comment on the proposed changes
to the unsecured credit limits applicable to extensions to a Bank's
unsecured lending to groups of affiliated counterparties. The commenter
urged the Finance Board to raise the limit from 30 percent of a Bank's
total capital to 50 percent of a Bank's total capital because, as the
commenter believed, there was only an indirect link between affiliates
related by a common holding company and failure of one affiliate would
seldom cause another affiliate to fail. The commenter also recommended
that counterparties related by a common holding company and special bankruptcyremote subsidiaries should
[[Page 66722]]
not be considered affiliates for purposes of Sec. 932.9.
The Finance Board considered this comment but has not altered the proposed unsecured lending limits for groups of affiliated counterparties or the proposed definition of affiliated counterparty as a result. The Finance Board disagrees with the commenter's suggestion that there is only minimal risk that the failure of one affiliated counterparty would affect the financial standing of other affiliates. As the Finance Board previously pointed out, applying credit exposure limits to groups of affiliated counterparties is consistent with sound principles of risk management and with practices of other regulators. See 66 FR at 41477. The Finance Board believes that the new limit suggested by the commenter would be too lenient and allow Banks too great an exposure to groups of affiliated counterparties. The limit adopted herein on extensions of credit to groups of affiliated counterparties, however, is consistent with limits adopted by other bank regulators.\5\ See 12 CFR 932.5(d) and 12 CFR 560.93(c). As already stated, the Finance Board also believes that the definition of ``affiliated counterparty,'' as proposed and as adopted herein, is consistent with similar terms used by other banking regulators. \5\ The cited regulations generally restrict an institution's aggregate extension of credit, including any lending that is fully secured by readily marketable financial instruments or bullion in which the lender holds a perfected security interest, to a corporate group to an amount not to exceed 50 percent of a bank's capital and surplus. The Finance Board's limit, though lower, would not apply to extensions of credit which are backed by collateral held by a Bank in accordance with the requirements of Sec. 932.9.
GSE Limits
The Finance Board proposed raising the limit on extensions of
unsecured credit to a GSE to 100 percent of the lesser of a Bank's or
GSE's total capital. Id. at 41482. This change basically would have re
instituted the limit on extensions of unsecured credit to GSEs that had
been in effect under the FMP.\6\ Id. at 4147576. As the Finance Board
explained, the proposal resulted from Banks' concerns that the limits
as adopted in December 2000 may have disrupted the Banks' investment
strategies. At the same time, the Finance Board did not believe the
proposal raised any safety and soundness concerns. Id. The proposed
amendment also would have required a Bank to treat a GSE like other
private counterparties should any NRSRO have assigned a credit rating
to, or downgraded a credit rating of, any longterm senior unsecured
credit obligation issued by a GSE to below the highest investment grade
or placed a GSE on a credit watch for such a downgrade. Id. at 41482.
This trigger provision was proposed to assure the preferential GSE
limit was not applied to an entity undergoing obvious financial difficulty. Id. at 41475.
\6\ Mortgagebacked securities issued by other federal housing
GSEs and purchased by the Banks were previously, and are not now,
considered a form of unsecured credit by the Finance Board.
The Finance Board received two comments on this proposed rule. The first commenter believed the trigger provision would have resulted in too drastic a cut in future credit to a troubled GSE and recommended that the deadline for applying the lower limits applied to a GSE after a downgrade in its credit rating be keyed to the extent of the downgrade (e.g., six months if downgraded to the second highest investment grade credit rating, three months if downgraded to the third highest investment grade credit rating, etc.). The commenter argued that reducing future extensions of credit to a GSE in times of financial difficulty could increase the risk of default by that entity. The second commenter requested that the Finance Board clarify that the preferential unsecured lending limit for GSEs would not be applied to subordinated debt issued by the GSE.
The Finance Board does not believe that any change in the proposed trigger provision is necessary in response to the comment and is adopting it as proposed. The commenter's suggestion, if adopted, could leave the Banks with the risk of maintaining the liquidity of other GSEs in the unlikely occurrence that another GSE experienced severe financial difficulties. More importantly, to the extent that special action were needed to help a GSE, or any other large financial institution, such action would have to be coordinated with other financial regulators, and the Finance Board would have to take appropriate action at that time (e.g., waiver of the trigger provision) to allow the Banks to adjust their lending positions accordingly. At the same time, the Finance Board would expect that a Bank would take steps to reduce its exposure to a GSE (or any other counterparty) as soon as the GSE's potential financial difficulties became apparent. Thus, the reduction in extensions of unsecured credit may be spread over time, and the reduction in unsecured credit triggered when the credit rating downgrade actually occurs may not be as drastic as the commenter suggested.
The Finance Board agrees with the second commenter, however, and has altered the final rule to make clear that the special unsecured credit limits applicable to GSEs do not apply to subordinated debt. GSE subordinated debt is generally perceived as providing an indication of the entity's financial standing, independent of any implied government guarantee. As such, the risk of holding GSE subordinated debt would be similar to the risks associated with holding nonGSE debt. The amendments to Sec. 932.9 adopted by the Finance Board will restrict a Bank's holding of GSE debt to the level calculated using the maximum capital exposure limit associated with the credit rating assigned to the GSE's subordinated debt. This rule would apply even if the GSE's subordinated debt received the highest investment grade rating from an NRSRO. Further, a Bank's holdings of a GSE's subordinated debt would be included in the total amount of unsecured credit extended to that GSE for purposes of applying the preferential lending limit for GSEs (i.e., 100 percent of the lesser of the Bank's or the GSE's total capital).
The Finance Board also recognizes that the commenter's concerns with regard to GSE subordinated debt would also apply to the subordinated debt of any other counterparty. Thus, the Finance Board is also adopting new Sec. 932.9(a)(4)(iii) as part of these final rule amendments. This provision imposes a special sublimit on any debt issued by a counterparty if that debt obligation received an issue rating from an NRSRO that is lower than the counterparty's longterm credit rating. This sublimit would be calculated using the rating assigned to the lowerrated debt obligation for purposes of determining the maximum capital exposure limit. Because the lower credit rating assigned to a particular obligation would indicate that holding that obligation is more risky than holding other obligations of the issuer counterparty, it is appropriate to limit the Bank's holdings of that specific obligation. Generally, the Finance Board believes that an issue rating will be lower than the issuer's longterm rating only in cases where the issue in question is subordinated debt.
Measurement of Derivatives Exposure
The Finance Board proposed amending Sec. 932.9 to require a Bank to
measure the unsecured credit exposure arising from a derivative
contract in accordance with Secs. 932.4(g) and 932.4(h) of the Finance
Board rules. 12 CFR 932.4(g) and 932.4(h). As adopted in December 2000,
Sec. 932.9 contained no provision indicating how a Bank should measure
its unsecured credit exposure to a counterparty, and this change would have conformed the
[[Page 66723]]
measurement for derivative contracts with that undertaken when
calculating a Bank's credit risk capital charges for derivative contracts under Sec. 932.4 of the Finance Board rules.
Four commenters pointed out that when read strictly this provision as proposed would not take account of collateral held against derivative exposure. These commenters pointed out that the proper measure of the unsecured credit exposure from a derivative contract should be the net markedtomarket value of the contract less the collateral posted by the counterparty. Two of these commenters also specifically stated that it was inappropriate to include the potential future credit exposure (PFE) of a contract in the calculation of the Bank's extension of unsecured credit to a counterparty. The two commenters pointed out that the exposure of a Bank upon default of a counterparty would be the markedtomarket value of the contract at the time of default. Further, these commenters stated risk management techniques, such as the right to value derivatives and call for additional collateral at any time, mitigate the need to include PFE in exposure calculations. One of these two commenters also requested that the Finance Board specify the frequency with which a Bank must measure its credit exposure from a derivative contract and recommended a frequency of once a month, which would coincide with minimum requirements in agreements for measuring exposure and settling collateral.
The Finance Board did not intend that derivative exposure against which collateral is properly held be included in the amount of unsecured credit extended to a counterparty, but agrees that the proposed wording in Sec. 932.9(f) did not make this clear. Thus, this provision, as adopted, has been reworded to make clear that any portion of a derivative exposure against which the Bank holds collateral shall not be counted toward the total amount of unsecured credit extended to a counterparty. To be counted, however, this collateral must be held in accordance with Sec. 932.4(e)(2)(ii)(B) of the Finance Board's rules, which among other things requires the value of the collateral to be appropriately discounted to protect the Bank against a price decline during the holding period and to account for the potential cost of liquidation of the collateral.
The Finance Board, however, believes that it is appropriate to continue to include a derivative contract's PFE in the calculation of extension of unsecured credit. Such practice appears to be standard for derivative dealers when setting counterparty credit limits. See e.g., Bank for International Settlements, ``OTC Derivatives: Settlement Procedures and Counterparty Risk Management'' 1516 (Sept. 1998). The Finance Board believes that it is also appropriate here since the value of certain derivative contracts may be fast changing and the use of collateral may reduce losses but generally does not eliminate credit risk. Id. at 4. Thus, as adopted, Sec. 932.9(f) requires a Bank to include both the current credit exposure and the PFE in its calculation of the amount of unsecured credit extended to a counterparty. This provision, both as proposed and as adopted, allows a Bank, however, to calculate its exposure on a net basis for derivative contracts subject to a qualifying bilateral netting contract, as that phrase is defined under Sec. 932.4(h)(3).
The Finance Board has also decided not to place in the rule a minimum frequency for calculating exposures under a derivative contract. Instead, Banks should establish clear policies to govern such calculations, and these policies will be reviewed by the Finance Board in the course of Bank examinations. In setting this policy, a Bank should consider the complexity of its derivative holdings and the volatility of the value of those holdings as well as other relevant factors. The Finance Board generally believes, however, that a Bank should value its derivative contracts more frequently than once a month for purposes of applying Sec. 932.9.
Requests for Additions to the Rule
Two commenters asked that the Finance Board add a provision to the rule to clarify the status of bonds issued by state and local housing finance agencies (HFAs). Both commenters pointed out that investment in HFA bonds helped Banks achieve their housing finance missions and provided Banks with investment flexibility and that treating HFAs like other counterparties severely restricts the Banks' investment in HFA bonds because HFAs often have low capital. These commenters also noted that HFA bonds were considered outside the scope of the unsecured credit limits of section VI of the FMP. As a follow up to its comment letter, one commenter sent an additional letter stating that they believe that most HFA bonds were secured by mortgage collateral and therefore should have been exempt from the unsecured credit limits, but provided no justification or legal rationale to support such a conclusion. Another commenter requested that the Finance Board add a provision that if a thirdparty guaranteed repayment by the counterparty, the unsecured credit limits should be applied to the guarantor and not to the counterparty itself, as has been required under the FMP.
The Finance Board has considered these comments and has made
changes in the final rule as a result. With regard to the HFA
obligations, the Finance Board believes that generally these
obligations should be subject to the unsecured credit limitations.
While the structure of the HFA obligations held by the Banks may vary
widely, it does not appear that these obligations are usually secured
in the sense that the HFA provides the Bank with collateral that the Bank holds in accordance with the principles set forth in
Sec. 932.4(e)(2)(ii)(B) or in the same sense that a Bank secures an
advance. Nevertheless, given that the structure of these transactions
may vary, the Finance Board is willing to consider on a casebycase
basis that a specific HFA transaction may be considered secured and
therefore should be excluded from the limits of Sec. 932.9.
The Finance Board agrees with the commenters, however, that application of the proposed limits in Sec. 932.9 may restrict the Banks' ability to purchase the HFA obligation and be detrimental to the Banks' housing finance mission. Investments in HFA obligations are also subject to other Finance Board regulations. Thus, the Finance Board is adopting new Sec. 932.9(a)(3) which sets a special limit for certain HFA obligations. As is explained more fully in the next section of this preamble, this special limit for qualified HFA obligations will be calculated based upon the Bank's total capital and the maximum capital exposure limit associated with the rating of the instrument purchased by the Bank. To qualify for treatment under Sec. 932.9(a)(3), the HFA obligation must either be an acquired member asset, as defined in Sec. 955.2 of the Finance Board rules, or be the type of obligation excluded by Sec. 956.3(a)(4)(iii) from the general prohibition against the Banks' investing in whole mortgages or loans (or interests therein). The Finance Board believes that the approach adopted in these amendments will provide the Banks with sufficient capacity to invest in HFA obligations in support of their housing finance mission while still preventing undue concentrations of these instruments on the Banks' books.
More generally, the Finance Board recognizes that, given the
comment concerning the status of HFA bonds, there may be some confusion
concerning the intended scope of this rule. This is especially true where a
[[Page 66724]]
bond or other debt securities may be backed by a pledge of specific
property or by revenues, such as may occur with certain HFA bonds, so
that the debt security may be considered secured in some context. In
developing this rule, however, the Finance Board has viewed the
purchase of a debt security or other debt obligation generally to be an
unsecured extension of credit, unless the Bank, itself, holds or
controls collateral against its exposure from the debt obligation, in
accordance with the requirements of Sec. 932.4(e)(2)(ii)(B). To make
this view clear, the Finance Board has adopted new Sec. 932.9(f)(2).
New Sec. 932.9(f) also makes clear that the Finance Board continues to
exempt mortgagebacked securities from the unsecured credit limits and
that loans purchased as acquired member assets (AMA) and identified in
Secs. 955.2(a)(1) and (2), 12 CFR 955.2(a)(1) and (2), are also exempt.
The AMA exemption under new Sec. 932.9(f)(2) does not extend to HFA bonds purchased under the AMA. Generally, a member or housing associate does not need to provide added credit enhancements and collateralize that credit enhancement for HFA bonds as it would for mortgages purchased under the AMA program. See 12 CFR 955.3(b)(3). This is because the HFA bonds purchased under the AMA program are already enhanced by collateral (not held by the Bank) and rated sufficiently high that additional enhancement or collateral is not required. Further, the unsecured credit provision for HFA bonds already takes account of this higher rating by allowing the maximum capital exposure limits to be determined based on the issue rating of the HFA bond itself rather than on the rating of the HFA. The new provision also makes clear that the Finance Board is willing to consider on a caseby case basis that any debt obligation or debt security purchased by the Bank should not be subject to the limits of Sec. 932.9 because the Bank's credit exposure is adequately secured.
The Finance Board also agrees with the commenter that where a thirdparty has provided an unconditional and irrevocable guarantee covering a credit extended by the Bank, the Bank's exposure will ultimately be to the guarantor. Given this fact, the Finance Board has modified proposed Sec. 932.9(a) to make clear that if repayment of a credit is guaranteed unconditionally and irrevocably by a thirdparty, the resulting unsecured credit exposure would be treated as if it were to the thirdparty guarantor. This means that in calculating the unsecured credit limits for these guaranteed transactions, a Bank would consider the credit rating and capital of the thirdparty guarantor and would aggregate the credit exposure arising from the guarantee with any other unsecured credit extended to the thirdparty guarantor. The Finance Board recognizes that for regulatory or other reasons, a third party may not provide, or be able to provide, an irrevocable guarantee, but may provide some other form of support or credit enhancement. While the rule as adopted only allows unconditional, irrevocable guarantees to be attributed to the thirdparty guarantor, the Finance Board would be willing to consider allowing this treatment to be extended on a casebycase basis to other specific support arrangements, if a Bank can demonstrate that the support or credit enhancement provided by the thirdparty provides a level of protection equivalent to an irrevocable guarantee.
Requests for Clarification
One commenter requested clarification as to whether the phrase ``affiliated counterparties' combined * * * capital'' as used in the reporting requirements of proposed Sec. 932.9(e)(1)(ii) meant the consolidated capital of the affiliated group or the combined capital of only those affiliated counterparties' to which a Bank had actually extended credit. The Finance Board believes that the phrase ``affiliated counterparties' combined * * * capital'' should be interpreted to mean the consolidated capital of the holding company for the affiliated group. Use of this figure would help avoid double counting of capital of affiliated members of a group.
This commenter also requested clarification whether the Finance Board expected data as of the monthend or some other date under the ``monthly'' reporting that would be required under Sec. 932.9(e). This requirement applies to extensions of credit outstanding at any time during the month, not just at monthend, although the Bank does not have to submit its report to the Finance Board until after the last business day of the month. Such report should be provided promptly after that date.
Another commenter asked for clarification of the meaning of the phrase ``net payments due a Bank'' as used in proposed
Sec. 932.9(f)(1), a provision which addresses the measurement of
unsecured credit exposures from onbalance sheet transactions. The
Finance Board notes that this phrase was used in section VI of the FMP,
and the Finance Board intends that it has the same meaning as under the
FMP. Thus, the phrase indicates an amount due to or accrued by the Bank
as of a point in time (i.e., the time a Bank measures its exposure from
the onbalance sheet transaction) and not the future amounts due over the life of the transaction.
Status of FMP Provisions
One commenter requested that the Finance Board specifically rescind in the final version of Sec. 932.9 provisions in section VI of the FMP concerning maximum maturities for derivative contracts and contingent collateralization of interest rate exchange agreements. The Finance Board does not believe a specific provision needs to be added to Sec. 932.9 as requested by the commenter. Upon the effective date of Sec. 932.9, the unsecured credit limitations of section VI of the FMP will be superseded and replaced by the rule. Any provision of section VI of the FMP which has not been adopted as part of Sec. 932.9, such as the two cited by the commenter, will no longer apply to the Banks.
Another commenter asked the Finance Board to clarify whether
restrictions contained in certain parts of the FMP would still be
applicable after the effective date of Sec. 932.9. Specifically, the
commenter requested clarification of the applicability of: footnote 1
which defines ``eligible financial institutions'' and effectively
limits the counterparties to which a Bank may lend overnight and term
funds; footnote 3 which sets forth qualifications for issuers of
commercial paper, bank notes and thrift notes that a Bank may buy; and
footnote 6 which sets forth the criteria for eligible nonmember
counterparties for hedging transactions. Footnotes 1 and 3 appear in
section II.B of the FMP, and footnote 6 is found in section V of the
FMP. The Finance Board believes that because these provisions restrict,
based on credit ratings, the counterparties to which the Bank may
extend credit or with which a Bank may transact business which would
create a credit exposure, these restrictions should be superseded upon
the effective date of Sec. 932.9. Section 932.9 is intended to address
concerns about the credit rating of the Banks' counterparties. It does
so, however, by limiting the amount of credit a Bank can extend to
parties rated at these various levels and not by restricting the
counterparties with which the Bank can transact. The new business
activity requirements of Part 980 of the Finance Board's rules would
apply to any investments involving counterparties the Bank intends to
transact with that were not permitted under the FMP. See 66 FR at 4147778.
[[Page 66725]]
III. The Final Rule
Except as noted below, the Finance Board is adopting the amendments to Sec. 930.1 and Sec. 932.9 of its rules, generally as proposed. The notices of proposed rulemaking published in the Federal Register on March 7, 2001, 66 FR 13688, and August 8, 2001, 66 FR 41474, contain additional explanatory information about the changes being adopted herein, and interested parties should review these document for a more complete understanding of the rule provisions discussed below. Definitions
The Finance Board is amending Sec. 930.1 of its rules, as proposed, to change the definition for ``affiliated counterparty'' and to add a new definition for the phrase ``sales of federal funds subject to a continuing contract.'' The definition of ``affiliated counterparty'' being adopted herein reads as follows:
Affiliated counterparty means a counterparty of a Bank that
controls, is controlled by or is under common control with another
counterparty of the Bank. For the purposes of this definition only,
direct or indirect ownership (including beneficial ownership) of
more than 50 percent of the voting securities or voting interests of an entity constitutes control.
The amended definition will generally raise the threshold for control
from direct or indirect ownership of 25 percent of the voting
securities or voting interests of an entity to ownership of 50 percent
of such interests, but is not likely to alter significantly the number
or groupings of counterparties that would be covered by the affiliated counterparty limitations. See, 66 FR at 41480.
In addition, the Finance Board is defining the phrase ``sales of federal funds subject to a continuing contract'' as an overnight federal funds loan that is automatically renewed each day unless terminated by either the lender or the borrower. This definition is consistent with the generally understood meaning of this phrase, and makes clear the types of federal funds transactions that will benefit from treatment under the overall limit of Sec. 932.9(a)(2) of the Finance Board rules. See Id. at 41478.
Unsecured Extensions of Credit to a Single Counterparty
The Finance Board is adopting proposed Sec. 932.9(a) with additional provisions designed primarily to address subordinated debt issued by a counterparty and a Banks' purchases of certain obligations issued by HFAs. In addition, the Finance Board has adopted a change to the proposed rule that requires a Bank to attribute the unsecured credit exposure arising from a transaction for which repayment is irrevocably and unconditionally guaranteed by a thirdparty to the guarantor. The Finance Board also has restructured Sec. 932.9(a) slightly to accommodate the new provisions.
As adopted, Sec. 932.9(a) of the Finance Board rules sets forth the limits on a Bank's extensions of unsecured credit to a single, nonGSE counterparty. Specifically, a Bank must always meet two limits. Under the first limit, all unsecured extensions of credit, except sales of overnight federal funds, by a Bank to single nonGSE counterparty can not exceed the term limit set forth in Sec. 932.9(a)(1). Under the second limit, which is twice the term limit, all unsecured extensions of credit including overnight federal funds transactions by a Bank to a single counterparty can not exceed the overall limit set forth in Sec. 932.9(a)(2). See Id. The effect of these limits is to allow the Banks to increase their lending of overnight federal funds to nonGSE counterparties beyond the term limit applicable to other types of unsecured lending.
Section 932.9(a) also sets out the criteria for calculating the
term limit and the overall limit applicable to nonGSE counterparties.
Under the rule, the term limit equals the product of the maximum
capital exposure limit multiplied by the lesser of: (i) The Bank's
total capital or (ii) the counterparty's Tier 1 capital, or, if Tier 1 capital is not available total capital (as defined by the
counterparty's principal regulator), or some comparable measure
identified by the Bank. This approach is the same approach adopted in
Sec. 932.9 in December 2000. See 66 FR at 830102. The overall limit is twice the term limit calculated for the counterparty.
Further, as adopted, Sec. 932.9(a) clarifies how a Bank attributes the credit exposure arising from a transaction that is subject to an unconditional and irrevocable guarantee by a thirdparty. Under the rule, if repayment of any unsecured credit is irrevocably and unconditionally guaranteed by a third party, the thirdparty guarantor shall be considered the counterparty. The Bank would therefore attribute the credit exposure to the thirdparty guarantor and calculate the applicable unsecured credit limits based upon the long term credit rating of the thirdparty guarantor and the lesser of the Bank's total capital or the relevant capital measure for the third party guarantor. If the thirdparty only guarantees a portion of the repayment of the credit, only that portion of the credit exposure so guaranteed shall be attributable to the third party guarantor, and the remainder of the exposure shall be attributable to the direct counterparty and subject to the limits applicable to the direct counterparty. As discussed above, the Finance Board is willing to consider requests from the Bank on a casebycase basis that it apply this approach to other forms of credit enhancement that may not clearly constitute an irrevocable unconditional guarantee, but may nonetheless offer a equivalent level of support.
As previously discussed, the limits for qualifying obligations issued by an HFA also are calculated somewhat differently, and, as set forth in Sec. 932.9(a)(3), the limit for these HFA obligations will always equal the product of the applicable maximum capital exposure limit and the Bank's total capital. Furthermore, the maximum capital exposure limit will be determined based on the credit rating assigned to the particular obligation purchased by the Bank. This approach could conceivably result in different limits applying to different classes or series of obligations issued by the same HFA (if each class or series received different issue ratings from the NRSROs). In such a case, however, the rule makes clear that limits will not be separately and independently applied so that the total amount of unsecured credit extended to a HFA by a Bank could never exceed the limit associated with the highest rated qualifying obligation purchased by the Bank. For example, if a Bank purchased two classes of qualifying obligations from a HFA with different structures such that one class was rated in the highest investment grade category and the other was rated in the second highest investment grade category by an NRSRO, the Bank's combined total purchase of both classes of instruments could not exceed 15 percent of the Bank's total capital. At the same time, the Bank's purchase of the instrument rated in the second highest investment grade category could not exceed 14 percent of the Bank's total capital.
To qualify for treatment under Sec. 932.9(a)(3), the HFA obligation
must either be an acquired member asset, as defined in Sec. 955.2 of
the Finance Board rules, or be the type of obligation excluded by
Sec. 956.3(a)(4)(iii) from the general prohibition against the Banks'
investing in whole mortgages or loans (or interests therein). Any other
type of obligation issued by an HFA or any other form of unsecured
extension of credit to the HFA would not qualify for treatment under Sec. 932.9(a)(3), and the
[[Page 66726]]
limit for that investment would be calculated under Sec. 932.9(a)(1).
Of course, the Bank would also have to be authorized to invest in or
provide such other form of unsecured credit under part 956 of the
Finance Board rules or some other applicable Finance Board regulation or order.
The maximum capital exposure limits are set forth in Table 4. Each maximum capital exposure limit corresponds to a different investment grade rating so that more restrictive maximum capital exposure limits are imposed on lowerrated, and therefore potentially riskier, counterparties. The applicable maximum capital exposure limit for a counterparty rated at the highest investment grade by an NRSRO is set at 15 percent. This level is broadly consistent with federal lending limits pertaining to commercial banks as set forth by statute and regulation. The maximum capital exposure limits corresponding to credit ratings below the highest investment grade, however, are calibrated to the 15 percent maximum capital exposure limit based upon the ratio of the average credit risk percentage requirement (over all maturity bucket groupings) for the highest investment grade to the average credit risk percentage requirement for each investment grade.\7\ A more complete explanation of the derivation of the maximum capital exposure limits is found in the SUPPLEMENTARY INFORMATION section of the Federal Register release proposing this rule. See 66 FR at 4147880. \7\ The credit risk percentage requirements are set forth in Sec. 932.4, Table 1.3 of Part 932 of the Finance Board rules, 12 CFR 932.4, and are used to calculate the credit risk component of the Bank's riskbased capital requirement.
As set forth in Sec. 932.9(a)(4)(i), a Bank will determine the
maximum capital exposure limit applicable to a counterparty based on the counterparty's longterm credit rating, subject to two
exceptions.\8\ Under the first exception, a shortterm credit rating
will be used to determine the applicable maximum credit exposure limit
if NRSROs have provided a shortterm credit rating for a counterparty
but have not provided a longterm rating for that counterparty. See
Infra Sec. 932.9(a)(4)(ii). If a shortterm credit rating for a
counterparty is used, however, the highest shortterm investment grade
rating is deemed to correspond to the maximum capital exposure limit
assigned to the third highest longterm investment grade rating in
Table 4 (i.e., nine percent), and the second and third highest short
term investment grade ratings would correspond to the maximum capital
exposure limit assigned to the fourth highest longterm investment
grade rating in Table 4 (i.e., 3 percent). This treatment of the short
term investment grade credit ratings is more fully discussed in the proposing release. 66 FR at 41480.
\8\ The Finance Board addressed its reasons for relying on long
term credit rating in its response to comments in Section II above
as well as in the preamble of the August 2001 proposing release for this rule. See 66 FR at 41479.
The second exception to exclusive use of longterm credit ratings
is set forth in Sec. 932.9(a)(4)(iii), and has been added by the
Finance Board in adopting this final rule. This provision states that
if a Bank purchases a debt obligation from a counterparty that has an
investment rating from an NRSRO that is lower than the counterparty's
longterm rating, the amount of the lowerrated obligation held by the
Bank can not exceed a special sublimit. Specifically, this sublimit
equals the maximum capital exposure limit from Table 4 corresponding to
the rating assigned the lowerrated debt obligation multiplied by the
lesser of the Bank's total capital or the counterparty's applicable
capital measurement. While the Bank's purchases of the lowerrate
obligation could not exceed the sublimit, the total amount of
unsecured credit extended by the Bank to the counterparty (including
amounts of the lower rated obligation) would be restricted by the term
limit and overall limit calculated using the counterparty's longterm
credit rating. As already noted, the Finance Board recognized the need
to adopt this provision when considering comments that the special
unsecured credit limits for GSEs should not be applied to subordinated
debt issued by the GSE because the same concerns arise whether a GSE or a nonGSE counterparty issues subordinated debt.\9\
\9\ By contrast, a review of Moody's September 2001 Rating Lists
for Banks and Securities Firms found that the issuer rating (i.e.,
the longterm counterparty rating) seldom if every differed from
issue ratings for longterm senior debt. This is especially true
under the rule because the rule ignores modifiers when determining credit ratings.
Section 932.9(a)(5) establishes the criteria that a Bank will use to determine a counterparty's longterm credit rating. The same criteria should be used whenever Sec. 932.9 requires a Bank to determine the shortterm rating of a counterparty or the issue rating of a specific obligation. This criteria is generally the same as that adopted in Sec. 932.9 in December 2000, and has been altered only to remove provisions that are no longer necessary given other changes adopted in this final rule. See Id. at 41481. In determining a counterparty's longterm credit rating, the rule requires a Bank to use the most recent rating issued by an NRSRO, and if more than one NRSRO has rated the counterparty, to use the lowest rating from among those ratings. A Bank should also ignore modifiers (e.g., +, , or 1, 2, 3), so that, for example, ratings of A+ or Awould both correspond to the same maximum capital exposure limit in Table 4 (i.e., third highest investment grade or 9 percent). Further, if a counterparty is placed on a credit watch by an NRSRO, the rule states that the credit rating from that NRSRO at the next lower grade shall be used. In cases where a counterparty is not rated by an NRSRO, the rule allows a Bank to determine the applicable credit rating using standards available from an NRSRO or similar standards.
Affiliated Counterparties
The Finance Board is adopting the unsecured credit limit on groups of affiliated counterparties in Sec. 932.9(b), as proposed. See Id. at 41480 (discussing proposed affiliated counterparty limit). Under Sec. 932.9(b), the aggregate limit on the extension of unsecured credit to a group of affiliated counterparties would equal 30 percent of the FHLBank's total capital. In calculating the amounts of unsecured credit extended to a group of affiliated counterparties, a Bank should include the amounts of sales of overnight federal funds to those affiliated counterparties. The rule also makes clear that unsecured credit limitations on individual counterparties continue to apply to each counterparty within a group of affiliated counterparties.
GSE Limits
The Finance Board is adopting the special limit for GSEs generally as proposed, see id. at 4147576, 41478, but, as already explained above, has added a provision to establish a lower, sublimit for GSE subordinated debt held by a Bank. In adopting the final version of Sec. 932.9(c), the Finance Board also has made some technical and conforming changes to the proposed rule.
Section 932.9(c) establishes the credit limits that a Bank should
impose on its unsecured lending to GSEs. Under Sec. 932.9(c)(1), a
Bank's unsecured credit exposure to a GSE may not exceed 100 percent of
the lesser of either the Bank's total capital or the GSE's total
capital (as defined by the GSE's principal regulator, or some similar
measure of the GSE's capital identified by the Bank). In applying this
limit, a Bank must include in its calculation of the total amount of unsecured credit extended to a GSE all forms of
[[Page 66727]]
unsecured lending, including sales of overnight federal funds and a
Bank's purchases of the GSE's subordinated debt. In addition,
Sec. 932.9(c)(2) requires that a Bank's total purchase of a GSE's
subordinated debt not exceed a special sublimit, which equals the
maximum capital exposure limit corresponding to the credit rating
assigned to the subordinated debt multiplied by the lesser of the
Bank's total capital or the applicable capital measurement of the GSE.
For example, if a GSE's subordinated debt were rated AA and the GSE's
total capital were larger than the Bank's total capital, the sublimit
on purchases of the GSE's subordinated debt would equal 14 percent of
the Bank's total capital. A Bank must calculate and apply the sublimit
on subordinated debt even if the subordinated debt is rated at the highest investment grade.
Section 932.9(c)(3) requires a Bank to treat GSEs like private counterparties in the event any NRSRO assigns a credit rating to, or downgrades the credit rating of, any longterm, senior debt obligation issued by a GSE to below the highest investment grade, or places the GSE on a credit watch for a potential downgrade. In this case, the Bank must calculate the maximum amount of its unsecured extensions of credit to that GSE in accordance with paragraph (a)(1) of the proposed rule. After a GSE's credit rating is downgraded or the GSE is placed on a watch list for a potential downgrade, Sec. 932.9(d) applies to a Bank's extensions of unsecured credit to that GSE.
Section 932.9(c)(4) exempts a Bank's unsecured lending to another Bank from all the unsecured credit limits of this rule, although a Bank still must report its credit exposure to another Bank to the extent required by Sec. 932.9(e). In adopting Sec. 932.9(c)(4), the Finance Board is incorporating into the unsecured credit rule a similar inter Bank exclusion that was contained in the FMP's unsecured credit provision. See Id. at 41476, 41478.
Transition Provision for Downgrades
The Finance Board has adopted the transition provision of
Sec. 932.9(d), as proposed. See Id. at 4148081. This provision
provides that in the event a lower maximum credit limit is imposed on a
counterparty (including on a GSE) because an NRSRO has downgraded the
credit rating applicable to a counterparty or has placed a counterparty
on a credit watch for a potential downgrade, a Bank is not required to
unwind or liquidate any transaction or position that was entered into
prior to the date of the downgrade or the placement on credit watch so
long as the transaction or position complied with the limits at the
time it was entered.\10\ However, any new unsecured extensions of
credit to the counterparty would have to comply with the new lower
maximum exposure limit. The rule makes clear that a renewal of an
existing unsecured extension of credit, including any decision not to
terminate a sale of federal funds subject to a continuing contract, would be considered a new extension of unsecured credit.
\10\ The finance Board has already stated that Sec. 932.9 will
not require a Bank to unwind existing positions that do not conform
to its new limits, provided that the credit was extended in
accor
FOR FURTHER INFORMATION CONTACT
James L. Bothwell, Managing Director, (202) 4082821; Scott L. Smith, Acting Director, (202) 4082991; or Julie Paller, Senior Financial Analyst, (202) 4082842, Office of Policy, Research and Analysis; or Thomas E. Joseph, Senior Attorney Advisor, (202) 4082512, Office of General Counsel, Federal Housing Finance Board, 1777 F Street, NW., Washington, DC 20006.