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  • CA-7.2 CA-7.2 Calculation of commodities positions

    • Netting

      • CA-7.2.1

        Banks should first express each commodity position (spot plus forward) in terms of the standard unit of measurement (i.e., barrels, kilograms, grams etc.). Long and short positions in a commodity are reported on a net basis for the purpose of calculating the net open position in that commodity. For markets which have daily delivery dates, any contracts maturing within ten days of one another may be offset. The net position in each commodity is then converted, at spot rates, into the bank's reporting currency.

      • CA-7.2.2

        Positions in different commodities cannot be offset for the purpose of calculating the open positions as described in paragraph CA-7.2.1 above. However, where two or more sub-categories8 of the same category are, in effect, deliverable against each other, netting between those sub-categories is permitted. Furthermore, if two or more sub-categories of the same category are considered as close substitutes for each other, and minimum correlation of 0.9 between their price movements is clearly established over a minimum period of one year, the bank may, with the prior written approval of the Agency, net positions in those sub-categories. Banks which wish to net positions based on correlations, in the manner discussed above, will need to satisfy the Agency of the accuracy of the method which it proposes to adopt.

        8 Commodities can be grouped into clans, families, sub-groups and individual commodities. For example, a clan might be Energy Commodities, within which Hydro-Carbons is a family with Crude Oil being a sub-group and West Texas Intermediate, Arabian Light and Brent being individual commodities.

    • Derivatives

      • CA-7.2.3

        All commodity derivatives and off-balance-sheet positions which are affected by changes in commodity prices should be included in the measurement framework for commodities risks. This includes commodity futures, commodity swaps, and options where the "delta plus" method is used9. In order to calculate the risks, commodity derivatives are converted into notional commodities positions and assigned to maturities as follows

        (a) futures and forward contracts relating to individual commodities should be incorporated in the measurement framework as notional amounts of barrels, kilograms etc., and should be assigned a maturity with reference to their expiry date;
        (b) commodity swaps where one leg is a fixed price and the other one is the current market price, should be incorporated as a series of positions equal to the notional amount of the contract, with one position corresponding to each payment on the swap and slotted into the maturity time-bands accordingly. The positions would be long positions if the bank is paying fixed and receiving floating, and short positions if vice versa. (If one of the legs involves receiving/paying a fixed or floating interest rate, that exposure should be slotted into the appropriate repricing maturity band for the calculation of the interest rate risk, as described in chapter CA-4);
        (c) commodity swaps where the legs are in different commodities should be incorporated in the measurement framework of the respective commodities separately, without any offsetting. Offsetting will only be permitted if the conditions set out in paragraphs CA-7.2.1 and CA-7.2.2 are met.

        9 For banks using other approaches to measure options risks, all Options and the associated underlying instruments should be excluded from both the maturity ladder approach and the simplified approach. The treatment of options is described, in detail, in chapter 8.

    • CA-7.3 CA-7.3 Maturity ladder approach

      • CA-7.3.1

        A worked example of the maturity ladder approach is set out in Appendix CA 5 and the table in paragraph CA-7.3.2 illustrates the maturity time-bands of the maturity ladder for each commodity.

      • CA-7.3.2

        The steps in the calculation of the commodities risk by the maturity ladder approach are:

        (a) The net positions in individual commodities, expressed in terms of the standard unit of measurement, are first slotted into the maturity ladder. Physical stocks are allocated to the first time-band. A separate maturity ladder is used for each commodity as defined in section CA-7.2 earlier in this chapter. The net positions in commodities are calculated as explained in section CA-7.2.
        (b) Long and short positions in each time-band are matched. The sum of the matched long and short positions is multiplied first by the spot price of the commodity, and then by a spread rate of 1.5% for each time-band as set out in the table below. This represents the capital charge in order to capture forward gap and interest rate risk within a time-band (which, together, are sometimes referred to as curvature/spread risk).

        Time-bands10
        0–1 months
        1–3 months
        3–6 months
        6–12 months
        1–2 years
        2–3 years
        over 3 years
        (c) The residual (unmatched) net positions from nearer time-bands are then carried forward to offset opposite positions (i.e. long against short, and vice versa) in time-bands that are further out. However, a surcharge of 0.6% of the net position carried forward is added in respect of each time-band that the net position is carried forward, to recognise that such hedging of positions between different time-bands is imprecise. The surcharge is in addition to the capital charge for each matched amount created by carrying net positions forward, and is calculated as explained in step (b) above.
        (d) At the end of step (c) above, there will be either only long or only short positions, to which a capital charge of 15% will apply. The Agency recognises that there are differences in volatility between different commodities, but has, nevertheless, decided that one uniform capital charge for open positions in all commodities shall apply in the interest of simplicity of the measurement, and given the fact that banks normally run rather small open positions in commodities. Banks will be required to submit, in writing, details of their commodities business, to enable the Agency to evaluate whether the models approach should be adopted by the bank, to capture the market risk on this business.

        10 For instruments, the maturity of which is on the boundary of two maturity time-bands, the instrument should be placed into the earlier maturity band. For example, instruments with a maturity of exactly one year are placed into the 6 to 12 months time-band.

    • CA-7.4 CA-7.4 Simplified approach

      • CA-7.4.1

        By the simplified approach, the capital charge of 15% of the net position, long or short, in each commodity is applied to capture directional risk. Net positions in commodities are calculated as explained in section CA-7.2.

      • CA-7.4.2

        An additional capital charge equivalent to 3% of the bank's gross positions, long plus short, in each commodity is applied to protect the bank against basis risk, interest rate risk and forward gap risk. In valuing the gross positions in commodity derivatives for this purpose, banks should use the current spot price.