• CRM Techniques

    The CRM techniques that are commonly employed by the bank are as follows:

    Amended: April 2011
    April 2008

    • Hamish Jiddiyyah (Security Deposit held as Collateral)

      • CA-4.7.8

        Hamish Jiddiyyah (HJ), a refundable security deposit taken by the bank prior to establishing a contract, carries a limited recourse to the extent of damages incurred by the bank when the purchase orderer fails to honour a binding promise to purchase (PP) or promise to lease (PL). The bank has recourse to the clients in the PP/PL if the HJ is insufficient to cover for the damages.

        Apr 08

      • CA-4.7.9

        In the case of a non-binding PP/PL, the HJ shall be refunded in full to the clients, and hence is not considered as an eligible CRM.

        Apr 08

    • Urbun (Earnest Money held after a Contract is Established as Collateral to Guarantee Contract Performance)

      • CA-4.7.10

        The urbun taken from a purchaser or lessee when a contract is established accrues to the benefit of the bank if the purchaser or lessee breaches the contract within the agreed upon term.

        Apr 08

    • Guarantee from a Third Party (Recourse or Non-recourse Guarantee)

      • CA-4.7.11

        The guarantor may or may not have recourse to the debtor (i.e. purchaser or lessee) and the guarantee can be for a fixed period and for a limited amount, without any consideration being received by the guarantor. However, a claim should first be made against the debtor, and then against the guarantor, unless an option is provided to make the claim against either the debtor or the guarantor.

        Apr 08

      • CA-4.7.12

        The guarantee can also be given in a 'blanket' form that covers an unknown amount or a future receivable. However, this type of guarantee (sometimes known as a "market/business guarantee" or "guarantee of contractual obligation") is revocable at any time prior to the existence of the future receivables and does not qualify as an eligible CRM.

        Apr 08

    • Leased Assets used as Collateral

      • CA-4.7.13

        Assets leased under Ijarah or IMB contracts fulfill a function similar to that of collateral, in that they may normally be repossessed by the lessor in the event of default by the lessee (see residential real estate CA-4.2.19 and below).

        Apr 08

      • CA-4.7.14

        The value of such assets may be offset against the exposure amount to the customer, subject to the regulatory haircuts under the Standard Supervisory Haircut 12 Approach (CA-4.7.32 onwards) for leased assets mentioned in the paragraph CA-4.7.39. Ijarah receivables which comprise Residential Real Estate do not generally satisfy the conditions laid out in Paragraph CA-4.7.23 and therefore such receivables will be weighted at 75% and the collateral will not be recognised for risk mitigation purposes. If the bank can show legal evidence that it may exercise foreclosure, a risk weighting of 35% may be applied to the lease receivable in the case of residential property occupied by the customer. Commercial real estate may be used as collateral for Ijarah transactions as long as it satisfies the criteria of paragraph CA-4.7.23 (and the supervisory haircut is then applied).


        12 The term 'haircut' in this context refers to a discount on the depreciated value of an asset as collateral after taking into consideration some inherent risks that affect the volatility of the market price or value of the asset. It is commonly expressed in terms of a percentage by which an asset's value as collateral is reduced.

        Apr 08

      • CA-4.7.15

        The leased asset to be used as collateral must be a Sharia compliant tangible asset of monetary value that can be lawfully owned, and is saleable, specifiable, deliverable and free of encumbrance.

        Apr 08

      • CA-4.7.16

        The collateralisation under the concept of "rahn" or "kafālah" shall be properly documented in a security agreement or, in the body of a contract to the extent permissible by Sharia, and must be binding on all parties and legally enforceable in the relevant jurisdictions.

        Apr 08

      • CA-4.7.17

        The banks must additionally document its procedures for the valuation of leased assets to be used as collateral as described above. This valuation would normally be the depreciated value of the asset as reported in the financial statement.

        Apr 08

    • Guarantees

      • CA-4.7.18

        Capital relief for the use of a guarantee shall be given when the following conditions are satisfied:

        (a) The guarantee represents the bank's direct claim on the guarantor;
        (b) The guarantee is irrevocable and does not allow the guarantor to unilaterally cancel the guarantee after creation of the receivables;
        (c) The guarantee is unconditional and provides no protection clause that prevents the guarantor from being obliged to pay out in a timely manner in the event that the original counterparty fails to make payments due;
        (d) The bank has the right to pursue, in a timely manner, the guarantor for monies outstanding, rather than having to pursue the original counterparty to recover its exposure;
        (e) The guarantee shall be an explicitly documented obligation assumed by the guarantor; and
        (f) The guarantee shall cover all types of expected payments made under the contract in the event that the original counterparty defaults.
        (g) Portions of claims guaranteed by the entities detailed in paragraph CA-4.2.1 above, where the guarantee is denominated in the domestic currency (and US$ in case of a guarantee provided by the Government of Bahrain and CBB) may get a 0% risk-weighting. A claim may be covered by a guarantee that is indirectly counter-guaranteed by such entities. Such a claim may be treated as covered by a sovereign guarantee provided that:
        •   the sovereign counter-guarantee covers all credit risk elements of the claim;
        •   both the original guarantee and the counter-guarantee meet all operational requirements for guarantees, except that the counter-guarantee need not be direct and explicit to the original claim; and
        •   CBB is satisfied that the cover is robust and that no historical evidence suggests that the coverage of the counter-guarantee is less than effectively equivalent to that of a direct sovereign guarantee.

        Please Note: Though insurance is normally part and parcel of the project risk financing, it is not regarded by CBB as a credit risk mitigation technique.
        Amended: April 2011
        April 2008

    • Collateralised Transactions

      • CA-4.7.19

        Where banks take eligible financial collateral as defined in paragraph CA.4.7.28, they are allowed to reduce their credit exposure to a counterparty when calculating their capital requirements to take account of the risk mitigating effect of the collateral (except residential real estate - see CA-4.7.14).

        Apr 08

    • Overall Framework and Minimum Conditions

      • CA-4.7.20

        Banks may opt for either the simple approach, which substitutes the risk weighting of the collateral for the risk weighting of the counterparty for the collateralised portion of the exposure (generally subject to a 20% floor), or for the standard supervisory haircuts approach which allows fuller offset of collateral against exposures, by effectively reducing the exposure amount by the value ascribed to the collateral.

        Apr 08

      • CA-4.7.21

        Banks may operate under either, but not both, approaches in the banking book, but only under the standard supervisory haircuts approach in the trading book. Partial collateralisation is recognised in both approaches. Mismatches in the maturity of the underlying exposure and the collateral will only be allowed under the standard supervisory haircuts approach.

        Apr 08

      • CA-4.7.22

        However, before capital relief will be granted in respect of any form of collateral, the standards set out below in paragraphs CA-4.7.23 to CA-4.7.26 must be met under either approach.

        Apr 08

      • CA-4.7.23

        In addition to the general requirements for legal certainty set out in paragraphs CA-4.7.6 and CA-4.7.7, the legal mechanism by which collateral is pledged or transferred must ensure that the bank has the right to liquidate or take legal possession of it, in a timely manner, in the event of the default, insolvency or bankruptcy (or one or more otherwise-defined credit events set out in the transaction documentation) of the counterparty (and, where applicable, of the custodian holding the collateral). Furthermore banks must take all steps necessary to fulfill those requirements under the law applicable to the bank's interest in the collateral for obtaining and maintaining an enforceable security interest, e.g. by registering it with a registrar, or for exercising a right to net or set off in relation to title transfer collateral.

        Apr 08

      • CA-4.7.24

        In order for collateral to provide protection, the credit quality of the counterparty and the value of the collateral must not have a material positive correlation. For example, securities issued by the counterparty — or by any related group entity — would provide little protection and so would be ineligible.

        Apr 08

      • CA-4.7.25

        Banks must have clear and robust procedures for the timely liquidation of collateral to ensure that any legal conditions required for declaring the default of the counterparty and liquidating the collateral are observed, and that collateral can be liquidated promptly.

        Apr 08

      • CA-4.7.26

        Where the collateral is held by a custodian, banks must take reasonable steps to ensure that the custodian segregates the collateral from its own assets.

        Apr 08

    • Types of Collateral

      • CA-4.7.27

        The types of collateral given in the next paragraph are eligible for relief in respect of the above CRM techniques.

        Apr 08

      • CA-4.7.28

        (a) Hamish jiddiyyah (security deposit) only for agreements to purchase or lease preceded by a binding promise.
        (b) Urbun
        (c) Profit sharing investment account or cash on deposit13 with the bank which is incurring the exposure
        (d) Sukuk rated by an external rating agency which is issued by:
        (i) Sovereigns and PSEs (treated as sovereigns) with a minimum rating of BB-;or
        (ii) Issuers other than the above, with a minimum rating of BBB- or A-3 / P-3.
        (e) Sukuk that is unrated by an ECAI but fulfill each of the following criteria:
        (i) Issued by an Islamic bank or a conventional bank or a sovereign;
        (ii) Listed on a recognised exchange;
        (iii) All other rated issues by the Islamic bank or conventional bank of the same seniority of at least BBB - or A-3/P-3 by a recognised ECAI, as determined by the CBB;
        (iv) The Islamic bank which incurs the exposure or is holding the collateral has no information to suggest that the issue would justify a rating below BBB- or A-3/P-3; and
        (v) The CBB is sufficiently confident about the market liquidity of the securities.
        (f) Equities and units in collective investment schemes.
        (g) Guarantees issued by third parties that fall within the following categories:
        (i) Sovereigns and central banks;
        (ii) PSEs;
        (iii) MDBs;
        (iv) International organisations/official entities with 0% RW
        (v) Islamic banks or conventional banks; and
        (vi) Corporate entities (including insurance and securities firms) either by the parent, subsidiary and affiliates, of a minimum rating of A-.
        (h) Leased assets as stated under "Leased assets used as collateral" above.
        (i) Collateral under "Murabaha" accepted by CBB (see paragraphs CA-3.2.10 and CA-3.2.14).

        13 Must be supported by an agreement or documentation that gives bank the right of set-off against the amount of receivables due.

        Amended: April 2011
        April 2008

      • CA-4.7.29

        Any portion of the exposure which is not collateralised shall be assigned the RW of the counterparty.

        Apr 08

      • CA-4.7.30

        As stated earlier, banks may opt for either of the two approaches listed below:

        Apr 08

    • The Simple Approach

      • CA-4.7.31

        In the simple approach the risk weighting of the collateral instrument collateralising or partially collateralising the exposure is substituted for the risk weighting of the counterparty.

        Apr 08

    • The Standard Supervisory Haircuts Approach

      • CA-4.7.32

        In this approach, when taking collateral, banks must calculate their adjusted exposure to a counterparty for capital adequacy purposes in order to take account of the effects of that collateral. Using haircuts, banks are required to adjust both the amount of the exposure to the counterparty and the value of any collateral received in support of that counterparty to take account of possible future fluctuations in the value of either14, occasioned by market movements. This will produce volatility adjusted amounts for both exposure and collateral. Unless either side of the transaction is cash, the volatility adjusted amount for the exposure will be higher than the exposure and for the collateral it will be lower.


        14 Exposure amounts may vary where, for example, securities are being lent.

        Apr 08

      • CA-4.7.33

        Additionally where the exposure and collateral are held in different currencies an additional downwards adjustment must be made to the volatility adjusted collateral amount to take account of possible future fluctuations in exchange rates.

        Apr 08

      • CA-4.7.34

        Where the volatility-adjusted exposure amount is greater than the volatility-adjusted collateral amount (including any further adjustment for foreign exchange risk), banks shall calculate their risk-weighted assets as the difference between the two multiplied by the risk weight of the counterparty. The framework for performing these calculations is set out in paragraphs CA-4.7.36 to CA-4.7.38.

        Apr 08

      • CA-4.7.35

        Banks must use standard supervisory haircuts given in paragraph CA-4.7.39.

        Apr 08

    • Calculation of Capital Requirement Employing the Standard Supervisory Haircuts

      • CA-4.7.36

        For a collateralised transaction, the exposure amount after risk mitigation is calculated as follows:

        E* = max {0, [E x (1 + He) - C x (1 - Hc - Hfx)]}

        where:

        E* = the exposure value after risk mitigation

        E = current value of the exposure

        He = haircut appropriate to the exposure

        C = the current value of the collateral received

        Hc = haircut appropriate to the collateral

        Hfx = haircut appropriate for currency mismatch between the collateral and exposure

        Apr 08

      • CA-4.7.37

        The exposure amount after risk mitigation will be multiplied by the risk weight of the counterparty to obtain the risk-weighted asset amount for the collateralised transaction. The treatment for transactions where there is a mismatch between the maturity of the counterparty exposure and the collateral is given in paragraphs CA-4.7.47 to CA-4.7.50.

        Apr 08

      • CA-4.7.38

        Where the collateral is a basket of assets, the haircut on the basket will be H = Σi ai Hi, where ai is the weight of the asset (as measured by units of currency) in the i basket and Hi the haircut applicable to that asset.

        Apr 08

    • The Standard Supervisory Haircuts

      • CA-4.7.39

        Both the amount of exposure to counterparty and the value of collateral received are adjusted by using standard supervisory haircuts as set out below:

        Types of Collateral* Residual Maturity (yrs) Haircuts (%)
        Sovereigns15 Others
        Cash All 0 0
        Sukuk
        Long-term: AAA to AA- and
        Short-term: A-1
        ≤ 1
        > 1 to ≤ 5
        > 5
        0.5
        2
        4
        1
        4
        8
        Sukuk
        Long-term: A+ to BBB- and
        Short-term: A-2 to A-3
        ≤ 1
        > 1 to ≤ 5
        > 5
        1
        3
        6
        2
        6
        12
        Sukuk
        Long-term: BB+ to BB-
        All 15 15
        Sukuk (unrated) All 25 25
        Equities (included in main index)
        Equities (not included in main index but listed)
        Units in collective investment schemes
        All
        All
        All
        15
        25
        Depending on the underlying assets as above
        15
        25
        Depending on the underlying assets as above
        Leased assets used as collateral (except residential real estate -see CA-4.2.19) and other assets All >=30 >=30

        * Collateral denominated in different currency will also be subject to additional 8% haircut to cater for foreign exchange risk.


        15 Includes PSEs and MDBs

        Apr 08

      • CA-4.7.40

        The standard haircut for currency risk where exposure and collateral are denominated in different currencies is 8% (also based on a 10-business day holding period and daily mark-to-market). For transactions in which the bank lends non-eligible instruments (e.g. non- investment grade securities), the haircut to be applied on the exposure should be the same as the one for equity traded on a recognised exchange that is not part of a main index.

        Apr 08

    • The Simple Approach

      • The Minimum Conditions

        • CA-4.7.41

          For collateral to be recognised in the simple approach, the collateral must be pledged for at least the life of the exposure and it must be marked to market and revalued with a minimum frequency of six months. Those portions of claims collateralised by the market value of recognised collateral receive the risk weight applicable to the collateral instrument. The risk weight on the collateralised portion will be subject to a floor of 20% except under the conditions specified in paragraphs CA-4.7.42. The remainder of the claim should be assigned to the risk weight appropriate to the counterparty.

          Apr 08

      • Exceptions to the Risk Weight Floor

        • CA-4.7.42

          The 20% floor for the risk weight on a collateralised transaction will not be applied and a 0% risk weight can be applied where the exposure and the collateral are denominated in the same currency, and either:

          (a) The collateral is cash on deposit; or
          (b) The collateral is in the form of sovereign/PSE securities eligible for a 0% risk weight, and its market value has been discounted by 20%
          Amended: April 2011
          April 2008

      • Treatment of Pools of CRM Techniques

        • CA-4.7.43

          In the case where a bank has multiple CRM techniques covering a single exposure (e.g. a bank has both collateral and guarantee partially covering an exposure), the bank will be required to subdivide the exposure into portions covered by each type of CRM technique (e.g. portion covered by collateral, portion covered by guarantee) and the risk-weighted assets of each portion must be calculated separately.

          Apr 08

      • Credit Risk Mitigation for Mudarabah Classified as Equity Exposures

        • CA-4.7.44

          A placement of funds made under a Mudarabah contract may be subject to a Sharia compliant guarantee from a third party. Such a guarantee relates only to the Mudarabah capital, not to the return. In such cases, the capital should be treated as subject to credit risk with a risk-weighting equal to that of the guarantor provided that the RW of that guarantor is lower than the RW of the Mudarib as a counterparty. Otherwise, the RW of the Mudarib shall apply.

          Apr 08

        • CA-4.7.45

          In Mudarabah investment in project finance, collateralisation of the progress payments made by the ultimate customers can be used to mitigate the exposures of unsatisfactory performance by the Mudarib.

          Apr 08

        • CA-4.7.46

          The bank may also place liquid funds with a central bank or another bank on a short-term Mudarabah basis in order to obtain a return on those funds. Such placements serve as an interbank market with maturities ranging from an overnight market up to three months, but the funds may be withdrawn on demand before the maturity date in which case the return is calculated proportionately on the basis of duration and amount. Although from a juristic point of view the amounts so placed do not constitute debts, since (in the absence of misconduct or negligence) Mudarabah capital does not constitute a liability for the institution that acts as Mudarib, in practice the operation of this interbank market requires that the Mudarib should effectively treat them as liabilities. Hence a bank placing funds on this basis may treat them as cash equivalents and, for risk weighting purposes, apply the risk weight applicable to the Mudarib as counterparty.

          Apr 08

      • Maturity Mismatches

        • CA-4.7.47

          For the purposes of calculating risk-weighted assets, a maturity mismatch occurs when the residual maturity of CRM is less than that of the underlying exposure.

          Apr 08

        • CA-4.7.48

          The maturity of the underlying exposure and the maturity of the CRM should both be defined conservatively. The effective maturity of the underlying should be gauged as the longest possible remaining time before the counterparty is scheduled to fulfill its obligation, taking into account any applicable grace period.

          Apr 08

        • CA-4.7.49

          CRM with maturity mismatches are only recognised when their original maturities are greater than or equal to one year. As a result, the maturity of CRM for exposures with original maturities of less than one year must be matched to be recognised. In all cases, CRM with maturity mismatches will no longer be recognised when they have a residual maturity of three months or less.

          Apr 08

        • CA-4.7.50

          When there is a maturity mismatch with recognised credit risk mitigants, the following adjustment will be applied.

          Pa = P x (t - 0.25) / (T - 0.25)

          where:

          Pa = value of the credit protection adjusted for maturity mismatch

          P = credit protection (e.g. collateral amount, guarantee amount) adjusted for any haircuts

          t = min (T, residual maturity of the credit protection arrangement) expressed in years

          T = min (5, residual maturity of the exposure) expressed in years.

          Apr 08