Standardized approach (credit risk)

Short description: Set of credit risk measurement techniques

Bank regulation and standards

* Bank for International Settlements
* Basel Accords (Basel I, Basel II, Basel III, Basel IV)
* Financial Stability Board

Background

* Banking (Regulation)
* Monetary policy
* Central bank
* Risk
* Risk management
* Regulatory capital
* Tier 1
* Tier 2

Pillar 1: Regulatory capital

* Credit risk
* Standardized
* IRB Approach
* F-IRB
* A-IRB
* PD
* LGD
* CCF
* EAD
* Operational risk
* Basic
* Standardized
* AMA
* Market risk
* Duration
* Value at risk

Pillar 2: Supervisory review

* Economic capital
* Liquidity risk
* Legal risk

Pillar 3: Market disclosure

* Disclosure

Business and Economics Portal

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The term standardized approach (or standardised approach) refers to a set of credit risk measurement techniques proposed under Basel II, which sets capital adequacy rules for banking institutions.

Under this approach the banks are required to use ratings from external credit rating agencies to quantify required capital for credit risk. In many countries this is the only approach regulators approved in the initial phase of Basel II implementation. The Basel II accord proposes to permit banks a choice between two broad methodologies for calculating their capital requirements for credit risk. The other alternative is based on internal ratings.

Reforms to the standardised approach to credit risk are due to be introduced under the Basel III.

## The summary of risk weights in standardized approach

There are some options in weighing risks for some claims, below are the summary as it might be likely to be implemented.

NOTE: For some "unrated" risk weights, banks are encouraged to use their own internal-ratings system based on Foundation IRB and Advanced IRB in Internal-Ratings Based approach with a set of formulae provided by the Basel-II accord. There exist several alternative weights for some of the following claim categories published in the original framework text.

* Claims on sovereigns

Credit Assessment | AAA to AA- | A+ to A- | BBB+ to BBB- | BB+ to B- | Below B- | unrated

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Risk Weight | 0% | 20% | 50% | 100% | 150% | 100%

* Claims on the BIS, the IMF, the ECB, the EC and the MDBs

Risk Weight: 0%

* Claims on banks and securities companies

Related to assessment of sovereign as banks and securities companies are regulated.
Credit Assessment | AAA to AA- | A+ to A- | BBB+ to BBB- | BB+ to B- | Below B- | unrated

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Risk Weight | 20% | 50% | 100% | 100% | 150% | 100%

* Claims on corporates

Credit Assessment | AAA to AA- | A+ to A- | BBB+ to BB- | Below BB- | unrated

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Risk Weight | 20% | 50% | 100% | 150% | 100%

* Claims on retail products

This includes credit card, overdraft, auto loans, personal finance and small business.

Risk weight: 75%

* Claims secured by residential property

Risk weight: 35%

* Claims secured by commercial real estate

Risk weight: 100%

* Overdue loans

more than 90 days other than residential mortgage loans.

Risk weight:
150% for provisions that are less than 20% of the outstanding amount
100% for provisions that are between 20% - 49% of the outstanding amount
100% for provisions that are no less than 50% of the outstanding amount, but with supervisory discretion are reduced to 50% of the outstanding amount

* Other assets

Risk weight: 100%

* Cash

Risk weight: 0%

## References

* Basel II: Revised international capital framework (BCBS)
* Basel II: International Convergence of Capital Measurement and Capital Standards: a Revised Framework (BCBS)
* Basel II: International Convergence of Capital Measurement and Capital Standards: a Revised Framework (BCBS) (November 2005 Revision)
* Basel II: International Convergence of Capital Measurement and Capital Standards: a Revised Framework, Comprehensive Version (BCBS) (June 2006 Revision)

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Financial risk and financial risk management

Categories|

| Credit risk|

* Concentration risk
* Consumer credit risk
* Credit derivative
* Securitization

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Market risk|

* Commodity risk (e.g. Volume risk, Basis risk, Shape risk, Holding period risk]], Price area risk)
* Equity risk
* FX risk
* Margining risk
* Interest rate risk
* Volatility risk
* Liquidity risk (e.g. Refinancing risk)

Operational risk|

* Operational risk management
* Legal risk
* Political risk
* Reputational risk
* Valuation risk

Other|

* Profit risk
* Settlement risk
* Systemic risk

Modeling|

* Market portfolio
* Modern portfolio theory
* RAROC
* Risk-free rate
* Risk parity
* Sharpe ratio
* Sortino ratio
* Value-at-Risk (VaR) and extensions Profit at risk, Margin at risk, Liquidity at risk

Basic concepts|

* Diversification
* Expected return
* Hazard
* Hedge
* Risk
* Risk pool
* Systematic risk
* Financial law

* Financial economics
* Investment management
* Mathematical finance

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