Question ID:
Legal Act:
Regulation (EU) No 575/2013 (CRR)
Market risk
COM Delegated or Implementing Acts/RTS/ITS/GLs/Recommendations:
Not applicable
Disclose name of institution / entity:
Name of institution / submitter:
AFME - Association for Financial Markets in Europe
Country of incorporation / residence:
Type of submitter:
Industry association
Subject Matter:
Potential Future Exposure (PFE) add-ons for written options

Please confirm that for the purposes of the Mark-to-Market method under Article 274, no potential future exposure (PFE) add-ons should be taken for written options. This is because for written options there is no possibility of replacement costs becoming positive before maturity, and therefore an add-on is not necessary.

Background on the question:

From an economic point of view there is no counterparty risk. In addition, the interpretation is consistent with the CRR Annex II, which defines the scope for counterparty credit risk (CCR) and references only purchased options. We believe that the exclusion of sold options confirms our interpretation above.

Date of submission:
Final Answer:

Annex II of Regulation (EU) No 575/2013 (CRR) does not explicitly mention written options; however, written options would be included under 'other contracts of similar nature'. Indeed, according to paragraph 3 of Annex II, 'contracts of similar nature' include 'all instruments specified in points 4 to 7, 9 and 10 of Section C of Annex I to Directive 2004/39/EC' which refers to 'Options' in general, including the written ones.

Accordingly, Chapter 6 "Counterparty Credit Risk" of Title II "Capital requirements for Credit Risk" of Part 2 "Own Funds" of the CRR applies also to written options.

From a risk perspective, the inclusion of written options is necessary to reflect the risk stemming from a decrease in the market value of written options included in a netting set together with other instruments. Though the market value of the written options will always be negative, a written option might lead to an increase in the potentially positive market value (i.e. replacement cost) of the overall netting set.

The following example illustrates this:

A netting set is composed of an Interest Rate Swap (IRS) which represents an activity whose fair value is equal to 100 and a written option, which is a liability and whose fair value is equal to 30. In such a situation, the fair value of the whole netting set (i.e. the net replacement cost) is equal to 70. The exposure related to the netting set could become higher for two reasons:

i) the increase of the fair value of the IRS;

ii) the decrease of the fair value of the written option (taking into account that its fair value cannot become lower than 0).

In light of this, since a decrease in the fair value of the written option could imply a higher exposure in relation to the netting set, the PFE add-on has to be calculated on the written option also .

Answer prepared by:
Answer prepared by the EBA.
Note to Q&A:

Update 16.09.2021: This Q&A has been archived in light of the change(s) in Article 274 to Regulation (EU) No 575/2013 (CRR), applicable from 28.06.2021.