What is meant by loss rate in this context?
LGD is a fixed and downturn value in the capital requirement calculation. Based on the logic of the capital model the analysis of the PD volatility seems more reasonable, but it is not loss rate. Realised default rate x LGD is also a possible interpretation.
The loss rate for a set of exposures is the ratio of total losses for this set of exposures divided by total exposure values of this set of exposures, i.e. unlike for Loss Given Default (LGD), not limited to defaulted exposures only. In the absence of sufficient realised losses, consideration should be given to alternative data where appropriate conservatism can be demonstrated.
In the context of Article 154(4)(d) of Regulation (EU) No 575/2013 (CRR), a portfolio of exposures (set of exposures) for which loss rates are to be determined needs to be distinguished into several subsets of exposures by Probability of Default (PD) bands because having exhibited low volatility of loss rates, relative to their average level of loss rates, is required especially within the low PD bands.
Update 26.03.2021: This Q&A has been reviewed in the light of the changes introduced to Regulation (EU) No 575/2013 (CRR) and continues to be relevant.