1. A put option which is subject to the conditions described in the background does not qualify as short position for the purposes of Article 45 CRR even though the fulfilment of the conditions depends only on the holder of the put option.

Due to the nature of these conditions, the put option described in the background does not provide an adequate hedge for entity A shares, and therefore should not be allowed to net the exposure. This is because there may be instances where, even if the bank is willing to fulfil the conditions, it may not be possible to do so. For example, in a downturn event, where entity A shares fall below a certain threshold, an Initial Public Offering (IPO) would not be initiated. Under this scenario, the bank would still have the exposure to entity A, but would not be able to exercise its right to sell (i.e. the hedge would not be effective). Additionally, short positions and their use for netting purposes shall always be carefully scrutinized, to ensure that they provide a genuine hedge for the value of the long position.

2. According to Article 36(1)(h) and (i) CRR, an institution shall deduct the applicable amount of direct, indirect and synthetic holdings of CET 1 instruments of financial sector entities. Article 45 CRR allows for institutions to make the deductions required under Article 36(1)(h) and (i) calculating the holdings on the basis of the net long position provided that the conditions in Article 45 are met.

Article 15f(1)(b)(ii) of the RTS on Own Funds substantiates Article 36(1) CRR by defining that the amount of synthetic holdings, other than call options, booked in the non-trading book to be deducted from CET 1 shall be the nominal or notional amount, as applicable.

3. Any netting of holdings of CET1 instruments with a short position according to Article 45 CRR constitutes a credit risk exposure to the counterparty of the short position, for which the exposure value is determined by the full amount that is no longer deducted due to netting with the short position.

The CRR does not treat the holding of a CET1 instrument as solely constituting an equity exposure but already as a total loss due to the deduction, similarly to a first loss tranche in a securitisation. Not deducting an amount of such holdings of CET1 instruments due to netting with a short position according to Article 45 CRR effectively treats the non-deducted amount as if the total loss has been replaced by a receivable, i.e. as if the CET1 instrument had been sold and the payment had not already been received from the counterparty of the short position. Thus, the payment still outstanding is equivalent to a loan to this counterparty over the full applicable amount of the put option that has been considered in the calculation of the net long position.