Is an institution required to obtain competent authority’s permission for delta calculation internal model in the situation when the position in option is being closed back-to-back (additional adjustments of closing position due to daily change of the position being closed) on a weekly basis?
According to Article 329(1) CRR “For OTC-options, or where delta is not available from the exchange concerned, the institution may calculate delta itself using an appropriate model, subject to permission by the competent authorities.“ Additionally Q&A 3314 clarifies that for positions closed back-to-back there is no need for competent authority’s approval for delta calculation internal model – the position is always 0.
The question is related to the case when an institution has portfolio of structured deposits with embedded options. Position is closed back-to-back for given buckets, but this product is offered to many natural persons - the problem arises when even one structured deposit from the bucket is withdrawn. Then, in fact the position is open and in consequence generates risk – it’s very small, but it exists. The institution closes position on a weekly basis and additionally at the end of the month as the cost of closing transactions with very low nominal is too high to do it on a daily basis.
Can this situation be treated as fulfilling requirements for back-to-back closed option position and as a consequence there is no need to receive competent authority’s permission to use internal model for delta calculation?
Q&A 3314 clarifies that for positions that are back-to-backed there is no need for competent authority’s approval for delta calculation internal model.
That is limited to cases where a position is perfectly back-to-back at all points in time. Where that is not the case, the institution is required to have the permission referred to in Article 329(1) CRR.