Which CCF must be applied to the undrawn/unissued amount if there is a commitment to a performance bond facility?
According to Article 111 and Article 166 of the CRR, a CCF of 20% is assigned for medium-low risk items specified in Annex 1 of the CRR (warranties, including tender and performance bonds and associated advance payment and retention guarantees, and guarantees not having the character of credit substitutes).
This statement is clear for issued guarantees, but the treatment for undrawn guarantees under committed lines of performance bonds is not detailed. Based on Article 166(9), where a commitment refers to the extension of another commitment, the lower of the two conversion factors associated with the individual commitment shall be used. However, the case described is not that of a performance bonds committed line.
Also, following the aim of the CRR rule to assign the right risk to each instrument, the approach should be consistent with the risk rationale as the CCF of an instrument that has already been issued should not be the same of the one of a commitment that is still subject to certain conditions, therefore deserving a lower CCF.
The question refers to cases where the bank has a committed line of performance bonds. For the undrawn amount there is no clarity of which CCF shall apply, due to two factors that come into play, first the commitment and, second, off-balance sheet instruments.
The “performance bonds facility” in question is understood as a credit facility committing the institution to issue performance bonds upon request. This issuance commitment refers to the extension of a commitment qualifying as performance bond.
According to Article 166(9) CRR, where a commitment refers to the extension of another commitment, the lower of the two conversion factors associated with the individual commitment shall be used. While not explicitly mentioned for Article 166(10) CRR or Article 111 CRR, the interaction between two commitments is the same, which supports also for these cases to use the lower of the two percentages associated with the individual commitment according to Article 166(10)(a) to (d) CRR or Article 111(1)(a) to (d) CRR, as applicable.
Consequently, the conversion factor to be used for the undrawn amount of a facility to issue performance bonds is the lower of (i) the conversion factor/percentage associated with the undrawn credit facility comprising the agreement to provide guarantees in the form of performance bonds and (ii) the conversion factor/percentage associated with a performance bond issued under this facility.
Which conversion factors/percentages are applicable in this specific case cannot be answered in an abstract manner. This depends on the individual circumstances as specified by the terms and conditions of the individual performance bonds facility. For the undrawn commitment to issue the performance bond, this depends e.g. on whether this commitment may be cancelled unconditionally at any time without notice. For the commitment under an issued performance bond, this depends e.g. on whether the performance bond qualifies as trade finance off-balance sheet item according to the definition of “trade finance” in Article 4(1)(80) CRR.
For further clarification about the classification of performance bonds according to Annex I CRR, please also refer to Q&A 2198.