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Regulation 575/2013 sets out requirements related to unrealised gains and losses on liabilities valued at fair value resulting from changes in the own credit standing of the institution. Regulation 575/2013 will apply from 1 January 2014 and mandates the EBA to prepare draft regulatory technical standards (RTS) in this area.
This final draft RTS further specify what constitutes the close correspondence between the value of the bonds and the value of the assets, as mentioned in paragraph 3, (c) related to Article 33 of Regulation 575/2013. This draft RTS, as mandated by Article 33(4) of Regulation 575/2013, relates to prudential filters applied to own funds (cash flow hedges and changes in the value of own liabilities).
Article 33(3) specifies that without prejudice to paragraph 1, (b) an institution may include the amount of gains and losses on its liabilities in own funds where all the following conditions are met:
In general, changes in gains and losses on its liabilities following changes in own credit risk should not lead to changes in the capital position. The reason for the rule is that it is not considered prudent for the regulatory capital to strengthen when the fair value of a liability decreases due to an increase in own credit risk (own credit standing). However, in special cases, where the fair value of the issued covered bond, i.e. the liabilities of the institution, determines the fair value of assets, a close correspondence is considered to exist between the value of the liabilities and the value of the institution’s assets, justifying that gains and losses on liabilities following changes in own credit risk can be taken into account. It should be noted, that in this particular case, the change in the asset value off-sets the change in the liabilities, leaving the capital position unchanged.