Document ID: chunk:federal_register_of_legislation:F2024L01074:body:0:p39
Version: federal_register_of_legislation:F2024L01074
Segment Type: other
Provision Reference: 
Character Range: 106154–109092

estimates must be calibrated to a long-run average of one-year default rates (one-year PD) for borrowers in each borrower grade and for exposures in each pool.
 3.          An ADI must estimate PD for each borrower grade or pool based on the observed historical one-year default rate that is calculated as a simple average based on the number of borrowers or facilities (that is, count weighted). Weighting approaches such as EAD weighting are not permitted.
 4.          The length of the underlying historical observation period used for the estimation of PD must be at least five years for at least one data source. If the available observations from any source span a longer period, and the data are relevant, this longer period must be used. The data should include a representative mix of good and bad years of the economic cycle relevant for the portfolio.

Additional requirements for corporate, sovereign and financial institution exposures
 1.          When estimating PD for each borrower grade, an ADI must use information and techniques that take appropriate account of long-run experience. These techniques may include the use of internal default experience, mapping to external data and statistical models. The ADI may have a primary PD estimation technique and use other techniques as a point of comparison and potential adjustment. The mechanical application of a technique without supporting analysis is not sufficient. The ADI must recognise the importance of judgemental considerations in combining the results of techniques and in making adjustments for limitations of techniques and information.

Additional requirements for retail exposures
 1.          An ADI must use internal data as the primary source of information for estimating PD for retail exposures. The ADI may use other data sources for PD quantification provided a strong link can be demonstrated between its:
        1.           process of assigning retail exposures to a pool and the process used by the other data source; and
        2.           internal risk profile and the composition of the other data.
    In all cases, the ADI must use all relevant and material data sources as points of comparison.

Risk quantification requirements specific to loss given default estimation

Requirements for all exposures
 1.          An ADI must estimate LGD based on a measure of economic loss. The ADI must take into account all relevant factors when measuring economic loss including material discount effects and material direct and indirect costs associated with collecting on an exposure. The ADI must not simply measure the loss recorded in its accounting records for LGD purposes, although it must be able to reconcile accounting and economic loss.
 2.          An ADI may make adjustments to its LGD estimates to reflect its own workout and collection expertise. Such adjustments must be supported by sufficient internal empirical evidence.
 3.