Document ID: chunk:federal_register_of_legislation:F2024L01519:body:0:p39
Version: federal_register_of_legislation:F2024L01519
Segment Type: other
Provision Reference: 
Character Range: 108107–111275

internal measurement system ensure the model provides a reliable measure of potential losses over time;

        5.           data flows and processes associated with the risk measurement system are transparent and accessible, in that the model's specifications and parameters can be easily accessed; and

        6.            the ADI has processes to ensure that its internal models have been adequately validated by suitably qualified parties independent of the development process to ensure that they are conceptually sound and adequately capture all material risks. This validation must be conducted when the model is initially developed and when any significant changes are made to the model.

 1.          An ADI must validate its internal models on a periodic basis but especially where there have been any significant structural changes in the market or changes to the composition of the portfolio that might lead to the model no longer being adequate. As techniques and best practices evolve, an ADI must avail itself of these advances. Apart from back-testing, model validation must, at a minimum, also include:
        1.           tests to demonstrate that any assumptions made within the internal model are appropriate and do not underestimate or overestimate risk;

        2.           the use of additional back-tests; and

        3.           the use of hypothetical portfolios to ensure that the model can account for particular structural features that may arise.

Treatment of specific risk
 1.          An ADI that uses an internal model to calculate its regulatory capital in respect of general market risk may apply to APRA to use an internal model to calculate its specific risk capital requirement for equities and interest rate risk positions other than securitisation exposures and nth-to-default credit derivatives. An ADI using an internal model to calculate its specific risk capital requirement must comply with the criteria set out in paragraphs 7 to 16, 28 to 34, and 44 to 48 of this Attachment. An ADI using an internal model to calculate its specific risk capital requirement for interest rate risk positions other than securitisation exposures and nth-to-default credit derivatives must also comply with the criteria set out in paragraphs 49 to 80 of this Attachment.
 2.          An ADI's internal model used to calculate the specific risk capital requirement must:
        1.           explain the historical price variation in the portfolios concerned;

        2.           capture concentrations, resulting in higher capital charges for portfolios with higher concentrations, and be sensitive to changes in portfolio composition;

        3.           be robust to an adverse environment;

        4.           be validated through back-testing designed to assess whether both specific and general market risks are being accurately captured;

        5.           capture name-related basis risk; and

        6.            capture event risk[44].

 1.          An ADI's model must conservatively assess the risk arising from less liquid positions and/or positions with limited price transparency under realistic