184. When stress testing the foreign exchange lending risk, institutions should take into account …

When stress testing the foreign exchange lending risk, institutions should take into account at least:

a) the type of exchange rate regime and how this could impact on the evolution of the foreign exchange rate between domestic and foreign currencies;
b) the sensitivity impact of exchange rate movements on a borrower’s credit rating/score and debt servicing capacity;
c) the potential concentration of lending activity in a single foreign currency or in a limited number of highly correlated foreign currencies;
d) the potential concentration of lending activity in some specific sectors of the economy, in the country currency, that have a core business in foreign currency countries or markets and the corresponding evolution of such sectors highly correlated with foreign currencies; and
e) the ability to secure financing for this type of portfolio; for institutions applying internal models for the calculation of credit risk capital requirements, the additional risk related to lending in foreign exchange currencies should be reflected in higher risk weights of such assets, and the non-exhaustive list of variables used in the models should include interest rates disparities, loan-to-value (LTV) ratios, currency cross correlation and volatility.

1. Overview

Summary	Regulation

Requirements
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Standards
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