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FRM Part II · FRM Exam Part II · Capital Structure in Banks

A bank has a minority interest in a consolidated banking subsidiary and holds a significant investment in the common shares of an unconsolidated financial entity. Under Basel III's treatment of regulatory adjustments to CET1, which statement is most accurate?

Basel III applies threshold deductions: significant investments in unconsolidated financial institutions' common shares are deducted from CET1 only to the extent they exceed specified thresholds, 10% of CET1 individually and 15% in aggregate. Amounts below the thresholds are risk-weighted rather than deducted.

  1. ASignificant investments in unconsolidated financial institutions are deducted from CET1 only above specified threshold amountsCorrect
  2. BSignificant investments in unconsolidated financial institutions are always fully risk-weighted at 100% with no deduction
  3. CSignificant investments in unconsolidated financial institutions are added to Tier 2 capital
  4. DSignificant investments in unconsolidated financial institutions are deducted from Tier 2 only

Explanation

Basel III uses a threshold deduction approach: significant investments in the common shares of unconsolidated financial institutions, mortgage servicing rights and certain DTAs are deducted from CET1 only to the extent they exceed 10% of the bank's CET1 individually and 15% in aggregate. Amounts below thresholds are risk-weighted (at 250%).

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