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FRM Part II · FRM Exam Part II · Netting, Close-out and Related Aspects

A risk manager reviews a netting set where legal opinion confirms close-out netting is enforceable in the counterparty's jurisdiction, and the current trade values to the bank are +25 and -40 (USD million). The counterparty is hypothetically solvent today. Which statement about the bank's current exposure is correct?

Current exposure is zero. With enforceable close-out netting the trades net to -15 million, meaning the bank would owe the counterparty, so there is no positive amount to lose on default. Exposure equals the greater of net value and zero.

  1. AExposure is zero because the net value is -15 and the bank would owe the counterparty on close-outCorrect
  2. BExposure is 25 because positive trades are always counted
  3. CExposure is 15 because the absolute net is used
  4. DExposure is 40 because the largest trade is used

Explanation

Net value = 25 - 40 = -15. Exposure is the maximum of net value and zero, so it is 0. Using 25 ignores netting; using 15 ignores the floor and sign.

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