[Federal Register Volume 82, Number 126 (Monday, July 3, 2017)]
[Proposed Rules]
[Pages 30776-30798]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2017-13560]


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FEDERAL HOUSING FINANCE BOARD

12 CFR Parts 930 and 932

FEDERAL HOUSING FINANCE AGENCY

12 CFR Part 1277

RIN 2590-AA70


Federal Home Loan Bank Capital Requirements

AGENCY: Federal Housing Finance Board; Federal Housing Finance Agency.

ACTION: Proposed rule.

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[[Page 30777]]

SUMMARY: The Federal Housing Finance Agency (FHFA) is proposing to 
adopt, with amendments, the regulations of the Federal Housing Finance 
Board (Finance Board) pertaining to the capital requirements for the 
Federal Home Loan Banks (Banks). The proposed rule would carry over 
most of the existing regulations without material change, but would 
substantively revise the credit risk component of the risk-based 
capital requirement, as well as the limitations on extensions of 
unsecured credit. The principal revisions to those provisions would 
remove requirements that the Banks calculate credit risk capital 
charges and unsecured credit limits based on ratings issued by a 
Nationally Recognized Statistical Rating Organization (NRSRO), and 
would instead require that the Banks use their own internal rating 
methodology. The proposed rule also would revise the percentages used 
in the tables to calculate the credit risk capital charges for advances 
and non-mortgage assets. FHFA would retain the percentages used in the 
existing table to calculate the capital charges for mortgage-related 
assets, but intends to address the appropriate methodology for 
determining the credit risk capital charges for residential mortgage 
assets as part of a subsequent rulemaking.

DATES: FHFA must receive written comments on or before September 1, 
2017. For additional information, see SUPPLEMENTARY INFORMATION.

ADDRESSES: You may submit your comments, identified by Regulatory 
Information Number (RIN) 2590-AA70, by any of the following methods:
     Agency Web site: www.fhfa.gov/open-for-comment-or-input.
     Federal eRulemaking Portal: http://www.regulations.gov. 
Follow the instructions for submitting comments. If you submit your 
comment to the Federal eRulemaking Portal, please also send it by email 
to FHFA at [email protected] to ensure timely receipt by the agency. 
Please include Comments/RIN 2590-AA70 in the subject line of the 
message.
     Courier/Hand Delivery: The hand delivery address is: 
Alfred M. Pollard, General Counsel, Attention: Comments/RIN 2590-AA70, 
Federal Housing Finance Agency, 400 Seventh Street SW., Eighth Floor, 
Washington, DC 20219. Deliver the package to the Seventh Street 
entrance Guard Desk, First Floor, on business days between 9 a.m. and 5 
p.m.
     U.S. Mail, United Parcel Service, Federal Express, or 
Other Mail Service: The mailing address for comments is: Alfred M. 
Pollard, General Counsel, Attention: Comments/RIN 2590-AA70, Federal 
Housing Finance Agency, 400 Seventh Street SW., Eighth Floor, 
Washington, DC 20219. Please note that all mail sent to FHFA via the 
U.S. Mail service is routed through a national irradiation facility, a 
process that may delay delivery by approximately two weeks. For any 
time-sensitive correspondence, please plan accordingly.

FOR FURTHER INFORMATION CONTACT: Scott Smith, Associate Director, 
Office of Policy Analysis and Research, [email protected], 202-649-
3193; Julie Paller, Principal Financial Analyst, Division of Bank 
Regulation, [email protected], 202-649-3201; or Neil R. Crowley, 
Deputy General Counsel, [email protected], 202-649-3055 (these are 
not toll-free numbers), Federal Housing Finance Agency, 400 Seventh 
Street SW., Washington, DC 20219. The telephone number for the 
Telecommunications Device for the Hearing Impaired is 800-877-8339.

SUPPLEMENTARY INFORMATION:

I. Comments

    FHFA invites comments on all aspects of the proposed rule and will 
take all comments into consideration before issuing a final rule. 
Copies of all comments will be posted without change, on the FHFA Web 
site at http://www.fhfa.gov, and will include any personal information 
you provide, such as your name, address, email address, and telephone 
number.

II. Background

A. Establishment of the Federal Housing Finance Agency

    Effective July 30, 2008, the Housing and Economic Recovery Act of 
2008 (HERA) \1\ created FHFA as a new independent agency of the Federal 
Government, and transferred to FHFA the supervisory and oversight 
responsibilities of the Office of Federal Housing Enterprise Oversight 
(OFHEO) over the Federal National Mortgage Association and the Federal 
Home Loan Mortgage Corporation (collectively, the Enterprises), the 
oversight responsibilities of the Finance Board over the Banks and the 
Office of Finance (OF) (which acts as the Banks' fiscal agent), and 
certain functions of the Department of Housing and Urban 
Development.\2\ Under the legislation, the Enterprises, the Banks, and 
the OF continue to operate under regulations promulgated by OFHEO and 
the Finance Board, respectively, until such regulations are superseded 
by regulations issued by FHFA.\3\ While FHFA has previously adopted 
regulations addressing the capital structure of the Banks and the 
Banks' capital plans, the Finance Board regulations establishing the 
Banks' total, leverage, and risk-based capital requirements continue to 
apply to the Banks pursuant to this provision, and would be superseded 
by this rulemaking.\4\
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    \1\ Public Law No. 110-289, 122 Stat. 2654.
    \2\ See 12 U.S.C. 4511.
    \3\ See 12 U.S.C. 4511, note.
    \4\ See 80 FR 12755 (March 11, 2015) (FHFA rulemaking); 12 CFR 
part 932 (Finance Board capital requirement regulations).
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B. Federal Home Loan Bank Capital and Capital Requirements

    The eleven Banks are wholesale financial institutions organized 
under the Federal Home Loan Bank Act (Bank Act).\5\ The Banks are 
cooperatives. Only members of a Bank may purchase the capital stock of 
a Bank, and only members or certain eligible housing associates (such 
as state housing finance agencies) may obtain access to secured loans, 
known as advances, or other products provided by a Bank.\6\ Each Bank 
is managed by its own board of directors and serves the public interest 
by enhancing the availability of residential mortgage and community 
lending credit through its member institutions.\7\
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    \5\ See 12 U.S.C. 1423 and 1432(a). The eleven Banks are located 
in: Boston, New York, Pittsburgh, Atlanta, Cincinnati, Indianapolis, 
Chicago, Des Moines, Dallas, Topeka, and San Francisco.
    \6\ See 12 U.S.C. 1426(a)(4), 1430(a), and 1430b.
    \7\ See 12 U.S.C. 1427.
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    In 1999, the Gramm-Leach-Bliley Act (GLB Act) \8\ amended the Bank 
Act to replace the subscription capital structure of the Bank System. 
It required the Banks to replace their existing capital stock with new 
classes of capital stock that would have different terms from the stock 
then held by Bank System members. Specifically, the GLB Act authorized 
the Banks to issue new Class A stock, which the GLB Act defined as 
redeemable six months after filing of a notice by a member, and Class B 
stock, defined as redeemable five years after filing of a notice by a 
member. The GLB Act allowed Banks to issue Class A and Class B stock in 
any combination and to establish terms and preferences for each class 
or subclass of stock issued, consistent with the Bank Act and 
regulations adopted by the Finance Board.\9\ The classes of stock to be 
issued, as well as the terms, rights, and preferences associated with 
each

[[Page 30778]]

class of Bank stock, are governed by a capital structure plan, which is 
established by each Bank's board of directors and approved by FHFA.
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    \8\ Public Law No. 106-102, 113 Stat. 1338 (Nov. 12, 1999).
    \9\ See 12 U.S.C. 1426, and 12 CFR part 1277.
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    The GLB Act also amended the Bank Act to impose on the Banks new 
total, leverage, and risk-based capital requirements similar to those 
applicable to depository institutions and other housing Government 
Sponsored Enterprises (GSEs) and directed the Finance Board to adopt 
regulations prescribing uniform capital standards for the Banks.\10\ 
The Finance Board put these regulations in place in 2001 when it 
published a final capital rule, and later adopted amendments to that 
rule.\11\ In addition to addressing minimum capital requirements, the 
regulations also established minimum liquidity requirements for each 
Bank and set limits on a Bank's unsecured credit exposure to individual 
counterparties and groups of affiliated counterparties.\12\ These 
Finance Board regulations remain in effect and have not been 
substantively amended since 2001.
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    \10\ See 12 U.S.C. 1426(a). In 2008, HERA amended the risk-based 
capital provisions in the Bank Act to allow FHFA greater flexibility 
in establishing these requirements. Pub. Law No. 110-289, 122 Stat. 
2654, 2626 (July 28, 2008) (amending 12 U.S.C. 1426(a)(3)(A)).
    \11\ See Final Rule: Capital Requirements for Federal Home Loan 
Banks, 66 FR 8262 (Jan. 30, 2001) (hereinafter Final Finance Board 
Capital Rule); and Final Rule: Amendments to Capital Requirements 
for Federal Home Loan Banks, 66 FR 54097 (Oct. 26, 2001). The 
Finance Board regulations are found at 12 CFR part 932.
    \12\ See id. See also, Final Rule: Unsecured Credit Limits for 
the Federal Home Loan Banks, 66 FR 66718 (Dec. 27, 2001) (amending 
12 CFR 932.9).
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    The GLB Act amendments to the Bank Act also defined the types of 
capital that the Banks must hold--specifically permanent and total 
capital. Permanent capital consists of amounts paid by members for 
Class B stock plus the Bank's retained earnings, as determined in 
accordance with generally accepted accounting principles (GAAP).\13\ 
Total capital is made up of permanent capital plus the amounts paid by 
members for Class A stock, any general allowances for losses held by a 
Bank under GAAP (but not allowances or reserves held against specific 
assets or specific classes of assets), and any other amounts from 
sources available to absorb losses that are determined by regulation to 
be appropriate to include in total capital.\14\ As a matter of 
practice, however, each Bank's total capital consists of its permanent 
capital plus the amounts, if any, paid by its members for Class A 
stock.
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    \13\ See 12 U.S.C. 1426(a)(5).
    \14\ Id. Neither the Finance Board nor FHFA has approved the 
inclusion within total capital of any other amounts that are 
available to absorb losses, and no Bank has any such general 
allowances for losses as part of its capital.
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    The Bank Act requires each Bank to hold total capital equal to at 
least 4 percent of its total assets. The statute separately requires 
each Bank to meet a leverage requirement of total capital to total 
assets equal to 5 percent, but provides that in determining compliance 
with this leverage requirement, a Bank must calculate its total capital 
by multiplying the amount of its permanent capital by 1.5 and adding to 
this product any other component of total capital.\15\
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    \15\ See 12 U.S.C. 1426(a)(2). See also 12 CFR 932.2.
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    Each Bank also must meet a risk-based capital requirement by 
maintaining permanent capital in an amount at least equal to the sum of 
its credit risk, market risk, and operational risk charges, as measured 
under the 2001 Finance Board regulations.\16\ Under these rules, a Bank 
must calculate a credit risk capital charge for each of its assets, 
off-balance sheet items, and derivatives contracts. The basic charge is 
based on the book value of an asset, or other amount calculated under 
the rule, multiplied by a credit risk percentage requirement (CRPR) for 
that particular asset or item, which is derived from one of the tables 
set forth in the rule. Generally, the CRPR varies based on the rating 
assigned to the asset by an NRSRO and the maturity of the asset.\17\ 
The market risk capital charge is calculated separately, as the maximum 
loss in the Bank's portfolio under various stress scenarios, estimated 
by an approved internal model, such that the probability of a loss 
greater than that estimated by the model is not more than one 
percent.\18\ The operational risk capital charge equals 30 percent of 
the combined credit and market risk charges for the Bank, although the 
rules allow a Bank to demonstrate that a lower charge should apply if 
FHFA approves and other conditions are met.\19\
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    \16\ See 12 U.S.C. 1426(a)(3) and 12 CFR 932.3, 932.4, 932.5, 
and 932.6.
    \17\ See 12 CFR 932.4.
    \18\ See 12 CFR 932.5.
    \19\ See 12 CFR 932.6.
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C. The Dodd-Frank Act and Bank Capital Rules

    Section 939A of the Dodd-Frank Wall Street Reform and Consumer 
Protection Act (Dodd-Frank Act) requires federal agencies to: (i) 
Review regulations that require the use of an assessment of the 
creditworthiness of a security or money market instrument; and (ii) to 
the extent those regulations contain any references to, or requirements 
based on, NRSRO credit ratings, remove such references or 
requirements.\20\ In place of such NRSRO rating-based requirements, 
agencies are instructed to substitute appropriate standards for 
determining creditworthiness. The Dodd-Frank Act further provides that, 
to the extent feasible, an agency should adopt a uniform standard of 
creditworthiness for use in its regulations, taking into account the 
entities regulated by it and the purposes for which such regulated 
entities would rely on the creditworthiness standard.
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    \20\ See Sec.  939A, Public Law 111-203, 124 Stat. 1887 (July 
21, 2010).
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    Several provisions of the Finance Board capital regulations include 
requirements that are based on NRSRO credit ratings, and thus must be 
revised to comply with the Dodd-Frank Act provisions related to use of 
NRSRO ratings.\21\ Specifically, as already noted, the credit risk 
capital charges for certain Bank assets are calculated in large part 
based on the credit ratings assigned by NRSROs to a particular 
counterparty or specific financial instrument. In addition, the rule 
related to the operational risk capital charge allows a Bank to 
calculate an alternative capital charge if the Bank obtains insurance 
to cover operational risk from an insurer with an NRSRO credit rating 
of no lower than the second highest investment grade rating. Finally, 
the capital rules addressed by this rulemaking also establish unsecured 
credit limits for the Banks based on NRSRO credit ratings. FHFA is 
proposing to amend each of these provisions to bring them into 
compliance with the Dodd-Frank Act requirements.
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    \21\ See Advance Notice of Proposed Rulemaking: Alternatives to 
Use of Credit Ratings in Regulations Governing the Federal National 
Mortgage Association, the Federal Home Loan Mortgage Corporation, 
and the Federal Home Loan Banks, 76 FR 5292, 5294 (Jan. 31, 2011).
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III. The Proposed Rule

    FHFA is proposing to amend part 1277 of its regulations by 
adopting, with some revisions, the capital requirement regulations of 
the Finance Board, which are located at 12 CFR part 932.\22\ Most of 
the provisions of the Finance Board regulations would be adopted 
without change or with only minor conforming changes. The proposed 
rule, however, would rescind Sec.  932.1, which required

[[Page 30779]]

the Banks to obtain the approval of the Finance Board for their market 
risk models prior to implementing their capital plans, which all Banks 
have done. The proposed rule also would rescind Sec.  932.8, regarding 
minimum liquidity requirements for the Banks, because FHFA intends to 
address liquidity requirements as part of a separate rulemaking.\23\ 
The proposal would adopt the substance of Sec.  932.2 and Sec.  932.3, 
regarding the total capital requirements and risk-based capital 
requirements, respectively, without change. FHFA is proposing to make 
minor revisions to the Finance Board regulations pertaining to market 
risk, operational risk, and reporting requirements, currently located 
at Sec. Sec.  932.5, 932.6, and 932.7, respectively. The proposed rule 
would make significant revisions to two provisions of the Finance Board 
regulations: Sec.  932.4, regarding credit risk capital requirements; 
and Sec.  932.9, regarding limits on unsecured credit exposures, 
principally by removing requirements that are based on NRSRO credit 
ratings. In both cases, the proposed rule would replace the current 
approach with one under which the Banks would develop their own 
internal credit rating methodology to be used in place of the NRSRO 
credit ratings. With respect to the credit risk capital charges, the 
proposed rule also would revise the CRPRs used in the current 
regulation's tables to calculate the credit risk capital charges for 
advances and for non-mortgage assets, off-balance sheet items, and 
derivatives contracts. With respect to the unsecured credit limits, the 
proposed rule would incorporate into the rule text the substance of 
certain regulatory interpretations that have addressed the application 
of the unsecured credit limits in particular situations, and would make 
other changes to account for developments in the marketplace, such as 
the Dodd-Frank Act's mandate for clearing certain derivatives 
transactions. The proposed rule would not change the basic percentage 
limits used to calculate the amount of unsecured credit that a Bank can 
extend to a single counterparty or group of affiliated counterparties.
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    \22\ FHFA previously transferred the Finance Board requirements 
related to the Banks' capital stock and capital structure plans and 
readopted these provisions, subject to certain amendments, as 12 CFR 
part 1277, subparts C and D. See Final Rule: Federal Home Loan Bank 
Capital Stock and Capital Plans, 80 FR 12753 (Mar. 11, 2015). At 
that time, FHFA also transferred a number of definitions relevant to 
the capital stock and capital plan requirements from 12 CFR 930.1 to 
subpart A of part 1277.
    \23\ The current regulation is not determinative of the amount 
of the Banks' liquidity portfolios. Instead, Banks maintain liquid 
assets in accordance with guidelines issued in March 2009 that 
provide for more liquidity than the regulatory requirements. See 
Letter from Stephen M. Cross, Deputy Director, Division of FHLBank 
Regulation, to the FHLBank Presidents, March 6, 2009. Under those 
guidelines, the Banks maintain positive cash balances that would be 
sufficient to support their operations if they were unable to issue 
consolidated obligations for a 5-day period during which they 
renewed all maturing advances, and for a 15-day period during which 
all maturing advances were repaid. Until FHFA adopts a new liquidity 
regulation, the March 2009 guidelines will remain applicable.
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    A discussion of the specific changes that FHFA proposes to make to 
the Banks' current capital regulations as part of this rulemaking 
follows.
Proposed Sec.  1277.1--Definitions
    Most of the definitions in proposed Sec.  1277.1 would be carried 
over without substantive change from current 12 CFR 930.1. FHFA, 
however, is proposing to define seven new terms, which are: 
``collateralized mortgage obligation;'' ``derivatives clearing 
organization;'' ``eligible master netting agreement;'' ``non-mortgage 
asset;'' ``non-rated asset;'' ``residential mortgage;'' and 
``residential mortgage security.''
    Three of the new terms FHFA proposes to define pertain to the 
mortgage-related assets that a Bank may hold, which are: 
``collateralized mortgage obligation,'' ``residential mortgage,'' and 
``residential mortgage security.'' These definitions are 
straightforward and are intended to be mutually exclusive. They will be 
used to assign the particular asset to the appropriate category of 
Table 1.4 that would be used to determine the capital charge for that 
asset. The term ``residential mortgage'' is intended to include those 
mortgage loans that the Banks may purchase as acquired member assets 
(AMA), and would include both whole loans and participation interests 
in such loans. These loans must be secured by a residential structure 
that contains one-to- four dwelling units. The proposed definition 
would encompass loans on individual condominium or cooperative units, 
as well as on manufactured housing, whether or not the manufactured 
housing is considered real property under state law. The definition 
would not include a loan secured by a multifamily property because the 
credit risk for such properties differs from loans secured by one-to-
four family residences.
    The term ``residential mortgage security'' includes any mortgage-
backed security that represents an undivided interest in a pool of 
``residential mortgages,'' i.e., mortgage pass-through securities. Both 
residential mortgages and residential mortgage securities would be 
grouped together in Table 1.4 of the proposed rule and would have the 
same credit risk capital charges, assuming the Bank has given them the 
same internal credit rating. The term ``collateralized mortgage 
obligation'' is intended to include any other type of mortgage-related 
security that is not structured as a pass-through security, i.e., any 
such security that has two or more tranches or classes. The capital 
charges for collateralized mortgage obligations would be derived from a 
different portion of Table 1.4, and most charges would be higher than 
those for mortgage pass-through securities. None of these proposed 
definitions would encompass a commercial mortgage-backed security 
(CMBS), including one collateralized by mortgage loans on multi-family 
properties, because the risk characteristics for such securities differ 
from those on securities representing an interest in, or otherwise 
backed by, mortgage loans on one-to-four family residential properties. 
Such CMBS or multi-family property securities would be deemed to be 
``non-mortgage assets'' and the capital charge for them would be 
determined by using proposed Table 1.2, which applies to internally 
rated non-mortgage assets, off-balance sheet items, and derivatives 
contracts.
    FHFA proposes to define ``derivatives clearing organization'' as an 
organization that clears derivatives contracts and is registered with 
either the Commodity Futures Trading Commission (CFTC) or the 
Securities and Exchange Commission (SEC) or is exempted by one of those 
two Commissions from such registration. The new definition is needed 
because, as is discussed below, the proposed credit risk capital 
provision and the proposed unsecured credit provision impose different 
requirements on derivatives contracts cleared by a derivatives clearing 
organization than they impose on those not so cleared.
    FHFA proposes to define ``non-rated asset'' to include those assets 
that are currently addressed by Table 1.4 of Finance Board regulation 
12 CFR 932.4, which are cash, premises, and plant and equipment, as 
well as certain investments described in the core mission activities 
regulation. Under the proposed rule the credit risk capital charges for 
``non-rated assets'' would derive from proposed Table 1.3, which would 
be identical to Table 1.4 of the current regulation, both in terms of 
the assets covered by the table and the capital charges assigned to 
each category of assets within the table.
    The proposed rule would define the term ``non-mortgage asset'' to 
include any assets held by a Bank other than advances covered by Table 
1.1, all types of mortgage-related assets covered by Table 1.4, non-
rated assets covered by Table 1.3, or derivatives contracts. As is 
discussed in much greater detail below, capital charges for ``non-
mortgage assets'' would be calculated based on their stated maturity 
and a Bank's internal credit rating for the assets, using new proposed 
Table 1.2. The

[[Page 30780]]

charges for all types of residential mortgage assets also would be 
calculated based on the Bank's internal rating of those assets, rather 
than a rating from an NRSRO, but the credit risk percentage 
requirements will remain the same as in the current regulation.
    The proposed rule also would add a definition for ``eligible master 
netting agreement.'' FHFA would define the term by reference to the 
definition for the term recently adopted in the FHFA rule governing 
margin and capital requirements for covered swap entities.\24\ The term 
``eligible master netting agreement'' would replace the references and 
definition of ``qualifying bilateral netting contract'' now found in 
the credit risk capital provision and would be relevant to how a Bank 
calculates its credit exposures under multiple derivatives contracts 
with a single party. As discussed more fully later, the current credit 
exposures arising from derivatives contracts with a single counterparty 
and subject to an eligible master netting agreement would be calculated 
on a net basis, in accordance with proposed Sec.  1277.4(i)(1)(ii). 
Lastly, the proposed rule would revise the existing Finance Board 
definition of ``operations risk'' by changing it to ``operational 
risk'' and incorporating the definition of operational risk currently 
used in FHFA Advisory Bulletin AB-2014-02 (February 18, 2014).
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    \24\ See, Final Rule: Margin and Capital Requirements for 
Covered Swap Entities, 80 FR 74840 (Nov. 30, 2015) (hereinafter, 
Final Uncleared Swaps Rule). The specific definition is found at 12 
CFR 1221.2. FHFA does not propose to carry over the current 
definition for ``walkaway clause'' in current 12 CFR 930.1 as the 
proposed definition of ``eligible master netting agreement'' already 
would sufficiently describe a walkaway clause.
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Proposed Sec.  1277.2 and Sec.  1277.3--Total Capital and Risk-Based 
Capital Requirements
    As noted above, FHFA proposes to re-adopt current Sec.  932.2 and 
Sec.  932.3 of the Finance Board regulations as Sec.  1277.2 and Sec.  
1277.3 without change. Proposed Sec.  1277.2 is identical to the 
existing regulation and would set forth the minimum total capital and 
leverage ratios that each Bank must maintain under section 6(a)(2) of 
the Bank Act.\25\ Proposed Sec.  1277.3 also is identical to the 
existing regulation, apart from cross-references to other regulations, 
and would set forth a Bank's risk-based capital requirement and require 
a Bank to hold at all times an amount of permanent capital equal to at 
least the sum of its credit risk, market risk and operational risk 
capital requirements.\26\ In turn, proposed Sec. Sec.  1277.4, 1277.5, 
and 1277.6 would establish, respectively, the requirements for 
calculating a Bank's credit risk, market risk, and operational risk 
capital charges, as described below.
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    \25\ 12 U.S.C. 1426(a)(2).
    \26\ FHFA believes that this approach remains consistent with 
the amendments made by HERA to the risk-based capital requirements 
in the Bank Act. As amended, the Bank Act provides the Director with 
broad authority to establish by regulation risk-based capital 
standards for the Banks that ensure the Banks operate in a safe and 
sound manner with sufficient permanent capital and reserves to 
support the risks arising from their operations. See 12 U.S.C. 
1426(a)(3)(A).
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Proposed Sec.  1277.4--Credit Risk Capital Requirements
    FHFA is proposing changes to the current credit risk capital 
provision, now set forth at 12 CFR 932.4 of the Finance Board 
regulations. The principal revisions include changing how a Bank 
determines the CRPRs used to calculate capital charges for its 
internally rated non-mortgage assets, derivatives contracts, and off-
balance sheet items (under proposed Table 1.2), and for its residential 
mortgage assets (under proposed Table 1.4). In both cases, a Bank would 
no longer base the charge on an NRSRO credit rating, but on a credit 
rating that the Bank calculates internally. The proposal also would 
update the CRPRs used to calculate the applicable capital charges for 
advances and non-mortgage assets, and would change the frequency of a 
Bank's calculation of its credit risk capital charges from monthly to 
quarterly.\27\ Finally, as discussed in more detail below, FHFA is also 
proposing a number of other changes to the current regulation.
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    \27\ FHFA also is proposing a similar conforming change for the 
frequency of the calculation of the market risk capital charge. As a 
result, under the proposed rule, Banks would re-calculate their 
risk-based capital requirement quarterly, rather than monthly as 
under the current regulation.
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    General. Similar to the current regulation, proposed Sec.  
1277.4(a) would provide that a Bank's credit risk capital requirement 
equal the sum of the individual credit risk capital charges for its 
advances, residential mortgage assets, non-mortgage assets, off-balance 
sheet items, derivatives contracts, and non-rated assets. Proposed 
Sec.  1277.4(b) through (e) would set forth the general approach for 
calculating the credit risk capital charges, respectively, for: 
Residential mortgage assets; advances, non-mortgage assets, and non-
rated assets; off-balance sheet items; and derivatives contracts. The 
calculation of capital charges for residential mortgage assets is 
discussed below in the section entitled Credit Risk Charge for 
Residential Mortgage Assets.
    Valuation of Assets. For all assets, Sec.  1277.4(c) of the 
proposed rule generally would require that a Bank determine the capital 
charge by multiplying the amortized cost of the asset by the CRPR 
assigned to the asset under the appropriate table. The proposed rule 
includes an exception to this general approach, which would apply for 
any asset carried at fair value for which the Bank recognizes the 
change in that asset's fair value in income. For these assets, the 
capital charge would equal the fair value of the asset multiplied by 
the applicable CRPR. The proposed wording represents a change from the 
current regulation, which bases the capital charge for on-balance sheet 
assets on the asset's book value. FHFA is proposing this change to 
provide greater clarity and alignment with the intent of the rule, as 
amortized cost and fair value are the current financial instrument 
recognition and measurement attributes used in relevant accounting 
guidance.
    Charge for Off-Balance Sheet Items. Section 1277.4(d) of the 
proposed rule would carry over the language from the existing Finance 
Board regulations regarding the capital charges for off-balance sheet 
items without change. Thus, the capital charge for such items would 
equal the credit equivalent amount of the item multiplied by the CRPR 
assigned to the asset by Table 1.2 of proposed Sec.  1277.4(f)(1). A 
Bank would calculate the credit equivalent amount for any off-balance 
sheet item pursuant to proposed Sec.  1277.4(h), which would allow a 
Bank to calculate the credit equivalent amount by using either an FHFA-
approved model or the proposed conversion factors set forth in Table 2. 
The proposed conversion factors are the same as those in the current 
regulation. Proposed Sec.  1277.4(d) would retain the existing 
exception provided by the current regulation for standby letters of 
credit, under which the CRPR would be the same as that established 
under Table 1.1 for an advance with the same remaining maturity as the 
standby letter of credit. A Bank would still need to calculate the 
credit equivalent amount for the letter of credit pursuant to proposed 
Sec.  1277.4(h).\28\
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    \28\ Under proposed Table 2, the credit equivalent amount of any 
letter of credit would equal the face amount of the letter of credit 
multiplied by 0.5 (i.e., a credit conversion factor of 50 percent).
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    Proposed Sec.  1277.4(h), which addresses the calculation of credit 
equivalent amounts and is substantively the same as Sec.  932.4(f) of 
the Finance

[[Page 30781]]

Board regulation, would carry over the treatment for certain off-
balance sheet commitments that otherwise would be subject to a credit 
conversion factor of 20 percent or 50 percent. If such commitments are 
unconditionally cancelable or effectively provide for cancellation upon 
deterioration in the borrowers' creditworthiness, then the credit 
conversion factor would be zero, and no credit risk capital charge 
would apply to those items.
    Derivatives Contracts. Proposed Sec.  1277.4(e) would establish the 
general requirements for calculating credit risk capital charges for 
derivatives contracts. The proposed rule would make a number of changes 
to the current regulation's treatment of derivatives. These changes 
reflect developments in derivatives regulations brought about by the 
Dodd-Frank Act, including the clearing requirement for many 
standardized over-the-counter (OTC) derivatives contracts and the 
adoption by FHFA, jointly with other federal regulators, of the Final 
Rule on Margin and Capital Requirements for covered Swap Entities, 
which established margin and capital requirements for uncleared swap 
contracts. The proposed rule also would eliminate the provision from 
the current regulation that provides special treatment for derivatives 
with members so that derivatives contracts with members would receive 
the same treatment as derivatives contracts with non-members. Section 
1277.4(e)(4)(i) of the proposed rule, however, would retain the 
exception in the current regulation that assigns a capital charge of 
zero to any foreign exchange rate contract (other than gold contracts) 
that has a maturity of 14 days or less.
    First, the proposed rule would add a credit risk capital charge for 
all cleared derivatives contracts, including exchange-traded futures 
contracts. Under the current regulation, cleared derivatives contracts 
have a charge of zero. However, when the Finance Board adopted the 
current regulation, the only cleared derivatives contracts used by the 
Banks were exchange-traded futures contracts, and the Banks did not 
commonly use futures. Given the Dodd-Frank Act clearing requirements, 
Banks will now clear a significant percentage of their OTC derivatives 
contracts.\29\ Thus, FHFA finds it reasonable to apply a capital charge 
to such contracts. The credit risk capital charge for cleared 
derivatives under the proposed rule also would take account of the fact 
that the amount of collateral a Bank must post to a derivatives 
clearing organization will exceed, at most times, the Bank's current 
obligation to the clearing organization, creating an exposure to 
potential loss of such excess collateral should the clearing 
organization fail. Capital rules adopted by federal banking regulators 
also instituted charges for collateral posted to the derivative 
counterparties, including derivative clearing organizations.
---------------------------------------------------------------------------

    \29\ Because a futures contract is a cleared derivatives 
contract, the change in the proposed rule with regard to capital 
charges for cleared derivatives contracts would also apply to 
futures contracts.
---------------------------------------------------------------------------

    Specifically, Sec.  1277.4(e)(4)(ii) of the proposed rule would 
impose a capital charge of 0.16 percent times the sum of a Bank's 
marked-to-market exposure on the cleared derivatives contract,\30\ plus 
its potential future exposure on the contract, plus the amount of any 
collateral posted by the Bank and held by the clearing organization 
that exceeds the amount of the Bank's current obligation to the 
clearing organization under the contract. The charge in the proposed 
rule for cleared derivatives contracts is consistent with the minimum 
total capital charge that would be applicable to cleared derivatives 
contracts under the standardized approach in the capital rules adopted 
by federal banking regulators.\31\
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    \30\ Given that most clearing organizations effectively settle a 
cleared derivatives contract at the end of the day, the current 
exposure would often be zero or a small amount depending on the 
timing of the daily settlement.
    \31\ FHFA, however, has not adjusted the charge to account for 
any additional capital amounts needed to comply with the capital 
conservation buffer under the federal banking regulators' rules.
---------------------------------------------------------------------------

    For uncleared derivatives contracts, the proposed rule would carry 
over much of the approach in the current regulation, in that a Bank's 
charge for a derivatives contract would equal the sum of the Bank's 
current credit exposure and potential future credit exposure under the 
derivatives contract, multiplied by the applicable CRPR assigned to the 
derivatives counterparty under Table 1.2 of proposed Sec.  1277.4(f). 
As under the current regulation, the proposed rule would deem that for 
purposes of calculating the charge on the current credit exposure the 
CRPR should be that associated with an asset with a maturity of one 
year or less and the Bank's internal rating for the derivatives 
counterparty. The calculation of the charge for the potential future 
exposure would be based on the CRPR associated with the maturity 
category equal to the remaining maturity of the derivatives contract.
    The proposed rule, however, also would add to the above amounts an 
additional credit risk charge for the amount of collateral posted to a 
counterparty that exceeds the Bank's current, marked-to-market 
obligation to that counterparty under the derivatives contract.\32\ The 
Bank would calculate the specific charge for the posted excess 
collateral based on a CRPR related to the Bank's internal rating for 
the custodian or other party holding such collateral and an applicable 
maturity deemed to be one year or less. The added charge would account 
for the possibility that the party holding the collateral may fail, and 
the Bank may not be able to recover its excess collateral. Capital 
rules issued by banking regulators also apply a capital charge for 
collateral posted to a third-party for uncleared derivatives contracts.
---------------------------------------------------------------------------

    \32\ Generally, this amount should equal the initial margin that 
a Bank would post under its derivatives contracts with a particular 
counterparty. Any amounts paid by a Bank to a derivatives clearing 
organization with respect to an end-of-day-settlement would not be 
considered collateral held by the clearing organization for purposes 
of applying any capital charge. Thus, the capital charge would be 
the sum of the current credit exposure, the potential future credit 
exposure, and the exposure related to the amount of collateral that 
exceeds the Bank's current exposure.
---------------------------------------------------------------------------

    The proposed rule would allow the Bank to reduce its credit risk 
capital charge for derivatives contracts based on collateral posted by 
the counterparty, but only if the Bank's treatment of collateral posted 
under the derivatives contract complies with proposed Sec.  
1277.4(e)(3). That provision would first require the Bank to hold such 
collateral itself or in a segregated account consistent with 
requirements in the uncleared swaps margin and capital rule.\33\ The 
proposed rule also requires a Bank to apply the minimum discounts set 
forth in the uncleared swaps margin and capital rule to any collateral 
that is eligible for posting under that rule.\34\ The proposed rule, 
however, would not limit the collateral that a Bank may accept to that 
meeting the eligibility requirements of the uncleared swaps or margin 
rule, given that not all Bank derivative counterparties would be 
subject to these requirements.\35\ This is

[[Page 30782]]

a change from the current regulation, which allows Banks to take 
account of collateral held against derivatives exposures if a member or 
affiliate of the member holds the collateral. The current regulation 
also does not impose specific minimum discounts on any type of 
collateral but allows a Bank to determine a suitable discount. The 
proposed rule would carry over requirements from the current regulation 
that any collateral be legally available to the Bank to absorb losses 
and be of readily determinable value at which it can be liquidated.
---------------------------------------------------------------------------

    \33\ See 12 CFR 1221.7(c). The Bank, however, would have to 
substitute the credit risk capital charge associated with the 
collateral for that of the derivatives contract. The proposed rule 
would also allow a Bank to base the calculation of the capital 
charge on the CRPR applicable to a third-party guarantor that 
unconditionally guarantees a Bank's counterparty's obligations under 
a derivatives contract, rather than on the requirement applicable to 
the counterparty.
    \34\ See, 12 CFR part 1221, Appendix B.
    \35\ Thus, under the proposed rule, the Bank would need to apply 
at least the minimum discount listed in Appendix B of the margin and 
capital rule for uncleared swaps to any collateral listed in that 
Appendix but would apply a suitable discount determined by the Bank 
based on appropriate assumptions about price risk and liquidation 
costs to collateral not listed in Appendix B.
---------------------------------------------------------------------------

    The proposed rule would assure that minimum standards apply before 
a Bank can reduce its derivatives credit risk capital charge based on 
the protection offered by collateral. The changes in the proposed rule 
would impose slightly higher collateral standards than under the 
current regulation, but would be consistent with the move toward 
stricter requirements for derivatives that has followed the recent 
financial crisis.\36\
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    \36\ For any derivatives transactions with swap dealers or major 
swap participants, the Bank would already have to meet these higher 
collateral standards under applicable uncleared swaps margin and 
capital rules, and thus, the proposed change should not affect 
transactions with these types of counterparties.
---------------------------------------------------------------------------

    Proposed Sec.  1277.4(i) would specify the method for calculating 
the current and potential future credit exposures under a derivatives 
contract. The proposed rule would require a Bank to calculate the 
current credit exposure in the same way as under the current 
regulation. Specifically, the current credit exposure would equal the 
marked-to-market value if that value is positive and would be zero if 
that value were zero or negative. The proposed rule would allow a Bank 
to calculate the current credit exposure for all derivatives contracts 
subject to an ``eligible master netting agreement'' on a net basis. As 
discussed previously, FHFA proposes to align the definition of 
``eligible master netting agreement'' with that in the recently-adopted 
margin and capital rule for uncleared swaps.
    This section of the proposed rule would provide a Bank the option 
of calculating the potential future credit exposure by using an initial 
margin model approved for use by the Bank by FHFA under Sec.  1221.8 of 
the margin and capital rules for uncleared swaps, or that has been 
approved by another regulator for use by the Bank's counterparty under 
standards similar to those in Sec.  1221.8, or by using the standard 
calculation set forth in Appendix A of the part 1221 rules.\37\ Thus, a 
Bank can rely on the initial margin calculation done by a swap dealer 
or other counterparty that uses a model approved by the CFTC, other 
federal banking regulator, or a foreign regulator whose model rules 
have been found to be comparable to the United States rules.\38\ If 
neither the Bank nor the Bank's counterparty uses an approved model to 
calculate initial margin amounts, or if the Bank otherwise chooses, the 
proposed rule would allow the Bank to calculate the potential future 
exposure using the method set forth in Appendix A to the margin and 
capital rules for uncleared swaps. The conversion factors and the 
calculation of relevant potential future credit exposures for 
derivatives contracts, including the net potential future credit 
exposure for derivatives subject to an ``eligible master netting 
agreement,'' set forth under Appendix A to the margin and capital rules 
for uncleared swaps, are very similar to the requirements in the 
current Bank capital regulations for calculating potential future 
credit exposures on derivatives contracts.\39\
---------------------------------------------------------------------------

    \37\ See 12 CFR 1221.8 and 12 CFR part 1221, Appendix A. As no 
Bank is currently a swap dealer or major swap participant that 
otherwise needs to develop an initial margin model, FHFA expects 
that the Banks would generally rely on the calculations done by a 
counterparty using its approved model or using Appendix A to the 
part 1221 rules.
    \38\ See 12 CFR 1221.9.
    \39\ See Final Rule on Margin and Capital Requirements for 
Covered Swap Entities, 80 FR 74881-882.
---------------------------------------------------------------------------

    Determination of credit risk percentage requirements. Proposed 
Sec.  1221.4(f) sets forth the method and criteria by which a Bank 
would determine the CRPR that it would use to calculate the credit risk 
capital charges for all of its assets, derivatives contracts, and off-
balance sheet items. The applicable CRPRs would be set forth in four 
separate tables. Table 1.1 would apply for advances. Table 1.2 would 
apply for internally rated non-mortgage assets, derivatives contracts, 
and off-balance sheet items. Proposed Table 1.3 would apply for non-
rated assets, which are cash, premises, plant and equipment, and 
certain specific investments. Proposed Table 1.4 would apply for 
residential mortgages, residential mortgage securities, and 
collateralized mortgage obligations. Each table is described below.
    CRPRs for Advances: Proposed Table 1.1. The proposed rule would 
carry over the existing Table 1.1, which sets forth the CRPRs for 
advances. The proposed rule would maintain the same four maturity 
categories for advances as in the current regulation, but would 
slightly increase the CRPRs for each maturity category. A comparison of 
the proposed and current CRPRs for advances follows:

------------------------------------------------------------------------
                                                 Percentage   Percentage
                                                 applicable   applicable
             Maturity of  advances              to advances  to advances
                                                 (proposed)   (current)
------------------------------------------------------------------------
Remaining maturity <=4 years..................         0.09         0.07
Remaining maturity >4 years to 7 years........         0.23         0.20
Remaining maturity >7 years to 10 years.......         0.35         0.30
Remaining maturity >10 years..................         0.51         0.35
------------------------------------------------------------------------

    The fact that a Bank has never experienced a loss on an advance to 
a member institution creates challenges in identifying proper CRPRs for 
advances. When the Finance Board first developed the risk-based capital 
rule, it determined that appropriate requirements for advances should 
be greater than zero but less than the requirements for assets of the 
highest investment grade. Consequently, the Finance Board set the CRPRs 
for advances within those bounds by using the estimated default rate of 
assets of the highest investment grade and then applying a loss-given-
default rate (LGD) of 10 percent, a much lower rate than the 100 
percent LGD rate applied to other assets. The Finance Board justified 
the low LGD for advances by noting the over-collateralization provided 
for advances and other protections afforded advances under the Bank Act 
and Finance Board rules. The Finance Board also adjusted downward the 
CRPRs for advances for the two longest maturity categories in Table 1.1 
to ensure those advances requirements would not exceed the CRPRs for 
mortgage assets of a similar maturity (as listed in current Table 1.2). 
It adjusted upward the CRPRs for the shortest maturity category because 
as calculated, the requirement for advances with a maturity of four 
years or less would have been zero.\40\
---------------------------------------------------------------------------

    \40\ See Final Finance Board Bank Capital Rule, 66 FR at 8284-
85.
---------------------------------------------------------------------------

    FHFA based the proposed new CRPRs for advances on the same concepts 
used by the Finance Board, but without any adjustments to the resulting 
percentage requirements. As discussed below, the proposed rule uses the 
same default rates for setting the CRPRs for advances as the revised 
default rate used to calculate the CRPRs for non-mortgage assets of the 
highest investment category. The proposed rule would

[[Page 30783]]

apply an LGD of 10 percent, the same rate used under the current 
regulation, to calculate the CRPRs for advances. Unlike the current 
regulation, however, the proposed rule would not adjust the calculated 
CRPR for the longer maturity categories, and it would use the 
calculated requirement for the shortest maturity category.\41\
---------------------------------------------------------------------------

    \41\ The proposed CRPR for the shortest maturity category is not 
zero as calculated because it is based on default data that was 
updated from what the Finance Board used for the current regulation.
---------------------------------------------------------------------------

    Under the proposal, the total capital charges for advances would 
rise slightly compared to the current regulation. For example, as of 
year-end 2016, the proposed CRPRs would result in an increased credit 
risk charge for advances, although the dollar amount of the change 
would not be significant given the Banks' overall level of 
capitalization. Specifically, the aggregate credit risk capital charges 
for System-wide advances would increase from approximately 0.071 
percent of the Banks' total assets to approximately 0.087 percent of 
total assets--an increase in dollar terms from $749 million to 
approximately $920 million. To put this increase in perspective, 
System-wide permanent capital available to meet the risk-based capital 
requirements exceeded $54 billion in the fourth quarter of 2016. 
Further, given that advances represented over 66 percent of the Bank 
System's total assets as of year-end 2016, the absolute amount of 
credit risk capital charge required for advances under the proposed 
rule would remain modest and in keeping with the very low risk posed by 
advances.
    CRPRs for Internally Rated Assets: Proposed Table 1.2. Proposed 
Table 1.2 would replace Table 1.3 from the current regulation, and 
would set forth the CRPRs to be used to calculate the capital charges 
for internally rated non-mortgage assets, off-balance sheet items, and 
derivatives contracts.\42\ The current regulation assigns CRPRs for 
these assets, items, and contracts by use of a look-up table that 
delineates the CRPRs by NRSRO rating and maturity range. The proposed 
rule would retain the simplicity of this approach, but would replace 
the NRSRO rating categories with FHFA Credit Ratings categories. 
Specifically, proposed Table 1.2 would establish the CRPRs by using 
seven separate ``FHFA Credit Rating'' categories, each of which would 
be subdivided into five maturity categories. The maturity categories in 
proposed Table 1.2 would remain the same as those in current Table 1.3. 
The FHFA Credit Ratings categories are intended to achieve the same 
purpose served by the NRSRO credit ratings in the current regulation, 
which is to create a hierarchy of credit risk exposure categories, to 
which a Bank would assign each of the assets, items, and contracts 
covered by proposed Table 1.2. The FHFA Credit Ratings categories, like 
the NRSRO ratings categories that they replace, would base the relative 
creditworthiness of each category on historical loss experience. Thus, 
current Table 1.3 and proposed Table 1.2 both contain CRPRs structured 
to correspond to the historical loss experience of financial 
instruments, categorized by NRSRO ratings. Accordingly, the historical 
loss experience for the ``highest investment grade'' category in 
current Table 1.3 would correspond to the historical loss experience 
for the FHFA 1 Credit Rating category in proposed Table 1.2, and so on. 
To provide some guidance to the Banks about the breadth of these 
categories, the rule would make clear that each of the FHFA 1 through 4 
categories would be generally comparable to the credit risk associated 
with items that could qualify as ``investment quality,'' as that term 
is defined in FHFA's investment regulation.\43\ For example, a rating 
of FHFA 1 would suggest the highest credit quality and the lowest level 
of credit risk; FHFA 2 would suggest high quality and a very low level 
of credit risk; and FHFA 3 would suggest an upper-medium level of 
credit quality and low credit risk. FHFA 4 would suggest medium quality 
and moderate credit risk. Categories FHFA 5 through 7 would include 
assets and items that have risk characteristics that are comparable to 
instruments that could not qualify as ``investment quality'' under the 
FHFA investment regulation.
---------------------------------------------------------------------------

    \42\ See 12 CFR 932.4.
    \43\ 12 CFR part 1267.1. Generally speaking, the term 
``investment quality'' includes those instruments for which a Bank 
has determined that full and timely payment of principal and 
interest is expected, and that there is minimal risk that the timely 
payment of principal or interest will not occur because of adverse 
changes in economic and financial conditions during the life of the 
instrument.
---------------------------------------------------------------------------

    The proposed rule, however, differs from the current regulation by 
requiring the Bank to determine the appropriate FHFA Credit Rating 
category for each instrument covered by proposed Table 1.2. The Bank 
would do so by conducting its own internal calculation of a credit 
rating for that instrument, rather than assigning it a CRPR based on an 
NRSRO rating. Thus, each Bank also would need to establish a mapping of 
its internal credit ratings to the various FHFA Credit Rating 
categories in proposed Table 1.2. Given the similarity in structure and 
basis between proposed Table 1.2 and current Table 1.3, and the 
historical data connection of both tables to historical loss rates, as 
experienced by financial instruments categorized by the NRSRO ratings, 
the Banks should be able to map their internal credit ratings to the 
appropriate categories in proposed Table 1.2 in a straightforward 
manner. Because the proposed rule would rely on a Bank's internal 
credit ratings and its mapping of those ratings to the appropriate FHFA 
Credit Rating category, it is possible that the CRPR for a particular 
instrument or counterparty determined under the proposed rule would 
differ from the CRPR that is assigned under the current regulations.
    As discussed above, the proposed rule would require the Banks to 
develop a method for assigning a rating to a counterparty or instrument 
and then map that rating to an FHFA Credit Rating category. The 
proposed rule would not require a Bank to obtain FHFA approval of 
either its method of calculating the internal credit rating or of its 
mapping of such ratings to the FHFA Credit Ratings categories. Instead, 
the proposed rule would specify that a Bank's rating method must 
involve an evaluation of counterparty or asset risk factors, which may 
include measures of the counterparty's scale, earnings, liquidity, 
asset quality, and capital adequacy, and could incorporate, but not 
rely solely upon, credit ratings available from an NRSRO or other 
sources.
    FHFA intends to rely on the examination process to review the 
Banks' internal rating methodologies and mapping processes. FHFA finds 
that approach appropriate because the Banks have been using internal 
rating methodologies for some time, and any adjustments to those 
methodologies that FHFA may direct a Bank to undertake in the future 
based on its supervisory review would not likely have a material effect 
on a Bank's overall credit risk capital requirement. That said, the 
proposed rule also includes a provision that would allow FHFA, on a 
case-by-case basis, to direct a Bank to change the calculated credit 
risk capital charge for any non-mortgage asset, off-balance sheet item, 
or derivatives contract, as necessary to remedy for any deficiency that 
FHFA identifies with respect to a Bank's internal credit rating 
methodology for such instruments.
    Calculation of Proposed Table 1.2 CRPRs. To generate the CRPRs in 
proposed Table 1.2, FHFA updated both the data and the methodology that 
the Finance Board had used to develop the CRPRs in current Table 1.3. 
As a result,

[[Page 30784]]

the requirements in proposed Table 1.2 differ from, and in most cases 
are higher than, those in current Table 1.3. FHFA derived the CRPRs in 
proposed Table 1.2 using a modified version of the Basel internal 
ratings-based (IRB) credit risk model.\44\
---------------------------------------------------------------------------

    \44\ The FDIC used this model for calculating risk weights in 
its advanced IRB approach for addressing Risk-Weighted Assets for 
General Credit Risk. See 12 CFR part 324, subpart E.
---------------------------------------------------------------------------

    Both the previous Finance Board approach underlying current Table 
1.3 and the current Basel credit risk model use historical default data 
to determine a distribution of potential default rates, and then 
identify a stress level of default consistent with a selected 
confidence level of the default rate distribution. The prior Finance 
Board approach differs from the Basel credit risk model in the methods 
used to identify both the mean and variance of the default rate 
distribution. The prior Finance Board approach relied on a number of 
key assumptions arrived at judgmentally, whereas the later-developed 
Basel credit risk model relies on a sound and internally consistent 
theoretical construct. Thus, the Basel credit risk model represents a 
more sound and consistent approach than the Finance Board approach.
    The application of the Basel credit risk model has two key data 
inputs--probability of default (PD) and LGD, grouped by segments that 
have homogeneous risk characteristics. To ensure consistent 
determinations of PDs and LGDs for the CRPR calculation, FHFA selected 
the PDs and LGDs from historical cumulative corporate default data. 
FHFA selected PDs from a sample period of 1970-2005 and grouped them by 
asset credit quality and maturity categories.\45\ These data represent 
the closest data in terms of risk characteristics to the variety of 
exposures held by the Banks that would be subject to proposed Table 
1.2.
---------------------------------------------------------------------------

    \45\ To generate current Table 1.3, the Finance Board used 
similar data covering 1970-2000.
---------------------------------------------------------------------------

    The corporate default data that FHFA used to set PDs came from 
Moody's Investor Service. The Moody's data are very similar to 
historically comparable data provided by other rating agencies. More 
recent default rate data were available, but any data set that included 
the period post 2006 would reflect the abnormally high default rates 
that occurred during the recent financial crisis, and represent an 
exceptionally stressful period. Including the more recent data as an 
input to the Basel credit risk model would result in overstating 
required capital.\46\ The Basel model requires use of ``average'' PDs 
that reflect expected default rates under normal business conditions 
and mathematically converts the average PDs to the equivalent of 
stressed PDs for a given confidence level (selected at 99.9 percent) as 
applied to an assumed normal distribution of default rates.
---------------------------------------------------------------------------

    \46\ See An Explanatory Note on the Basel II IRB Risk Weight 
Functions, July 2005, Bank for International Settlements, page 5. 
Dr. Donald R. van Deventer (Chairman and CEO of Kamakura 
Corporation, a financial risk management firm) points to rapidly 
rising default rates following the peak of the 2007-2010 financial 
crises and warns that these high recent rates will not meet the 
standards required for application of the credit model under the new 
Basel Capital Accords in his March 15, 2009 blog, ``The Ratings 
Chernobyl.'' Moreover, even if FHFA had included some additional 
post-crisis years in the PD data set, the resulting refinements to 
the capital CRPRs would have been immaterial.
---------------------------------------------------------------------------

    The Basel credit risk model requires already stressed LGDs as 
inputs. FHFA used the same LGD for all PD categories, and arrived at a 
stressed LGD by examining Moody's recovery rate (one minus LGD) data 
from 1982 through 2011. The recovery rates were measured based on 30-
day post-default trading prices.\47\ The data indicated the highest 
actual annual LGD was nearly 80 percent, but annual LGD rates reached 
this level just twice in 30 years. A more commonly observed stress 
level of LGD is about 65 percent, which occurred nearly nine times 
during that period. Hence, FHFA selected an LGD of 65 percent as an 
input to the Basel credit risk model.
---------------------------------------------------------------------------

    \47\ This represents a commonly used market-based measure of 
recovery and was the only measure readily available in literature.
---------------------------------------------------------------------------

    The Basel II IRB application of the Basel credit risk model uses a 
confidence level or severity of the imposed stress of 99.9 percent.\48\ 
FHFA also concluded that 99.9 percent is an appropriate confidence 
level, after comparing the Basel model calculated default rates, which 
are based on stressed PD rates, to actual default history. FHFA found 
that across all ratings, the calculated default rates at the 99.9 
percent confidence level were equal to or greater than annual issuer-
weighted (and withdrawal adjusted) \49\ corporate default rates 
observed for all years since the Great Depression, with one 
exception.\50\ Thus, FHFA proposes to adopt the 99.9 percent confidence 
level in implementing the credit risk model. However, FHFA proposes to 
use the version of the Basel model that accounts for both expected and 
unexpected loss, rather than the version that accounts only for 
unexpected loss. FHFA believes this choice is conservative, but may be 
of little consequence, as typically expected losses for Bank held 
instruments that are subject to Table 1.2 are minimal.
---------------------------------------------------------------------------

    \48\ The model adopted by the FDIC also uses a 99.9 percent 
confidence level.
    \49\ Issuer-weighted refers to default rates based on the 
proportion of issuers who defaulted, not the proportion of dollars 
issued that default. Withdrawal adjusted corrects the bias in the 
default rate that would otherwise result from the fact that some 
issuers are likely to disappear from the market and effectively 
default through means other than bankruptcy, e.g., being merged or 
acquired.
    \50\ The exception was for actual default rates observed in 1989 
for double-A corporate bond issuers. The actual default rate was 
0.627 and the calculated default rate was 0.570.
---------------------------------------------------------------------------

    Updating the methodology behind proposed Table 1.2 would result in 
proposed CRPRs generally higher than current charges. Specifically, 
based on actual System-wide data for year-end 2016, the proposed new 
methodology would raise required credit risk capital, when compared to 
that calculated under the current regulation for non-advance, non-
mortgage assets, from about 0.095 percent of assets to about 0.139 
percent of assets, or by 47 percent.\51\ The result reflects more the 
shortcomings with the prior methodology than any heightened concern 
about the credit quality of the assets or items subject to new Table 
1.2. Overall, the increase under the proposed rule for the Bank System 
in total required risk-based capital related to credit risk charges for 
rated non-mortgage, non-advance assets would be from $1.006 billion to 
about $1.476 billion as of December 31, 2016, an increase of less than 
one percent of permanent capital as of that date.
---------------------------------------------------------------------------

    \51\ FHFA based this comparison on data provided in each Bank's 
10-K filed with the SEC. FHFA did not include a Bank's derivatives 
holdings or off-balance sheet items in this calculation. FHFA, 
however, estimates that derivatives and off-balance sheet items 
account for less than 2 percent of the Banks' total credit risk 
capital charges, and therefore, believes the exclusion of these from 
the comparison calculation does not materially affect the conclusion 
drawn from the comparison.
---------------------------------------------------------------------------

    Proposed Table 1.3: Non-Rated Assets. Proposed Table 1.3 would set 
forth the CRPRs for non-rated assets, which term would be defined to 
include each of the categories of assets currently included within 
Table 1.4 of the current credit risk capital rule--cash, premises, 
plant and equipment, and investments list in 12 CFR 1265.3(e) and(f). 
The proposed CRPRs for these items also would remain unchanged from the 
current regulation.\52\
---------------------------------------------------------------------------

    \52\ See, Final Finance Board Capital Rule, 66 FR at 8288-89.
---------------------------------------------------------------------------

    Reduced Charges for non-mortgage assets. The rule would carry over 
in proposed Sec.  1277.4(f)(2) the provisions from the current 
regulation that allow a Bank to substitute the CRPR associated with 
collateral posted for, or an unconditional guarantee of, performance 
under the terms of any non-mortgage asset. FHFA is not

[[Page 30785]]

proposing any substantive changes to the current provision, although, 
as already discussed above, FHFA is proposing to adopt different 
collateral standards applicable to derivatives contracts and to non-
mortgage assets.\53\
---------------------------------------------------------------------------

    \53\ As already noted, the proposed definition of non-mortgage 
asset specifically excludes derivatives contracts so the standards 
governing collateral posted for, or unconditional guarantees of, 
non-mortgage assets under proposed Sec.  1277.4(f)(2) would not 
apply to derivatives contracts. The rule sets forth the collateral 
and third-party guarantee standards for derivatives contracts in 
proposed Sec.  1277.4(e)(2), although the standards applicable to 
third-party guarantors are basically the same under both proposed 
Sec.  1277.4(e)(2) and proposed Sec.  1277.4(f)(2).
---------------------------------------------------------------------------

    Proposed Sec.  1277.4(j) would carry over the special provisions 
for calculation of the capital charge on non-mortgage assets hedged 
with certain credit derivatives, if a Bank so chooses. The proposed 
provision would not alter the substance of the current provision as to 
the criteria that must be met for the special provision to apply or the 
method of calculating the capital charges. Generally, under the 
proposed provision, a Bank would be able to substitute the capital 
charge associated with the credit derivatives (as calculated under 
proposed Sec.  1277.4(e)) for all or a portion of the capital charge 
calculated for the non-mortgage assets, if the hedging relationships 
meet the criteria in the proposed provision.\54\
---------------------------------------------------------------------------

    \54\ See Final Finance Board Capital Rule, 66 FR at 8292-94.
---------------------------------------------------------------------------

    Charge for Non-Mortgage-Related Obligations of the Enterprises. 
Section 1277.4(f)(3) of the proposed rule would apply a capital charge 
of zero to any non-mortgage debt security or obligation issued by 
either of the Enterprises, but only if the Enterprise is operating with 
capital support or other form of direct financial assistance from the 
U.S. Government that would enable the Enterprise to repay those 
obligations. The financial support currently provided by the U.S. 
Department of the Treasury under the Senior Preferred Stock Purchase 
Agreements (PSPAs) would be included in this provision. FHFA believes a 
capital charge of zero for such obligations of the Enterprises is 
appropriate given the PSPAs and the financial support they provide for 
the Enterprises with regard to their ability to cover their 
obligations. Section 1277.4(g)(2) of the proposed rule provides the 
same treatment for mortgage-related assets that are guaranteed by the 
Enterprises. The proposed rule would require that the Banks treat 
obligations issued by other GSEs, including debt obligations of the 
Banks, the same as other investments in calculating the capital 
charges. Therefore, each Bank must determine an FHFA Credit Rating for 
the GSE obligations, based on its internal credit ratings, and then use 
Table 1.2 to calculate the appropriate credit risk capital charge.
    Credit Risk Charge for Residential Mortgage Assets. Section 
1277.4(g)(1) of the proposed rule would establish a capital charge for 
residential mortgage assets that would be equal to the amortized cost 
of the asset multiplied by the CRPR assigned to the asset under Table 
1.4 of proposed Sec.  1277.4(g). The proposed rule would include an 
exception to this approach for any residential mortgage asset carried 
at fair value where the Bank recognizes the change in that asset's fair 
value in income. For these residential mortgage assets, the capital 
charge would be based on the fair value of the asset, which would be 
multiplied by the applicable CRPR. This fair value provision is the 
same as that to be used when calculating the CRPRs for assets, items, 
and contracts subject to Table 1.2, and represents a change from the 
current regulation, which bases the capital charge for on-balance sheet 
assets on the asset's book value.
    Proposed Table 1.4 would replace Table 1.2 from the current 
regulation, and would set forth the CRPRs to be used to calculate the 
capital charges for three categories of internally rated residential 
mortgage assets--residential mortgages, residential mortgage 
securities, and collateralized mortgage obligations--each of which 
would be a defined term under the proposed rule. The current regulation 
assigns CRPRs for these assets by use of a look-up table that 
delineates the CRPRs by NRSRO rating and residential mortgage asset 
type. The proposed rule would retain this approach, but would replace 
the NRSRO rating categories with FHFA Credit Ratings categories. 
Proposed Table 1.4 would include seven categories of FHFA Credit 
Ratings labeled ``FHFA RMA 1 through 7,'' which categories would apply 
to residential mortgages and residential mortgage securities. Table 1.4 
would include seven other categories, which would be labeled ``FHFA CMO 
1 through 7,'' which categories would apply only to collateralized 
mortgage obligations. As described previously, the term ``residential 
mortgage securities'' would include only those instruments that 
represent an undivided ownership interest in a pool of residential 
mortgage loans, i.e., instruments that are structured as pass-through 
securities. The term ``collateralized mortgage obligation'' would 
include those mortgage-related instruments that are structured as 
something other than a pass-through security, i.e., an instrument that 
is backed or collateralized by residential mortgages or residential 
mortgage securities, but that include two or more tranches or classes. 
FHFA also is proposing to replace the subheading within the existing 
Table 1.2 that refers to ``subordinated classes of mortgage assets'' 
with the newly defined term ``collateralized mortgage obligations.'' 
The intent of this revision is to avoid any ambiguity about the meaning 
of the term ``subordinated classes,'' as used in the current 
regulation. Under the proposed table, collateralized mortgage 
obligations in the two highest FHFA CMO credit rating categories would 
be assigned the same CRPR as mortgage-related securities in the two 
highest FHFA RMA categories. Collateralized mortgage obligations in 
lower FHFA CMO categories would be assigned higher CRPRs than those for 
mortgage-related securities, which reflects the different historical 
loss experience between the two types of instruments.
    Proposed Table 1.4 would carry over all of the CRPRs from the 
existing Finance Board regulations without change. As under the current 
regulation, the credit risk associated with assets placed into proposed 
FHFA Credit Rating categories 1 through 4 in most cases would likely 
correspond to the credit risk that is associated with assets having an 
investment grade rating from an NRSRO. Thus, instruments assigned to 
the categories of FHFA RMA 1 or FHFA CMO 1 would suggest the highest 
credit quality and the lowest level of credit risk; categories FHFA RMA 
2 or FHFA CMO 2 would suggest high quality and a very low level of 
credit risk; and categories FHFA RMA 3 or FHFA CMO 3 would suggest an 
upper-medium level of credit quality and low credit risk. Categories 
FHFA RMA 4 or FHFA CMO 4 would suggest medium quality and moderate 
credit risk. The proposed rule provides that all assets assigned to 
these four categories must have no greater level of credit risk than 
associated with investments that qualify as ``AMA Investment Grade'' 
under FHFA's AMA regulation,\55\ in the case of RMAs, or as 
``investment quality'' under FHFA's investment regulation,\56\ in the 
case of CMOs. FHFA RMA or CMO categories of 5 through 7 would 
correspond to instruments that do not qualify as ``AMA Investment 
Grade'' or ``investment quality'' under FHFA's AMA or investment 
regulations, with

[[Page 30786]]

categories 6 and 7 having increasingly greater risk than category 5 of 
Table 1.4.
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    \55\ 12 CFR 1268.1
    \56\ 12 CFR 1267.1.
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    The proposed rule, however, would differ from the current 
regulation by requiring the Bank to assign each of its mortgage-related 
assets to the appropriate FHFA Credit Rating category based on the 
Bank's internal calculation of a credit rating for the asset, rather 
than on its NRSRO rating. The proposed rule follows the same approach 
as would be required for non-mortgage assets, off-balance sheet items, 
and derivatives contracts under Table 1.2, which requires that the Bank 
develop a methodology to assign an internal credit rating to each of 
its mortgage-related assets, and then align its various internal credit 
ratings to the appropriate FHFA Credit Rating categories in proposed 
Table 1.4. The Bank's methodology, as applied to residential mortgages, 
must involve an evaluation of the underlying loans and any credit 
enhancements or guarantees, as well as an assessment of the 
creditworthiness of the providers of any such enhancements or 
guarantees. As applied to residential mortgage securities and 
collateralized mortgage obligations, the Bank's methodology must 
involve an evaluation of the underlying mortgage collateral, the 
structure of the security, and any credit enhancements or guarantees, 
including the creditworthiness of the providers of such enhancements or 
guarantees. The Banks' methodologies may incorporate NRSRO credit 
ratings, provided that they do not rely solely on those ratings. Given 
that both proposed Table 1.4 and current Table 1.2 have the same 
structure and are based on historical loss rates, as experienced by 
financial instruments categorized by the NRSRO rating, the Banks should 
be able to map their internal credit ratings to proposed Table 1.4 in a 
straightforward manner. Because the Bank's internal credit ratings will 
determine the appropriate FHFA Credit Rating category for its 
residential mortgage assets, it is possible that the internally 
generated rating will differ from the NRSRO rating for a particular 
instrument, and that the CRPR assigned under the proposed rule would 
differ from that assigned under the current Finance Board regulations.
    As is the case with respect to the methodology to be used in 
assigning internal credit ratings to the various FHFA Credit Ratings 
categories of Table 1.2, the proposed rule would not require a Bank to 
obtain prior FHFA approval of either its method of calculating the 
internal credit rating or of its mapping of such ratings to the FHFA 
Credit Rating categories. FHFA intends to rely on the examination 
process to review the Banks' internal rating methodologies and mapping 
processes for these assets. As noted previously, the Banks have been 
using internal rating methodologies for some time, and any adjustments 
to those methodologies that FHFA may direct a Bank to undertake in the 
future based on its supervisory review would not likely have a material 
effect on a Bank's overall credit risk capital requirement. 
Nonetheless, the proposed rule would reserve to FHFA the right to 
require a Bank to change the calculated capital charges for residential 
mortgage assets to account for any deficiencies identified by FHFA with 
a Bank's internal residential mortgage asset credit rating methodology, 
which is identical to the provision relating to assets covered by Table 
1.2.
    The proposed rule includes two exceptions that provide for a 
capital charge of zero for two categories of mortgage assets. First, 
the proposed rule would apply a capital charge of zero to any 
residential mortgage, residential mortgage security, or collateralized 
mortgage obligation (or any portion thereof) that is guaranteed as to 
the payment of principal and interest by one of the Enterprises, but 
only if the Enterprise is operating with capital support or other form 
of direct financial assistance from the United States government that 
would enable the Enterprise to cover its guarantee. The financial 
support currently provided by the United States Department of the 
Treasury under the Senior Preferred Stock Purchase Agreements qualifies 
under this provision. This exception is identical in substance to 
proposed Sec.  1277.4(f)(3), which pertains to non-mortgage-related 
debt instruments issued by an Enterprise. Second, the proposed rule 
would apply a capital charge of zero to any residential mortgage, 
residential mortgage security, or collateralized mortgage obligation 
that is guaranteed or insured by a United States government agency or 
department and is backed by the full faith and credit of the United 
States.
    Frequency of Calculation. FHFA proposes to reduce the frequency 
with which a Bank would have to calculate its credit risk capital 
charges from monthly to quarterly. Thus, proposed Sec.  1277.4(k) would 
require each Bank to calculate its credit risk capital requirement at 
least quarterly based on assets, off-balance sheet items, and 
derivatives contracts held as of the last business day of the 
immediately preceding calendar quarter, unless otherwise instructed by 
FHFA. The Bank would be expected to meet the calculated capital charge 
throughout the quarter.\57\ In the past, a Bank's total credit risk 
capital charge has not varied so greatly that the change in frequency 
should raise any safety or soundness concerns. FHFA, therefore, 
proposes to reduce the operational burdens on the Banks by reducing the 
frequency of calculation. The proposed rule would reserve FHFA's right 
to require more frequent calculations if it determined that particular 
circumstances warranted such a change.
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    \57\ For example, early in the second calendar-year quarter, a 
Bank would need to calculate its credit risk capital charge based on 
assets, off-balance sheet items, and derivatives contracts held as 
of the last business day of the first calendar-year quarter. The 
capital charge so calculated would apply for the whole of the second 
calendar-year quarter.
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Proposed Sec.  1277.5--Market Risk Capital Requirement
    FHFA proposes to readopt the existing market risk capital 
requirements with only the minor revisions described below.\58\ The 
proposed rule would include a new provision, Sec.  1277.5(d)(2), which 
would confirm that any market risk model or material adjustments to a 
model that FHFA or the Finance Board had previously approved remain 
valid unless FHFA affirmatively amends or revokes the prior approval. 
Section 1277.5(e) of the proposed rule also would change the frequency 
of a Bank's calculation date of its market risk capital requirement 
from monthly to quarterly so that it would correspond to the frequency 
of calculation for the Bank's credit risk capital requirement. Thus, 
each Bank would calculate its market risk capital requirement at least 
quarterly, based on assets held as of the last business day of the 
immediately preceding calendar quarter, unless otherwise instructed by 
FHFA. The Bank would be expected to meet the calculated capital charge 
throughout the quarter.
---------------------------------------------------------------------------

    \58\ FHFA believes the overall approach to market risk adopted 
by the Finance Board remains valid and continues to provide a 
reasonable estimate of a Bank's market risk exposure. See Final 
Finance Board Bank Capital Rule, 66 FR at 8294-99.
---------------------------------------------------------------------------

    FHFA proposes to repeal the additional capital requirement that 
applies whenever a Bank's market value of capital is less than 85 
percent of its book value of capital (85 Percent Test), which is 
located at 12 CFR 932.5 of the Finance Board regulations. This 
provision has become superfluous because FHFA can monitor a Bank's 
market value of capital and has other authority to impose additional 
capital requirements on a Bank if necessary.\59\

[[Page 30787]]

Hence, FHFA has no reason to retain the provision in the rule. 
Furthermore, as applied under the current regulation, the 85 Percent 
Test has proven to be both very pro-cyclical (requiring additional 
capital during a market downturn, when the Bank is least able to raise 
capital) and inflexible. FHFA can more effectively address a Bank under 
stress by considering a broader set of facts and measures prior to 
making any determination as to when and how much additional capital 
should be required. FHFA also has additional authority to deal with 
Banks that become undercapitalized, which the Finance Board did not 
possess when it adopted the 85 Percent Test.\60\
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    \59\ See 12 U.S.C. 4612(c), (d), and (e); 12 CFR part 1225. The 
Director of FHFA has the authority to adopt regulations establishing 
a higher minimum capital limit for the Banks, if necessary to ensure 
that they operate in safe and sound manner, as well as to order 
temporary increases in the minimum capital level for a particular 
Bank, and by order or regulation to establish such capital or 
reserve requirements with respect to any product or activity of a 
Bank.
    \60\ See 12 U.S.C. 4614, 4615, 4616, and 4617.
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Proposed Sec.  1277.6--Operational Risk Capital Requirement
    FHFA proposes to carry over the current approach set forth in Sec.  
932.6 of the Finance Board regulations for calculating a Bank's 
operational risk capital requirement. As a consequence, proposed Sec.  
1277.6 provides that a Bank's operational risk capital requirement 
shall equal 30 percent of the sum of the Bank's credit risk and market 
capital requirements. The Finance Board originally based the 
requirement on a statutory requirement applicable to the Enterprises, 
noting that given the difficulties of empirically measuring operational 
risk, it was reasonable to rely on the statutorily mandated provisions 
for guidance.\61\ Congress has since repealed the specific operational 
risk capital provision related to the Enterprises and replaced it with 
a provision giving the Director of FHFA broad authority to establish 
risk-based capital charges that ensure the Enterprises operate in a 
safe and sound manner and maintain sufficient capital and reserves 
against their risks.\62\ Nevertheless, FHFA believes that the 30 
percent operational risk charge has provided a reasonable capital 
cushion for the Banks against operational risk losses and has not 
proven excessively burdensome.
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    \61\ See Final Finance Board Bank Capital Rule, 66 FR at 8299 
(citing 12 U.S.C. 4611(c) (2000)).
    \62\ See 12 U.S.C. 4611(a).
---------------------------------------------------------------------------

    FHFA also proposes to carry forward the current provisions in the 
regulation that allows a Bank to reduce the operational risk charge to 
as low as 10 percent of the combined market and credit risk charges if 
the Bank presents an alternative methodology for assessing or 
quantifying operational risk that meets with FHFA's approval. The 
proposed rule also would retain the provision that allows a Bank, 
subject to FHFA approval, to reduce the operational risk charge to as 
low as 10 percent if the Bank obtains insurance against such risk. 
However, to be consistent with the Dodd-Frank Act, the proposed rule 
would replace the current requirement that any such insurer have a 
credit rating from an NRSRO no lower than the second highest investment 
category with a requirement that FHFA find the insurance provider 
acceptable.
Proposed Sec.  1277.7--Limits on Unsecured Extensions of Credit; 
Reporting Requirements
    With the exception of the revisions described below, FHFA proposes 
to carry over the substance of the current Finance Board regulations 
pertaining to a Bank's unsecured extensions of credit to a single 
counterparty or group of affiliated counterparties. Section 1277.7 of 
the proposed rule would include most of the provisions now found at 12 
CFR 932.9 of the Finance Board regulations. The principal revision to 
the existing regulation would be to determine unsecured credit limits 
based on a Bank's internal credit rating for a particular counterparty 
and the corresponding FHFA Credit Rating category for such exposures, 
rather than on NRSRO credit ratings. This change would bring the rule 
into compliance with the Dodd-Frank Act mandate that agencies replace 
regulatory provisions that rely on NRSRO credit ratings with 
alternative standards to assess credit quality.
    FHFA Credit Ratings. Under the proposed rule, a Bank would apply 
the unsecured credit limits based on the same FHFA Credit Ratings 
categories used in proposed Table 1.2 for determining CRPRs for non-
mortgage assets, off-balance sheet items, and derivatives contracts. 
Thus, a Bank would develop a methodology for assigning an internal 
rating for each counterparty or obligation, and would align its various 
credit ratings to the appropriate FHFA Credit Rating categories for 
determining the applicable unsecured credit limit. The proposed 
amendments also would remove from the current regulation all 
distinctions between short- and long-term ratings. The Finance Board 
regulations distinguished between those ratings because the regulations 
relied on NRSRO ratings, and those distinctions have proven to create 
certain complications in applying and monitoring the regulation. 
Therefore, under the proposed rule, a Bank would determine a single 
rating for a specific counterparty or obligation when applying the 
unsecured credit limits, regardless of the term of the underlying 
unsecured credit obligations. Because the proposed rule would require a 
Bank to use the same methodology to arrive at an internal credit 
rating, and to align to the FHFA Credit Rating categories as used under 
Table 1.2, the end result would be that a Bank would use the same FHFA 
Credit Rating category for a specific counterparty or obligation in 
calculating both the credit risk capital charge under proposed Sec.  
1277.4 and the unsecured credit limit under proposed Sec.  1277.7.
    Limits on Exposure to a Single Counterparty. As under the current 
regulation, the general limit on unsecured credit to a single 
counterparty would be calculated under the proposed rule by multiplying 
a percentage maximum capital exposure limit associated with a 
particular FHFA Credit Rating category by the lesser of either the 
Bank's total capital, or the counterparty's Tier 1 capital, or total 
capital, in each case as defined by the counterparty's primary 
regulator. In cases where the counterparty does not have a regulatory 
Tier 1 capital or total capital measure, the Bank would determine a 
similar capital measure to use, as under the current regulations.
    Proposed Table 1 to Sec.  1277.7 sets forth the applicable maximum 
capital exposure limits used to calculate the relevant unsecured credit 
limit. These limits are: (i) 15 percent for a counterparty determined 
to have an FHFA 1 rating; (ii) 14 percent for a counterparty with an 
FHFA 2 rating; (iii) nine percent for a counterparty with an FHFA 3 
rating; (iv) three percent for a counterparty with an FHFA 4 rating; 
and (v) one percent for any counterparty rated FHFA 5 or lower. The 
numerical limits are the same as those in the current regulation, with 
the differences in proposed Table 1 to Sec.  1277.7 being the use of 
the FHFA Credit Rating categories in place of the NRSRO ratings.\63\ As 
part of its oversight of the Banks, FHFA monitors the role of the Banks 
in the unsecured credit markets and may propose additional amendments 
to these exposure limits if circumstances warrant.
---------------------------------------------------------------------------

    \63\ The Finance Board explained its reasons for setting these 
maximum capital exposure limits when it proposed the current 
unsecured credit regulation. See Proposed Rule: Unsecured Credit 
Limits for the Federal Home Loan Banks, 66 FR 41474, 41478-80 (Aug. 
8, 2001) (hereinafter, Finance Board Proposed Unsecured Credit 
Rule).
---------------------------------------------------------------------------

    As under the current regulation, the general unsecured credit 
limit, i.e., the

[[Page 30788]]

appropriate percentage of the lesser of the Bank or counterparty's 
capital, would apply to all extensions of unsecured credit to a single 
counterparty that arise from a Bank's on- and off-balance sheet and 
derivatives transactions, other than sales of federal funds with a 
maturity of one day or less and sales of federal funds subject to 
continuing contract.\64\ Similarly, the proposed rule would retain a 
separate overall limit, which would apply to all unsecured extensions 
of unsecured credit to a single counterparty that arise from a Bank's 
on- and off-balance sheet and derivatives transactions, but which would 
include sales of federal funds with a maturity of one day or less and 
sales of federal funds that are subject to a continuing contract. The 
amount of the overall limit would remain unchanged at twice the amount 
of the general limit.\65\
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    \64\ The proposed rule would carry over the definition of 
``sales of federal funds subject to a continuing contract'' from 
Sec.  930.1 without change.
    \65\ The Finance Board explained its reasons for adopting a 
special limit for sales of federal funds with a maturity of one day 
or less and sales of federal funds subject to continuing contract 
when it adopted the current unsecured credit regulation. The Finance 
Board stated that Banks have financial incentives to lend into the 
federal funds markets, i.e., the GSE funding advantage and fewer 
permissible investments than are available to commercial banks, and 
that permitting such lending without limits would be imprudent. See 
Final Rule: Unsecured Credit Limits for the Federal Home Loan Banks, 
66 FR 66718, 66720-21 (Dec. 27, 2001) (hereinafter, Finance Board 
Final Unsecured Credit Rule). See also, Finance Board Proposed 
Unsecured Credit Rule, 66 FR at 41476.
---------------------------------------------------------------------------

    The proposed rule also would retain, with some revisions, the 
approach used by the current regulation with respect to NRSRO rating 
downgrades of a counterparty or obligation. The proposed rule would not 
use the term ``downgrade'' because that term is more appropriately 
associated with an action taken by a third-party ratings organization, 
such as an NRSRO. Instead, the proposed rule would provide that if a 
Bank revises its internal credit rating for a particular counterparty 
or obligation, it shall thereafter assign the counterparty or 
obligation to the appropriate FHFA Credit Rating category based on that 
revised internal rating. The proposed rule further provides that if the 
revised rating results in a lower FHFA Credit Rating category, then any 
subsequent extension of unsecured credit must comply with the new limit 
calculated using the lower credit rating. The proposed rule makes 
clear, however, that a Bank need not unwind any existing unsecured 
credit exposures as a result of the lower limit, provided they were 
originated in compliance with the unsecured credit limits in effect at 
that time. The proposed rule would continue to consider any renewal of 
an existing unsecured extension of credit, including a decision not to 
terminate a sale of federal funds subject to a continuing contract, as 
a new transaction, which would be subject to the recalculated limit.
    Affiliated Counterparties. The proposed rule would readopt without 
substantive change the current provision limiting a Bank's aggregate 
unsecured credit exposure to groups of affiliated counterparties. Thus, 
in addition to being subject to the limits on individual 
counterparties, a Bank's unsecured credit exposure from all sources, 
including federal funds transactions, to all affiliated counterparties 
under the proposed rule could not exceed 30 percent of the Bank's total 
capital. The proposed rule would also readopt the current definition of 
affiliated counterparty.
    State, Local, or Tribal Government Obligations. The proposed rule 
also carries over without substantive change the special provision in 
the current regulation applicable to calculating limits for certain 
unsecured obligations issued by state, local, or tribal governmental 
agencies. This provision, which would be located at Sec.  1277.7(a)(3), 
would allow the Banks to calculate the limit for these covered 
obligations based on Bank capital--rather than on the lesser of the 
Bank or counterparty's capital--and the rating assigned to the 
particular obligation. As under the current regulation, all obligations 
from the same issuer and having the same assigned rating may not exceed 
the limit associated with that rating, and the exposure from all 
obligations from that issuer cannot exceed the limit calculated for the 
highest rated obligation that a Bank actually has purchased. As 
explained by the Finance Board when it adopted the current regulation, 
this special provision reflected the fact that the state, local, or 
tribal agencies at issue often had low capital, their obligations had 
some backing from collateral but were not always fully secured in the 
traditional sense, and the Banks' purchase of these obligations had a 
mission nexus.\66\
---------------------------------------------------------------------------

    \66\ See Finance Board Final Unsecured Credit Rule, 66 FR at 
66723-24.
---------------------------------------------------------------------------

    GSE Provision. FHFA proposes to amend the special limit that the 
current regulation applies to GSEs. Specifically, proposed Sec.  
1277.7(c) would apply a special limit only if the GSE counterparty were 
operating with capital support or other form of direct financial 
assistance from the U.S. government that would enable the GSE to repay 
its obligations. In such a case, the proposed rule would set the Bank's 
unsecured credit limit, including all federal funds transactions, at 
100 percent of the Bank's capital. That limit is the same as the one 
that applies to the Banks' exposures to the Enterprises, as calculated 
under the current regulation pursuant to FHFA Regulatory Interpretation 
2010-RI-05, which the proposed rule would codify into the 
regulations.\67\ A Bank would calculate its unsecured credit limit for 
any other GSE (other than another Bank) that does not meet these 
criteria the same way that it would for any other counterparty.\68\
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    \67\ See https://www.fhfa.gov/SupervisionRegulation/LegalDocuments/Documents/Regulatory-Interpretations/2010-RI-05.pdf.
    \68\ This approach for GSEs is similar to the approach adopted 
jointly by FHFA and other prudential regulators in the margin and 
capital rules for uncleared swaps. In the margin and capital rules, 
agencies provide different treatment for collateral issued by a GSE 
operating with explicit United States government support from that 
issued by other GSEs. See, Final Rule: Margin and Capital 
Requirements for Covered Swap Entities, 80 FR 74840, 74870-71 (Nov. 
30, 2015).
---------------------------------------------------------------------------

    Reporting. Proposed Sec.  1277.7(e) would carry over the provisions 
from the current regulation that require a Bank to report certain 
unsecured exposures and violations of the unsecured credit limits. FHFA 
would expect a Bank to make these reports in accordance with any 
instructions in FHFA Data Reporting Manual or in applicable related 
guidance issued by FHFA.\69\
---------------------------------------------------------------------------

    \69\ See, Advisory Bulletin: FHLBank Unsecured Credit Exposure 
Reporting, AB 2015-04 (July 1, 2015).
---------------------------------------------------------------------------

    Calculation of Credit Exposures. Proposed Sec.  1277.7(f) would 
establish the requirements for measuring a Bank's unsecured extensions 
of credit. For on-balance sheet transactions, other than derivative 
transactions, the rule would provide that the unsecured extension of 
credit would equal the amortized cost of the transaction plus net 
payments due the Bank, subject to an exception for those transactions 
or obligations that the Bank carries at fair value where any change in 
fair value is recognized in income. For these items, the unsecured 
extension of credit would equal the fair value of the item. This 
approach is similar to the approach applied under proposed Sec.  1277.4 
for calculating credit risk capital charges for non-mortgage assets. 
FHFA believes that this approach best captures the amount that a Bank 
has at risk should a counterparty default

[[Page 30789]]

on any unsecured credit extended by the Bank.
    For non-cleared derivatives transactions, the total unsecured 
credit exposure would equal the Bank's current and future potential 
credit exposures calculated in accordance with the proposed credit risk 
capital provision, plus the amount of any collateral posted by the Bank 
that exceeds the amount the Bank owes to its counterparty, but only to 
the extent such excess posted collateral is not held by a third-party 
custodian in accordance with FHFA's margin and capital rule for 
uncleared swaps.\70\ Similar to determining a credit exposure for a 
derivatives contract under the credit risk capital provision, the Bank 
would not count as an unsecured extension of credit any portion of the 
current and future potential credit exposure that is covered by 
collateral posted by a counterparty and held by or on behalf of the 
Bank, so long as the collateral is held in accordance with the 
requirements in proposed Sec.  1277.4(e)(2) and (e)(3).
---------------------------------------------------------------------------

    \70\ See 12 CFR 1221.7(c) and (d). Thus, the amount of 
collateral that is posted by a Bank and is segregated with a third-
party custodian consistent with the requirements of the swaps margin 
and capital rule would not be included in the Bank's unsecured 
credit exposure arising from a particular derivatives contract.
---------------------------------------------------------------------------

    For off-balance sheet items, the unsecured extension of credit 
would equal the credit equivalent amount for that item, calculated in 
accordance with proposed Sec.  1277.4(g). As with the current 
regulation, proposed Sec.  1277.7(f) also provides that any debt 
obligation or debt security (other than a mortgage-backed or other 
asset-backed security or acquired member asset) shall be considered an 
unsecured extension of credit. Also consistent with the current 
regulation, this provision provides an exception for any amount owed to 
the Bank under a debt obligation or debt security for which the Bank 
holds collateral consistent with the requirements of proposed Sec.  
1277.4(f)(2)(ii) or any other amount that FHFA determines on a case-by-
case basis should not be considered an unsecured extension of credit.
    Exceptions to the unsecured credit limits. Section 1277.7(g) of the 
proposed rule would include four separate exceptions to the regulatory 
limits on extensions of unsecured credit. Two of these exceptions, 
pertaining to obligations of or guaranteed by the U.S. and to 
extensions of credit from one Bank to another Bank, are being carried 
over without change from the current Finance Board regulations. The 
proposed rule would add a third exception, which would apply to any 
derivatives transaction accepted for clearing by a derivatives clearing 
organization. FHFA proposes to exclude cleared derivatives transactions 
from the rule given the Dodd-Frank Act mandates that parties clear 
certain standardized derivatives transactions. When a Bank submits a 
derivatives contract for clearing, the derivatives clearing 
organization becomes the counterparty to the contract. Given that a 
limited number of derivatives clearing organizations, or in some cases 
only a single organization, may clear specific classes of contracts, 
imposing the unsecured limits on cleared derivatives contracts may make 
it difficult for the Banks to fulfill the legal requirement to clear 
these contracts and frustrate the intent of the Dodd-Frank Act. In 
addition, the derivatives clearing organizations are subject to 
comprehensive federal regulatory oversight including regulations 
designed to protect the customers that use the clearing services. Even 
though FHFA proposes to exclude cleared derivatives contracts from 
coverage under this rule, it would expect Banks to develop internal 
policies to address exposures to specific clearing organizations that 
take account of the Bank's specific derivatives activity and clearing 
options. The proposed rule would add a fourth exception, which would 
incorporate the substance of a Finance Board regulatory interpretation, 
2002-RI-05, pertaining to certain obligations issued by state housing 
finance agencies. Under that provision, a bond issued by a state 
housing finance agency would not be subject to the unsecured credit 
limits if the Bank documents that the obligation principally secured by 
high-quality mortgage loans or mortgage-backed securities or by 
payments on such assets, is not a subordinated tranche of a bond 
issuance, and the Bank has determined that it has an internal credit 
rating of no lower than FHFA 2.
Proposed Sec.  1277.8--Reporting Requirements
    Proposed Sec.  1277.8 provides that each Bank shall report 
information related to capital or other matters addressed by part 1277 
in accordance with instructions provided in the Data Reporting Manual 
issued by FHFA, as amended from time to time.

IV. Considerations of Differences Between the Banks and the Enterprises

    When promulgating regulations relating to the Banks, section 
1313(f) of the Federal Housing Enterprises Financial Safety and 
Soundness Act of 1992 requires the Director of FHFA (Director) to 
consider the differences between the Banks and the Enterprises with 
respect to the Banks' cooperative ownership structure; mission of 
providing liquidity to members; affordable housing and community 
development mission; capital structure; and joint and several 
liability.\71\ FHFA, in preparing this proposed rule, considered the 
differences between the Banks and the Enterprises as they relate to the 
above factors. FHFA requests comments from the public about whether 
these differences should result in any revisions to the proposed rule.
---------------------------------------------------------------------------

    \71\ See 12 U.S.C. 4513.
---------------------------------------------------------------------------

V. Paperwork Reduction Act

    The proposed rule amendments do not contain any collections of 
information pursuant to the Paperwork Reduction Act of 1995 (44 U.S.C. 
3501 et seq.). Therefore, FHFA has not submitted any information to the 
Office of Management and Budget for review.

VI. Regulatory Flexibility Act

    The Regulatory Flexibility Act (5 U.S.C. 601 et seq.) requires that 
a regulation that has a significant economic impact on a substantial 
number of small entities, small businesses, or small organizations must 
include an initial regulatory flexibility analysis describing the 
regulation's impact on small entities. FHFA need not undertake such an 
analysis if the agency has certified the regulation will not have a 
significant economic impact on a substantial number of small entities. 
5 U.S.C. 605(b). FHFA has considered the impact of the proposed rule 
under the Regulatory Flexibility Act, and certifies that the proposed 
rule, if adopted as a final rule, would not have a significant economic 
impact on a substantial number of small entities because the proposed 
rule is applicable only to the Banks, which are not small entities for 
purposes of the Regulatory Flexibility Act.

List of Subjects

12 CFR Parts 930 and 932

    Capital, Credit, Federal home loan banks, Investments, Reporting 
and recordkeeping requirements.

12 CFR Part 1277

    Capital, Credit, Federal home loan banks, Investments, Reporting 
and recordkeeping requirements.

    Accordingly, for reasons stated in the Preamble, and under the 
authority of 12 U.S.C. 1426, 1436(a), 1440, 1443, 1446, 4511, 4513, 
4514, 4526, 4612, FHFA

[[Page 30790]]

proposes to amend subchapter E of chapter IX and subchapter D of 
chapter XII of title 12 of the Code of Federal Regulations as follows:

CHAPTER IX--FEDERAL HOUSING FINANCE BOARD

Subchapter E--[Removed and Reserved]

0
1. Subchapter E, consisting of parts 930 and 932 is removed and 
reserved.

CHAPTER XII--FEDERAL HOUSING FINANCE AGENCY

Subchapter D--Federal Home Loan Banks

PART 1277--FEDERAL HOME LOAN BANK CAPITAL REQUIREMENTS, CAPITAL 
STOCK AND CAPITAL PLANS

0
2. The authority citation for part 1277 continues to read as follows:

    Authority:  12 U.S.C. 1426, 1436(a), 1440, 1443, 1446, 4511, 
4513, 4514, 4526, and 4612.

Subpart A--Definitions

0
3. Amend Sec.  1277.1 by adding in alphabetical order definitions for 
``affiliated counterparty,'' ``charges against the capital of a Bank,'' 
``commitment to make an advance (or acquire a loan) subject to certain 
drawdown,'' ``collateralized mortgage obligation,'' ``credit 
derivative,'' ``credit risk,'' ``derivatives clearing organization,'' 
``derivatives contract,'' ``eligible master netting agreement,'' 
``exchange rate contracts,'' ``Government Sponsored Enterprise,'' 
``interest rate contracts,'' ``market risk,'' ``market value at risk,'' 
``non-mortgage asset,'' ``non-rated asset,'' ``operational risk,'' 
``residential mortgage,'' ``residential mortgage security,'' ``sales of 
federal funds subject to a continuing contract,'' and ``total assets'' 
to read as follows:


Sec.  1277.1  Definitions.

* * * * *
    Affiliated counterparty means a counterparty of a Bank that 
controls, is controlled by, or is under common control with another 
counterparty of the Bank. For the purposes of this definition only, 
direct or indirect ownership (including beneficial ownership) of more 
than 50 percent of the voting securities or voting interests of an 
entity constitutes control.
    Charges against the capital of the Bank means an other than 
temporary decline in the Bank's total equity that causes the value of 
total equity to fall below the Bank's aggregate capital stock amount.
* * * * *
    Collateralized mortgage obligation means any instrument backed or 
collateralized by residential mortgages or residential mortgage 
securities, that includes two or more tranches or classes, or is 
otherwise structured in any manner other than as a pass-through 
security.
    Commitment to make an advance (or acquire a loan) subject to 
certain drawdown means a legally binding agreement that commits the 
Bank to make an advance or acquire a loan, at or by a specified future 
date.
* * * * *
    Credit derivative means a derivatives contract that transfers 
credit risk.
    Credit risk means the risk that the market value, or estimated fair 
value if market value is not available, of an obligation will decline 
as a result of deterioration in creditworthiness.
    Derivatives clearing organization means an organization that clears 
derivatives contracts and is registered with the Commodity Futures 
Trading Commission as a derivatives clearing organization pursuant to 
section 5b(a) of the Commodity Exchange Act of 1936 (7 U.S.C. 7a-1(a)), 
or that the Commodity Futures Trading Commission has exempted from 
registration by rule or order pursuant to section 5b(h) of the 
Commodity Exchange Act of 1936 (7 U.S.C. 7a-1(h)), or is registered 
with the SEC as a clearing agency pursuant to section 17A of the 1934 
Act (15 U.S.C. 78q-1), or that the SEC has exempted from registration 
as a clearing agency under section 17A of the 1934 Act (15 U.S.C. 78q-
1).
    Derivatives contract means generally a financial contract the value 
of which is derived from the values of one or more underlying assets, 
reference rates, or indices of asset values, or credit-related events. 
Derivatives contracts include interest rate, foreign exchange rate, 
equity, precious metals, commodity, and credit contracts, and any other 
instruments that pose similar risks.
    Eligible master netting agreement has the same meaning as set forth 
in Sec.  1221.2 of this chapter.
    Exchange rate contracts include cross-currency interest-rate swaps, 
forward foreign exchange rate contracts, currency options purchased, 
and any similar instruments that give rise to similar risks.
* * * * *
    Government Sponsored Enterprise, or GSE, means a United States 
Government-sponsored agency or instrumentality originally established 
or chartered to serve public purposes specified by the United States 
Congress, but whose obligations are not obligations of the United 
States and are not guaranteed by the United States.
    Interest rate contracts include single currency interest-rate 
swaps, basis swaps, forward rate agreements, interest-rate options, and 
any similar instrument that gives rise to similar risks, including 
when-issued securities.
    Market risk means the risk that the market value, or estimated fair 
value if market value is not available, of a Bank's portfolio will 
decline as a result of changes in interest rates, foreign exchange 
rates, or equity or commodity prices.
    Market value at risk is the loss in the market value of a Bank's 
portfolio measured from a base line case, where the loss is estimated 
in accordance with Sec.  1277.5 of this part.
* * * * *
    Non-mortgage asset means an asset held by a Bank other than an 
advance, a non-rated asset, a residential mortgage, a residential 
mortgage security, a collateralized mortgage obligation, or a 
derivatives contract.
    Non-rated asset means a Bank's cash, premises, plant and equipment, 
and investments authorized pursuant to Sec.  1265.3(e) and (f).
    Operational risk means the risk of loss resulting from inadequate 
or failed internal processes, people and systems, or from external 
events.
* * * * *
    Residential mortgage means a loan secured by a residential 
structure that contains one-to-four dwelling units, regardless of 
whether the structure is attached to real property. The term 
encompasses, among other things, loans secured by individual 
condominium or cooperative units and manufactured housing, whether or 
not the manufactured housing is considered real property under state 
law, and participation interests in such loans.
    Residential mortgage security means any instrument representing an 
undivided interest in a pool of residential mortgages.
    Sales of federal funds subject to a continuing contract means an 
overnight federal funds loan that is automatically renewed each day 
unless terminated by either the lender or the borrower.
    Total assets mean the total assets of a Bank, as determined in 
accordance with GAAP.
* * * * *
0
4. Add Subpart B, consisting of Sec. Sec.  1277.2 through 1277.8 to 
read as follows:

Subpart B--Bank Capital Requirements

Sec.
1277.2 Total capital requirement.
1277.3 Risk-based capital requirement.

[[Page 30791]]

1277.4 Credit risk capital requirement.
1277.5 Market risk capital requirement.
1277.6 Operational risk capital requirement.
1277.7 Limits on unsecured extensions of credit; reporting 
requirements.
1277.8 Reporting requirements.


Sec.  1277.2  Total capital requirement.

    Each Bank shall maintain at all times:
    (a) Total capital in an amount at least equal to 4.0 percent of the 
Bank's total assets; and
    (b) A leverage ratio of total capital to total assets of at least 
5.0 percent of the Bank's total assets. For purposes of determining 
this leverage ratio, total capital shall be computed by multiplying the 
Bank's permanent capital by 1.5 and adding to this product all other 
components of total capital.


Sec.  1277.3  Risk-based capital requirement.

    Each Bank shall maintain at all times permanent capital in an 
amount at least equal to the sum of its credit risk capital 
requirement, its market risk capital requirement, and its operational 
risk capital requirement, calculated in accordance with Sec. Sec.  
1277.4, 1277.5, and 1277.6 of this part, respectively.


Sec.  1277.4  Credit risk capital requirement.

    (a) General requirement. Each Bank's credit risk capital 
requirement shall equal the sum of the Bank's individual credit risk 
capital charges for all advances, residential mortgage assets, non-
mortgage assets, non-rated assets, off-balance sheet items, and 
derivatives contracts, as calculated in accordance with this section.
    (b) Credit risk capital charge for residential mortgage assets. The 
credit risk capital charge for residential mortgages, residential 
mortgage securities, and collateralized mortgage obligations shall be 
determined as set forth in paragraph (g) of this section.
    (c) Credit risk capital charge for advances, non-mortgage assets, 
and non-rated assets. Except as provided in paragraph (j) of this 
section, each Bank's credit risk capital charge for advances, non-
mortgage assets, and non-rated assets shall be equal to the amortized 
cost of the asset multiplied by the credit risk percentage requirement 
assigned to that asset pursuant to paragraphs (f)(1) or (f)(2) of this 
section. For any such asset carried at fair value where any change in 
fair value is recognized in the Bank's income, the Bank shall calculate 
the capital charge based on the fair value of the asset rather than its 
amortized cost.
    (d) Credit risk capital charge for off-balance sheet items. Each 
Bank's credit risk capital charge for an off-balance sheet item shall 
be equal to the credit equivalent amount of such item, as determined 
pursuant to paragraph (h) of this section, multiplied by the credit 
risk percentage requirement assigned to that item pursuant to paragraph 
(f)(1) and Table 1.2 to Sec.  1277.4, except that the credit risk 
percentage requirement applied to the credit equivalent amount for a 
standby letter of credit shall be that for an advance with the same 
remaining maturity as that of the standby letter of credit, as 
specified in Table 1.1 to Sec.  1277.4.
    (e) Derivatives contracts. (1) Except as provided in paragraph 
(e)(4), the credit risk capital charge for a derivatives contract 
entered into by a Bank shall equal, after any adjustment allowed under 
paragraph (e)(2), the sum of:
    (i) The current credit exposure for the derivatives contract, 
calculated in accordance with paragraph (i)(1) of this section, 
multiplied by the credit risk percentage requirement assigned to that 
derivatives contract pursuant to Table 1.2 of paragraph (f)(1) of this 
section, provided that a Bank shall deem the remaining maturity of the 
derivatives contract to be less than one year for the purpose of 
applying Table 1.2; plus
    (ii) The potential future credit exposure for the derivatives 
contract, calculated in accordance with paragraph (i)(2) of this 
section, multiplied by the credit risk percentage requirement assigned 
to that derivatives contract pursuant to Table 1.2 of paragraph (f)(1) 
of this section, where a Bank uses the actual remaining maturity of the 
derivatives contract for the purpose of applying Table 1.2 of paragraph 
(f)(1) of this section; plus
    (iii) A credit risk capital charge applicable to the amount of 
collateral posted by the Bank with respect to a derivatives contract 
that exceeds the Bank's current payment obligation under that 
derivatives contract, where the charge equals the amount of such excess 
collateral multiplied by the credit risk percentage requirement 
assigned under Table 1.2 of paragraph (f)(1) of this section for the 
custodian or other party that holds the collateral, and where a Bank 
deems the exposure to have a remaining maturity of one year or less 
when applying Table 1.2.
    (2)(i) The credit risk capital charge calculated under paragraph 
(e)(1) of this section may be adjusted for any collateral held by or on 
behalf of the Bank in accordance with paragraph (e)(3) of this section 
against an exposure from the derivatives contract as follows:
    (A) The discounted value of the collateral shall first be applied 
to reduce the current credit exposure of the derivatives contract 
subject the capital charge;
    (B) If the total discounted value of the collateral held exceeds 
the current credit exposure of the contract, any remaining amounts may 
be applied to reduce the amount of the potential future credit exposure 
of the derivatives contract subject to the capital charge; and
    (C) The amount of the collateral used to reduce the exposure to the 
derivatives contract is subject to the applicable credit risk capital 
charge required by paragraphs (b) or (c) of this section.
    (ii) If a Bank's counterparty's payment obligations under a 
derivatives contract are unconditionally guaranteed by a third-party, 
then the credit risk percentage requirement applicable to the 
derivatives contract may be that associated with the guarantor, rather 
than the Bank's counterparty.
    (3) The credit risk capital charge may be adjusted as described in 
paragraph (e)(2)(i) for collateral held against the derivatives 
contract exposure only if the collateral is:
    (i) Held by, or has been paid to, the Bank or held by an 
independent, third-party custodian on behalf of the Bank pursuant to a 
custody agreement that meets the requirements of Sec.  1221.7(c) and 
(d) of this chapter;
    (ii) Legally available to absorb losses;
    (iii) Of a readily determinable value at which it can be liquidated 
by the Bank; and
    (iv) Subject to an appropriate discount to protect against price 
decline during the holding period and the costs likely to be incurred 
in the liquidation of the collateral, provided that such discount shall 
equal at least the minimum discount required under Appendix B to part 
1221 of this chapter for collateral listed in that Appendix, or be 
estimated by the Bank based on appropriate assumptions about the price 
risks and liquidation costs for collateral not listed in Appendix B to 
part 1221.
    (4) Notwithstanding any other provision in this paragraph (e), the 
credit risk capital charge for:
    (i) A foreign exchange rate contract (excluding gold contracts) 
with an original maturity of 14 calendar days or less shall be zero;
    (ii) A derivatives contract cleared by a derivatives clearing 
organization shall equal 0.16 percent times the sum of the following:
    (A) The current credit exposure for the derivatives contract, 
calculated in accordance with paragraph (i)(1) of this section;
    (B) The potential future credit exposure for the derivatives 
contract calculated in accordance with paragraph (i)(2) of this 
section; and

[[Page 30792]]

    (C) The amount of collateral that the Bank has posted to, and is 
held by, the derivatives clearing organization, but only to the extent 
the amount exceeds the Bank's current credit exposure to the 
derivatives clearing organization.
    (f) Determination of credit risk percentage requirements. (1) 
General. (i) Each Bank shall determine the credit risk percentage 
requirement applicable to each advance and each non-rated asset by 
identifying the appropriate category from Tables 1.1 or 1.3 to Sec.  
1277.4, respectively, to which the advance or non-rated asset belongs. 
Except as provided in paragraphs (f)(2) and (f)(3) of this section, 
each Bank shall determine the credit risk percentage requirement 
applicable to each non-mortgage asset, off-balance sheet item, and 
derivatives contract by identifying the appropriate category set forth 
in Table 1.2 to Sec.  1277.4 to which the asset, item, or contract 
belongs, given its FHFA Credit Rating category, as determined in 
accordance with paragraph (f)(1)(ii) of this section, and remaining 
maturity. Each Bank shall use the applicable credit risk percentage 
requirement to calculate the credit risk capital charge for each asset, 
item, or contract in accordance with paragraphs (c), (d), or (e) of 
this section, respectively. The relevant categories and credit risk 
percentage requirements are provided in the following Tables 1.1 
through 1.3 to Sec.  1277.4--

          Table 1.1 to Sec.   1277.4--Requirement for Advances
------------------------------------------------------------------------
                                                              Percentage
                    Maturity of advances                      applicable
                                                             to advances
------------------------------------------------------------------------
Advances with:
  Remaining maturity <=4 years.............................         0.09
  Remaining maturity >4 years to 7 years...................         0.23
  Remaining maturity >7 years to 10 years..................         0.35
  Remaining maturity >10 years.............................         0.51
------------------------------------------------------------------------


 Table 1.2 to Sec.   1277.4--Requirement for Internally Rated Non-Mortgage Assets, Off-Balance Sheet Items, and
                                              Derivatives Contracts
                                          [Based on remaining maturity]
----------------------------------------------------------------------------------------------------------------
                                                               Applicable percentage
                                 -------------------------------------------------------------------------------
       FHFA Credit Rating                                           >3 yrs to 7    >7 yrs to 10
                                     <=1 year     >1 yr to 3 yrs        yrs             yrs           >10 yrs
----------------------------------------------------------------------------------------------------------------
U.S. Government Securities......            0.00            0.00            0.00            0.00            0.00
FHFA 1..........................            0.20            0.59            1.37            2.28            3.32
FHFA 2..........................            0.36            0.87            1.88            3.07            4.42
FHFA 3..........................            0.64            1.31            2.65            4.22            6.01
FHFA 4..........................            3.24            4.79            7.89           11.51           15.64
----------------------------------------------------------------------------------------------------------------
                           FHFA Ratings Corresponding to Below FHFA Investment Quality
 
                      ``FHFA Investment Quality'' has the meaning provided in 12 CFR 1267.1
----------------------------------------------------------------------------------------------------------------
FHFA 5..........................            9.24           11.46           15.90           21.08           27.00
FHFA 6..........................           15.99           18.06           22.18           26.99           32.49
FHFA 7..........................          100.00          100.00          100.00          100.00          100.00
----------------------------------------------------------------------------------------------------------------


      Table 1.3 to Sec.   1277.4--Requirement for Non-Rated Assets
------------------------------------------------------------------------
                                                              Applicable
                   Type of unrated asset                      percentage
------------------------------------------------------------------------
Cash.......................................................         0.00
Premises, Plant and Equipment..............................         8.00
Investments Under 12 CFR 1265.3(e) & (f)...................         8.00
------------------------------------------------------------------------

    (ii) Each Bank shall develop a methodology to be used to assign an 
internal credit risk rating to each counterparty, asset, item, and 
contract that is subject to Table 1.2 to Sec.  1277.4. The methodology 
shall involve an evaluation of counterparty or asset risk factors, and 
may incorporate, but must not rely solely upon, credit ratings prepared 
by credit rating agencies. Each Bank shall align its various internal 
credit ratings to the appropriate categories of FHFA Credit Ratings 
included in Table 1.2 to Sec.  1277.4. In doing so, each Bank shall 
ensure that the credit risk associated with any asset assigned to FHFA 
Categories 1 through 4 is no greater than that associated with an 
instrument that would be deemed to be of ``investment quality,'' as 
that term is defined by Sec.  1267.1 of this chapter. FHFA Categories 3 
through 1 shall include assets of progressively higher credit quality 
than Category 4, and FHFA Credit Rating categories 5 through 7 shall 
include assets of progressively lower credit quality. After aligning 
its internal credit ratings to the appropriate categories of Table 1.2 
to Sec.  1277.4, each Bank shall assign each counterparty, asset, item, 
and contract to the appropriate FHFA Credit Rating category based on 
the applicable internal credit rating.
    (2) Exception for assets subject to a guarantee or secured by 
collateral. (i) When determining the applicable credit risk percentage 
requirement from Table 1.2 to Sec.  1277.4 for a non-mortgage asset 
that is subject to an unconditional guarantee by a third-party 
guarantor or is secured as set forth in paragraph (f)(2)(ii) of this 
section, the Bank may substitute the credit risk percentage requirement 
associated with the guarantor or the collateral, as appropriate, for 
the credit risk percentage requirement associated with that portion of 
the asset subject to the guarantee or covered by the collateral.
    (ii) For purposes of paragraph (f)(2)(i) of this section, a non-
mortgage asset shall be considered to be secured if the collateral is:
    (A) Actually held by the Bank or an independent, third-party 
custodian on the Bank's behalf, or, if posted by a Bank member and 
permitted under the Bank's collateral agreement with that member, by 
the Bank's member or an affiliate of that member where the term 
``affiliate'' has the same meaning as in Sec.  1266.1 of this chapter;
    (B) Legally available to absorb losses;
    (C) Of a readily determinable value at which it can be liquidated 
by the Bank;
    (D) Held in accordance with the provisions of the Bank's member 
products policy established pursuant to Sec.  1239.30 of this chapter, 
if the collateral has been posted by a member or an affiliate of a 
member; and
    (E) Subject to an appropriate discount to protect against price 
decline during

[[Page 30793]]

the holding period and the costs likely to be incurred in the 
liquidation of the collateral.
    (3) Exception for obligations of the Enterprises. A Bank may use a 
credit risk capital charge of zero for any non-mortgage-related debt 
instrument or obligation issued by an Enterprise, provided that the 
Enterprise receives capital support or other form of direct financial 
assistance from the United States government that enables the 
Enterprise to repay those obligations.
    (4) Exception for methodology deficiencies. FHFA may direct a Bank, 
on a case-by-case basis, to change the calculated credit risk capital 
charge for any non-mortgage asset, off-balance sheet item, or 
derivatives contract, as necessary to account for any deficiency that 
FHFA identifies with respect to a Bank's internal credit rating 
methodology for such assets, items, or contracts.
    (g) Credit risk capital charges for residential mortgage assets--
(1) Bank determination of credit risk percentage. (i) Each Bank's 
credit risk capital charge for a residential mortgage, residential 
mortgage security, or collateralized mortgage obligation shall be equal 
to the asset's amortized cost multiplied by the credit risk percentage 
requirement assigned to that asset pursuant to paragraphs (g)(1)(ii) or 
(g)(2) of this section. For any such asset carried at fair value where 
any change in fair value is recognized in the Bank's income, the Bank 
shall calculate the capital charge based on the fair value of the asset 
rather than its amortized cost.
    (ii) Each Bank shall determine the credit risk percentage 
requirement applicable to each residential mortgage and residential 
mortgage security by identifying the appropriate FHFA RMA category set 
forth in Table 1.4 to Sec.  1277.4 to which the asset belongs, and 
shall determine the credit risk percentage requirement applicable to 
each collateralized mortgage obligation by identifying the appropriate 
FHFA CMO category set forth in Table 1.4 to Sec.  1277.4 to which the 
asset belongs, with the appropriate categories being determined in 
accordance with paragraph (g)(1)(iii) of this section.
    (iii) Each Bank shall develop a methodology to be used to assign an 
internal credit risk rating to each of its residential mortgages, 
residential mortgage securities, and collateralized mortgage 
obligations. For residential mortgages, the methodology shall involve 
an evaluation of the residential mortgages and any credit enhancements 
or guarantees, including an assessment of the creditworthiness of the 
providers of such enhancements or guarantees. In the case of a 
residential mortgage security or collateralized mortgage obligation, 
the methodology shall involve an evaluation of the underlying mortgage 
collateral, the structure of the security, and any credit enhancements 
or guarantees, including an assessment of the creditworthiness of the 
providers of such enhancements or guarantees. Such methodologies may 
incorporate, but may not rely solely upon, credit ratings prepared by 
credit ratings agencies. Each Bank shall align its various internal 
credit ratings to the appropriate categories of FHFA Credit Ratings 
included in Table 1.4 to Sec.  1277.4. In doing so, each Bank shall 
ensure that the credit risk associated with any asset assigned to 
categories FHFA RMA 1 through 4 or FHFA CMO 1 through 4 is no greater 
than that associated with an instrument that would be deemed to be of 
``investment quality,'' as that term is defined by 12 CFR 1267.1. FHFA 
Categories 3 through 1 shall include assets of progressively higher 
credit quality than Category 4, and FHFA Categories 5 through 7 shall 
include assets of progressively lower credit quality. After aligning 
its internal credit ratings to the appropriate categories of Table 1.4 
to Sec.  1277.4, each Bank shall assign each of its residential 
mortgages, residential mortgage securities, and collateralized mortgage 
obligation to the appropriate FHFA Credit Ratings category based on the 
Bank's internal credit rating of that asset.

Table 1.4 to Sec.   1277.4--Internally Rated Residential Mortgage Assets
------------------------------------------------------------------------
                                                            Percentage
                                                            applicable
------------------------------------------------------------------------
Categories for residential mortgages and residential mortgage securities
------------------------------------------------------------------------
Ratings Above ``AMA Investment Grade'' *:
    FHFA RMA 1..........................................            0.37
    FHFA RMA 2..........................................            0.60
    FHFA RMA 3..........................................            0.86
    FHFA RMA 4..........................................            1.20
Ratings Below ``AMA Investment Grade'':
    FHFA RMA 5..........................................            2.40
    FHFA RMA 6..........................................            4.80
    FHFA RMA 7..........................................           34.00
------------------------------------------------------------------------
           Categories For Collateralized Mortgage Obligations
------------------------------------------------------------------------
Ratings Above ``FHFA Investment Quality'' **:
    FHFA CMO 1..........................................            0.37
    FHFA CMO 2..........................................            0.60
    FHFA CMO 3..........................................            1.60
    FHFA CMO 4..........................................            4.45
Ratings Below ``FHFA Investment Quality'':
    FHFA CMO 5..........................................           13.00
    FHFA CMO 6..........................................           34.00
    FHFA CMO 7..........................................          100.00
------------------------------------------------------------------------
* ``AMA Investment Grade'' has the meaning provided in 12 CFR 1268.1.
** ``FHFA Investment Quality'' has the same meaning as ``investment
  quality'' as provided in 12 CFR 1267.1.

    (2) Exceptions to Table 1.4 to Sec.  1277.4 credit risk 
percentages. (i) A Bank may use a credit risk capital charge of zero 
for any residential mortgage, residential mortgage security, or 
collateralized mortgage obligation, or portion thereof,

[[Page 30794]]

guaranteed by an Enterprise as to payment of principal and interest, 
provided that the Enterprise receives capital support or other form of 
direct financial assistance from the United States government that 
enables the Enterprise to repay those obligations;
    (ii) A Bank may use a credit risk capital charge of zero for a 
residential mortgage, residential mortgage security, or collateralized 
mortgage obligation, or any portion thereof, guaranteed or insured as 
to payment of principal and interest by a department or agency of the 
United States government that is backed by the full faith and credit of 
the United States; and
    (iii) FHFA may direct a Bank, on a case-by-case basis, to change 
the calculated credit risk capital charge for any residential mortgage, 
residential mortgage security, or collateralized mortgage obligation, 
as necessary to account for any deficiency that FHFA identifies with 
respect to a Bank's internal credit rating methodology for residential 
mortgages, residential mortgage securities, or collateralized mortgage 
obligations.
    (h) Calculation of credit equivalent amount for off-balance sheet 
items. (1) General requirement. The credit equivalent amount for an 
off-balance sheet item shall be determined by an FHFA-approved model or 
shall be equal to the face amount of the instrument multiplied by the 
credit conversion factor assigned to such risk category of instruments, 
subject to the exceptions in paragraph (h)(2) of this section, provided 
in the following Table 2 to Sec.  1277.4:

   Table 2 to Sec.   1277.4--Credit Conversion Factors for Off-Balance
                               Sheet Items
------------------------------------------------------------------------
                                                              Credit
                                                            conversion
                       Instrument                           factor (in
                                                             percent)
------------------------------------------------------------------------
Asset sales with recourse where the credit risk remains              100
 with the Bank..........................................
Commitments to make advances subject to certain drawdown  ..............
Commitments to acquire loans subject to certain drawdown  ..............
Standby letters of credit...............................              50
Other commitments with original maturity of over one      ..............
 year
Other commitments with original maturity of one year or               20
 less...................................................
------------------------------------------------------------------------

    (2) Exceptions. The credit conversion factor shall be zero for 
Other Commitments With Original Maturity of Over One Year and Other 
Commitments With Original Maturity of One Year or Less, for which Table 
2 to Sec.  1277.4 would otherwise apply credit conversion factors of 50 
percent or 20 percent, respectively, if the commitments are 
unconditionally cancelable, or effectively provide for automatic 
cancellation, due to the deterioration in a borrower's 
creditworthiness, at any time by the Bank without prior notice.
    (i) Calculation of credit exposures for derivatives contracts. (1) 
Current credit exposure. (i) Single derivatives contract. The current 
credit exposure for derivatives contracts that are not subject to an 
eligible master netting agreement shall be:
    (A) If the mark-to-market value of the contract is positive, the 
mark-to-market value of the contract; or
    (B) If the mark-to-market value of the contract is zero or 
negative, zero.
    (ii) Derivatives contracts subject to an eligible master netting 
agreement. The current credit exposure for multiple derivatives 
contracts executed with a single counterparty and subject to an 
eligible master netting agreement shall be calculated on a net basis 
and shall equal:
    (A) The net sum of all positive and negative mark-to-market values 
of the individual derivatives contracts subject to the eligible master 
netting agreement, if the net sum of the mark-to-market values is 
positive; or
    (B) Zero, if the net sum of the mark-to-market values is zero or 
negative.
    (2) Potential future credit exposure. The potential future credit 
exposure for derivatives contracts, including derivatives contracts 
with a negative mark-to-market value, shall be calculated:
    (i) Using an internal initial margin model that meets the 
requirements of Sec.  1221.8 of this chapter and is approved by FHFA 
for use by the Bank, or that has been approved under regulations 
similar to Sec.  1221.8 of this chapter for use by the Bank's 
counterparty to calculate initial margin for those derivatives 
contracts for which the calculation is being done; or
    (ii) By applying the standardized approach in Appendix A to Part 
1221 of this chapter.
    (j) Credit risk capital charge for non-mortgage assets hedged with 
credit derivatives. (1) Credit derivatives with a remaining maturity of 
one year or more. The credit risk capital charge for a non-mortgage 
asset that is hedged with a credit derivative that has a remaining 
maturity of one year or more may be reduced only in accordance with 
paragraph (j)(3) or (j)(4) of this section and only if the credit 
derivative provides substantial protection against credit losses.
    (2) Credit derivatives with a remaining maturity of less than one 
year. The credit risk capital charge for a non-mortgage asset that is 
hedged with a credit derivative that has a remaining maturity of less 
than one year may be reduced only in accordance with paragraph (j)(3) 
of this section and only if the remaining maturity on the credit 
derivative is identical to or exceeds the remaining maturity of the 
hedged non-mortgage asset and the credit derivative provides 
substantial protection against credit losses.
    (3) Capital charge reduced to zero. The credit risk capital charge 
for a non-mortgage asset shall be zero if a credit derivative is used 
to hedge the credit risk on that asset in accordance with paragraph 
(j)(1) or (j)(2) of this section, provided that:
    (i) The remaining maturity for the credit derivative used for the 
hedge is identical to or exceeds the remaining maturity for the hedged 
non-mortgage asset, and either:
    (A) The asset referenced in the credit derivative is identical to 
the hedged non-mortgage asset; or
    (B) The asset referenced in the credit derivative is different from 
the hedged non-mortgage asset, but only if the asset referenced in the 
credit derivative and the hedged non-mortgage asset have been issued by 
the same obligor, the asset referenced in the credit derivative ranks 
pari passu to, or more junior than, the hedged non-mortgage asset and 
has the same maturity as the hedged non-mortgage asset, and cross-
default clauses apply; and

[[Page 30795]]

    (ii) The credit risk capital charge for the credit derivatives 
contract calculated pursuant to paragraph (e) of this section is still 
applied.
    (4) Capital charge reduction in certain other cases. The credit 
risk capital charge for a non-mortgage asset hedged with a credit 
derivative in accordance with paragraph (j)(1) of this section shall 
equal the sum of the credit risk capital charges for the hedged and 
unhedged portion of the non-mortgage asset provided that:
    (i) The remaining maturity for the credit derivative is less than 
the remaining maturity for the hedged non-mortgage asset and either:
    (A) The non-mortgage asset referenced in the credit derivative is 
identical to the hedged asset; or
    (B) The asset referenced in the credit derivative is different from 
the hedged non-mortgage asset, but only if the asset referenced in the 
credit derivative and the hedged non-mortgage asset have been issued by 
the same obligor, the asset referenced in the credit derivative ranks 
pari passu to, or more junior than, the hedged non-mortgage asset and 
has the same maturity as the hedged non-mortgage asset, and cross-
default clauses apply; and
    (ii) The credit risk capital charge for the unhedged portion of the 
non-mortgage asset equals:
    (A) The credit risk capital charge for the hedged non-mortgage 
asset, calculated as the book value of the hedged non-mortgage asset 
multiplied by that asset's credit risk percentage requirement assigned 
pursuant to paragraph (f)(1) of this section where the appropriate 
credit rating is that for the hedged non-mortgage asset and the 
appropriate maturity is the remaining maturity of the hedged non-
mortgage asset; minus
    (B) The credit risk capital charge for the hedged non-mortgage 
asset, calculated as the book value of the hedged non-mortgage asset 
multiplied by that asset's credit risk percentage requirement assigned 
pursuant to paragraph (f)(1) of this section where the appropriate 
credit rating is that for the hedged non-mortgage asset but the 
appropriate maturity is deemed to be the remaining maturity of the 
credit derivative; and
    (iii) The credit risk capital charge for the hedged portion of the 
non-mortgage asset is equal to the credit risk capital charge for the 
credit derivative, calculated in accordance with paragraph (e) of this 
section.
    (k) Frequency of calculations. Each Bank shall perform all 
calculations required by this section at least quarterly, unless 
otherwise directed by FHFA, using the advances, residential mortgages, 
residential mortgage securities, collateralized mortgage obligations, 
non-rated assets, non-mortgage assets, off-balance sheet items, and 
derivatives contracts held by the Bank, and, if applicable, the values 
of, or FHFA Credit Ratings categories for, such assets, off-balance 
sheet items, or derivatives contracts as of the close of business of 
the last business day of the calendar period for which the credit risk 
capital charge is being calculated.


Sec.  1277.5  Market risk capital requirement.

    (a) General requirement. (1) Each Bank's market risk capital 
requirement shall equal the market value of the Bank's portfolio at 
risk from movements in interest rates, foreign exchange rates, 
commodity prices, and equity prices that could occur during periods of 
market stress, where the market value of the Bank's portfolio at risk 
is determined using an internal market risk model that fulfills the 
requirements of paragraph (b) of this section and that has been 
approved by FHFA.
    (2) A Bank may substitute an internal cash flow model to derive a 
market risk capital requirement in place of that calculated using an 
internal market risk model under paragraph (a)(1) of this section, 
provided that:
    (i) The Bank obtains FHFA approval of the internal cash flow model 
and of the assumptions to be applied to the model; and
    (ii) The Bank demonstrates to FHFA that the internal cash flow 
model subjects the Bank's assets and liabilities, off-balance sheet 
items, and derivatives contracts, including related options, to a 
comparable degree of stress for such factors as will be required for an 
internal market risk model.
    (b) Measurement of market value at risk under a Bank's internal 
market risk model. (1) Except as provided under paragraph (a)(2) of 
this section, each Bank shall use an internal market risk model that 
estimates the market value of the Bank's assets and liabilities, off-
balance sheet items, and derivatives contracts, including any related 
options, and measures the market value of the Bank's portfolio at risk 
of its assets and liabilities, off-balance sheet items, and derivatives 
contracts, including related options, from all sources of the Bank's 
market risks, except that the Bank's model need only incorporate those 
risks that are material.
    (2) The Bank's internal market risk model may use any generally 
accepted measurement technique, such as variance-covariance models, 
historical simulations, or Monte Carlo simulations, for estimating the 
market value of the Bank's portfolio at risk, provided that any 
measurement technique used must cover the Bank's material risks.
    (3) The measures of the market value of the Bank's portfolio at 
risk shall include the risks arising from the non-linear price 
characteristics of options and the sensitivity of the market value of 
options to changes in the volatility of the options' underlying rates 
or prices.
    (4) The Bank's internal market risk model shall use interest rate 
and market price scenarios for estimating the market value of the 
Bank's portfolio at risk, but at a minimum:
    (i) The Bank's internal market risk model shall provide an estimate 
of the market value of the Bank's portfolio at risk such that the 
probability of a loss greater than that estimated shall be no more than 
one percent;
    (ii) The Bank's internal market risk model shall incorporate 
scenarios that reflect changes in interest rates, interest rate 
volatility, option-adjusted spreads, and shape of the yield curve, and 
changes in market prices, equivalent to those that have been observed 
over 120-business day periods of market stress. For interest rates, the 
relevant historical observations should be drawn from the period that 
starts at the end of the previous month and goes back to the beginning 
of 1978;
    (iii) The total number of, and specific historical observations 
identified by the Bank as, stress scenarios shall be:
    (A) Satisfactory to FHFA;
    (B) Representative of the periods of the greatest potential market 
stress given the Bank's portfolio, and
    (C) Comprehensive given the modeling capabilities available to the 
Bank; and
    (iv) The measure of the market value of the Bank's portfolio at 
risk may incorporate empirical correlations among interest rates.
    (5) For any consolidated obligations denominated in a currency 
other than U.S. Dollars or linked to equity or commodity prices, each 
Bank shall, in addition to fulfilling the criteria of paragraph (b)(4) 
of this section, calculate an estimate of the market value of its 
portfolio at risk resulting from material foreign exchange, equity 
price or commodity price risk, such that, at a minimum:
    (i) The probability of a loss greater than that estimated shall not 
exceed one percent;
    (ii) The scenarios reflect changes in foreign exchange, equity, or 
commodity market prices that have been observed over 120-business day 
periods of market stress, as determined using historical data that is 
from an appropriate period;

[[Page 30796]]

    (iii) The total number of, and specific historical observations 
identified by the Bank as, stress scenarios shall be:
    (A) Satisfactory to FHFA;
    (B) Representative of the periods of greatest potential stress 
given the Bank's portfolio; and
    (C) Comprehensive given the modeling capabilities available to the 
Bank; and
    (iv) The measure of the market value of the Bank's portfolio at 
risk may incorporate empirical correlations within or among foreign 
exchange rates, equity prices, or commodity prices.
    (c) Independent validation of Bank internal market risk model or 
internal cash flow model. (1) Each Bank shall conduct an independent 
validation of its internal market risk model or internal cash flow 
model within the Bank that is carried out by personnel not reporting to 
the business line responsible for conducting business transactions for 
the Bank. Alternatively, the Bank may obtain independent validation by 
an outside party qualified to make such determinations. Validations 
shall be done periodically, commensurate with the risk associated with 
the use of the model, or as frequently as required by FHFA.
    (2) The results of such independent validations shall be reviewed 
by the Bank's board of directors and provided promptly to FHFA.
    (d) FHFA approval of Bank internal market risk model or internal 
cash flow model. (1) Each Bank shall obtain FHFA approval of an 
internal market risk model or an internal cash flow model, including 
subsequent material adjustments to the model made by the Bank, prior to 
the use of any model. Each Bank shall make such adjustments to its 
model as may be directed by FHFA.
    (2) A model and any material adjustments to such model that were 
approved by FHFA or the Federal Housing Finance Board shall meet the 
requirements of paragraph (d)(1) of this section, unless such approval 
is revoked or amended by FHFA.
    (e) Frequency of calculations. Each Bank shall perform any 
calculations or estimates required under this section at least 
quarterly, unless otherwise directed by FHFA, using the assets, 
liabilities, and off-balance sheet items, including derivatives 
contracts, and options held by the Bank, and if applicable, the values 
of any such holdings, as of the close of business of the last business 
day of the calendar period for which the market risk capital 
requirement is being calculated.


Sec.  1277.6  Operational risk capital requirement.

    (a) General requirement. Except as authorized under paragraph (b) 
of this section, each Bank's operational risk capital requirement shall 
at all times equal 30 percent of the sum of the Bank's credit risk 
capital requirement and market risk capital requirement.
    (b) Alternative requirements. With the approval of FHFA, each Bank 
may have an operational risk capital requirement equal to less than 30 
percent but no less than 10 percent of the sum of the Bank's credit 
risk capital requirement and market risk capital requirement if:
    (1) The Bank provides an alternative methodology for assessing and 
quantifying an operational risk capital requirement; or
    (2) The Bank obtains insurance to cover operational risk from an 
insurer acceptable to FHFA.


Sec.  1277.7  Limits on unsecured extensions of credit; reporting 
requirements.

    (a) Unsecured extensions of credit to a single counterparty. A Bank 
shall not extend unsecured credit to any single counterparty (other 
than a GSE described in and subject to the requirements of paragraph 
(c) of this section) in an amount that would exceed the limits of this 
paragraph. If a third-party provides an irrevocable, unconditional 
guarantee of repayment of a credit (or any part thereof), the third-
party guarantor shall be considered the counterparty for purposes of 
calculating and applying the unsecured credit limits of this section 
with respect to the guaranteed portion of the transaction.
    (1) General Limits. All unsecured extensions of credit by a Bank to 
a single counterparty that arise from the Bank's on- and off-balance 
sheet and derivatives transactions (but excluding the amount of sales 
of federal funds with a maturity of one day or less and sales of 
federal funds subject to a continuing contract) shall not exceed the 
product of the maximum capital exposure limit applicable to such 
counterparty, as determined in accordance with Table 1 of paragraph 
(a)(4) of Sec.  1277.7, multiplied by the lesser of:
    (i) The Bank's total capital; or
    (ii) The counterparty's Tier 1 capital, or if Tier 1 capital is not 
available, total capital (in each case as defined by the counterparty's 
principal regulator) or some similar comparable measure identified by 
the Bank.
    (2) Overall limits including sales of overnight federal funds. All 
unsecured extensions of credit by a Bank to a single counterparty that 
arise from the Bank's on- and off-balance sheet and derivatives 
transactions, including the amounts of sales of federal funds with a 
maturity of one day or less and sales of federal funds subject to a 
continuing contract, shall not exceed twice the limit calculated 
pursuant to paragraph (a)(1) of this section.
    (3) Limits for certain obligations issued by state, local, or 
tribal governmental agencies. The limit set forth in paragraph (a)(1) 
of this section, when applied to the marketable direct obligations of 
state, local, or tribal government units or agencies that are excluded 
from the prohibition against investments in whole mortgage loans or 
other types of whole loans, or interests in such loans, by Sec.  
1267.3(a)(4)(iii) of this chapter, shall be calculated based on the 
Bank's total capital and the internal credit rating assigned to the 
particular obligation, as determined in accordance with paragraph 
(a)(5) of this section. If a Bank owns series or classes of obligations 
issued by a particular state, local, or tribal government unit or 
agency, or has extended other forms of unsecured credit to such entity 
falling into different rating categories, the total amount of unsecured 
credit extended by the Bank to that government unit or agency shall not 
exceed the limit associated with the highest-rated obligation issued by 
the entity and actually purchased by the Bank.
    (4) Bank determination of applicable maximum capital exposure 
limits. (i) Except as set forth in paragraph (a)(4)(ii) of this 
section, a Bank shall determine the maximum capital exposure limit for 
each counterparty by assigning the counterparty to the appropriate FHFA 
Credit Rating category of Table 1 to Sec.  1277.7, based upon the 
Bank's internal counterparty credit rating, as determined in accordance 
with paragraph (a)(5) of this section, and the Bank's alignment of its 
counterparty credit ratings to each of the FHFA Credit Rating 
categories provided in the following Table 1 to Sec.  1277.7:

[[Page 30797]]



   Table 1 to Sec.   1277.7--Maximum Limits on Unsecured Extensions of
     Credit to a Single Counterparty by FHFA Credit Rating Category
------------------------------------------------------------------------
                                                        Maximum Capital
         FHFA Credit Rating of counterparty           exposure limit (in
                                                           percent)
------------------------------------------------------------------------
FHFA 1..............................................                  15
FHFA 2..............................................                  14
FHFA 3..............................................                   9
FHFA 4..............................................                   3
Ratings Below ``FHFA Investment Quality'' (``FHFA     ..................
 Investment Quality'' has the same meaning as
 ``investment quality'' as provided by 12 CFR
 1267.1)............................................
FHFA 5 and Below....................................                   1
------------------------------------------------------------------------

    (ii) If a Bank determines that a specific debt obligation issued by 
a counterparty has a lower FHFA Credit Rating category than that 
applicable to the counterparty, the total amount of the lower-rated 
obligation held by the Bank may not exceed a sub-limit calculated in 
accordance with paragraph (a)(1) of this section. The Bank shall use 
the lower credit rating associated with the specific obligation to 
determine the applicable maximum capital exposure sub-limit. For 
purposes of this paragraph, the internal credit rating of the debt 
obligation shall be determined in accordance with paragraph (a)(5) of 
this section.
    (5) Bank determination of applicable credit ratings. A Bank shall 
determine an internal credit rating for each counterparty, and shall 
align each such credit rating to the FHFA Credit Rating categories of 
Table 1 to Sec.  1277.7, using the same methodology for calculating the 
internal ratings and aligning such ratings to the FHFA Credit Rating 
categories as the Bank uses for calculating the credit risk capital 
charge for a counterparty or asset under Table 1.2 of Sec.  1277.4(f). 
As a consequence, the Bank shall use the same FHFA Credit Rating 
category for a particular counterparty for purposes of applying the 
unsecured credit limit under this section as used for calculating the 
credit risk capital charge for obligations issued by that counterparty 
under Table 1.2 of Sec.  1277.4.
    (b) Unsecured extensions of credit to affiliated counterparties. 
(1) In general. The total amount of unsecured extensions of credit by a 
Bank to a group of affiliated counterparties that arise from the Bank's 
on- and off-balance sheet and derivatives transactions, including sales 
of federal funds with a maturity of one day or less and sales of 
federal funds subject to a continuing contract, shall not exceed 30 
percent of the Bank's total capital.
    (2) Relation to individual limits. The aggregate limits calculated 
under paragraph (b)(1) shall apply in addition to the limits on 
extensions of unsecured credit to a single counterparty imposed by 
paragraph (a) of this section.
    (c) Special limits for certain GSEs. Unsecured extensions of credit 
by a Bank that arise from the Bank's on- and off-balance sheet and 
derivatives transactions, including from the purchase of any debt or 
from any sales of federal funds with a maturity of one day or less and 
from sales of federal funds subject to a continuing contract, with a 
GSE that is operating with capital support or another form of direct 
financial assistance from the United States government that enables the 
GSE to repay those obligations shall not exceed the Bank's total 
capital.
    (d) Extensions of unsecured credit after reduced rating. If a Bank 
revises its internal credit rating for any counterparty or obligation, 
it shall assign the counterparty or obligation to the appropriate FHFA 
Credit Rating category based on the revised rating. If the revised 
internal rating results in a lower FHFA Credit Rating category, then 
any subsequent extensions of unsecured credit shall comply with the 
maximum capital exposure limit applicable to that lower rating 
category, but a Bank need not unwind or liquidate any existing 
transaction or position that complied with the limits of this section 
at the time it was entered. For the purposes of this paragraph, the 
renewal of an existing unsecured extension of credit, including any 
decision not to terminate any sales of federal funds subject to a 
continuing contract, shall be considered a subsequent extension of 
unsecured credit that can be undertaken only in accordance with the 
lower limit.
    (e) Reporting requirements--(1) Total unsecured extensions of 
credit. Each Bank shall report monthly to FHFA the amount of the Bank's 
total unsecured extensions of credit arising from on- and off-balance 
sheet and derivatives transactions to any single counterparty or group 
of affiliated counterparties that exceeds 5 percent of:
    (i) The Bank's total capital; or
    (ii) The counterparty's, or affiliated counterparties' combined, 
Tier 1 capital, or if Tier 1 capital is not available, total capital 
(in each case as defined by the counterparty's principal regulator), or 
some similar comparable measure identified by the Bank.
    (2) Total secured and unsecured extensions of credit. Each Bank 
shall report monthly to FHFA the amount of the Bank's total secured and 
unsecured extensions of credit arising from on- and off-balance sheet 
and derivatives transactions to any single counterparty or group of 
affiliated counterparties that exceeds 5 percent of the Bank's total 
assets.
    (3) Extensions of credit in excess of limits. A Bank shall report 
promptly to FHFA any extension of unsecured credit that exceeds any 
limit set forth in paragraphs (a), (b), or (c) of this section. In 
making this report, a Bank shall provide the name of the counterparty 
or group of affiliated counterparties to which the excess unsecured 
credit has been extended, the dollar amount of the applicable limit 
which has been exceeded, the dollar amount by which the Bank's 
extension of unsecured credit exceeds such limit, the dates for which 
the Bank was not in compliance with the limit, and, if applicable, a 
brief explanation of any extenuating circumstances which caused the 
limit to be exceeded.
    (f) Measurement of unsecured extensions of credit--(1) In general. 
For purposes of this section, unsecured extensions of credit will be 
measured as follows:
    (i) For on-balance sheet transactions (other than a derivatives 
transaction addressed by paragraph (f)(1)(iii)) of this section, an 
amount equal to the sum of the amortized cost of the item plus net 
payments due the Bank. For any such item carried at fair value where 
any change in fair value would be recognized in the Bank's income, the 
Bank shall measure the unsecured extension of credit based on the fair

[[Page 30798]]

value of the item, rather than its amortized cost;
    (ii) For off-balance sheet transactions, an amount equal to the 
credit equivalent amount of such item, calculated in accordance with 
Sec.  1277.4(g); and
    (iii) For derivatives transactions not cleared by a derivatives 
clearing organization, an amount equal to the sum of:
    (A) The Bank's current and potential future credit exposures under 
the derivatives contract, where those values are calculated in 
accordance with Sec.  1277.4(i)(1) and (i)(2) respectively, adjusted by 
the amount of any collateral held by or on behalf of the Bank against 
the credit exposure from the derivatives contract, as allowed in 
accordance with the requirements of Sec.  1277.4(e)(2) and (e)(3); and
    (B) The value of any collateral posted by the Bank that exceeds the 
current amount owed by the Bank to its counterparty under the 
derivatives contract, where the collateral is not held by a third-party 
custodian in accordance with Sec.  1221.7(c) and (d) of this chapter.
    (2) Status of debt obligations purchased by the Bank. Any debt 
obligation or debt security (other than mortgage-backed or other asset-
backed securities or acquired member assets) purchased by a Bank shall 
be considered an unsecured extension of credit for the purposes of this 
section, except for:
    (i) Any amount owed the Bank against which the Bank holds 
collateral in accordance with Sec.  1277.4(f)(2)(ii); or
    (ii) Any amount which FHFA has determined on a case-by-case basis 
shall not be considered an unsecured extension of credit.
    (g) Exceptions to unsecured credit limits. The following items are 
not subject to the limits of this section:
    (1) Obligations of, or guaranteed by, the United States;
    (2) A derivatives transaction accepted for clearing by a 
derivatives clearing organization;
    (3) Any extension of credit from one Bank to another Bank; and
    (4) A bond issued by a state housing finance agency if the Bank 
documents that the obligation in question is:
    (i) Principally secured by high quality mortgage loans or high 
quality mortgage-backed securities (or funds derived from payments on 
such assets or from payments from any guarantees or insurance 
associated with such assets);
    (ii) The most senior class of obligation, if the bond has more than 
one class; and
    (iii) Determined by the Bank to be rated no lower than FHFA 2, in 
accordance with this section.


Sec.  1277.8  Reporting requirements.

    Each Bank shall report information related to capital and other 
matters addressed by this part 1277 in accordance with instructions 
provided in the Data Reporting Manual issued by FHFA, as amended from 
time to time.

    Dated: June 22, 2017.
Melvin L. Watt,
Director, Federal Housing Finance Agency.
[FR Doc. 2017-13560 Filed 6-30-17; 8:45 am]
 BILLING CODE 8070-01-P