Starting from the relevant downturn period(s) identified in accordance with the related Regulatory Technical Standard (RTS), the final Guidelines set out requirements for the appropriate quantification of the calibration target used for downturn LGD estimates and include three types of approaches:
Type-1 approaches can be applied when banks have sufficient loss data for the identified downturn period. In this case, institutions are allowed some modelling flexibility, but subject to a harmonised and prescriptive impact assessment;
Type-2 approaches can be applied when banks do not have sufficient loss data for the identified downturn period. In this case, institutions are given the choice between two approaches, the so-called haircut or extrapolation approaches This will harmonise the approaches used by banks.
Type-3 approaches can be applied in rare cases, where neither type-1 nor type-2 approaches can be used. In this case, banks have to apply a minimum margin of conservatism (MoC) requirement of 15 percentage points on LGD estimates.
Finally, a reference value is put in place that acts as a non-binding challenger to the final downturn LGD estimation.
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