7.2.1	Treatment of derivatives:
	Exposures to derivatives includes the following components under the Leverage ratio exposure measure:
	(i)	Replacement cost (RC)
	(ii)	Potential future exposure (PFE)
7.2.2	Calculation of Derivatives
	(i)	Banks must calculate their exposures associated with all derivative transactions, including where a bank sells protection using a credit derivative as per subparagraph (iv) below
	(ii)	If the derivative exposure covered by an eligible bilateral netting contract as specified in subparagraphs (v) and (vi) below, a specific treatment may be applied.
	(iii)	Written credit derivatives are subject to an additional treatment, as set out in paragraphs 7.2.8 to 7.2.15 below.
	(iv)	Derivative transactions not covered by an eligible bilateral netting contract as specified in subparagraphs (v) and (vi) below, the amount included in the Leverage ratio exposure measure will be determined for each transaction separately, as follows:
		Exposure measure = Alpha * (RC + PFE)
		Where:
		a.	Alpha = 1.4;
		b.	RC = the replacement cost measured as follows:
		Where:
		■	V is the market value of the individual derivative transaction or of the derivative transactions in a netting set;
		■	CVMr is the cash variation margin received that meets the conditions set out in paragraph 7.2.4 and for which the amount has not already reduced the market value of the derivative transaction V under the bank’s operative accounting standard; and
		■	CVMp is the cash variation margin provided by the bank and that meets the same conditions.
		■	If there is no accounting measure of exposure for certain derivative instruments because they are held (completely) off balance sheet, the bank must use the sum of positive fair values of these derivatives as the replacement cost.
		c.	PFE = The potential future exposure (PFE) for derivative exposures must be calculated in accordance with the Minimum Capital Requirement for Counterparty Credit Risk and Credit Valuation Adjustment paragraph 6.22 to 6.79. Mathematically:
			Where:
			■	Multiplier fixed at one.
			■	When calculating the aggregate Add-on component, for all margined transactions the maturity factor set out in the Minimum Capital Requirement for Counterparty Credit Risk and Credit Valuation Adjustment issued by SAMA paragraph 6.51 to 6.56 may be used. Further, as written options create an exposure to the underlying, they must be included in the Leverage ratio exposure measure by applying the required treatment, even if certain written options are permitted the zero exposure at default (EAD) treatment allowed in the risk-based framework.
	(v)	Bilateral netting: when an eligible bilateral netting contract is in place the following will apply:
		a.	Banks may net transactions subject to novation under which any obligation between a bank and its counterparty to deliver a given currency on a given value date is automatically amalgamated with all other obligations for the same currency and value date, legally substituting one single amount for the previous gross obligations.
		b.	Banks may also net transactions subject to any legally valid form of bilateral netting not covered in point (a) above, including other forms of novation.
		c.	In both cases (a) and (b) above, a bank will need to prove that it has:
			■	A netting contract or agreement with the counterparty that creates a single legal obligation, covering al included transactions, such that the bank would have either a claim to receive or obligation to pay only the net sum of the positive and negative mark-to-market values of included individual transactions in the event that a counterparty fails to perform due to any of the following: default, bankruptcy, liquidation or similar circumstances;
			■	Written and reasoned legal opinions that, in the event of a legal challenge, the relevant courts and authorities would find the bank's exposure to be such a net amount under:
				-	The law of the jurisdiction in which the counterparty is chartered and, if the foreign branch of a counterparty is involved, then also under the law of jurisdiction in which the branch is located;
				-	The law that governs the individual transactions; and
				-	The law that governs any contract or agreement necessary to effect the netting.
			■	Procedures in place to ensure that the legal characteristics of netting arrangements are kept under review in the light of possible changes in relevant law.
			■	Netting agreements are not allowed in Saudi Arabia however, if netting is enforceable in any jurisdiction, positive and negative mark to market exposures in that jurisdiction will be allowed to net;4
	(vi)	Contracts containing walkaway clauses will not be eligible for netting for the purpose of calculating the Leverage ratio exposure measure pursuant to this framework. A walkaway clause is a provision that permits a non-defaulting counterparty to make only limited payments or no payment at all, to the estate of a defaulter, even if the defaulter is a net creditor.
7.2.3	Treatment of related collateral
	(i)	Collateral received
	a.	Collateral received in connection with derivative contracts has two countervailing effects on Leverage:
	■	Reduces counterparty exposure
	■	Increases the economic resources at the disposal of the bank, as the bank can use the collateral to Leverage itself.
	b.	Collateral received in connection with derivative contracts does not necessarily reduce the Leverage inherent in a bank's derivative position, which is generally the case if the settlement exposure arising from the underlying derivative contract is not reduced.
	c.	Collateral received should not be netted against derivative exposures whether or not netting is permitted under the bank's operative accounting or risk-based framework. By applying 7.2.2 (derivative calculation) above, banks must not reduce the Leverage ratio exposure measure amount by any collateral received from the counterparty. This implies that replacement cost cannot be reduced by collateral received and the multiplier referenced in paragraph 7.2.2 is fixed at one for the purpose of the PFE calculation. However, the maturity factor in the PFE add-on calculation can recognize the PFE-reducing effect from the regular exchange of variation margin as specified above in paragraph 7.2.2.
	(ii)	Collateral provided
		Banks must gross up their Leverage ratio exposure measure by the amount of any derivatives collateral provided where the provision of that collateral has reduced the value of their balance sheet assets under their operative accounting framework.
7.2.4	Treatment of cash variation margin:
	(i)	Treatment of derivative exposures for the purpose of the Leverage ratio exposure measure, the cash portion of variation margin exchanged between counterparties may be viewed as a form of pre-settlement payment if the following conditions are met:
		a.	Trades not cleared through a qualifying central counterparty (QCCP)5 the cash received by the recipient counterparty is not segregated. Cash variation margin would satisfy the non-segregation criterion if the recipient counterparty has no restrictions by law, regulation, or any agreement with the counterparty on the ability to use the cash received (i.e. the cash variation margin received used as its own cash).
		b.	Variation margin is calculated and exchanged on at least a daily basis based on mark-to-market valuation of derivative positions. To meet this criterion, derivative positions must be valued daily and cash variation margin must be transferred at least daily to the counterparty or to the counterparty's account, as appropriate. Cash variation margin exchanged on the morning of the subsequent trading day based on the previous, end-of-day market values would meet this criterion.
		c.	The variation margin is received in a currency specified in the derivative contract, governing master netting agreement (MNA), credit support annex (CSA) to the qualifying MNA or as defined by any netting agreement with a CCP.
		d.	Variation margin exchanged is the full amount that would be necessary to extinguish the mark to-market exposure of the derivative subject to the threshold and minimum transfer amounts applicable to the counterparty. If a margin dispute arises, the amount of non-disputed variation margin that has been exchanged can be recognized.
		e.	Derivative transactions and variation margins are covered by a single MNA between the legal entities that are the counterparties in the derivative transaction. The MNA must explicitly stipulate that the counterparties agree to settle net any payment obligations covered by such a netting agreement, taking into account any variation margin received or provided if a credit event occurs involving either counterparty. The MNA must be legally enforceable and effective (i.e. it satisfies the conditions in point (c) in subparagraph (v) and subparagraph (vi) in paragraph 7.2.2 Calculation of Derivatives above) in all relevant jurisdictions, including in the event of default and bankruptcy or insolvency.6
	(ii)	If the conditions above are met, the cash portion of variation margin received may be used to reduce the replacement cost portion of the Leverage ratio exposure measure, and the receivables assets from cash variation margin provided may be deducted from the Leverage ratio exposure measure as follows:
		a.	In the case of cash variation margin received, the receiving bank may reduce the replacement cost (but not the PFE component) of the exposure amount of the derivative asset as specified 7.2.2 above.
		b.	In the case of cash variation margin provided to a counterparty, the posting bank may deduct the resulting receivable from its Leverage ratio exposure measure. Where the cash variation margin has been recognized as an asset under the bank’s operative accounting framework, and instead include the cash variation margin provided in the calculation of the derivative replacement cost as specified 7.2.2 above.
7.2.5	Treatment of clearing services:
	(i)	If a bank acting as clearing member (CM)7 offers clearing services to clients.
		a.	The CM's trade exposures to the central counterparty (CCP) that arise when the CM is obligated to reimburse the client for any losses suffered due to changes in the value of its transactions in the event that the CCP defaults must be captured by applying the same treatment that applies to any other type of derivative transaction.
		b.	If the clearing member CM, based on the contractual arrangements with the client, is not obligated to reimburse the client for any losses suffered in the event that a QCCP defaults, the CM does not need to recognize the resulting trade exposures to the QCCP in the Leverage ratio exposure measure.
	(ii)	Bank provides clearing services as a “higher level client” within a multi-level client structure8, the bank should not recognize in its Leverage ratio exposure measure the resulting trade exposures to the CM or to an entity that serves as a higher level client to the bank in the Leverage ratio exposure measure if it meets all of the following conditions:
		a.	The offsetting transactions are identified by the QCCP as higher level client transactions and collateral to support them is held by the QCCP and/or the CM, as applicable, under arrangements that prevent any losses to the higher level client due to:
			■	The default or insolvency of the CM,
			■	The default or insolvency of the CM's other clients, and
			■	The joint default or insolvency of the CM and any of its other clients9
		b.	The bank must have conducted a sufficient legal review (and undertake such further review as necessary to ensure continuing enforceability) and have a well-founded basis to conclude that, in the event of legal challenge,-the relevant courts and administrative authorities would find that such arrangements mentioned above would be legal, valid, binding and enforceable under relevant laws of the relevant jurisdiction(s);
		c.	Relevant laws, regulation, rules, contractual or administrative arrangements provide that the offsetting transactions with the defaulted or insolvent CM are highly likely to continue to be indirectly transacted through the QCCP, or by the QCCP, if the CM defaults or becomes insolvent10. In such circumstances, the higher level client positions and collateral with the QCCP will be transferred at market value unless the higher level client requests to close out the position at market value;
		d.	The bank is not obligated to reimburse its client for any losses suffered in the event of default of either the CM or the QCCP.
	(iii)	Derivative exposures associated with the bank's offering of client clearing services, the RC and the PFE of the exposure to the client (or the exposure to the “lower level client” in the case of a multi-level client structure) may be calculated according to the Minimum Capital Requirement for Counterparty Credit Risk and Credit Valuation Adjustment issued by SAMA paragraph 6.15 to 6.80.11 For the determination of RC and PFE, the amount of initial margin received by the bank from its client that may be included in the haircut value of net collateral held (C) and net independent collateral amount (NICA) should be limited to the amount that is subject to appropriate segregation by the bank as defined in the relevant jurisdiction.
7.2.6	If a client enters into a derivative transaction with the CCP directly, and the CM guarantees the performance of its client's derivative trade exposures to the CCP. The bank who's acting as CM for the client to the CCP, must calculate its related Leverage ratio exposure resulting from the guarantee as a derivative exposure as set out in paragraphs 7.2.2 to 7.2.4 above, as if it had entered directly into the transaction with the client, including with regard to the receipt or provision of cash variation margin.
7.2.7	Affiliated entities to the bank acting as a CM may be considered a client if it is outside the relevant scope of regulatory consolidation at the level at which the Leverage ratio is applied. In contrast, if an affiliate entity falls within the regulatory scope of consolidation, the trade between the affiliate entity and the CM is eliminated in the course of consolidation but the CM still has a trade exposure to the CCP. In this case, the transaction with the CCP will be considered proprietary and the exemption in paragraph 7.2.5 above will not apply.
7.2.8	In addition to the CCR exposure arising from the fair value of the contracts, written credit derivatives create a notional credit exposure arising from the credit worthiness of the entity. Banks should treat written credit derivatives consistently with cash instruments (e.g. loans, bonds) for the purposes of the Leverage ratio exposure measure.
7.2.9	To capture the credit exposure of a certain entity, taking into consideration the treatment of derivatives and related collateral above, the effective notional amount referenced by a written credit derivative must be included in the Leverage ratio exposure measure. Unless the written credit derivative is included in a transaction cleared on behalf of a client of the bank acting as a CM (or acting as a clearing services provider in a multi-level client structure as referenced in paragraph 7.2.5 and the transaction meets the requirements of paragraph 7.2.5 for the exclusion of trade exposures to the QCCP (or, in the case of a multilevel client structure, the requirements of paragraph 7.2.5 for the exclusion of trade exposures to the CM or the QCCP).
7.2.10	The “effective notional amount” obtained by adjusting the notional amount to reflect the true exposure of contracts that are Leveraged or otherwise enhanced by the structure of the transaction. Further, the effective notional amount of a written credit derivative may be reduced by any negative change in fair value amount that has been incorporated into the calculation of Tier 1 capital with respect to the written credit derivative1213. The resulting amount may be further reduced by the effective notional amount of a purchased credit derivative on the same reference name, provided that:
	(i)	The credit protection purchased through credit derivatives is otherwise subject to the same or more conservative material terms as those in the corresponding written credit derivative. This ensures that if a bank provides written protection via some type of credit derivative, the bank may only recognize offsetting from another purchased credit derivative to the extent that the purchased protection is certain to deliver a payment in all potential future states. Material terms include the level of subordination, optionality, credit events, reference and any other characteristics relevant to the valuation of the derivative For example, the application of the same material terms condition would result in the following treatments:
		a.	in the case of single name credit derivatives, the credit protection purchased through credit derivatives is on a reference obligation which ranks pari passu with or is junior to the underlying reference obligation of the written credit derivative. Credit protection purchased through credit derivatives that references a subordinated position may offset written credit derivatives on a more senior position of the same reference entity as long as a credit event on the senior reference asset would result in a credit event on the subordinated reference asset;
		b.	for tranche products, the credit protection purchased through credit derivatives must be on a reference obligation with the same level of seniority.
	(ii)	The remaining maturity of the credit protection purchased through credit derivatives is equal to or greater than the remaining maturity of the written credit derivative;
	(iii)	The credit protection purchased through credit derivatives is not purchased from a counterparty whose credit quality is highly correlated with the value of the reference obligation in the sense specified in the Minimum Capital Requirement for Counterparty Credit Risk and Credit Valuation Adjustment issued by SAMA paragraph 7.48. The credit quality of the counterparty must not be positively correlated with the value of the reference obligation (ie the credit quality of the counterparty falls when the value of the reference obligation falls and the value of the purchased credit derivative increases). In making this determination, there does not need to exist a legal connection between the counterparty and the underlying reference entity.
	(iv)	In the event that the effective notional amount of a written credit derivative is reduced by any negative change in fair value reflected in the bank's Tier 1 capital, the effective notional amount of the offsetting credit protection purchased through credit derivatives must also be reduced by any resulting positive change in fair value reflected in Tier 1 capital; and
	(v)	The credit protection purchased through credit derivatives is not included in a transaction that has been cleared on behalf of a client (or that has been cleared by the bank in its role as a clearing services provider in a multi-level client services structure as referenced in paragraph 7.2.5) and for which the effective notional amount referenced by the corresponding written credit derivative is excluded from the Leverage ratio exposure measure according to this paragraph.
7.2.11	Written credit derivative refers to a broad range of credit derivatives through which a bank effectively provides credit protection and is not limited solely to credit default swaps and total return swaps. For example, all options where the bank has the obligation to provide credit protection under certain conditions qualify as “written credit derivatives”. The effective notional amount of Such options sold by the bank may be offset by the effective notional amount of options by which the bank has the right to purchase credit protection which fulfils the conditions of paragraph 7.2.9 and 7.2.10 above. Also, the condition of same or more conservative material terms as those in the corresponding written credit derivatives as referenced in paragraph 7.2.9 and 7.2.10 above can be considered met only when the strike price of the underlying purchased credit protection is equal to or lower than the strike price of the underlying sold credit protection.
7.2.12	For the purposes of paragraph 7.2.9 and 7.2.10 above, two reference names are considered identical only if they refer to the same legal entity. Credit protection on a pool of reference names purchased through credit derivatives may offset credit protection sold on individual reference names, if the credit protection purchased is economically equivalent to purchasing credit protection separately on each of the individual names in the pool (this would, for example, be the case if a bank were to purchase credit protection on an entire securitization structure).
7.2.13	If a bank purchases credit protection on a pool of reference names through credit derivatives but the credit protection purchase does not cover the entire pool (i.e. the protection covers only a subset of the pool, as in the case of an nth-to-default credit derivative or a securitization tranche), then the written credit derivatives on the individual reference names should not be offset. However, such purchased credit protection may offset written credit derivatives on a pool provided that the credit protection purchased through credit derivatives covers the entirety of the subset of the pool on which the credit protection has been sold.14
7.2.14	Where a bank purchases credit protection through a total return swap (TRS) and records the net payments received as net income, but does not record offsetting deterioration in the value of the written credit derivative (either through reductions in fair value or by an addition to reserves) in Tier 1 capital, the credit protection will not be recognized for the purpose of offsetting the effective notional amounts related to written credit derivatives.
7.2.15	Since written credit derivatives are included in the Leverage ratio exposure measure at their effective notional amounts, and are also subject to amounts for PFE, the Leverage ratio exposure measure for written credit derivatives may be overstated. Banks may therefore choose to exclude from the netting set for the PFE calculation the portion of a written credit derivative which is not offset according to paragraph 7.2.9 and 7.2.1015 and for which the effective notional amount is included in the Leverage ratio exposure measure.

⁴ Paragraph 14 in SAMA Margin Requirements for Non-centrally Cleared Derivatives circular No42008998 dated 18/02/1442H
⁵ QCCP is defined in the Minimum Capital Requirement for Counterparty Credit Risk and Credit Valuation Adjustment issued by SAMA under paragraph 3 “Definitions”.
⁶ For the purposes of this paragraph, the term “MNA” includes any netting agreement that provides legally enforceable rights of offset (taking into account the fact that, for netting agreements employed by CCPs, no standardization has currently emerged that would be comparable with respect to over-the counter netting agreements for bilateral trading) and Master MNA may be deemed to be a single MNA.
⁷ The terms “clearing member”, “trade exposure”, “central counterparty” and “qualifying central counterparty” are defined in the Minimum Capital Requirement for Counterparty Credit Risk and Credit Valuation Adjustment issued by SAMA under paragraph 3 “Definitions”. In addition, for the purposes of this paragraph, the term “trade exposures“ includes initial margin irrespective of whether or not it is posted in a manner that makes it remote from the insolvency of the CCP.
⁸ A multi-level client structure is one in which banks can centrally clear as indirect clients; that is, when clearing services are provided to the bank by an institution which is not a direct clearing member, but is itself a client of a CM or another clearing client. The term “higher-level client” refers to the institution that provides clearing services.
⁹ upon the insolvency of the clearing member, there is no legal impediment (other than the need to obtain a court order to which the client is entitled) to the transfer of the collateral belonging to clients of a defaulting clearing member to the QCCP, to one of more other surviving clearing members or to the client or the client’s nominee.
¹⁰ If there is a clear precedent for transactions being ported at a QCCP and industry intent for this practice to continue, then these factors must be considered when assessing if trades are highly likely to be ported. The fact that QCCP documentation does not prohibit client trades from being ported is not sufficient to say they are highly likely to be ported.
¹¹ The term “lower level client” refers to the institution that clears through that client.
¹² For example, if a written credit derivative had a positive fair value of 20 on one date and has a negative fair value of 10 on a subsequent reporting date, the effective notional amount of the credit derivative may be reduced by 10. The effective notional amount cannot be reduced by 30. However, if on the subsequent reporting date the credit derivative has a positive fair value of five, the effective notional amount cannot be reduced at all.
¹³ This treatment is consistent with the rationale that the effective notional amounts included in the exposure measure may be capped at the level of the maximum potential loss, which means that the maximum potential loss at the reporting date is the notional amount of the credit derivative minus any negative fair value that has already reduced Tier 1 capital.
¹⁴ In other words, offsetting may only be recognized when the pool of reference entities and the level of subordination in both transactions are identical.
¹⁵ the removal of a PFE add-on associated with a written credit derivative from the leverage ratio exposure measure refers only to the offset by credit protection purchased through a credit derivative according to paragraph 7.2.9 and 7.2.10 and not to the reduction of the effective notional amount as a result of the negative change in fair value that has reduced Tier 1 capital.