Kamakura’s capital attribution method for statutory capital is based upon the NAIC Risk Based Capital (RBC) guidelines, which are based on assignment of a constant risk weight factor to each asset that depends upon the asset class and credit rating of the asset. The statutory capital requirement is derived from the statutory book value of the asset and the risk weight factor. The KRM solution provides functionality to calculate the capital requirement for each asset under the using the asset class, credit rating, and book balance of the asset.
KRM also provides the rating transition (RT) approach to default modeling. The KRM Analytical Engine can apply the RT approach to simulate credit rating transitions for individual financial instruments when performing a multiperiod portfolio simulation, and it can calculate the capital requirement for individual assets in a portfolio in future periods. This allows future credit risk capital requirements to be forecasted for a portfolio.
Kamakura believes that this functionality can be adapted to calculating the RBC capital requirement based upon setting up asset classes and risk weight factors for asset classes that implement the RBC rules according to regulatory requirements.
The economic capital attribution methods discussed below are based upon the sample distribution of potential changes in the fair economic value of the assets (and liabilities) in a portfolio or subportfolio over a simulation horizon. The capital requirement is typically calculated as the VaR metric for the sample distribution of aggregate fair economic value changes over the simulation horizon. These methods use fair economic values for assets or liabilities that are normally not measured at fair economic value, such as loans.
As an alternative, a GAAP based approach to capital attribution can be implemented in KRM by simulating changes in the book values of assets and liabilities in a portfolio or subportfolio over a simulation horizon to produce a distribution of potential changes in the book value of the assets and liabilities. The alternative capital requirement is calculated as the VaR metric for the sample distribution of aggregate book value changes over the simulation horizon.
Since the book value of an asset or liability measured at fair economic value is the fair economic value of the asset or liability, the simulated changes for an asset or liability measured at fair economic value are the same as for the economic capital attribution method. However, simulated changes in the book value of an asset or liability that is measured at amortized cost are amortization amounts for acquisition premiums or discounts rather than fair economic value changes, and these amounts will differ from the amounts calculated using the economic capital attribution method. Generally, this results in the capital requirement under the GAAP based capital attribution method being smaller than the capital requirement under the economic capital attribution method. However, the GAAP based capital attribution method provides an estimate of the impact of using amortized cost accounting on estimated capital requirements. Kamakura can also calculate risk based capital based on statutory reporting allowing the convergence of GAAP, STAT and Economic capital.
Kamakura advantage for Risk Based Capital
- KRM enables clients to migrate a transaction based on a defined migration matrix and to value the percent of the transaction that migrated using spreads from the new rating category or to quantify the recovery, if defaulted.
- KRM automates this process and provides outputs required to construct a “balance sheet by rating”, by period, at the sub-transaction level.
- KRM also enables clients to migrate a transaction based on a dynamic migration matrix.
- KRM can handle more than 100 such dynamic matrices and includes an ability to use logical “regimes” for selecting specific matrices.