The survey shows that Monte Carlo simulation is the most extensively used methodology, and banks are implementing Monte Carlo for the first time or moving a larger proportion of their portfolio onto Monte Carlo. The less sophisticated “mark to market plus add-on” approach continues, however, to be extensively used. A minority of banks use analytical techniques and historic simulation.
Among the banks using mark to market plus add-on, there is a wide variety in the sophistication of methodology. This ranges from banks still using BIS 1 add-ons to those that have developed sophisticated methodologies for taking account of scenario consistency, close-out netting and collateral.
Most banks are planning to make improvement to their PFE environment in the coming year. The main drivers for this are:
• Required improvements in accuracy
• Need to calculate Expected Positive Exposure under same framework as PFE
• Free up credit limits
Many banks using Monte Carlo simulation have purchased third party simulation engines. Mark to market plus add-on is more likely to be implemented using an in-house system.