Exposure at default - general expectations of IRB firms

5.1 The exposure at default (EAD) required for IRB purposes is the exposure(s) expected to be outstanding under a borrower’s current facilities should it go into default in the next year, but assuming that economic downturn conditions occur in the next year; and assuming also that, other than any changes resulting from the economic downturn conditions, a firm’s policies and practices for controlling exposures remain unchanged from what they are at present. As with other aspects of the IRB framework, the EAD estimates to be used for capital purposes are based on the realised EADs in the reference data set of exposures that have entered default in the past. The basic historic data needs to be adjusted to take account of, amongst other things, changes in policies and practices and to produce an orientation towards an economic downturn. In line with BIPRU 4.4.45R and BIPRU 4.4.46R,

EAD cannot be lower than current drawings.

5.2 In particular, firms using AIRB approaches should have done the following in respect of EAD estimates:

a. produced EAD estimates at the level of the individual facility;

b. ensured that all EAD estimates are cautious, conservative and justifiable, given the paucity of observations. Estimates must be derived using both historical experience and empirical evidence, and must not be based purely on judgemental consideration. The firm should document the justification for its considering the estimates to be conservative;