Introduction
Basel 3.1 introduces an output floor which sets a 72.5% lower limit on a bank's risk-weighted assets calculated using internal models compared to the standardized approach. In the EU and UK, the majority of fund exposures are considered an unrated corporate exposure subject to a 65% risk weight (RW) if they are investment grade (or a
100% RW in the EU or 135% in the UK if subinvestment grade) for the purposes of the output floor. In Switzerland unrated corporates, including funds, receive 100% RW for the regulatory floor.
This GCD report, initiated by AFME, aims to provide quantitative evidence to inform discussions with regulators on the riskiness of funds relative to the 65% regulatory RW applied for calculating the floor under CRR3.
Key regulatory observations
- Across all collected funds, the average IRB RW is approximately 22%, materially below the 65% standardized RW under CRR3.
- For mutual funds, pension funds, REITs and most non‑hedge fund structures, observed default rates, TTC PDs, and recoveries are consistent with significantly lower credit risk, with typical IRB RWs of 10%–20%, and 30%–40% for funds of funds, private equity funds and private debt funds.
- Applying a uniform 65% RW floor therefore implies a conservatism multiple of around three times the estimated IRB RW for most funds.
- Hedge funds exhibit higher risk and are not representative of the broader fund population, with an average IRB RW of around 94%; the majority of hedge funds are sub‑investment