Spread Risk on Bonds and Loans Simplification

Overview

This calculator implements the simplified capital requirement for Spread Risk on Bonds within the Solvency II standard formula.^[1] This simplified approach is intended for undertakings where the standard-formula calculation is disproportionately complex relative to the risk. The requirement is defined as the economic capital necessary to provide a 1-in-200 year level of protection using duration-based proxy factors.^[2]

Input Terms

• Market Value (MV_i): The current market value of the bond or loan.^[1]
• Modified Duration (dur_i): The modified duration of the bond used as a proxy for price sensitivity.
• Credit Quality Step (CQS): The regulatory rating step used to determine the applicable risk factor.

Technical Rationale

The Spread Risk Bonds Simplification is calibrated to a 99.5% confidence level over a one-year horizon. It captures the sensitivity of the undertaking’s basic own funds to an adverse change in the level or volatility of credit spreads. Unlike a full article-by-article revaluation, which may require complex credit-spread duration modeling, this simplification uses a closed-form proxy where the risk factor is a linear function of the asset's modified duration and its credit quality step.^[1]

This method is governed by the principle of proportionality (Article 109), ensuring that smaller or captive undertakings can calculate their solvency capital requirements without the operational burden of a full-scale valuation calculator. The result represents the simplified spread risk component before diversification in Market Risk.

Important Notes

• Proportionality Bound: This simplification should only be used where the nature, scale, and complexity of the risks justify its use. If the bond portfolio contains complex embedded derivatives or non-standard trigger events, a fuller build is required.
• Factor Inputs: The `b_i` risk factor per instrument is computed by the Bond Risk Factor Simplification calculator. This calculator applies those factors to the corresponding instrument market values to derive the standalone Spread Risk SCR.
• Regulatory deviation: Material deviation from the standard-formula assumptions or from the conditions supporting this simplification may support a capital add-on or a move toward a fuller or internal-model approach where justified.^[3]
• Reporting: The simplified result is intended to support the corresponding standard-formula component feeding the S.25.01.01 standard-formula reporting view, not to replace the connected article-chain result where the simplification is not justified.^[4]