Liquidity Risk Management

Israel Supervision of Banks Policy Department for Supervision and Regulation Fax: 02-6669590 Tel: 02-6552400/401 Jerusalem, P.O.B. 91007

2 Shevat 5773 January 13, 2013 Circular No. 06-2363

To: Banking Corporations, Credit Card Companies

Subject: Liquidity Risk Management (Standard Banking Management Directive No. 342)

Introduction

1. Since the publication of the directive below (Standard Banking Management Directive No. 342) on Liquidity Risk Management, numerous developments have occurred in international regulation on the subject of liquidity. The two significant publications included in the document of the Basel Committee of the First of September 2008 (Principles for Sound Management of Liquidity Risk) and the second document of December 2010, which is part of the package of documents to strengthen resilience on Liquidity Risk (Basel III) (which presented two new supervisory measures for quantitative estimation of Liquidity Risk) and additional supervisory tools for monitoring other risks (Liquidity Risk).

2. The Basel III directive on Liquidity Risk was updated in January 2013.

3. The Supervision of Banks intends to adopt the Basel III directive on Liquidity Risk with changes. Banks shall commit to the timing to be determined, after studying the directive and its implications on the banking system. In the interim period, until the full update of the directive in accordance with the documents mentioned above, banks are expected to clarify and emphasize several aspects of management and estimation of liquidity risk, based on the lessons accumulated since the publication of the directive, among others, clarifications and emphases based on reviews conducted in this regard in banking corporations.

4. It is expected that when implementing the requirements of this directive, banking corporations will take into account the Principles for Sound Management of Liquidity Risk (12).

5. I have decided, with the approval of the Governor and after consultation with the Advisory Committee on Banking Matters, to update the directive as detailed below.

6. The translated document was distributed to the banking system in April 2009 and appears on the Bank of Israel website.

7. Basel III: International framework for liquidity risk measurement, standards and monitoring.

Amendments to the Directive

1. Subsection (a) of Section 1 (Introduction) shall be rephrased and a small change in wording shall be made to subsection (g). A new Section 2 shall be added, and Section 7 shall become Section 2a.

Explanatory Notes It shall be clarified that the directive applies to every banking corporation, except for joint service companies. The requirement that credit card companies comply with the directive is not determined at this stage, but rather how a credit card company complies with the requirements of the directive regarding the holding of liquid assets and the quality management of risk.

2. Subsection (a) of Section 8 (Definitions) shall be added to the end of the definition of "Liquidity": "without being exposed to exceptional losses".

Explanatory Notes Clarification of the existing definition.

Subsection (b) of the definition of "Liquidity Risk" shall be replaced with "and its stability" instead of "and its capital".

Explanatory Notes Clarification of the existing definition.

Subsection (c) shall be added to the beginning of the definition of Liquid Assets, regarding the requirements for high-quality assets.

Explanatory Notes The general wording of the requirements for high-quality liquid assets was adapted. At this stage, the definition of liquid assets does not include a comprehensive list for the purpose of calculating the minimum liquidity ratio; rather, the banking corporation shall define examples of possible liquid assets as an open list. Also note the guidelines regarding liquid assets included in the liquidity buffer under Basel III on Liquidity Risk.

Subsection (d) regarding the existing limitation on the inclusion of government securities with a maturity of more than one month in the definition of assets.

Explanatory Notes Government securities of the State of Israel with a maturity of more than one month shall be included in the liquidity buffer. Therefore, it is estimated that the ability to convert them into cash during times of stress is below the set amount. The entire balance of government securities can be included without collateral, provided that the balance reflects the expected market value loss with collateral, provided that the collateral covers the Bank of Israel's requirements for government bonds and bills at a rate that does not exceed 25% of the average monthly turnover. The type of government bonds shall be examined, for example, "Gilbon", "Shahar", "Mamak", "Galil", etc. The different series of government bonds shall be made to have a relative weight in the same series of bonds of the same type. Other government securities with a risk weight of 0% according to Standard Banking Management Directive No. 203 may be included in the liquidity buffer only after the application of appropriate collateral.

Subsection (e) shall be added: Definition of Liquidity Buffer.

Explanatory Notes The balance is a group of liquid assets after the application of collateral, which are appropriate in the circumstances of the matter.

3. Subsection (a) of Section 9 (Policy) shall be replaced with a change in reference to subsections (3) including limits and objectives. A requirement shall be added to include in the policy document the assumptions used for the calculation of limits and objectives.

Explanatory Notes The adaptation was made in light of the new definition of limits and objectives.

4. Subsection (a) of Section 10 (Information Systems) shall be replaced with the concept "currencies in which the banking corporation operates" instead of "main currencies". Additionally, "and considering off-balance sheet liabilities" shall be added to the end. Also, "significant activity of the banking corporation" shall be added.

Explanatory Notes The concept of "main currencies" was rephrased to clarify that the main currency criterion relates to the banking corporation. The addition of clarification of the information system requirement is to allow the calculation of the liquidity situation also considering liquidity arising from off-balance sheet liabilities.

5. Subsection (b) of Section 11 (Board of Directors) shall be updated with a reference to the document on Risk Management in Standard Banking Management Directive No. 310 (Risk Management).

6. Subsection (a) of Section 12 (Risk Management Unit) shall be replaced with the term "Risk Control Unit" instead of "Risk Management Unit".

Explanatory Notes Adaptation of the term to the change in the term in Standard Banking Management Directive No. 339. The Liquidity Risk unit shall be subordinate to the Chief Risk Officer of the banking corporation, as defined in Standard Banking Management Directive No. 310 (Risk Management).

7. Subsection (a) of Section 13 (Internal Audit) shall be changed with a reference to Standard Banking Management Directive No. 307 (Internal Audit Function).

Explanatory Notes Standard Banking Management Directive No. 307 focuses on the functions and methods of internal audit.

8. Subsection (a) of Section 14 (Banking Group) shall be changed by deleting "in other banking and financial corporations" starting with "in words" in the end of subsection (a). The requirement to determine limits was transferred to subsection (b).

Explanatory Notes The requirement was clarified for the controlling banking corporation in other banking and financial corporations.

Subsection (b) shall be added: Subsection (b) of Section shall be added: "Limits and objectives for the level of liquidity shall be determined on a consolidated basis. The banking corporation shall take into account, in determining the limits and objectives, operational and regulatory legal restrictions on the transfer of liquidity within the banking group, and stress and regular business conditions."

Explanatory Notes The requirement was added for the controlling banking corporation in other banking and financial corporations to determine limits and objectives for the level of liquidity on a consolidated basis.

Subsection (c) shall be added: Subsection (c) of Section shall be added: "The management of the banking corporation shall ensure that in every entity in the banking group, including foreign branches, to which liquidity risk is exposed, adequate independent mechanisms exist for the measurement and ongoing monitoring of the liquidity situation."

Explanatory Notes The requirement was added for the controlling banking corporation in other banking and financial corporations to ensure that a mechanism exists for the management of liquidity in one of the entities in the group, and that the mechanism is adequate. The requirement also applies to foreign branches.

Subsection (d) shall be added: Subsection (d) of Section shall be added: "The banking corporation shall ensure that a mechanism exists for the measurement and ongoing monitoring of the liquidity situation on a consolidated basis, including foreign branches. The monitoring frequency shall be determined by the corporation in accordance with the manner of incorporation of the group and its activities and characteristics, provided that it is not less than once a month, and the mechanism for measurement and monitoring shall be embedded in the policy for the management of liquidity in the banking group as a whole."

Explanatory Notes The requirement was added for the controlling banking corporation in other banking and financial corporations to have a similar mechanism. The mechanism for measurement and ongoing monitoring of the liquidity situation on a consolidated basis shall include adaptations to the required liquidity situation, among others, the required monitoring frequency.

9. Subsection (a) of Section 15 (Management, Measurement and Monitoring of the Liquidity Situation) shall delete the word "daily" from the beginning and add the following sentence to the end: "With regard to the liquidity situation in shekels and in foreign currencies, the liquidity situation shall be in accordance with the liquidity situation in shekels and in foreign currencies separately."

Explanatory Notes The requirement for monitoring on a daily basis relates to the minimum liquidity ratio. This shall be conducted at a frequency appropriate to the nature of the other means specified in this section for monitoring the liquidity situation. The purpose of the addition to the end is to clarify the requirement to maintain monitoring means and activities in the three sectors: shekels, foreign currencies, and together.

Subsection (b) of Section shall be replaced with: "Liquidity Gap by Maturity Periods: Instead of 'Liquidity Gap', 'Liquidity Gap by Maturity Periods' shall come, 'for liabilities maturing within one month' shall come, 'and using the tools and indicators specified in Section 17 below' shall come."

Subsection (b) of the end of this section shall be replaced with: "Instead of 'Use them in the management of liquidity', 'Use them for the estimation of the liquidity situation' shall come."

Explanatory Notes Adaptation of the tools for the estimation of the liquidity situation to the ratios and indicators mentioned in the directive. Additionally, the word "emergency" shall be added after "Determination of Plan" in subsection (c) of Section: "Include a system of indicators for the early identification of stages of liquidity crisis and definition of different stages of liquidity crisis development."

Explanatory Notes The additions are intended to strengthen the preparation for liquidity crisis, including early identification of crisis.

Subsection (d) of Section shall be cancelled.

Explanatory Notes The requirement is included in the framework of examining different scenarios for compliance with the requirement of minimum liquidity ratio, and the requirement to determine limits and objectives for the level of liquidity on a consolidated basis.

Subsection (e) of Section 15 shall be added: Requirement for the management of intraday liquidity position, including the management of collateral positions.

Explanatory Notes The requirement was added for monitoring and management of the intraday liquidity position, as is customary in international regulatory directives.

10. Section 16 (Minimum Liquidity Ratio) shall include the following paragraph: "A banking corporation shall hold a minimum liquidity ratio of at least 1:1, calculated in accordance with the definitions and guidelines specified below, in Sections 11 to 15."

Explanatory Notes The requirement to hold a ratio of liquid assets to liabilities maturing within one month. Section 10, which concerns the determination of limits, was deleted. The requirement to hold a minimum liquidity ratio of at least 1:1 for liabilities maturing within one month became an alternative for a non-banking corporation, subject to the use of which is conditional with the approval of the supervisor. Other requirements for the determination of limits were included. The requirement to hold a minimum liquidity ratio of at least 1:1 replaces the requirement to hold a minimum liquidity ratio of at least 1:1 for liabilities maturing within one month, not less than 1:1, according to an internal model. Sections 11 to 15 shall be added, including the definitions of the components of the minimum liquidity ratio and the guidelines.

Section 11 (a) shall include the definition of the components of the minimum liquidity ratio, and in particular, the guidelines for the definition and characterization of the components of the minimum liquidity ratio, including expected payments.

At this stage, the Supervision of Banks does not determine which items may be included in incoming receipts. It is expected that the banking corporation will take a conservative approach when bringing incoming receipts into account. Incoming receipts.

Expected receipts from housing loans maturing within one month may be included in the incoming cash flow, as defined in "Housing Loan on Residential Apartment" in Section 231 (two tables) of Standard Banking Management Directive No. 204 (Internal Rating Approach for Credit Risk) for loans that are not in arrears for more than 90 days, as defined in the reporting directives to the public.

Section 13 (c) shall include the instructions regarding the calculation of the minimum liquidity ratio, including the types and characteristics of the scenarios, and the time horizon required for the calculation. It is emphasized in the section that even though the calculation is required, the net expected outflow does not have to be zero. The banking corporation shall ensure that the held liquidity buffer is sufficient to meet the liquidity needs during the period of one month under different scenarios.

Section 14 (d) shall include the instruction for the calculation of the minimum liquidity ratio on a consolidated basis, including foreign branches, except for "foreign branches" which the banking corporation shall not include, unless approved by the supervisor.

Section 15 (e) shall include the instruction for the calculation of the minimum liquidity ratio on the total activity of the banking corporation, separately in shekels and in foreign currencies.

Explanatory Notes The sections include the instructions for the calculation of the minimum liquidity ratio for the purpose of compliance with the requirement of Section 10. The minimum liquidity ratio is defined as the ratio between the liquidity buffer and the net expected outflow for a period of one month. The banking corporation shall define and characterize the ratio in accordance with the definition of the liquidity buffer in the directive and the guidelines in Section 12.

At this stage, stress scenarios were not determined for the calculation of the ratio for a period of one month in advance. Rather, the ratio shall be calculated given certain stress scenarios, unless the minimum requirements for those stress scenarios are defined, and the topic of stress scenarios shall be reviewed again in the Basel III directive on Liquidity Risk.

The minimum liquidity ratio shall be calculated on a consolidated basis, including foreign branches, for "foreign branches". The corporation may, in a manner independent of the regulator's requirements in the country of its domicile, request in writing from the supervisor to exclude the branch from the calculation of the minimum liquidity ratio, in order to remove doubt. The calculation of the minimum liquidity ratio on a consolidated basis shall be examined within the framework of Section 8(b), and the minimum liquidity ratio shall not be included.

The minimum liquidity ratio shall be examined on the total activity of the banking corporation separately in shekels and in foreign currencies, to take into account the need to meet certain conditions and to consider the possibility of damage in extreme situations in the ability to replace shekels with foreign currencies. That is, there is no reliance on the future ability to replace shekels with foreign currencies, and reliance on exposures to the government and the Bank of Israel in foreign currencies, if the replacement transactions were not carried out. When there are existing entities in shekels that can settle these bodies in case of difficulty in raising foreign currencies, see Section 54, question 1.1.II and question 203 of Standard Banking Management Directive No. 54, and answers to questions regarding the limitation of the liquidity buffer to 20% in the directives on capital requirements and in the systemic scenario.

16. Section 18 shall be added: Requirement to manage another monitoring of the Stable Funding Ratio, as defined by the corporation, and to examine compliance with the target set for the Stable Funding Ratio in scenarios.

Explanatory Notes The requirement is to strengthen the management of liquidity risk in the banking corporation in light of the understanding of the characteristics of liquidity. This ratio is defined as the ratio between stable funding sources and long-term uses (more than one year). At this stage, no regulatory definitions of "stable funding sources" and "long-term uses" were determined. It is recommended that the banking corporations refer to the Basel III directive on Liquidity Risk for the definition of this ratio. The topic shall be reviewed again in the Basel III directive on Liquidity Risk.

17. Section 19 shall be added: Directive on tools and indicators that the banking corporation shall operate for the purpose of monitoring the liquidity situation: They shall include: (a) Liquidity ratios in regular business conditions. (b) Liquidity ratios in different scenarios and time horizons. (c) Stress scenarios that lead to a decrease in the required minimum liquidity ratio. (d) Liquidity gaps by maturity periods based on contractual maturity dates. (e) Funding sources and concentration by counterparty and by instruments/products. (f) Liquidity ratios in currencies in which the banking corporation has significant activity. (g) The balance of unencumbered assets that may be used by the banking corporation as a source of liquidity (need for liquidity buffer). (h) Liquidity ratios in foreign currencies in which the banking corporation has significant activity. (i) Indicators for the early identification of signs of negative changes in the liquidity situation in the banking and financial sector and in the market.

Explanatory Notes It is expected that the banking corporation will maintain a mechanism for the measurement and ongoing monitoring of the liquidity situation within the framework of this section. The banking corporation shall operate a variety of tools and indicators, and not rely on a single indicator. The tools included in this section are expected to be used.

18. Section 20 shall be added: Requirement to determine limits and objectives for each of the main tools and indicators and to examine them on an ongoing basis for the purpose of managing liquidity risk.

Explanatory Notes The banking corporation shall not rely on monitoring one of the tools and indicators defined in accordance with Section 17, but rather shall define limits and objectives for them and examine the level of the indicators in comparison to them.

19. Section 21 shall be added: Standard Minimum Liquidity Ratio.

Explanatory Notes Only a banking corporation that has received prior written approval from the supervisor shall not be required to hold a minimum liquidity ratio, but shall be required to hold a liquidity buffer not less than the amount specified in Section 10. In this case, expected receipts from housing loans maturing within one month may be added to the liquidity buffer, under the conditions set.

20. Section 22 (Management of Foreign Currency Liquidity) shall be deleted.

Explanatory Notes The provisions of this section were included in Sections 9, 15, 17, and 18.

21. Section 23 shall be added: Adaptations for Foreign Banks.

Explanatory Notes In recognition of the fact that the general way of managing liquidity of each branch of a foreign bank is based on the internal model of the bank, and within the requirements of Sections 10-15, whether the branch relies on funding sources from the bank, and whether to examine the Stable Funding Ratio according to Section 16, subject to the prior written approval of the supervisor and compliance with the conditions set.

22. The amendments to the directive shall commence on 1.7.2013, except for Section 16, which shall commence on 31.12.2013. Early implementation is recommended.

23. Update of the File Attached are pages for the update of the Standard Banking Management Directive file.

Insert page: (01/13) [ ] 3 Remove page: 342-1-9 [ Different versions [342-1-5

Respectfully, David Zaken Supervisor of Banks

(01/13) [ ] 3 Standard Banking Management Directive: Supervisor of Banks 342 Page 1- Liquidity Risk Management

Liquidity Risk Management

Introduction

1. (a) In recent years, the importance of the prudent management of liquidity risk has risen, and it is receiving increased attention due to increased competition on deposit gathering, changes in depositor preferences, and the growth of off-balance sheet activities and improvements in the technological field, which have affected the structure of banking corporations and their manner of managing liquidity risk. This trend was further emphasized following the global financial crisis, in which significant developments occurred in international regulation on the qualitative and quantitative aspects of liquidity risk management. (b) A liquidity problem in an individual banking corporation may have consequences on the entire system. Conversely, the analysis of liquidity needs of a corporation is not limited to the individual banking corporation, but rather it must examine how liquidity needs may develop in various scenarios, including those in which a liquidity crisis in the bank itself is widespread. (c) The directive relates to the liquidity situation in shekels and in foreign currencies, in general, and in shekels and in foreign currencies, in particular, for banking corporations with significant activity. (d) This directive sets principles for control and management of liquidity, including the determination of policy, infrastructure, information, reports, and others.

Application 2. (a) This directive applies to a banking corporation, as defined in the Banking (Licensing) Law, 1981, with changes, except for joint service companies. (b) The directive also applies to an assisting corporation that is a credit card company, with changes, to the obligations arising from its activity and manner.

Definitions In this directive: "Liquidity" - The ability of the bank to increase assets to meet maturities and obligations. "Liquidity Risk" - The risk arising from the uncertainty of the banking corporation's ability to generate profits and provide for its liquidity needs. "Liquid Assets" - Assets that are convertible to cash or cash equivalents, unencumbered, and can be quickly and easily converted to cash at low loss of value, even during times of stress, when the management anticipates a need for liquidity, such as: cash, treasury deposits maturing within one month, bank deposits maturing within one month, bank deposits against liabilities maturing within one month, and liquid government securities. For this purpose, the unused balance of pledged assets of the bank may be considered a liquid asset, provided that appropriate collateral is applied after the liquid assets balance. "Liquidity Buffer" - The balance of liquid assets after the application of appropriate collateral, subject to the following conditions:

1. Government securities of the State of Israel maturing within one month, subject to the following conditions: (a) The amount is up to 25% of the average monthly turnover in the stock exchange, and there is no obligation to apply collateral in the last three months. (b) The amount is over 25% of the average monthly turnover in the stock exchange, and there is an obligation to apply collateral in the last three months, provided that the collateral reflects an assessment of the expected market value loss, and the rate of these collaterals does not exceed the rates of coverage for government bonds and bills for the Bank of Israel as collateral for credit. For this purpose, the average monthly turnover in the stock exchange shall be calculated separately for each type of government bond, and the average monthly turnover shall be attributed to each series of the banking corporation's holdings in relative weight according to the same type of bond.
2. Other government securities of other governments maturing within one month, subject to the following conditions: (a) Securities with a risk weight of 0% according to Standard Banking Management Directive No. 203, and there is no obligation to apply collateral. (b) Other securities may be included only with collateral. "Liquidity Gap" - The difference between the cash flow of assets and liabilities by maturity time period.

Policy 3. (a) A banking corporation shall establish a policy that shall be documented in writing (hereinafter: the Policy), which shall include at least: (1) Procedures defining the hierarchy of management responsibility and authorities; (2) Quantitative objectives relating to the various aspects of liquidity management, such as the composition of assets and liabilities, the use of financial instruments, and the ability to liquidate assets, taking into account the possible consequences of other risks, including credit risk, market risk, and operational risk; (3) Limits and objectives for the estimation of the liquidity situation, as specified in Sections 10, 15, 17, and 18 below, and the assumptions used for their calculation; (4) The framework for dealing with exceptions from the policy and limits set. (b) The banking corporation shall update the policy document in accordance with developments in the market and in the corporation.

Information System 4. A banking corporation shall maintain an appropriate information system for control, measurement, monitoring, and reporting of the liquidity situation, characterized as follows: (a) It shall enable the calculation of the liquidity situation on a daily basis, including all currencies in which the banking corporation has significant activity, and considering off-balance sheet liabilities, for assets and liabilities maturing within a few days or later time periods; (b) It shall include information on the liquidity situation in relation to the set limits, and alert to trends in the development of liquidity; (c) It shall include information on the structure of liabilities, in particular, the largest depositors in general.

Board of Directors 5. The board of directors of a banking corporation shall discuss and decide on the following matters and take the actions specified below: (a) Approve the policy document; (b) Ensure that the management has effective tools for control over liquidity risk; (c) Receive periodic reports at least once a quarter on the liquidity situation of the corporation, including trends and developments in liquidity, within the framework of the document on Risk Management (Standard Banking Management Directive No. 310), and in cases of material exposure, receive reports more frequently, including special reports.

Risk Management Unit 6. The Risk Management Unit shall operate on Liquidity Risk as specified in Section 10(b) of the directive on Risk Management (Standard Banking Management Directive No. 339) (Risk and Interest Rate Risk Management).

Internal Audit 7. Internal Audit shall operate on Liquidity Risk as specified in Section 21 of Standard Banking Management Directive No. 307 (Internal Audit Function).

Banking Group 8. (a) The board of directors of the banking corporation shall discuss the policy for the management of liquidity in the banking group as a whole, including the group's preparedness for liquidity crisis, and examine the existence of an adequate information system. (b) Limits and objectives for the level of liquidity shall be determined on a consolidated basis. The banking corporation shall take into account, in determining the limits and objectives, operational and regulatory legal restrictions on the transfer of liquidity within the banking group, and stress and regular business conditions. (c) The management of the banking corporation shall ensure that in every entity in the banking group, including foreign branches, to which liquidity risk is exposed, adequate independent mechanisms exist for the measurement and ongoing monitoring of the liquidity situation. (d) The internal auditor of the banking corporation shall also ensure the correctness of the process including the management of liquidity in the banking group as a whole. (e) The banking corporation shall ensure that a mechanism exists for the measurement and ongoing monitoring of the liquidity situation on a consolidated basis, including foreign branches. The monitoring frequency shall be determined by the corporation in accordance with the manner of incorporation of the group and its activities and characteristics, provided that it is not less than once a month, and the mechanism for measurement and monitoring shall be embedded in the policy for the management of liquidity in the banking group as a whole.

Management, Measurement and Monitoring of the Liquidity Situation 9. If a banking corporation does not maintain a mechanism for the measurement and ongoing monitoring of the liquidity situation on a consolidated basis, including foreign branches, it shall include the components specified below for the monitoring of the liquidity situation. With regard to the liquidity situation in shekels and in foreign currencies, the liquidity situation shall be in accordance with the liquidity situation in shekels and in foreign currencies separately. (a) The calculation of the minimum liquidity ratio on a daily basis shall be conducted, and the banking corporation shall examine, from time to time, the use of the tools and indicators specified in Section 17 below for the estimation of the liquidity situation, and use the assumptions for the estimation of the liquidity situation.

The Supervisor of Banks on Banks - Banking Management Standard No. 342, Page 6 - Liquidity Risk Management

The Board of Directors of a banking institution shall hold periodic discussions regarding the composition of funding sources, the characteristics and distribution of liabilities, and the nature of funding needs and challenges. The Board shall take into account the differences between the development of income, changes in its rating, changes relative to the market affecting sources, and profitability, among others.

(3) Crisis Preparedness for Liquidity Crises - Determination of an emergency plan for dealing with a liquidity crisis shall include a system of early indicators for identifying liquidity stress at different stages and defining the process of dealing with the crisis, sources for coverage, and defining who will be responsible for the liquidity gap and the management team.

A banking institution shall actively manage its daily liquidity position (Article 9). It shall ensure that it can meet payment obligations, including settlements and liabilities, for at least two days under normal conditions, as well as in stressed situations. The banking institution shall also manage its secured positions within three days, distinguishing between secured and unsecured assets.

A banking institution shall hold a minimum liquidity ratio of 10 or more at all times, calculated in accordance with the definitions and guidelines specified in Sections 11 to 15 below (Article 10).

The minimum liquidity ratio is defined as the ratio between the following components (Article 11): (a) Liquid buffer (as defined in this instruction); (b) Expected payments (including withdrawals and maturities over a period of one month ahead); (c) Expected receipts (net expected cash flow - "hereinafter" - expected receipts net of expected payments over a period of one month ahead).

A banking institution shall define each of the three components of the ratio separately (Article 12). The expected net outflow shall be calculated with reference to movements in assets and liabilities in off-balance sheet activities, including expected payments and expected receipts. In particular, the cash flow during the period under review shall be examined to assess its impact on expected payments: (a) Expected maturities and withdrawals (including expected) of funding sources during the period under review, distinguished by customer type, for example: retail customers, financial institutions, non-large financial institutions, small businesses, etc.; distinguished by the type of relationship with the customer; and other main factors; (b) Expected uses of funding during the period under review, according to their characteristics, for example: unutilized credit lines, credit facilities, activities involving derivatives, other obligations, liquidity lines, and other credit commitments during the period under review.

Assumptions for calculating the minimum liquidity ratio (Article 13): (a) The net expected cash outflow shall be calculated for a period of one month ahead under stress scenarios. (b) The stress scenarios shall reflect three types of scenarios: systemic stress scenario, idiosyncratic stress scenario, and a combination of both, specific to the institution. (c) A banking institution shall define the stress scenarios such that:

1. Each of the three components of the ratio as stated in Section 12 shall not be less than 1;
2. The stress scenarios shall not be extreme, but plausible;
3. The scenarios shall be consistent with other stress scenarios applied by the banking institution to ensure consistency in risk management. (d) The net expected cash outflow shall be zero in each stress scenario. (e) It is emphasized that even if the minimum liquidity ratio is calculated for a period of one month ahead, as stated above, the banking institution shall ensure that the liquid buffer is sufficiently large to cover the liquidity needs (net expected outflow) as defined under various scenarios also during the month.

Basis for calculating the minimum liquidity ratio (Article 14): (a) The minimum liquidity ratio shall be calculated on a consolidated basis, including branches abroad. (b) In calculating the minimum liquidity ratio, the banking institution shall take into account obligations arising from contracts (providing liquidity support to group subsidiaries) and other liquidity needs that may need to be provided in case of need. (c) When "branches abroad" are held independently in accordance with requirements, the institution may apply in writing to the Supervisor to exempt this branch from the calculation of the minimum liquidity ratio, subject to prior written approval from the Supervisor of the regulator in the country of its seat.

Minimum liquidity ratio by currency (Article 15): (a) The minimum liquidity ratio shall be calculated on the overall activity of the banking institution and separately by currency, including specifically between NIS and other currencies. (b) The calculation shall take into account extreme situations where the ability to exchange between currencies, particularly between NIS and other currencies, may be impaired, and that significant changes in exchange rates may significantly affect the scope of the liquid buffer. (c) Reliance on the ability to exchange NIS for other currencies in the future shall not be permitted in calculating the minimum liquidity ratio between NIS and other currencies. (d) In calculating the minimum liquidity ratio for NIS exposures, exposures to the Government of Israel in NIS shall be taken into account. If it is difficult to raise NIS to settle those same exposures in NIS, the banking institution may, when the Bank of Israel agrees, settle those same exposures in NIS on the other side of the banking institution in a combined scenario in a systemic scenario, provided that their maturity does not exceed 20% cumulatively.

(01/13) [ ]3 Standard Banking Management: The Supervisor of Banks on Banks - Page 7 - Liquidity Risk Management

Stable Funding Ratio A banking institution shall monitor another ratio between the total of its stable funding sources and the total of its long-term uses (one year and above) (hereinafter "Stable Funding Ratio"), with a high probability that the expected funding sources available to the institution will be able to meet its long-term uses (one year and above) (hereinafter "Stable Funding").

(a) A banking institution shall determine appropriate definitions for "long-term uses" and "stable funding sources," and assumptions for calculating the stable funding ratio in normal business conditions and stress scenarios, taking into account the liquidity needs profile of the banking institution. (b) A banking institution shall also monitor another stable funding ratio that takes into account business plans, examining how its business plans over a one-year horizon will affect its liquidity profile.

Other Liquidity Monitoring Tools and Indicators A banking institution shall implement a variety of tools and indicators for monitoring liquidity conditions, not relying on a single indicator (Article 17). The following tools and indicators shall be implemented, among others: (a) Examination of relative liquidity in normal business conditions; (b) Examination of liquidity ratios calculated in a similar manner to the minimum liquidity ratio, given stress scenarios, on different time horizons including a prolonged stress scenario, reflecting high pressure levels over a short time frame of days to a month, and over a long time frame of days to months; (c) Examination of severe stress scenarios leading to a decrease in the required minimum liquidity ratio (reverse stress tests - Section 10); (d) Examination of liquidity gaps by maturity periods: day, week, month, up to 3 months, up to half a year, and up to one year, based on behavioral assumptions on these maturity dates, under different scenarios; (e) Examination of funding mix and concentration by counterparty, "sensitivity" by currencies and instruments/products in which the banking institution operates, and including examination of mix and concentration diversity over time bands, such as: 1 month, 1-3 months, 3-6 months, 6-12 months, and over 12 months; (f) Monitoring the scope and characteristics of the portfolio of unencumbered assets that may serve as sources of liquidity, as appropriate; (g) Examination of required liquidity in foreign currencies in which the banking institution operates significantly, among others, by liquidity ratios calculated in a similar manner to the minimum liquidity ratio; (h) Monitoring other early warning indicators of negative changes in liquidity conditions, based on market data, financial sector data, and the institution's own data.

A banking institution shall determine targets and/or limits for each of the tools and indicators mentioned above (Article 18). It shall review them on an ongoing basis.

Criteria for Determining Liquidity Constraints A banking institution shall take into account at least the following criteria in determining liquidity constraints (Article 19): (a) The banking institution's reputation and rating; (b) The degree of reliance on the liquid portfolio, its size, distribution, and market prices and volatility; (c) The quality of the risk management team and the quality of the management reporting system; (d) The distribution of deposits and the ratio of deposits to the household sector; (e) The degree of certainty regarding the availability of unutilized credit lines; (f) The impact of non-cash flow items (operating expenses, etc.) on the calculation of liquidity, as appropriate; (g) The degree of validity (documented in a document) of the ability of the institution to provide liquidity, as appropriate.

Standard Minimum Liquidity Ratio A banking institution shall not hold a liquidity ratio below the minimum required in Section 10, unless it has received prior written approval from the Supervisor (Article 20). It shall hold a liquid buffer in an amount such that the total of its liabilities maturing within up to one month does not decrease.

For this purpose, the liquid buffer may also include expected receipts from maturities (loans for housing "as defined in Section 231 (2)" and loans under the "Internal Rating-Based Approach" subject to Standard Banking Management No. 204, which are not in arrears of more than 90 days "as defined in the reporting instructions to the public").

Foreign Banks This instruction shall apply to foreign banks as specified below (Article 21): (a) Section 5 shall apply to the Board of Directors instead of the Management; (b) Subject to prior written approval from the Supervisor, to monitor or hold the requirements; (c) The ratios specified in Sections 10 to 16 shall not apply to foreign banks meeting the following conditions:

1. It manages liquidity risk through an internal model applied by the bank; or
2. The bank receives a letter of comfort from the parent bank committing to support its liquidity needs at all times; (d) In exceptional cases, a foreign bank that believes that certain sections of this instruction are not applicable may apply to the Supervisor to coordinate their applicability and/or implementation regarding it.

Reporting to the Supervisor of Banks A banking institution shall immediately report to the Supervisor of Banks of any material breach of the constraints or otherwise arising material liquidity problems (Article 22).

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Updates Version No. Details Date 1 Original Circular 2114 26/8/03 2 Update 2277 19/10/10 3 Update 2363 13/01/13