Resolution of the Board of the National Bank of the Republic of Kazakhstan No. 59 dated July 31, 2023 on Determining the Basic Principles of Managing Foreign Currency and Precious Metal Assets, Including Their Structure

REPUBLIC OF KAZAKHSTAN NATIONAL BANK REPUBLICAN STATE INSTITUTION		REPUBLICAN STATE INSTITUTION NATIONAL BANK OF THE REPUBLIC OF KAZAKHSTAN
RESOLUTION OF THE BOARD July 31, 2023 Astana city		RESOLUTION OF THE BOARD No. 59 Astana city

On Determining the Basic Principles of Managing Foreign Currency and Precious Metal Assets, Including Their Structure

In accordance with subparagraph 9) of part three of Article 15 of the Law of the Republic of Kazakhstan "On the National Bank of the Republic of Kazakhstan", the Board of the National Bank of the Republic of Kazakhstan RESOLVES:

1. Determine the basic principles of managing foreign currency and precious metal assets, including their structure, according to the appendix to this resolution.
2. Repeal:

1) Resolution of the Board of the National Bank of the Republic of Kazakhstan dated September 21, 2012 No. 292 "On the Basic Principles of Managing Foreign Currency and Precious Metal Assets";

2) Resolution of the Board of the National Bank of the Republic of Kazakhstan dated June 15, 2015 No. 101 "On Amendments to the Resolution of the Board of the National Bank of the Republic of Kazakhstan dated September 21, 2012 No. 292 'On the Basic Principles of Managing Foreign Currency and Precious Metal Assets'".

1. The Risk and Compliance Department (Izbasarov A.O.) to bring this resolution to the attention of interested departments of the central apparatus of the National Bank of the Republic of Kazakhstan.
2. This resolution enters into force from the day of its adoption.
3. Control over the execution of this resolution is assigned to the Deputy Chairman of the National Bank of the Republic of Kazakhstan Sholpankulov Sh.B.

Chairman	G.O. Pirmatov

Copy is correct:

Chief Specialist-Secretary of the Board Zh. Mukhambetova

Appendix to

Resolution of the Board

of the National Bank

of the Republic of Kazakhstan

dated July 31, 2023 No. 59

Basic Principles of Managing Foreign Currency and Precious Metal Assets, Including Their Structure

Chapter 1. General Provisions

1. The basic principles of managing foreign currency and precious metal assets, including their structure (hereinafter – Basic Principles), are developed in accordance with the Law of the Republic of Kazakhstan "On the National Bank of the Republic of Kazakhstan" and establish requirements for activities related to the management of foreign currency and precious metal assets of the National Bank of the Republic of Kazakhstan
   (hereinafter – National Bank), which include requirements for asset management, the decision-making system and delegation of authority, the assessment of asset management effectiveness, and define types of risks and requirements for risk management.
2. Key terms used in the Basic Principles:
3. alternative instruments – asset classes intended to increase returns in the long term (emerging market equities, high yield bonds, absolute return products, hedge funds, fund of hedge funds, fund of funds, private equity, distressed securities, real estate investments, infrastructure investments, strategic investments and co-investments);
4. management reporting – reporting containing a set of indicators, analytical materials, and information reflecting the state of asset management, including portfolio structure for a certain period or on a certain date, used by the National Bank management for management, control, and timely decision-making;
5. active position – deviation from the benchmark portfolio through the purchase and/or sale of financial instruments;
6. back-testing – analysis and verification of the effectiveness of the investment strategy for asset management based on historical data;
7. credit rating – an indicator of the level of credit risk for debt financial instruments, issuers, counterparties, assigned by international rating agencies;
8. monetary operations department – a department of the National Bank responsible for the management of the National Bank's assets;
9. tracking error (volatility of portfolio return deviation) – the main indicator of market risk of a portfolio relative to the benchmark portfolio, reflecting the volatility of the deviation of the portfolio's return from the benchmark portfolio's return;
10. risk and compliance department – a department of the National Bank responsible for organizing and improving the National Bank's risk management system;
11. duration of a fixed-income security (portfolio) (hereinafter – duration) – an indicator indicating approximately how much the value of a security (portfolio) will decrease or increase in case of an increase or decrease in the yield to maturity of the security (portfolio);
12. National Bank management – the Chairman of the National Bank or the Deputy Chairman of the National Bank overseeing the monetary operations department.
13. Foreign currency and precious metal assets are gold and foreign exchange assets (hereinafter – assets) of the National Bank, which are formed and used to ensure the internal and external stability of the national currency of the Republic of Kazakhstan and to make payments on the obligations of the Republic of Kazakhstan, and are also one of the forms of national wealth of the Republic of Kazakhstan.
14. The structure of assets consists of:
15. gold and foreign exchange reserves, classified in accordance with the methodology of the International Monetary Fund;
16. financial assets not classified in accordance with the methodology of the International Monetary Fund as reserves.
17. The National Bank conducts international settlements, foreign currency operations, operations with precious metals and securities denominated in foreign currency through non-resident banks of the Republic of Kazakhstan and specialized companies with which correspondent or dealing relationships are established, and an agreement on the procedure and conditions for conducting banking operations has been reached.
18. Correspondent and dealing relationships are established with non-resident banks of the Republic of Kazakhstan and specialized companies of foreign states with which the Republic of Kazakhstan has diplomatic relations. Correspondent and dealing relationships with non-resident banks of the Republic of Kazakhstan and specialized companies of foreign states with which the Republic of Kazakhstan does not have diplomatic relations are established by decisions of the National Bank management, adopted on the basis of recommendations of the Investment Committee of the National Bank (hereinafter – Investment Committee).
19. Custodial storage of assets and investment operations with counterparties are carried out provided that the counterparty meets the minimum requirements established by the Resolution of the Board of the National Bank dated December 20, 2021 No. 117 "On Approval of the Procedure for Managing Credit Risk on Operations with Counterparties of the National Bank of the Republic of Kazakhstan".

Chapter 2. Principles of Asset Management

1. Asset management ensures safety, liquidity, and profitability in the medium and long term, the observance of which is carried out in accordance with the requirements provided for in Chapter 3 of the Basic Principles.
2. Risk management is an integral part of asset management. Risk management is carried out depending on the types of risks and methods of their minimization provided for in Chapters 4 and 5 of the Basic Principles.
3. The asset management process is accompanied by documentary confirmation. Interaction between interested departments of the National Bank and decision-making in the process of asset management are regulated and recorded, and the resulting responsibility is determined in accordance with the current legislation of the Republic of Kazakhstan.
4. Investments by the National Bank in new types of financial instruments are carried out after an assessment of possible financial risks provided for in paragraph 23 of the Basic Principles, in accordance with the requirements for the decision-making system and delegation of authority in asset management provided for in Chapter 6 of the Basic Principles.
5. Assessment of asset management effectiveness and, if necessary, back-testing is an integral part of the asset management process. Assessment of asset management effectiveness is carried out in accordance with the requirements provided for in Chapter 7 of the Basic Principles.
6. Operations with derivative financial instruments are carried out after assessing their impact on the portfolio and are carried out in accordance with the requirements provided for in Chapter 8 of the Basic Principles.
7. Based on the results of asset management and their exposure to risks, management reporting is prepared and submitted on a regular basis and upon request of the National Bank management. Management reporting contains reliable, complete, objective, and comparable information.

Chapter 3. Requirements for Asset Management

1. The Board of the National Bank determines the purpose and structure of asset portfolios, and the corresponding parameters of portfolio credit risk. Depending on the purpose and type of asset portfolio management, a benchmark portfolio and parameters of the investment strategy for asset management for the corresponding portfolio are determined.
2. The choice of benchmark portfolio reflects the strategic interests of the National Bank as an investor. The return of the benchmark portfolio serves as a measure for assessing the return on asset management. Indices developed and tracked by leading global financial organizations or the National Bank are used as benchmark portfolios.
3. Types of portfolio management relative to the established benchmark portfolio:

1) passive management – management in which the value of the volatility of the portfolio return deviation (tracking error) does not exceed
0.5 (zero whole five tenths) percent;

2) enhanced index asset management – management in which the value of the volatility of the portfolio return deviation (tracking error) is from 0.5 (zero whole five tenths) to 2 (two) percent inclusive;

3) active management – management in which the value of the volatility of the portfolio return deviation (tracking error) exceeds
2 (two) percent.

1. The choice of the type of portfolio management relative to the benchmark portfolio is determined by the Board of the National Bank. Types of portfolio management are determined for each portfolio, except for composite portfolios, where share management is carried out by several managers simultaneously.
2. For the purpose of diversifying management styles, a portion of assets is transferred to external management to a non-resident bank of the Republic of Kazakhstan or an organization specializing in trust management of client assets and operating in international financial markets (hereinafter – external managers).
3. Transfer of a portion of assets to external management is carried out in accordance with the Resolution of the Board of the National Bank of the Republic of Kazakhstan dated March 19, 2020 No. 30 "On Approval of the Rules for Transfer of a Part of the Gold and Foreign Exchange Assets of the National Bank of the Republic of Kazakhstan to External Management", which provides, including but not limited to, the following minimum requirements:
4. minimum volume of assets under management to one external manager;
5. minimum volume of assets under management for the considered type of mandate;
6. maximum volume of assets transferred to one external manager;
7. maximum share of assets that can be transferred to external management;
8. requirements for financial and/or management reporting imposed on the external manager;
9. conditions for early termination (partial and full) of agreements between the National Bank and external managers.
10. To ensure long-term profitability, a portion of assets is transferred to the Joint Stock Company "National Investment Company of the National Bank of Kazakhstan" for external management for investment in alternative instruments characterized by a high degree of risk and low liquidity level.
11. To cover the probability of financial losses arising in asset management by the risk and compliance department, provisions for expected credit losses are calculated in accordance with the Resolution of the Board of Directors of the National Bank of the Republic of Kazakhstan dated November 29, 2019 No. 88 "On Approval of the Procedure for Creating Provisions for Expected Credit Losses on Assets of the National Bank of the Republic of Kazakhstan". The provisions of this paragraph do not affect the decision-making process in implementing the investment strategy for asset management.

Chapter 4. Types of Risks and Their Management in Operations

with Assets

1. Conducting operations with assets is associated with the following main types of risks:
2. financial risks:

credit risk – the risk associated with the possibility of a counterparty and/or issuer failing to fulfill obligations under a transaction and/or payment on financial instruments by the due date due to insolvency or bankruptcy;

market risk – the risk of a decrease in asset value due to changes in exchange rates, prices, and remuneration rates. Market risk is divided into the following types of risks:

foreign exchange risk – the risk of losses associated with changes in foreign currency exchange rates;

price risk – the risk of losses associated with changes in prices for precious metals, securities, and other financial instruments;

remuneration rate change risk – the risk of losses and losses associated with changes in remuneration rates in a particular financial market;

liquidity loss risk – the risk of a shortage of funds to meet the National Bank's current short-term obligations;

market liquidity risk – the risk of selling financial instruments with significant deviations to the worse side of the market price;

1. operational risk – the risk of losses arising due to errors in the transaction process, settlement procedures, technical failure of communication or telecommunications systems.
2. To manage risks arising in asset management, the following types of limits are used, applied depending on the asset structure and portfolio purpose, established by corresponding investment strategies:

1) asset portfolio limit – a limit on the size of asset portfolios, established to minimize the risk of liquidity loss, ensure a strategic gold reserve, and limit the volume of high-risk asset classes;

2) asset structure limit in portfolios – permissible types of assets and their maximum weight in asset portfolios. The ratio of assets is determined based on portfolio diversification goals;

3) duration limit – permissible deviation of the value of fixed-income securities portfolios from the duration of the benchmark portfolio and is determined as the maximum deviation of the portfolio duration from the duration of the corresponding benchmark portfolio;

4) active management limit – maximum deviation of the portfolio from the benchmark portfolio by currency, sectors, and position on the yield curve. Established as the maximum value of the expected volatility of the deviation of the portfolio return from the benchmark portfolio return (expected tracking error);

5) credit risk limit – a restriction on operations with counterparties and on types of financial instruments taking into account credit risk. Determined based on an analysis of current financial reporting and credit ratings of leading rating agencies;

6) currency distribution limit – benchmark currency distribution, as well as maximum deviations by each currency;

7) external management limit – restrictions on the transfer of a portion of assets to external management.

Chapter 5. Hedging of Financial Risks

1. Hedging of financial risks is a method of minimizing risks. Hedging of financial risks is carried out to reduce financial risks of asset portfolios and to compensate for possible losses associated with a decrease in the fair value of a financial instrument permitted for investment.
2. Hedging of financial risks of asset portfolios is carried out by purchasing or selling various financial instruments to reduce financial risks of asset portfolios, including to bring duration, currency, and equity distribution parameters closer to benchmark values.
3. A decision to hedge financial risks is made upon compliance with the following main conditions:
4. hedging costs do not exceed possible losses;

2) possible losses from concluding a hedging transaction (transactions) do not exceed 100% (one hundred percent) of the value of the hedged asset;

3) at the time of concluding the transaction, a negative correlation is observed between the prices of the hedged object and the hedging transaction itself;

4) full or partial hedging of financial risks is permitted subject to the condition of conducting a preliminary analysis of planned transactions.

Chapter 6. Requirements for the Decision-Making System and Delegation of Authority in Asset Management

1. Asset management provides the following requirements for the decision-making system and delegation of authority in asset management, contributing to an increase in the effectiveness of decisions taken in accordance with the investment policy priorities of the National Bank:
2. The Board of the National Bank:

approves the investment strategy for asset management;

approves the procedure for transferring assets to external management;

approves external managers;

approves the investment strategy for managing the portfolio of alternative instruments;

approves the procedure and methodology for calculating maximum credit risk limits on operations with counterparties of the National Bank;

takes a decision on the permissibility of investments in securities and other financial instruments denominated in non-convertible currencies;

1. The National Bank Risk Committee develops recommendations for asset risk management, including on determining risk indicators and their parameters;
2. The Investment Committee of the National Bank develops recommendations on the formation and implementation of investment policy in the field of asset management, including on the formation of asset investment tactics;
3. the monetary operations department within asset management:

carries out asset investment in accordance with investment strategies;

monitors the results of asset management;

annually submits to the Investment Committee the results of investment management and proposals on the expediency of changing benchmark portfolios for portfolios under the National Bank's management, taking into account expectations in financial markets;

carries out measures to select external managers and monitors the activities of each selected external manager;

1. the risk and compliance department:

develops risk management methodology and develops proposals for its improvement;

submits to the National Bank Risk Committee information on exposure to credit, market, and liquidity risks and current limitations on asset management;

creates provisions for expected credit losses;

determines requirements for the creditworthiness of National Bank counterparties and requirements for financial instruments.

Chapter 7. Requirements for Assessing Asset Management Effectiveness

1. Assessment of asset management effectiveness and assessment of the effectiveness of external managers' activities with portfolios is carried out annually. Assessment of the effectiveness of managing the portfolio of alternative instruments is carried out for a period of 15 (fifteen) years. Intermediate assessment of the effectiveness of managing the portfolio of alternative instruments is carried out by the rolling window method for periods of
   5 (five) and 10 (ten) years.
2. Assessment of management effectiveness is carried out through return indicators adjusted for accepted risk. For the assessment of the effectiveness of external managers' activities with portfolios, qualitative indicators are accepted along with quantitative ones.
3. Based on the results of assessing asset management effectiveness and the effectiveness of external managers of portfolios, a comparative analysis is conducted on an annual basis, which is submitted for consideration to the National Bank management.
4. Assessment of expected credit losses and formation of provisions are carried out no less than once a quarter in accordance with International Financial Reporting Standard 9 "Financial Instruments".

Chapter 8. Requirements for Operations with Derivative Financial Instruments

1. Derivative financial instruments include:
2. futures;
3. forwards;
4. swaps;
5. options;
6. other derivative financial instruments meeting the characteristics of derivative financial instruments, including those representing a combination of the above-mentioned derivative financial instruments.
7. Operations with derivative financial instruments are carried out to take an active position, hedge, and to form a portfolio or part of a portfolio in accordance with the structure and parameters of the benchmark portfolio.
8. Operations with derivative financial instruments are carried out taking into account the limitations of the investment strategy for asset management and preliminary assessment of volatility and market liquidity.
9. Limits on active positions with derivative financial instruments are determined by the volume of the underlying asset taking into account the volatility of the underlying asset, as well as by the corresponding hierarchy of positions of employees of the monetary operations department.
10. An active position with derivative financial instruments is accompanied by an assessment of the expected impact on the portfolio of purchases and sales of financial instruments, including taking into account forecasts of changes in market conditions.
11. Opening an active position on operations with derivative financial instruments is carried out taking into account possible losses. Loss thresholds and requirements in case of their exceedance are provided for in the Resolution of the Board of Directors of the National Bank of the Republic of Kazakhstan dated March 30, 2023 No. 21 "On Approval of the Procedure for Carrying Out Monetary Activities in the National Bank of the Republic of Kazakhstan"
    (hereinafter – Resolution No. 21).
12. When opening an active position with derivative financial instruments, preference is given to counterparties with more stable financial and fundamental indicators under equal conditions.
13. The volume of an active position on operations with derivative financial instruments is determined as the difference between the total volume of the underlying asset of the derivative financial instrument and the share of this financial instrument in the benchmark portfolio.
14. Opening an active position on operations with derivative financial instruments is documented in accordance with Resolution No. 21.