I agree with Santosh that banks should be able to receive some regulatory capital relief from the EPE approach and that recognition of collateral will contribute to this. I simply question whether this would be a sufficient reason, in and of itself, to spend the money to build or purchase a sophisticated future exposure simulation system. I think the key motivation for building such a system is, and always has been, to assess such credit exposure in a sensible and sophisticated way so as to make better day-to-day tactical credit decisions. Many banks still use MTM + add-ons as their approach to estimating exposure to individual counterparties. While this was arguably a defensible shortcut to estimating a total exposure figure for a full book, it was never adequate for individual counterparty assessments. It often gives hugely inconsistent results depending on the complexity of the trading patterns involved and often is DIRECTIONALLY incorrect relative to the exposure implications of a new trade.

While I’m at it, I should mention that the detailed run-off pattern takes on special importance in a collateralized portfolio. Often the impact of run-offs can have as much impact on potential unsecured exposure while waiting to receive new collateral as does market volatility. This in no way offsets the risk reduction implicit in using collateral. It is simply to say that it is easy to understate the residual unsecured exposure unless careful attention to the specific run-off pattern is addressed in the Monte Carlo simulations.