The LCR: high-quality liquid assets

L3.5.06: The liquidity buffer built RiskAtoms Bank's liquidity buffer at £13,700m. Read against the Basel text line by line, £120m of the shares in it were issued by banks and insurers, and the rule leaves them out. Read against the UK and EU rules, the bank's £1,200m of covered bonds move up a level and count for £96m more. Same bonds, same shares, three answers: 157.4%, 156.7% and 157.8%. This lesson is about why.

The stock of HQLAHigh-quality liquid assets (HQLA): unencumbered assets that can be turned into cash at little or no loss in a stress, sorted into Levels 1, 2A and 2B (LCR30). is the numerator of the LCR: assets the bank can turn into cash in a 30-day stress with little loss. L3.5.06: The liquidity buffer set out the three levels and their haircuts; here is the same table with the conditions that decide the bank's figures, and the paragraph for each (LCR30.40–30.45):

The condition that recurs is the issuer. A bank's buffer must hold its value when banks are in trouble, so bonds and shares of banks, insurers and other financial firms are left out of Level 2, whatever their rating; covered bonds are the exception, because the cover pool stands behind them.

The bank's stock, holding by holding

Module 3.5 booked the buffer in four lines. Module 4.1 split them into holdings for its capital book, and that split lets each holding meet its own paragraph:

The highlighted row is the one difference from Level 3. Module 3.5 counted all £400m of listed shares at 50%, a simplification; £120m of them are shares in banks and insurers, which LCR30.45(3) excludes. Level 2B falls from £500m to £440m, and the stock from £13,700m to £13,640m. The £1,500m of gilts pledged in repo are out because they are encumbered (LCR30.16); the gilts the bank holds as collateral on its £3,000m of reverse repos are not counted at all, as in Level 3.

The operational requirements Level 3 did not test

L3.5.06: The liquidity buffer listed the operational tests of LCR30.13–30.20: unencumbered, under control, tested, monetisable. Three details change what this bank may count:

• Control. The gilt line includes the trading desk's gilt of £98.8m, and the BBB line its corporate bond of £80m. They count only if they are under the control of the liquidity functionUnder the control of the liquidity function: the treasurer can sell the asset at any time in the 30 days without asking anyone, and without opening a risk position the bank must then close (LCR30.18). (LCR30.18). The book assumes they are; if selling them would leave the desk with an open risk, they must come out.
• Hedges and market value. HQLA count at current market value (the haircuts in LCR30.43 apply to “the current market value”). If the bank hedges a bond, the cash it would pay to close the hedge comes off its value (LCR30.19). Widen credit spreads by Module 3.6's stress and the bond holdings lose £69.4m after haircuts: the LCR falls from 157.4% to 156.6% before a single depositor moves.
• Every day, everywhere. The bank must know which legal entity, location, currency and account each asset sits in, and decide every day whether any should be excluded (LCR30.20). Assets must be usable at any point in the 30 days with no restriction on how the cash is used (LCR30.14).

The caps, on adjusted amounts

The caps of L3.5.06: The liquidity buffer limit Level 2 to 40% of the stock and Level 2B to 15% (LCR30.31, 30.33). The rule tests them on adjusted amountsAdjusted amount: what a level of HQLA would be if every repo, reverse repo and collateral swap maturing within 30 days that exchanges HQLA were unwound (LCR30.37). The caps are tested on these amounts.: the stock as it would be after every repo, reverse repo and collateral swap maturing within 30 days that exchanges HQLA is unwoundUnwind: undoing a short-term secured transaction on paper. A reverse repo gives back the cash lent; a repo pays back the cash borrowed and frees the collateral. (LCR30.34, 30.37). Level 3 skipped that step. Here is why it exists, on an illustrative small bank illustrative. It owns £1,000m of Level 1 and £300m of Level 2B after haircuts. It then borrows £1,000m of gilts for 20 days against shares that are not HQLA. As it stands, Level 2B is 13.0% of the stock, inside the cap. Unwound, the borrowed gilts go back: Level 2B is 23.1% of what the bank really owns, and £123.5m of it is cut. Without the unwind, a bank could hold any amount of Level 2B by borrowing Level 1 for a few weeks.

RiskAtoms Bank is the opposite case. Its 30-day secured deals are £2,600m of reverse repos, cash lent against gilts, and £1,500m of repo, cash borrowed against gilts. Unwinding them gives back cash: adjusted Level 1 rises to £14,100m, and the caps get looser, not tighter. The worked example runs the formula in full.

The UK and EU view: covered bonds in Level 1

The UK and EU rules add a category Basel does not have: the extremely high quality covered bondExtremely high quality covered bond (EHQCB): in the UK and EU, a covered bond rated at credit quality step 1 with a large issue size, counted as Level 1 at a haircut of at least 7%.. A covered bond rated at credit quality step 1 (AA- or better), with an issue size of at least £440m in the UK or €500m in the EU and a cover pool at least 2% larger than the bonds, is Level 1 at a haircut of at least 7% (Art 10(1)(f) and 10(2)). Assuming RiskAtoms Bank's £1,200m meet those tests, they count for £1,116m instead of £1,020m. In place of Basel's 40% cap, the UK and EU state the limits as composition testsComposition tests (UK and EU Art 17): at least 60% of the buffer in Level 1, at least 30% in Level 1 other than EHQCB, at most 15% in Level 2B, on amounts after the 30-day unwind. (Art 17): the bank's buffer is 93.1% Level 1, 86.3% Level 1 excluding the covered bonds and 2.7% Level 2B, comfortably inside all three.

Write $L_1, L_{2A}, L_{2B}$ for each level after haircuts, and $L^{*}_1, L^{*}_{2A}, L^{*}_{2B}$ for the same levels after unwinding the 30-day secured deals. L3.5.06: The liquidity buffer derived the two limits from the 15% and 40% shares; the rule applies them to the starred amounts (LCR30.34–30.39; the 2013 standard's Annex 1, whose formula is an image on bis.org and was read as text in the Saudi Central Bank's copy):

• $L_{2A} = (1 - 15\%) \times \text{market value}$; $L_{2B}$ takes 25% off RMBS and 50% off corporate debt and shares.
• $\max(\cdot, 0)$ makes each adjustment zero when its cap does not bind (M-A11: Min, max, floors and caps). The 15/60 term is the Level 2B limit when the 40% cap also binds: 15% of a stock that is $L^{*}_1 / 0.6$.
• $\text{NCO}_{30}$ is total net cash outflows over 30 calendar days (L4.5.02: The LCR: outflows and inflows). The minimum of 100% is LCR20.5.

Start at the bank: neither cap binds. Push Level 2B up until the 15% cap starts to cut; then drag the unwind below zero, as if the bank's Level 1 were borrowed for a fortnight, and watch the cut grow though the holdings have not changed. Switch to the UK and EU rules and see the covered bonds move into Level 1.

£ millions at 31 December 2025, after haircuts. Every input is in the Level 3 book.

The base is the Basel Framework: LCR30 for HQLA and LCR20 for the ratio, both in the version in force since 15 December 2019. The 100% minimum has applied in full since 1 January 2019, after a phase-in from 60% in 2015 (the 2013 standard, para 10). Statements on jurisdictions are as at 3 November 2026 as at 3 Nov 2026.

What happens when a bank uses its buffer, and how supervisors respond, is in L4.5.02: The LCR: outflows and inflows.

• HQLA come in three levels: Level 1 at full value, Level 2A at 85% and Level 2B at 50% or 75% of market value (LCR30.40–30.45).
• Bonds and shares issued by financial institutions are not Level 2, whatever their rating; covered bonds of other banks are the exception.
• The 15% and 40% caps are tested on adjusted amounts, after unwinding 30-day repos, reverse repos and collateral swaps (LCR30.34–30.39): a bank cannot borrow Level 1 to make room for Level 2B.
• Adj15 = max(L2B* − 15/85 (L1* + L2A*), L2B* − 15/60 L1*, 0); Adj40 = max(L2A* + L2B* − Adj15 − 2/3 L1*, 0).
• RiskAtoms Bank: adjusted Level 1 £14,100m, no cap binds, stock £13,640m and LCR 156.7% under Basel; 157.8% in the UK and EU with covered bonds as EHQCB; 157.4% as booked in Level 3.

High-quality liquid assets (HQLA)

High-quality liquid assets (HQLA): unencumbered assets that can be turned into cash at little or no loss in a stress, sorted into Levels 1, 2A and 2B (LCR30).

Adjusted amount

Adjusted amount: what a level of HQLA would be if every repo, reverse repo and collateral swap maturing within 30 days that exchanges HQLA were unwound (LCR30.37). The caps are tested on these amounts.

Unwind

Unwind: undoing a short-term secured transaction on paper. A reverse repo gives back the cash lent; a repo pays back the cash borrowed and frees the collateral.

Adjustment for the 15% cap

Adjustment for the 15% cap: the Level 2B that exceeds 15/85 of adjusted Level 1 and 2A, or a quarter of adjusted Level 1 if larger.

Adjustment for the 40% cap

Adjustment for the 40% cap: the Level 2 left after the 15% adjustment that exceeds two thirds of adjusted Level 1.

Extremely high quality covered bond (EHQCB)

Extremely high quality covered bond (EHQCB): in the UK and EU, a covered bond rated at credit quality step 1 with a large issue size, counted as Level 1 at a haircut of at least 7%.

Composition tests

Composition tests (UK and EU Art 17): at least 60% of the buffer in Level 1, at least 30% in Level 1 other than EHQCB, at most 15% in Level 2B, on amounts after the 30-day unwind.

Under the control of the liquidity function

Under the control of the liquidity function: the treasurer can sell the asset at any time in the 30 days without asking anyone, and without opening a risk position the bank must then close (LCR30.18).