b ritish b ankers' a ssociation implementing basel ii a trade association view simon hills...

BBRITISH RITISH BBANKERS' ANKERS' AASSOCIATIONSSOCIATION

Implementing Basel IIImplementing Basel IIa trade association viewa trade association view

Simon HillsSimon HillsDirectorDirector

Prudential Capital & RiskPrudential Capital & Risk

Implementing Basel IIImplementing Basel II

What does a trade association do?What does a trade association do?

Mission: Mission:

to work with our members to create an to work with our members to create an environment in which financial services environment in which financial services

is valued and can prosperis valued and can prosper

Roles: Roles:

representation, information, representation, information, promotionpromotion


What is going on in Europe?What is going on in Europe? Capital Requirements DirectiveCapital Requirements Directive

• Implements in 27 member states 140+ national Discretions140+ national Discretions Lobbying of European ParliamentLobbying of European Parliament Role of CEBS – Role of CEBS – http://www.c-ebs.orghttp://www.c-ebs.org

GENPRU & BIPRU textGENPRU & BIPRU text FSA standing groupsFSA standing groups

http://www.c-ebs.org/


FSA standing groupsFSA standing groups Credit, operational, credit mitigation, pillar 2, Credit, operational, credit mitigation, pillar 2,

capital, securitisationcapital, securitisation FSA policy & supervision expertsFSA policy & supervision experts Industry expertsIndustry experts Reviewing FSA proposalsReviewing FSA proposals Writing ‘advice/interpretations’Writing ‘advice/interpretations’

• E.g. independence, risk appetite, EAD, LGD,

stress testing


Industry issuesIndustry issues

Level of applicationLevel of application Intra-group exposuresIntra-group exposures MaterialityMateriality Senior management involvementSenior management involvement Stress testingStress testing Demonstrating useDemonstrating use Waiver reviewWaiver review

Implementing Basel IIImplementing Basel IIWaiver applicationsWaiver applications

ManagementManagement

Time and resource input Time and resource input to compete waivers not to compete waivers not always fully appreciatedalways fully appreciated

More rigour needed in More rigour needed in management/planningmanagement/planning

Regular communication Regular communication between regulator and between regulator and banksbanks

Waiver applications lacked Waiver applications lacked clarity and transparencyclarity and transparency

Gaps existGaps exist Developing waiver has Developing waiver has

tested compliance with key tested compliance with key aspects of banks IRB/AMA aspects of banks IRB/AMA frameworksframeworks

Corporate IRB models have Corporate IRB models have lagged Retail IRB models lagged Retail IRB models and required increased and required increased resourceresource

Validation work still being Validation work still being completedcompleted

Work needs to be done on Work needs to be done on stress testing frameworksstress testing frameworks


Pillar 2 principlesPillar 2 principles

Banks should asses capital Banks should asses capital wrtwrt risk profile risk profile

Supervisors review and evaluate bank’s own Supervisors review and evaluate bank’s own capital adequacycapital adequacy

Supervisors expect banks to operate above Supervisors expect banks to operate above minimum capital requirementsminimum capital requirements

Supervisors should intervene at an early stageSupervisors should intervene at an early stage


Pillar 2 risksPillar 2 risks• interest rate risk in banking book

• Concentration risk

• liquidity risk

• securitisation

• reputational/strategic risk


Doing an ICAAPDoing an ICAAP

Identify key risksIdentify key risks

Quantify impact of risksQuantify impact of risks

Quantify impact of market down turnQuantify impact of market down turn

Identify action to take if risks crystalliseIdentify action to take if risks crystallise

Document and communicateDocument and communicate


Identify key risksIdentify key risks• Significant change in business –

e.g. outsourcing • Persistent poor/good performance• Key clients/business producers• Market downturn• Unauthorised/Insider trading• Telecoms/IT systems• Internal/external fraud


Identify action to take if risks crystalliseIdentify action to take if risks crystallise• Meet costs of errors from profits• Reduce costs in line with revenues• Improve systems and controls• Use insurance• Restrict particular activities• ↑ capital ↓ dividends• Merge/take-over

Low probability/high impact – capital is not the only answer


Stress testingStress testing

Examine strategic decisions – liquidate portfolios, cut Examine strategic decisions – liquidate portfolios, cut

back businesses, expand others?back businesses, expand others?

Chose long term horizon (3 months to 3 years) – Chose long term horizon (3 months to 3 years) –

according to businesses and risksaccording to businesses and risks

Focus on long term risks and their dependenciesFocus on long term risks and their dependencies

• New risk types (reputational and systemic)

• External factors (competitor behaviour) as well as

management strategic decisions

Implementing Basel IIImplementing Basel IIStress testing – doing it wellStress testing – doing it well

Close engagement by senior managementClose engagement by senior management CEO involved personally in review and CEO involved personally in review and

challenge.challenge.

CRO having personal charge of the stress testing CRO having personal charge of the stress testing

programme.programme.

Plausible scenarios which challenge key Plausible scenarios which challenge key

assumptionsassumptions

Scenarios should not give rise to mild scenario Scenarios should not give rise to mild scenario

impacts due to benign credit cycleimpacts due to benign credit cycle

Use of group-wide stress testing and Use of group-wide stress testing and

scenario analysis to challenge business scenario analysis to challenge business

plansplans

Clear and substantive use of stress testing Clear and substantive use of stress testing

outputs to challenge business planning outputs to challenge business planning

assumptions.assumptions.

Clear and accessible communication of Clear and accessible communication of

resultsresults

Results presented to senior management Results presented to senior management

showing impact over a multi-year time horizonshowing impact over a multi-year time horizon

Implementing Basel IIImplementing Basel IIPost waiver issuesPost waiver issues

Demonstrating appropriate levels of conservatism in modelsDemonstrating appropriate levels of conservatism in models• Low default portfolios/statistical significance for model inputs/outputs

• Regulator requires conservatism at each stage in rating process

Key regulatory focus on embedding models into decision making processKey regulatory focus on embedding models into decision making process• Senior management need to understand models

• Models parameters should be used in business decision making

pricing, provisioning, limit approval

Need to embed models in organisation to meet use testNeed to embed models in organisation to meet use test• Senior management training

• Document differences in way tools are used fro RWA calculations and pricing purposes

Stress testing should be part of business as usualStress testing should be part of business as usual


Demonstrating commercial value to the businessesDemonstrating commercial value to the businesses

Need to demonstrate that the Basel framework is commercially valuable – to do Need to demonstrate that the Basel framework is commercially valuable – to do this the risk function needs to engage more with the business:this the risk function needs to engage more with the business:

Understanding the benefits of risk-adjusted performance Understanding the benefits of risk-adjusted performance

Using Basel models as true decision-support toolsUsing Basel models as true decision-support tools

Potential for capital relief from collateral management and effective asset Potential for capital relief from collateral management and effective asset

distributiondistribution

Improving recoveries and management of impaired assets Improving recoveries and management of impaired assets

Demonstrating the value of effective operational risk management Demonstrating the value of effective operational risk management

Developing a capital-based strategy Developing a capital-based strategy

b ritish b ankers' a ssociation implementing basel ii a trade association view simon hills...

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