The Center for Financial Professionals carried out extensive research ahead of our 2016 Second Annual Capital Management Forum, determining the key challenges within Capital Management over the next 6-12 months for banking risk professionals. The results highlighted the constant flow of regulatory changes as the central theme underpinning these challenges, with particular focus on understanding the specifics within the different upcoming regulatory changes and the impact of such changes across the business. A better understanding of the constantly evolving regulatory landscape will enable banking professionals to stay one step ahead and allow them to implement effective systems to comply with these changes.
One of the key areas, as attained through the Center for Financial Professionals’ research, was the uncertainty over the future regulatory landscape and its potential effect on capital. The main concern that was voiced was how much longer can increasing the minimum capital requirements for banks continue, and when will the increasing regulatory demands stop? In other words, ‘When is enough enough?’ The theoretical ‘Basel IV’ and ‘CRD V’ were consistently mentioned as playing a huge part in future regulation, and a lot of the apprehension was centred on what demands regulators would next place on banks to comply with. The overriding theme with regards to the future, and in fact current, regulatory landscape appears to be worries over banks’ ability to continue to grow alongside increasing regulatory demands.
A further key challenge within capital management that has been regularly articulated is understanding the upcoming TLAC and MREL requirements and their consequent effects on the business. The theory around TLAC and MREL is simple enough, with the government wanting to avoid taxpayers acting as the lender of last resorts if they can avoid it. This meant that banks were made to re-capitalise themselves and hold much higher levels of capital than before, in an effort to absorb future possible economic shocks; the idea being that bond holders would take the ‘hit’ before it worked its way to the taxpayer. However, what seems unclear is the overlap between the two measures. Whilst TLAC applies to the top global institutions it does not apply to smaller ones, whilst MREL applies to European banks. Therefore, a major issue is not only understanding the calibration of both measures, but aligning the two sets of rules so that different banks are not operating from different rulebooks. On top of this the key challenges expressed were how will TLAC and MREL requirements be implemented and what will the impact of implementation be? This is further emphasised by the apparent differing views from European, in comparison to US, members of the Basel committee. All in all aligning the requirements for both TLAC and MREL plus aligning US and European definitions and beliefs appear to be the main challenge.
Additionally, an integral topic area within Capital Management that was frequently verbalised was the Fundamental Review of the Trading Book (FRTB). Touted as the new ‘Basel IV’ by many, the FRTB can be summarised as the next generation market risk regulatory capital rules, for large, internationally active banks. With the implementation date pre-arranged to take place in 2018 and the finalised core text version of the FRTB as a whole being released at the end of this year, numerous banking and risk professionals have articulated their concerns over the timing constraints associated with such a fast approaching implementation date. Research has indicated a general consensus that there is a lot to be done in a relatively short timescale. For instance, systems need to be developed, machines, infrastructure and valuation framework to provide the required sensitivities need to be made ready. The operational infrastructure changes that are going to be required are massive and need to be put in place to align with the ‘fundamental’ changes that are being proposed. All in all, the ability of firms to technologically adapt and implement what regulators are asking them to is one of the key, all-encompassing challenges that banks are facing. Furthermore, a central challenge area for banks within the FRTB surrounds non-modellable risk factors (NMRF). Currently, although risk professionals have highlighted their hope that much of this will be resolved in the end of year finalisation paper, the text on non-modellable risk factors can lead to varying interpretations. For example, if it is interpreted in its very strict sense then it can cause astronomically large capital increases. Therefore, one of the key challenges within NMRF is a perhaps clearer definition from regulators, which would theoretically cut out the different interpretations that the text on NMRF evokes. However, this is expected to and there is a general hope that this will be made far clearer in the core text paper, which is planned to be released in December.
One final point that came up frequently during the Center for Financial Professionals research, was the challenge of developing stress testing scenarios to effectively simulate capital requirements. With preparation for stress tests in 2016, a key challenge for banks is ensuring their capital ratios are compliant within the limits set and assessing the change of capital ratio targets based on scenarios. Another important area was the future of stress testing and planning for whether stress tests would go as far as in the US, which some would argue appears to be the way we are going.
Overall, the key challenges within capital management over the next year are pinpointed around the current and future regulatory landscape; assessing the impact that the different regulations have on the business and planning ahead for them. The three topics discussed are the tip of the iceberg, with further research highlighting the implications of the potential transition from CRD IV to CRD V, the gradual move towards IFRS 9 implementation and effectively implementing SA-CCR standards, to name but a few, as standout challenges over the coming months. These, as well as other vital challenges, will be discussed in-depth at the Center for Financial Professionals’ Capital Management initiative in March 2016 in London and in upcoming blogs.
For further information, including full agenda, speaker line up and to stay up to date with further research visit: http://www.cfp-events.com
