The New Basel Accord Banks current state of readiness A European perspective

Transcription

1 The New Basel Accord Banks current state of readiness A European perspective 14 May 2002 Istanbul Charles Ilako Partner, Head of EMEA Regulatory Practice (Europe)

2 Issues Considered Overall context Basel Timeframe Basel Project Lifecycle Strategic implications Banks preparedness General observations Credit risk Operational risk Project management Our Diagnostic approach Conclusions

3 Market feedback on the Basel Accord proposals Meeting the qualitative criteria will prove to be the biggest challenge. Lots of losers in this - difficult to see the winners. Calibration must be right Disclosure will provide a lot more data - will it provide more meaningful information? a significant challenge to supervisors skill sets Disclosureprescriptiveness, volume, and detail of the proposals fiercely criticised. Concerns regarding inconsistency with IAS

4 Overall Context Drivers behind the reforms Market / product development since the 1988 Accord Regulatory arbitrage Better appreciation of the extent and impact of operational risk Risk management incentive At the same time there are numerous wider issues Industry consolidation EU FSAP Balance sheet optimisation IAS convergence Increasing focus on managing compliance risk (including anti-money laundering

5 Overall Context Current framework Current Capital Requirements Principally Pillar 1 Bank/Firm Trading book Position risk Counterparty risk Settlement risk Large exposures risk FX risk Banking book Large exposures risk Credit risk Interest rate risk Equity risk General risk Specific risk General risk Specific risk X X X X X X X X X X Capital requirement = Y T Capital requirement = Y O TOTAL CAPITAL REQUIREMENT = Y T + Y O => 8% minimum

6 Overall Context : Going forward Unchanged Total Capital Credit Risk + Market Risk + Operational Risk 8% Significantly Refined Relatively Unchanged New (Could be set higher under Pillar 2) Pillar I: I The mathematical framework

7 Overall Context : Going forward Different options to reflect level of sophistication Evolutionary approach Bank expectations Supervisory expectations Complexity Simple Intermediate Risk calculation Credit risk Mitigation technique Operational risk Standardised Simple Basic indicator Foundation internal ratings based (IRB) Comprehensive Standardised Capital Charge Advanced Advanced IRB Institution calculated Internal measurement

8 Basel Timeframe CP2 QIS3 QIS3 CP3 Responses Consultation closed Final rules EU proposals (CAD 3) EU Final rules Parallel run Basel II Start Jan 2001 Oct 2002 Dec 2002 May 2003 July 2003 Oct 2003 March 2004 Sept 2005 Jan 2006 Dec 2006 Compressed not enough for (i) banks to change their systems and processes (ii) regulators to fully master Pillar I and II. Continuing development and some lengthy transitions

9 Basel Project Lifecycle Understanding the Gaps Regulatory Approval On going Lobbying Basel II Implementation Detailed analysis and solutions development Project Planning

10 Strategic implications The challenges presented by the new Accord! Strategic choices II.! target level and date within the regulatory framework the cost / benefit of compliance for business units Systems and data infrastructure to support a compliant credit and operational risk management approach! obtaining quality and reliable data sets! ensuring there is a rigorous and consistent review of models and processes Bank-wide chain of consistency Data MIS Regulatory reporting Disclosure Senior management responsibility and accountability for the integrity of internal credit and operational risk management systems and processes, and of disclosure management

11 Strategic implications Board level decisions for institutions Setting Strategic Direction Allocating/Mobilising Resources Setting Parameters for Development Target approach for credit and operational risk# Strategic capital management Level of strategic and operational benefit will be targeted over and above compliance Centrally driven vs. devolved (or combination) Funding and cost allocation Mandatory vs. discretionary budgeting Alignment with other major programmes (e.g. IAS, Euro, etc.) Finance and Risk - functional and infrastructural configuration Broader development of capital allocation, risk adjusted performance measurement and financial risk framework Integration of Basel within overall information architecture and strategy Systems architecture choices - central vs. distributed - remedial vs. integrated

12 A closer look at the Basel II implementation lifecycle Phases Awareness/ Lobbying Determine Basel Approach Central Gap Operating Analysis Strategy Budget Establish Programme - Implementation/ Approach - Plan - Resources Central and Business Units Requireme nt definition and design Implementatio n and Testing Rollout Regulatory Approval Core Components Gap Analysis Operating Strategy & Operating Model Technical/Data Architecture Strategy Project Evaluation and Alignment Risk Management & Regulatory Framework (Methodology & Processes, Controls, Credit Rating Design) Technical/Data Architecture Design Process Improvement Data Collection Management Data & System Integration/ Package Configuration (Configuration, Testing) Data Cleansing & Transformation (initial process and ongoing work) Large scale Programme Management

13 Banks preparedness : Overall Banks have been focusing on lobbying and many are now turning to what they need to do Major banks have or are mobilising project teams and undertaking detailed gap analysis of processes Some confusion in organisations i.e. who should own/drive Basel II: - Group - Divisions / BU - RM / Finance Board and BU buy in: 3 approaches: business benefits defined view that Basel is an additional cost, hence minimise it adopting a decentralised model

14 Banks preparedness : Overall Budgeting: primarily step-by-step Efforts underway to determine the net cost / benefit Operational risk requirements have become somewhat clearer which is aiding decision making

15 Banks preparedness : categories of behaviour Basel Sceptics Cautious Lobbyists Early Adopters Advanced Leaders! Wait and see approach! Consider the guidance provided by the Accord inadequate! Consider significant changes in the Accord are required! Expect further delays in implementation date! Expect flexibility in implementation of the selected approach! Expect material differences between the local regulators implementation requirements! Focus on lobbying activities! Primarily working on the impact on capital! Expect significant changes in the Accord will occur! Some level of awareness within the organisation! Limited Board involvement in Basel implications! Awaiting QIS results before further action! Raising awareness! Strategic thinking activities! Progress discrete projects within their businesses! Participate in Lobbying and QIS activities! Planning programme structure! Considering budget implications! High level understanding of the impacted areas! Vision agreed! Gap analysis performed! Programme structure in place! Programme plan developed! Resource requirements identified! Senior level sponsorship and budget in place! Integration with existing initiatives! Awareness of impact throughout the organisation

16 Banks preparedness: Diagnostic Findings Credit Risk Majority of the larger EU banks have decided on an approach # Foundation approach for most medium-to-large sized banks. 10% aiming for Advanced IRB # expect most Turkish banks to target the standardised approach Germany, UK, The Netherlands and Scandinavia are taking the lead Many banks have budgets (step-by-step) Loss data pooling: active particularly with savings and cooperative banks (Germany, Sweden, Austria, UK)

17 Banks preparedness: Diagnostic Findings Operational Risk Most EU banks aiming for the standardised approach; only a handful going for AMA at initial entry Less than a quarter of banks have allocated a specific budget for the project (typically step-by-step) Limited data available; though data pools being developed by industry (e.g ORX,Netrisk, BBA)

18 Banks preparedness: Key work areas in credit risk Wholesale and Corporate Refining existing rating systems Adequacy of documentation to develop and enhance internal rating or scoring systems. Development of systems for tracking, back testing and stress testing PD, LGD and EAD - Data retention (type of models used, ratings decisions, what data, when, who ) - Facilitate review by supervisors Data and systems architecture to ensure effective portfolio data collection and management of credit data quality in order to report both internally / externally. Group-wide coverage / consistency - Existence of unrated subportfolios in some units - Less rigorous practices in some areas

19 Banks preparedness: Other credit risk issues Retail The issues relating to retail are broadly similar to those of wholesale and corporate. However, definitions and methodologies vary significantly need to factor this in Segmentation of portfolios by product and borrower risk. - Wide variety of practices consistency issue - Meeting Basel criteria - CRM systems implications and possibly need for CRM database solutions

20 Banks preparedness: Other credit risk issues Formal process (inc. documentation) for Board to approve credit risk strategy and policy; demonstration that credit risk appetite and policy meets Basel standard Review and changes to legal documentation regarding collateral and guarantees (enforceability, value) Assessment of skills gaps and development needs in credit and internal audit: - Credit risk practices - Rating systems - Governance - CRM Typical internal deadlines # Rating systems by end of year # Data systems by end 2003 # Workable capital calculations by end 2004

21 Banks preparedness: Key work areas in operational risk Determining long-term loss data collection and reporting solution and developing the processes. - Internal sources - Data pooling - Analysis and interpretation of data Capturing of Exposure Indicator information (gross income) in order to calculate the operational risk capital charge. Formal process (e.g training) by which the skill sets of operational risk and internal audit personnel are improved and kept up to date.

22 Banks preparedness: Shortcomings and gaps There are a number of common problem areas in respect of credit and operational risk:!possibly too much focus on the capital numbers at expense of processes!firms not bringing together credit risk, operational risk, capital modelling and reporting capabilities to best effect. Silo mentality resulting in business benefits being undermined and duplication of effort!defining and establishing an adequate risk management framework (including policies & procedures, governance, roles & responsibilities) - Basel compliant - Providing a Basel base for E Capital!Determining the appropriate organisational structure for risk management!setting risk appetite / risk tolerance

23 Banks preparedness: Shortcomings and gaps! Ensuring that information for disclosure requirements is appropriately supported by audit trails.! Data MI Regulatory reporting Disclosure! Process upgrade led by Finance and involving RM and Corporate Communications

24 Our Diagnostic Approach

25 Our Diagnostic Approach Our approach: Six key risk areas Level1 Level2 Level3 Creditand OperationalRisk

26 The Diagnostic Tool: A three stage approach Objective Activities Deliverables

27 Basel Diagnostic II - Demo

28 Basel Diagnostic II - Demo

29 Basel Diagnostic II - Demo

30 Basel Diagnostic II - Demo

31 Basel Diagnostic II - Demo

32 Basel Diagnostic II - Demo

33 Conclusion A group of large and medium sized EU banks firmly on track Vital that banks use the additional time wisely Boards should be actively engaged