ECB publishes “join-up” manual: The European Central Bank (ECB) on 8 August published a manual detailing how it will incorporate findings from its AQR (Asset Quality Review) into stress test projections, the so-called “join-up” or Phase 3 of the Comprehensive Assessment process. The ECB will compare findings for individual banks with those of their peers and will apply its own top-down stress test model. Banks may be required to provide further evidence as part of a “comply or explain” approach, in addition to providing further analysis and, if necessary, resubmitting their stress test projections. Findings from the portfolios examined in the AQR will be used to determine the starting point of the stress test and, for the purpose of the exercise, may lead to an adjustment to the year-end 2013 balance sheet. Where evidence from the AQR points to a bank having insufficient provisions, this will be reflected in adjustments to the bank’s simulated projected losses in 2014, 2015 and 2016 for both the baseline and adverse scenarios. In addition, it will have an impact on the simulated profits and losses under stress test scenarios. Between September and October, the national authorities and the ECB will finalise the results, associated disclosure templates and capital requirements (Phase 4), and share partial, preliminary information on specific components of the Comprehensive Assessment with banks, to enable them to mount a challenge on items of concern. Final results will be communicated to the banks very shortly before publication (second half of October).

EBA publishes final templates for the 2014 stress test: The European Banking Authority (EBA) on 20 August published the final templates that will have to be used for the publication of data for the stress test. The templates are common for all EU banks and illustrate the type and format of data that will be disclosed to the EBA. Acting as the coordinator of the stress test, the EBA will be publishing up to 12,000 data points per bank across the whole of the EU, acting as the central hub for all information related to stress test outcomes of EU banks. The data will cover banks’ composition of capital, risk weighted assets, profit and loss, exposures to sovereigns, credit risk and securitisation. In addition, for the first time, the EBA will disclose a fully-loaded CRR/CRD4 Common Equity Tier 1 (CET1) capital ratio for each bank. By disclosing data in a consistent and comparable user-friendly format across the Single Market, the EBA aims to bring greater transparency to the EU banks, contributing to stronger market discipline of the EU banking sector.

ECB

ECB publishes final list of significant credit institutions: The European Central Bank on 4 September published the final list of the 120 significant credit institutions whose direct supervision it will assume on 4 November. The ECB will directly supervise credit institutions, financial holding companies or mixed financial holding companies that are deemed significant at the highest level of consolidation within participating Member States. The significant credit institutions account for almost 85% of total banking assets in the euro area. The significance assessment has been based on banks’ year-end 2013 figures, the total value of their assets, the importance for the economy of the country in which they are located or the EU as a whole, the scale of their cross-border activities and whether they have requested or received public financial assistance from the ESM (European Stability Mechanism) or the EFSF (European Financial Stability Facility). The ECB has also published a list of less significant institutions. These banks will continue to be supervised by national competent authorities. However, the ECB can decide at any time to exercise direct supervision in order to ensure consistent application of high supervisory standards.

EBA

EBA publishes new XBRL taxonomy for remittance of supervisory reporting: The EBA on 18 August published a new XBRL taxonomy to be used by competent authorities for remittance of data under the EBA Implementing Technical Standards (ITS) on supervisory reporting. The new taxonomy will apply from 31 December onwards and will be used for the first reports on asset encumbrance and funding plans.

EBA publishes final RTS on the treatment of equity exposures under IRB approach: The EBA on 5 August published its final draft Regulatory Technical Standards (RTS) specifying the treatment of equity exposures under the internal ratings-based (IRB) approach. These RTS establish that competent authorities are allowed to grant institutions a temporary exemption from the IRB treatment for certain equity exposures provided such exemption was being applied on the last day of application of CRD I (31 December 2007). This exemption will end on 31 December 2017.

EBA consults on criteria to assess O-SIIs: EBA on 18 July launched a consultation on draft Guidelines setting forth criteria to identify the so-called Other Systemically Important Institutions (O-SIIs). Relevant authorities may require each O-SII to maintain an additional capital buffer of up to 2%, consisting of CET1. The consultation runs until 18 October. The Guidelines aim at achieving an appropriate degree of convergence in the identification process, and envisage a two-step process for the identification of O-SIIs:

• In the first step, on the basis of mandatory quantitative indicators (related to size, interconnectedness, relevance for the economy, complexity), competent authorities will obtain scores indicating the systemic importance of each bank. Banks scoring above a certain threshold (upper threshold) will have to be identified as O-SIIs, those scoring below a certain threshold (lower threshold) can never be identified as O-SIIs;
• In the second step of the process, competent authorities can still qualify banks scoring between the lower and upper thresholds as O-SIIs, by using their supervisory judgment, but only on the basis of a closed list of optional indicators set forth in the Guidelines.

EBA publishes final draft RTS and Guidelines on recovery plans: The EBA on 18 July published two final draft RTS specifying (i) the information to be included in a recovery plan, and (ii) the criteria that competent authorities should apply when assessing the recovery plan of an institution or a group. The final draft RTS are complemented by Guidelines providing the range of scenarios to be used when testing recovery plans. In more detail:

• The first set of RTS specifies the information institutions should include in their recovery plans, which is broken down into different sections: (i) the summary of the recovery plan; (ii) information on governance; (iii) a strategic analysis; (iv) a communication plan; and (v) a description of preparatory measures;
• The second set of RTS identifies the principles and criteria that supervisory authorities shall follow when assessing (i) the completeness, (ii) the quality and (iii) the credibility of recovery plans;
• The RTS are complemented by a set of Guidelines specifying the range of scenarios that institutions should consider to test the effectiveness and adequacy of the recovery options and indicators. Scenarios of macroeconomic and financial distress need to be designed taking into account the specific characteristics of the bank involved, including its size and interconnectedness. These scenarios should include situations where the bank would be at risk of failing if recovery measures were not implemented in a timely manner.

EBA issues Opinion on macroprudential tools laid down in the CRR/CRD: EBA on 8 July issued an opinion addressed to the European Commission on the macroprudential tools laid down in the CRR/CRD IV. Under Article 513 of the CRR, the Commission is required to review whether the macroprudential rules contained in the CRR and CRD IV are effective, proficient and transparent with regard to mitigating systemic risks. Alongside this, the opinion sets out a number of policy recommendations for the Commission to consider in its review of the macroprudential toolkit. The document included the following main points:

• The cap on the O-SII buffer is considered too low and should be raised;
• Mandatory coordination process between competent authority or the designated authority to be put in place;
• Pillar 2 is primarily to be viewed as a microprudential tool. Furthermore, the hierarchy between the tools should be adjusted by placing the Systemic Risk Buffer (SRB) before Pillar 2 and moving Article 458 CRR (also named flexibility package) so that it is in line with Pillar 2;
• With respect to the SRB buffer it is suggested that: (i) the process be clarified in particular with respect to Article 133(11) to (15), and (ii) guidelines be written to clarify its activation, exploring possible quantitative indictors, and the risks covered. The max-rule (SRB vs. G/O-SII buffer) should be maintained;
• The ability to review risk weights or LGD (loss given default) floors in real estate should be made more consistent. Article 164 CRR should be further aligned with Article 124;
• Further work should be done to evaluate the need and the exact nature of tools addressing exposure based risks.

EBA publishes consultation on a framework for common supervisory procedures and methodologies: On 7 July, EBA launched a consultation on its draft framework for common procedures and methodologies for the Supervisory Review & Evaluation Process (SREP). This framework will be applied in the supervision of all institutions across the EU and will help form a consistent supervisory culture across the single market. The consultation runs until 7 October.

EBA clarifies grandfathering, Danish Compromise in new Q&As: EBA added three new relevant answers to the Single Rulebook Q&A on 4 July:

• [2013_544] The question relates to the need of a contractual reference to Art. 77 of CRR (conditions for reducing own funds) in order for legacy non-step Tier 1 bonds to qualify as fully eligible Tier 2. According to the EBA, any call options, redemptions or repurchase transactions related to Tier 2 instruments must meet the requirements of Article 63 of CRR. More specifically, Article 63(j), in conjunction with Article 77 of the CRR, stipulates that the institution must not effect the call, redemption, repayment or repurchase prior to the date of an instrument’s contractual maturity without the prior permission of the competent authority. Legacy Tier 1 instruments should therefore contain an explicit reference to these regulatory conditions in their terms in order to be reclassified as fully eligible Tier 2. The answer takes a conservative stance, as the adherence to Art. 63(j) could theoretically be handled on a statutory basis, and adds a further filter on top of the recent confirmation on the treatment of step-ups on sequent calls;
• [2013_543] EBA confirmed that an arrangement, contractual or otherwise, whereby an issuer or related entity guarantees to pay a compensation to shareholders even in loss years, enhances the seniority of those shareholders and therefore is non-compliant with Article 28(1)(l) of the CRR. The original question asked whether a contractual obligation of the majority shareholder of a credit institution to pay a compensation to the minority shareholders even in loss years, due to a pre-existing profit and loss transfer agreement, would be permissible under CRR. Article 28(1)(l) of the CRR states that CET1 instruments should not be not secured, or subject to a guarantee that enhances the seniority of the claim by the parent undertaking of the institution;
• [2013_502] The question relates to the application of the quantitative thresholds pursuant to Article 471(1)(d) of CRR (exemption from deduction of equity holdings of insurance subsidiaries from CET1), namely, (1) equity holdings of the institution in the insurance company not in excess of 15% of the CET1 instruments issued by that insurance company as at 31 December 2012, and (2) the amount of the equity holdings not in excess of the amount held in CET1 instruments in the insurance company as at 31 December 2012. According to EBA, the two conditions apply together and shall both be met in order for equity holdings not to be deducted. However, failing one of the two does not compromise the entire treatment. If only one of the condition is met, only the amount that is above one of the two caps have to be deducted from own funds.

EBA publishes new set of final draft RTS: On 4 July, EBA published new sets of final draft RTS, including (1) RTS on the conditions for assessing the materiality of extensions and changes of the Internal Models Approach (IMA) for market risk, and (2) RTS on minimum margin periods of risk that institutions acting as clearing members may use for the calculation of their capital requirements for exposures to clients.

Basel Committee

GFMA & IIF write supplementary letter to Basel Committee: The Global Financial Markets Association (GFMA) and the Institute of International Finance (IIF) on 29 August published a follow-up letter to their comment letter of 11 April to the Basel Committee on Banking Supervision (BCBS). The initial letter was on the Committee’s consultation paper on the revised net stable funding ratio (NSFR). The follow-up letter expresses the GFMA’s and IIF’s serious concerns and expresses the view that the treatment of equities under the revised NSFR will increase transaction costs across equity markets significantly.

Basel Committee releases Technical Paper on counterparty credit risk exposures: On 28 Aug, the Basel Committee published a working paper to explain the different modelling assumptions that were used in developing the standardised approach for measuring counterparty credit risk exposures (SA-CCR). The paper also clarifies certain aspects of the SA-CCR calibration that are not discussed in the final standard that was published in March.
BCBS consults on review of the Pillar 3 disclosure requirements: On 24 June, the Basel Committee published for consultation a review of the Pillar 3 disclosure requirements. The proposals promote greater consistency for risk disclosure by banks and aim to assist market participants in assessing a bank’s overall capital adequacy more effectively. The proposal does not include disclosures on capital requirements and capital buffers, which are governed by a previous Basel Committee publication (Composition of capital disclosure requirements, June 2012). These disclosure requirements will be considered in the second phase of the review. On 27 August, the Committee announced that the consultation period on the proposed revisions had been extended from 26 September to 10 October.

European Commission

European Commission adopts geographical exposure RTS: The European commission on 29 August adopted the Delegated Regulation containing RTS on the identification of the geographical location of the relevant credit exposures for calculating institution-specific countercyclical capital buffer rates. The institution-specific countercyclical capital buffer rate shall consist of the weighted average of the countercyclical capital buffer rates that apply in the jurisdictions where the relevant credit exposures of the institution are located or applied (Article 140(1) of the Directive). The delegated act specifies the method for the identification of the geographical location of the relevant credit exposures. It has submitted the text to the European Parliament and Council for scrutiny before its final publication.

SRM published in the official EU Journal: On July 30, the regulation establishing a Single Resolution Mechanism (SRM) was published in the Official Journal of the EU, one year after the European Commission presented its proposal. The regulation entered into force on 19 August. The provisions relating to the cooperation between the Single Resolution Board and the national resolution authorities for the preparation of the banks’ resolution plans will apply from 1 January 2015 and the SRM should be fully operational from 1 January 2016.
The EU Council had on 14 July adopted the regulation establishing the SRM. Its adoption follows the agreement reached with the European Parliament at first reading in early April, along with the Bank Recovery & Resolution Directive (BRRD) adopted in May. The intergovernmental agreement will enter into force once ratified by member states participating in the SSM/SRM that represent 90% of the aggregate of the weighted votes of all participating member states.

LCR to be potentially postponed to October 2015: According to media reports based on leaked documents, the European Commission is considering a postponement of the application of the Liquidity Coverage Ratio (LCR) to October 2015, with a proposal due late September.

ESAs

EBA, EIOPA and ESMA warn about self-placement of hybrid instruments: As part of their respective mandates, the three European Supervisory Authorities (EBA, EIOPA and ESMA) published a joint paper on the placement of financial instruments with depositors, retail investors and policy-holders. The authorities expressed their concerns over the practices used by some financial institutions to comply with enhanced prudential requirements (CRR/CRD IV, pending BRRD, and Solvency II, as well as the ongoing EBA stress test and the ECB’s Comprehensive Assessment) by selling to their own client-base financial instruments that they themselves have issued, regardless of the fact that the loss bearing features of many of these products expose consumers to significant risks that do not exist for other financial instruments. The document reports that ESMA has been asked to provide technical advice to the European Commission for the adoption of Commission delegated acts under MiFID II in a number of areas, including conflicts of interest with regard to underwriting and placing. Similarly, on the back of the mandate following an amendment of the IMD (Insurance Mediation Directive) by MiFID (Markets in Financial Instruments Directive), EIOPA has published a Discussion Paper on conflicts of interest in sales of insurance-based investment products, which focuses on the conflicts of interest that could harm consumers.

EBA, EIOPA and ESMA release Joint Consultation Paper on risk concentration: See insurance updates for details.

National measures

ESRB publishes commentary on macro-prudential measures: The European Systemic Risk Board (ESRB) on 22 July published an official commentary on national macroprudential measures. The document considers the measures that have been notified and subsequently published on the ESRB’s website in the period from January to June 2014, with notifications from Belgium, Croatia, Denmark, Estonia, Latvia, the Netherlands, Slovenia and the UK. In most of the reported cases, the SRB (Systemic Risk Buffer) is used as a substitute for the O-SII buffer, which is subject to more stringent requirements in terms of level (cap of 2%) and availability (only from 2016 onwards). According to the ESRB, this is not ideal as the O-SII buffer is the dedicated instrument to address systemic risks resulting from O-SIIs. The level chosen for the SRB in the reported cases resulted in a simple notification procedure without the need for a formal opinion or approval, which begs the question as to the role of procedural considerations in the selection of the given measure and its level.

PRA consults on implementing the BRRD: The UK Prudential Regulation Authority (PRA) on 24 July launched an official consultation (CP13/14) on the UK implementation of the BRRD. The initiative follows similar actions by other European regulators (including Sweden and Germany) as local authorities will have to transpose the directive into national law.

Norwegian FSA will not allow CoCos in Pillar 2: According to Bloomberg, Norwegian FSA deputy director general Emil Steffensen confirmed that the required trigger level on contingent capital instruments will be decided later this year as part of the adoption of the draft regulation. However, Pillar 2 requirements will have to be met by CET1 capital only, as opposed to a combination of equity and hybrid instruments. The decision goes against the approach taken by UK and Danish counterparts.

EBA issues opinion on a structural measure notified by France: EBA on 17 July published its Opinion on a draft structural measure of banking separation impacting the limits to intra-group large exposures that France intends to implement at national level. The EBA Opinion assessed the structural measure of banking separation aimed at reducing group risk profiles, which would be introduced through an order in application of French national law 2013-672 (loi 2013-672 du 26 Juillet 2013 de separation et regulation des activités bancaires). In its opinion on the matter, EBA said that the measure did not aim at ring-fencing institutions alongside their national borders, but rather at restricting proprietary trading activities, regardless of their geographical location. On the basis of the information received, the EBA concluded that no evidence was found suggesting that this measure would be inconsistent with the general principles governing the EU internal market.

FPC launches consultation on the review of the leverage ratio: The Financial Policy Committee (FPC) on 11 July launched a consultation on the design of a leverage ratio framework for the UK. It forms part of the FPC’s review of the role of the leverage ratio within the capital framework for banks, as requested by the Chancellor of the Exchequer in November 2013. The consultation paper sets out the FPC’s analysis of the policy choices that would determine the role of the leverage ratio within this framework. The responses to the paper will inform the final review, intended to be published in November.

German cabinet approves national BRRD transposition: German Chancellor Angela Merkel’s cabinet on 9 July approved four bills that will transpose the BRRD into German law. According to press reports, the country will accelerate the activation of the bail-in tool to 2015, one year before the date prescribed under the European rules. Moreover, the bank restructuring power of the SoFFin, Germany’s financial markets stabilisation fund, will come under the Federal Agency for Financial Market Stabilisation (FMSA), which will be subject to BaFin’s supervision.

Swedish Financial Crisis Committee presents BRRD application proposal: The Swedish Financial Crisis Committee (Finanskriskommittén) on 3 July published a draft proposal to the Ministry of Finance on the implementation of the BRRD. The document, which recommends the debt office be the country’s resolution authority, includes the possibility for precautionary measures ahead of actual resolution. The government will take over distressed banks if any bankruptcy would threaten financial stability, and then sell all or parts of the bank or restructure it.

Rating agencies

Moody’s publishes its methodology for Rating Bank Contingent Capital Securities: Moody’s on 16 July released its updated guidelines for rating junior bank obligations. A request for comment was originally published on 1 May. The revised criteria incorporates the following changes:

• High trigger contingent capital securities will now be rated by Moody’s using a model-based approach. The model incorporates the agency’s view of the issuing bank’s current financial strength as expressed through its BCA, its current capital level (possibly adjusted for a forward view of capital), the capital level associated with the point of non-viability, and the capital level associated with the trigger in the security being rated which determines the distance to trigger breach. It will be available upon request;
• The proposed Ba1 rating cap in the request for comment will not apply to high trigger contingent capital securities;
• The notching (from the BCA) applied to non-viability securities has been revised. Moody’s has notably removed the additional notch applied to AT1. As a consequence, the agency upgraded the ratings of several AT1 issues.