This is a monthly initiative aimed at updating the Risk Management community with the most recent regulatory changes impacting banks and capital markets firms. We update our comprehensive regulatory database every month by tracking more than 40 regulatory and industry bodies covering North America, Europe, Africa, Latin America and Asia Pacific. Every month, we will highlight 10 regulations shortlisted on the basis of geography of coverage and anticipated business impacts. Our summaries will highlight the risks covered and business processes affected by the regulatory reforms. This item in the blog is planned to supplement an existing monthly feature namely, “Regulatory Insights” which provides a deeper analysis of the business implications of a single or much smaller set of regulatory changes.
Edition Highlights:
  • The Basel Committee’s proposals on margin requirements would suggest appropriate margining practices for all over-the-counter derivative transactions that are not centrally cleared. Key proposals include applicability to certain types of products, methodologies for initial and variation margin, treatment of transactions with affiliates, and interaction among national regimes in cross-border transactions.
  • In a first-of-its-kind review and survey on risk governance practices at financial institutions, the Financial Stability Board stresses the need for a sizeable amount of work to be done by both national authorities and financial institutions in the areas of risk culture, integrated risk management, and risk appetite framework with a view to improving risk governance practices.
  • Guidelines of the European Securities and Markets Authority would require alternative investment fund managers to establish remuneration policies and governance standards that would avoid conflicts of interest, leading to excessive risk taking. Key coverage includes applicability within a group, governance of remuneration and remuneration committee, and requirements on risk alignment.

Current coverage period: Through February 28, 2013
Note: Anticipated business impact for covered regulations is shown using the following rating legend:
( Low) ( Medium) ( High)

CURRENT REGULATIONS:

Board of Governors of the Federal Reserve System (the Fed)(): Financial Market Utilities
Publication Date:
February 26, 2013
Risks Covered: Compliance Risk and Operational Risk
Business Processes Impacted: Audit, Legal and Compliance, Risk Management and Stress Testing
The proposed regulation would spell out the conditions and requirements for the Federal Reserve Bank to establish and maintain an account for designated Financial Market Utilities (or FMUs such as payment systems, central securities depositories and central counterparties) and affect settlement risks and processes. Proposed reporting, recordkeeping, and compliance requirements to be fulfilled by the FMUs would include; a) maintenance of sound financial condition, b) ongoing ability to meet its obligations, even during periods of stress and c) provision of information or verification necessary to check compliance with any conditions imposed.

European Banking Authority (EBA)(): Consistency of risk-weighted assets – Top-down assessment of the banking book
Publication Date:
February 26, 2013
Risks Covered: Compliance Risk
Business Processes Impacted: Risk Management and Stress Testing
The EBA’s top-down review identifies drivers of material differences in Risk Weighted Assets (or RWA, which is a measure of capital adequacy) for credit risk, using supervisory reporting data at December 2011, covering 89 European banks from 16 countries. One-half of the difference can be attributed to effects; a) extension of Internal Ratings Based (IRB) approach, b) the risk weights under the Standardized Approach, c) IRB portfolio mix and d) the share of IRB defaulted assets. An in-depth analysis with more detailed data is required to explain the remaining half of the difference in RWA.

European Banking Authority (EBA)(): On Defining Liquid Assets in the LCR under the draft CRR
Publication Date:
February 21, 2013
Risks Covered: Liquidity Risk
Business Processes Impacted: Risk Management and Stress Testing, Funding and Liquidity Management
The discussion paper addresses an approach for defining liquid assets and to work out a methodology to rank assets by aggregating a set of different indicators of liquidity. This would then be the basis for arriving at haircuts to compute Liquidity Coverage Ratio (LCR). The paper concludes that comprehensive data on trading, volume and spread are necessary for this purpose. Major steps involve; a) collection of data, b) cleansing of data, c) calculation of liquidity metrics, d) production of raking on liquidity and e) determine the variable that explain liquidity metrics.

European Systemic Risk Board (ESRB)(): Funding of credit institutions
Publication Date:
February 18, 2013
Risks Covered: Systemic Risk and Liquidity Risk
Business Processes Impacted: Funding and Liquidity Management
The ESRB’s recommendations address risks faced by banks in their funding activities, as credit and interbank markets have been impaired due to a number of factors, including lack of sustainability of business models of some banks. Major recommendations include a) monitoring of funding risk management by supervisors, b) banks to put in place risk management of asset encumbrance, c) monitoring of asset encumbrance by supervisors, d) market transparency on asset encumbrance and e) guidelines on use of covered bonds and other instruments that generate encumbrance.

Bank for International Settlements (BIS), International Organization Of Securities Commissions (IOSCO)(): Margin Requirements for Non-Centrally Cleared Derivatives
Publication Date:
February 15, 2013
Risks Covered: Counterparty Risk (CCR), Liquidity Risk
Business Processes Impacted: Clearing and Settlement – Exchange Traded and Over the Counter Risk Management and Stress Testing
This is to be phased in over a four-year period starting from 2015. The Basel Committee’s near-final proposals recommend appropriate margining practices for all non-centrally cleared over-the-counter derivative transactions. Major coverage include a) scope of coverage and applicability, b) methodologies for initial and variation margin, c) eligible collateral for margin, d) treatment of provided initial margin, e) treatment of transactions with affiliates and f) interaction among national regimes in cross-border transactions. Given its impact, the proposals could be implemented first by the largest, most active and most systemically risky derivative market participants.

Financial Stability Board (FSB)(): Thematic Review on Risk Governance
Publication Date:
February 12,2013
Risks Covered: Compliance Risk, Operational Risk
Business Processes Impacted: Risk Management and Stress Testing
In a review and survey, the FSB, while acknowledging measures taken by national authorities to improve regulatory and supervisory oversight of risk governance at financial institutions, identifies the need for a great amount of work to be done. Recommendations for future work of national authorities to focus on a) better assessment of effectiveness of risk governance framework, with special attention to risk culture, and b) integrated risk management. In addressing significant gaps in the risk management function of financial institutions, risk appetite framework, which is at the core of strong risk management, benefit can be had from urgent attention at the highest level of management.

European Securities and Markets Authority (ESMA)(): Guidelines on sound remuneration policies under the AIFMD
Publication Date:
February 11, 2013
Risks Covered: Compliance Risk, Operational Risk
Business Processes Impacted: Portfolio Advisory and Management, Audit, Legal and Compliance
Final guidelines of ESMA would recommend alternative investment fund managers (AIFM) to establish remuneration policies and a governance structure designed to avoid a conflict of interest leading to excessive risk taking. Major coverage include a) definition of remuneration, b) categories of staff subjected to the regulation, c) proportionality with reference to characteristics of AIFM, d) applicability to AIFM as part of a group, e) governance of remuneration and remuneration committee, f) requirements on risk alignment and g) disclosure requirements.

International Organization Of Securities Commissions (IOSCO)(): Recommendations Regarding the Protection of Client Assets
Publication Date:
February 8, 2013
Risks Covered: Compliance Risk and Operational Risk
Business Processes Impacted: Consumer Protection, Audit,
Legal and Compliance
The consultation report covers IOSCO’s recommendations regarding the supervision of holding of client assets by financial intermediaries as a part of its client assets protection regime. Focus of IOSCO’s principles with reference to management of client assets include a) maintenance of accurate and up-to-date records, b) statement on assets held to clients on a regular basis, c) arrangements to safeguard clients’ rights and to minimize the risk of loss and misuse, d) clarity and transparency in disclosures and e) regulators’ responsibility of overseeing compliance to relevant regulations to safeguard client assets.

Office of Financial Research (OFR)(): Systematic Scenario Selection Stress testing and the nature of uncertainty
Publication Date:
February 7, 2013
Risks Covered: Business Cycle Risk and Credit Concentration Risk
Business Processes Impacted: Risk Management and Stress Testing
OFR’s research paper addresses an important issue relating to the incorporation of severe, but plausible scenarios as a part of stress testing, in the light of practical difficulties faced in considering such scenarios in traditional statistical tools of risk management, such as value at risk or extreme value theory. The methodology developed in the paper could help avoid the blind spots in the regulatory approach to stress testing, by generating internally consistent scenarios. Further extensions to the methodology, regarding handling different kinds of loss functions, are suggested.

Federal Deposit Insurance Corporation (FDIC)(): A More Prominent Role For The Leverage Ratio In The Capital Framework – Remarks by FDIC Director J O. Norton
Publication Date:
February 6, 2013
Risks Covered: Compliance Risk and Strategic Risk
Business Processes Impacted: Finance
Citing gaps in the Basel Tier 1 risk-based capital ratio, its complexity and lack of transparency, remarks by the FDIC director recommends establishing a higher leverage ratio, based on high-quality tangible capital relative to a bank’s total asset. In addition to capital ratios and leverage, effective supervision, improvements in risk management, structural considerations, resolvability, and other economic policy considerations are identified as important factors in promoting economic growth.

FORTHCOMING REGULATIONS:

Consumer Financial Protection Bureau (CFPB): Implementation plan for new mortgage rules

Having issued new mortgage rules under the Dodd-Frank Act recently, the CFPB’s two new mortgage rules are due for implementation by January 2014. The Ability-to-Repay rule would require lenders to make a reasonable, good faith assessment of ability of their prospective borrowers to repay their mortgage. The new mortgage service rules would establish strong protection for all homeowners in relation to appraisals, escrow accounts, protections for high-cost mortgages, and compensations and qualifications for loan originators.

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