Supervisory approaches to the review of FRTB implementation

By David Phillips, Senior Technical Specialist, Traded Risk, PRA, Bank of England.

David, can you please tell the Risk Insights readers a little bit about yourself, your experiences and what your current professional focus is?

I currently work within the Supervisory Risk Specialists directorate at the PRA with particular focus on Traded Risk. My primary area of specialism is market risk models, and I provide leadership and oversight to the team of specialists reviewing firms’ advanced models. The new FRTB models will be a primary focus for this team over the coming years; in addition to leading the PRA’s review of firms’ implementations, I also participate in the Basel Market Risk Group with colleagues from the Policy directorate.

At the Fundamental Review of the Trading Book Summit you will be delivering your insights on supervisory approaches to the review of FRTB implementation. Without giving too much away, what are the key objectives of supervisory approach?

The overall objective is to ensure firms comply with the rules and supervisory expectations and hold adequate capital against their market risks.

How can market risk professionals best prepare for the extended pre-assessment ahead of final applications?

By ensuring that they are able to articulate and demonstrate a comprehensive, well thought through set of proposals to meet the new requirements. Where there is uncertainty around specific aspects of the new rules which are material to the firm, I would expect firms to engage closely through industry trade bodies, and regulators both through international bodies (e.g. Basel) and directly with the PRA.

Without giving too much away, can you outline the importance of a robust FRTB operational control environment?

There are two areas in particular where FRTB requirements will test the strength of a firm’s operational processes: the implementation of a desk-level IMA capability; and the calculation of the SBA for all positions.

Regulators will want reassurance that firms are able to perform, and act upon the results of, desk-level model validation tests (e.g. P&L attribution). For desks with poor model performance automatic switching from an IMA to an SBA capital calculation is required. Firms’ systems need to be able to accommodate this in a robust way, ensuring that related processes (e.g. legal entity back-testing) are updated to reflect the reduced IMA scope.

The requirement for a firm to be able to calculate SBA for all its positions irrespective of whether it has IMA permission, both as a fallback in the case of model permission being withdrawn and as a potential input to a capital floor, increases the importance of these calculations. Therefore a robust, and accurate, implementation will be required. Regulators will want to be confident that firms have applied the new rules in a consistent way in order to deliver the intended outcome.

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