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EY European IFRS banking conferenceMinds made for transforming financial services
Friday, 7 June 2019
Agenda and speakers — Friday, 7 June 2019
EY European IFRS banking conferencePage 1
08:30-09:00 Registration
09:00-09:15 Introduction — Michiel van der Lof, EY
09:15-09:45 International Accounting Standards Board (IASB) update — Sue Lloyd, IASB
09:45-10:30 Challenges related to Interbank offer rates (IBOR) — Tony Clifford, EY and Fiona Thomson, Goldman Sachs
10:30-11:00 Break
11:00-11:45 IFRS 9 — What did banks disclose? — Laure Guegan, EY with Tony Clifford, EY and Fabio Fabiani, EY
11:45-12.15 Finance function of the future — Francois Rossouw, EY and Ladislas Tyl, EY
12:15-12:45 Supervisory update — Nic van der Ende, European Banking Authority
12:45-13:45 Lunch
13:45-14:15 Integrated reporting and climate risk — Doug Johnston, EY and Rebecca Self, HSBC
14:15-14:45 IFRS hot topics and accounting in the digital age — Marek Walendowski, EY and Jane Hurworth, EY
14:45-15:15 Break
15:15-15:45 The macro environment and related accounting and reporting impacts — Mark Gregory, EY
15:45-16:15 Inside Brussels — David Doyle, EY
16:15-16:30 Closing comments — Michiel van der Lof, EY
16:30 Drinks reception
The views expressed in this presentation are those of the presenter, not necessarily
those of the International Accounting Standards Board or the IFRS Foundation.
Copyright © 2019 IFRS Foundation. All rights reserved.
IFRS® Foundation
IASB Update
Sue Lloyd
Vice-chair, International Accounting Standards Board
June 2019
3What I will cover
• IBOR reform
• Dynamic Risk Management
• Financial Instruments with Characteristics of Equity
• Recent Interpretations Committee activities
• Primary Financial Statements
• Amendments to IFRS 17
IFRS® Foundation
IBOR reform
5Background
What are IBORs?
What led to the reform?
Potential effects?
Interest rate benchmarks such as interbank offer rates (IBORs) play an
important role in global financial markets. They index a wide variety of
financial products worth trillions of dollars, ranging from mortgages to
derivatives.
Market developments have undermined the reliability of existing
benchmarks. The FSB has recommended reforms. Some jurisdictions
have made progress towards replacing existing benchmarks with nearly
risk-free rates (RFRs).
This has, in turn, led to uncertainty about the future of existing interest
rate benchmarks. Such uncertainties have some market implications
which may also affect entities’ financial reporting.
6Two-phase project
Pre-replacement issuesPhase I
• Issues affecting financial reporting
before the replacement of an
existing benchmark with RFR.
The Board identified two groups of accounting issues:
The Exposure Draft addresses Phase I issues only
Replacement issuesPhase II
• Issues that might affect financial
reporting when an existing
benchmark is replaced with RFR.
The pre-replacement issues are more urgent because they may affect financial reporting
before the reform is enacted and can be addressed without knowing details of RFR.
Therefore, the Board decided to address these issues as a priority.
7Phase I – why the Board is proposing amendments
Uncertainties around timing and
amount of designated future cash flows may
affect some hedge accounting
requirements.
Entities could be required to
discontinue hedge accounting. Entities
may also not be able to designate new relationships.
Discontinuation of hedge accounting solely due to such uncertainties could
produce information that
would not be useful to users of financial
statements.
The Board decided to propose
amending some hedge accounting
requirements during this period
of uncertainty.
Uncertainties arising
from the reform
Potential effects on
financial reporting
What is the
Board’s view?As a result…
Find out more
8Which issues are addressed?
• Reform creates uncertainty about timing/ amount of future cash flows based on IBOR.
• How to consider uncertainty when assessing if future IBOR cash flows are highly probable?
Highly probable requirement
• IFRS 9 requires the existence of an economic relationship; and IAS 39 expectation of offsetting between hedged item and hedging instrument.
• How to consider uncertainties from reform?
Prospective assessments
• If the hedged item is a risk component, then it must be separately identifiable.
• Reform may impact market structure and therefore ability to identify a risk component.
Risk components
Other hedge accounting requirements would not be changed
Until uncertainty is
resolved assume cash
flows based on
interest benchmark do
not change
Separately identifiable
required only at
inception
9Timeline and next steps
Mandatory
effective date
ED
published
Phase I
JAN
2020
Q4
2019JUN
2019
MAY
2019
Comment
period ends
Publish final Phase I
amendments
Proposed effective date
Annual periods beginning on or after 1 January 2020. Earlier application is permitted. The comment
period and effective date reflects the urgency of this issue.
10Phase II – replacement issues
The staff is currently assessing the potential issues arising in Phase II.
At the time of the Board’s discussions leading to the Exposure Draft, the
specific conditions and details of the replacement RFR have yet to be
finalised.
Therefore, the Board decided to monitor developments in this area and assess
the potential implications as more information becomes available.
Examples of issues raised by stakeholders include:
• Derecognition vs. modification: whether the amended contract should be accounted for as a
modified, derecognised or ‘continuing’ financial instrument and any resulting effects on the effective
interest rate.
• Change in hedge documentation: whether amending hedge documentation to reflect RFR as the
new hedged risk would trigger discontinuation of hedge accounting and resulting effect.
• Non-FI-related implications: whether IBOR reform will impact areas such as lease accounting,
insurance, intangible assets, etc.
IFRS® Foundation
Dynamic Risk Management
12Dynamic Risk Management (DRM)
• Improve information regarding interest rate risk management and how interest rate risk management activities affect the entity’s current and future economic resources
Objective
• Recognition, measurement and presentation aspects of the core model tentatively agreed by the Board
Work completed
• July 2019 – Discuss operational simplifications, disclosure and demonstrate the completed core model
• 2nd Half 2019 – Outreach on core model
Next Steps
13Dynamic Risk Management (DRM)
At this juncture the Board has decided not to issue a formal due process document
Outreach will involve discussions with relevant stakeholders based on tentative decisions to date to obtain feedback on those decisions
The Board will consider the specifics of outreach in the coming months
Based on feedback received, the Board will determine next steps
Outreach
IFRS® Foundation
Financial Instruments with Characteristics of Equity
(FICE)
15FICE—Project Overview
• IAS 32 Financial Instruments: Presentation works well for most financial instruments, but presents challenges for some complex financial instruments
• limited information available to investors about equity instruments other than ordinary shares
• no clear rationale for classification
Problem identified
• articulate classification principles—clear rationale
• propose additional information through presentation and disclosure
Board’s proposals—Discussion Paper 2018
16
Financial Instruments with Characteristics of Equity–Feedback received
• Board’s proposals perceived as a fundamental change from IAS 32 for reasons including:
- use of new terminology that would require significant efforts to assess potential effects and to implement if they were to be finalised
- classification changes for particular types of financial instruments
• General support for:- retaining a binary distinction between liabilities and equity
- standard-setting to address known practice issues but mixed views on how
- disclosure proposals, with particular support from investors
• Concerns about the ‘amount feature’ used in the classification proposals and the attribution proposals for equity instruments
Key themes emerging from feedback received
17FICE—Timeline
June 2018
Discussion paper
published
March 2019
High level summary of
feedback received
Currently
Detailed analysis of feedback received
H2 2019
Decide project direction
IFRS® Foundation
Interpretations Committee activities
19
Recent agenda decisions that may be relevant to banking sector
Agenda decisions finalised in March
2019
Credit Enhancement in
the Measurement of ECL
(IFRS 9)
Curing of a credit
impaired financial asset
(IFRS 9)
Application of the Highly
Probable Requirement
(IFRS 9 and IAS 39)
Customer’s Right to
Receive Access to the
Supplier’s Software
Hosted on the Cloud
(IAS 38)
20Curing of a credit-impaired financial asset
A credit-impaired financial asset subsequently
cures (ie paid in full or no longer credit-impaired)
Interest
(GCA)
Interest
(Amortised
cost)
Difference
when
curing
Question
How should an entity present the difference?
Interest revenueReversal of
impairment lossor
Gross
Carrying
Amount
(GCA)
Expected
Credit
loss
(ECL)
Amortised
cost- =
For credit impaired
financial assets, interest
revenue is calculated on
the amortised cost.
Interest revenue calculated on
gross carrying amount.
21Presentation of interest revenue
IAS 1 requirement to present separately interest revenue
calculated using effective interest method
Assets measured at amortised cost
Assets measured at fair value through OCI
9
22Sufficient time for implementing agenda decision
Explanatory
material in agenda
decisions provide
new information
Entities may
determine they need
to change their
accounting policy
The Board expects companies to be entitled to sufficient
time to implement changes in accounting policy that result
from an agenda decision.
Board’s view
New information from agenda decisions
Some changes
require significant
time to implement
New rubric in
IFRIC update
How the Board and the Committee
are trying to help?
More information on our website:
ifrs.org
Feature: Agenda
Decisions- time is
of the essence
IFRS® Foundation
Primary Financial Statements
24Primary Financial Statements
Agenda Consultation
identified project as a priority
2015 Dec 2016
Board discussions on
topics in project scopePublish
Exposure DraftBoard decision
on project scope
Objective:
targeted improvements to the primary financial statements
with a focus on the structure of statement(s) of financial performance
2017–2019
25Stakeholder feedback and key tentative Board decisions
Introduce defined subtotals in
the statement(s) of financial
performance
Introduce requirements to
improve disaggregation
Introduce disclosure of
Management Performance
Measures
Preparers
Non-GAAP measures can provide
useful information, but transparency
needs to be improved
I need flexibility to tell my company’s
story
There is insufficient disaggregation in
financial statements
Statements of financial
performance are not sufficiently
comparable between different
companiesInvestors
Investors
Investors
26
PFS—introducing defined subtotals in P&L (example for general corporates)
26Revenue 16,500
Changes in inventories of finished goods and work in progress (1,000)
Raw material and consumables used (6,000)
Employee benefits expense (4,000)
Impairment of property, plant and equipment (500)
Depreciation expense (1,200)
Amortisation expense (800)
Operating profit 3,000
Share of profit of integral associates and JVs 500
Operating profit and share of profit or loss of integral associates and JVs 3,500
Changes in the fair value of financial assets 250
Dividend income 50
Share of profit of non-integral associates and JVs 100
Profit before financing and income tax 3,900
Interest income from cash and cash equivalents 100
Expenses from financing activities (1000)
Unwinding of discount on pension liabilities and provisions (100)
Profit before tax 2,900
Operating
Investing
Financing
27PFS—P&L classification for financial entities
Example: bank with multiple business
activities, including investing and customer
financing activities.
Extract from statement(s) of financial performance
Interest income* X
Interest expense (X)
Net interest income X
Fee and commission income X
Fee and commission expense (X)
Net fee and commission income X
Net trading income X
Net investment income X
Credit impairment losses (X)
Employee benefit expenses (X)
General and administrative expenses (X)
Operating profit X
Share of profit of integral associates and joint ventures X
Operating profit and share of profit of integral associates and JVs X
Share of profit of non-integral associates and joint ventures X
Unwinding of discount on pension liabilities (X)
Profit before tax X *Interest revenue calculated using the effective interest
method would be presented separately (IAS 1.82(a)(i))
all expenses from financing activities
in operating profit, rather than below
‘profit before financing and tax’
income (expenses) from investments
made in the course of the entity’s main
business activity are included in
operating profit.
entity does not present ‘profit before
financing and income tax’ subtotal
28
Disclosure in the notes of measures of profit not defined by IFRS Standards
Management performance measures (MPMs)
Same measure must be
used in public
communications with
users outside financial
statements
Accompanied by disclosures to enhance transparency, in a single note
—including a reconciliation of the MPM(s) to the most directly comparable subtotal
or total specified by IFRS Standards (see next slide)
In management’s view
complements IFRS-
defined totals or subtotals
in communicating an
entity’s performance
Must faithfully
represent the financial
performance of the
entity to the users
IFRS® Foundation
IFRS 17 Insurance Contracts
30Easing IFRS 17 implementation
Simplified balance sheet presentation
Allocation of acquisition costs
to expected contract renewals
Attribution of profit to service relating
to investment activities
Extension of risk mitigation option
Additional scope exclusions
Deferral of the effective date by
one year
Reduced accounting
mismatches for reinsurance
Additional transition reliefs
Business combinations
Risk mitigation—transition date
Risk mitigation—fair value approach
Loans
Credit cards
IFRS 17
IFRS 9
31Loans that transfer insurance risk
• A loan contract that transfers
significant insurance risk is an
insurance contract that contains both a
loan and an insurance component
• Applying IFRS 4 some entities
separate the loans in such contracts
and apply IFRS 9 to those loans
• IFRS 17 does not permit the
continuation of this practice
• Entities need to apply IFRS 17 to the
loan contract in its entirety
• An entity would be permitted to apply
either IFRS 17 or IFRS 9 to ‘insurance
contracts that provide insurance
coverage only for the settlement of the
policyholder’s obligation created by the
contract’
• The choice would be made portfolio by
portfolio, using the IFRS 17 definition
of a portfolio
Concerns and implementation
challenges expressedIASB’s response
Proposal in the forthcoming
Exposure Draft
32Credit cards that provide insurance
• Some credit card contracts provide
insurance coverage—for purchases
made using the credit card—for free or
for a fixed fee
• Entities that today account for those
credit card contracts applying IFRS 9
would need to change the accounting
when IFRS 17 is effective, shortly after
having incurred costs to comply with
IFRS 9
• An entity would not apply IFRS 17 to
credit card contracts for which the fee
charged to the customer does not
reflect an assessment of the insurance
risk associated with that individual
customer
• The entity would apply other relevant
IFRS Standards (eg IFRS 9, IFRS 15
or IAS 37)
Concerns and implementation
challenges expressedIASB’s response
Proposal in the forthcoming
Exposure Draft
33Timeline
May 2017
IFRS 17
issued
Mid-2019
Expected
Exposure Draft of
proposed
amendments to
IFRS 17
January
2022
IFRS 17 is
effective
Mid-2020
Expected
finalisation of
amendments to
IFRS 17
Nov 2018-
April 2019
Board decided to
amend IFRS 17
to aid
implementation
Get involved
@IFRSFoundation
IFRS Foundation
International Accounting Standards Board
IFRS Foundation
IFRS Foundation
Join our team: go.ifrs.org/careers
Find out more: www.ifrs.org
Follow us:
34
EY European IFRS banking conference
Challenges related to Interbank offer rates (IBOR)
Tony CliffordPartner, Ernst & Young LLP
Fiona ThomsonManaging Director,International Head of Accounting Policy, Goldman Sachs International
Page 35
LIBOR and its impact, by the numbers
SOURCE: ISDA, “IBOR Global Benchmark Survey 2018 Transition Roadmap” (data as of 2014)
benchmark tenor most widely referenced, by volume
3m
year after which the FCA will no longer compel panel banks to submit to LIBOR
2021year LIBOR was introduced
1986
total outstanding notional of USD LIBOR and EURIBOR exposures ($150T for each rate) globally
$300Ttotal outstanding notional of IBOR exposures across markets and currencies
$370TNotional Interest Rate Derivatives trading volume linked to LIBOR in 2018
$150T
portion of syndicated loans in the US market (~$3.4T in outstanding volumes) that reference USD LIBOR
97%Time (GMT) at which LIBOR is normally published for each currency and tenor combination on every business day
11:55am
LIBOR TRANSITION OVERVIEW
LIBOR is expected to be phased out over the next 2-3 years
▪ Despite recent efforts to reform existing LIBOR benchmarks, international regulatory bodies are promoting new interest rate benchmarks (i.e. Alternative Risk Free Rates), due to a number of factors:
– Limitations in the relevance of LIBOR as a benchmark rate (e.g., it is based on expert judgment rather than actual transactions)
– Questions around the sustainability and stability of LIBOR in stressed market conditions, given the lack of an active and highly liquid underlying market
– Instances of LIBOR manipulation in the 2008 financial crisis and the 2012 LIBOR scandal
▪ As announced in July 2017 by Andrew Bailey, Chief Executive of the UK Financial Conduct Authority (FCA), banks will no longer be compelled to submit rates that are currently used to calculate LIBOR after year-end 2021
▪ In July 2018, Andrew Bailey further reiterated the likelihood of LIBOR discontinuation and the need for market preparedness for the transition
▪ Additionally, several regulators across the globe have continued to state the importance of the transition
LIBOR TRANSITION OVERVIEW
SOURCE: FCA, “The future of LIBOR,” speech by Andrew Bailey at Bloomberg London, 27 July 2017 (https://www.fca.org.uk/news/speeches/the-future-of-libor); FCA, “Interest rate benchmark reform: transition to a world without LIBOR,” speech by Andrew Bailey, 12 July 2018 (https://www.fca.org.uk/news/speeches/interest-rate-benchmark-reform-transition-world-without-libor)
“Let me immediately remind firms of their responsibility […] It is therefore an imperative that we take preparations for 2021 seriously.”
Megan Butler, Executive Director of Supervision –Investment, Wholesale and Specialists at the FCA
“Every firm that has exposure to LIBOR needs to prepare now for the risk—indeed, the likelihood—that LIBOR will cease in the near future.”Michael Held, Executive Vice President and General Counsel,
Federal Reserve Bank of New York
The identified Alternative Risk-free Rates (RFRs)
CharacteristicsJurisdiction Working Group Alternative RFR
Rate administration
Secured vs. Unsecured First publication
UKWorking Group on Sterling Risk-Free Reference Rates
Reformed Sterling Overnight Index Average (SONIA)
Bank of England Unsecured 23 April 2018
USAlternative Reference Rates Committee
Secured Overnight Financing Rate (SOFR)
Federal Reserve Bank of New York
Secured 3 April 2018
Europe Working Group on Risk-Free Reference Rates for the Euro Area
Euro Short-Term Rate (€STR)
European Central Bank
Unsecured Anticipated October 2019
SwitzerlandThe National Working Group on CHF Reference Rates
Swiss Average Rate Overnight (SARON)
SIX Swiss Exchange Secured Already published prior to 2018
JapanStudy Group on Risk-Free Reference Rates
Tokyo Overnight Average Rate (TONAR)
Bank of Japan Unsecured Already published prior to 2018
LIBOR TRANSITION OVERVIEW
SOURCE: ISDA, “IBOR Global Transition Roadmap,” 1 February 2018 (https://www.isda.org/a/g2hEE/IBOR-Global-Transition-Roadmap-2018.pdf)
Section
1 Overview of Exposure Draft proposals
2 Initial views on Exposure Draft
3 Phase two issue to be addressed
Contents
EY European IFRS banking conferencePage 39
Assume that the interest rate is not altered as a result of IBOR reform, so forecast cash flows remain highly probable
Assume that the interest rate is not altered as a result of IBOR reform, so amounts can remain deferred
Assume that the interest rate on which hedged cash flows (contractual or non-contractually specified) are based are not altered as a result of IBOR reform
Overview of phase one Exposure Draft proposals one
EY European IFRS banking conferencePage 40
All hedging relationships of interest rate risk that are affected by interest rate benchmark reform
Highly probable requirement for cash flow hedges (CFH)
2
Reclassification of the amount in the CFH reserve to profit and loss (P&L)
3
Assessment of effectiveness and economic relationship
4
Proposal Description
Scope of relief1
Earlier of when the uncertainty ends, the hedging relationship is discontinued, the entire amount accumulated in CFH reserve is recycled, cash flow uncertainty is no longer present
1 January 2020, earlier application permitted, applies retrospectively
Overview of phase one Exposure Draft proposals one (cont’d)
EY European IFRS banking conference
Requirement that the hedged risk is separately identifiable and applied only at the inception of the hedging relationship
End of application6
Effective date7
Comment letter period closes on 17 June 2019, so respondents need to formulate their views quickly.
Proposal Description
Designation of a component of an item as a hedged item
5
Page 41
Initial views on Exposure Draft (ED)
EY European IFRS banking conferencePage 42
The ED provides workable solutions to phase one issues, but some of the drafting needs to be clarified.
Guidance could be clearerDesignating a component
2
Proposal Comments
Include cross-currency swaps in scope of reliefScope of relief1
For portfolio hedges, clarify when relief would end
Does uncertainty end only when the spread over risk free rates is set?
Drafting not clear
Relief needed from IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors
Initial views on Exposure Draft (cont’d)
EY European IFRS banking conferencePage 43
Consider requesting relief from 80-125 test during transition, including when hedging instrument is amended before hedged item
Clarify examples of timing difference Basis for Conclusions (BC) 40, BC41
End of relief5
Retrospective application
6
Disclosure7
Proposal Comments
Risk of failing effectiveness test
4
Phase two issues to be addressed
EY European IFRS banking conferencePage 44
Issue Description
How (and when) to recognize the differenceFair value (FV) hedge valuation difference
3
Have to apply the 10% test? Is it a substantive amendment? Modification or derecognition
4
When to release and how
Impact of transition to RFRs on hedge designation
Release of CFH reserve2
Hedge de andre-designation
1
Whether to recognize as change to EIR or continue to use original EIREffective interest rate (EIR)
5
Leases, insurance, first-time adoption, small and medium enterprises (SMEs)
Other interactions6
A global implementation programme:what’s involved?
The role of the Finance function
EY European IFRS banking conference
IFRS 9What did banks disclose?
Laure Guegan Partner, Ernst & Young et Associés
Tony Clifford
Fabio FabianiPartners, Ernst & Young LLP
Page 47
IFRS 9 Financial Instruments: what did banks disclose?
► What do IFRS 9 disclosures tell us?
► An analysis of a sample of 18 European banks
► A focus on UK banks: have more detailed disclosures improved comparability?
► Insight from the Taskforce on Disclosures about Expected Credit Losses (DECL)
EY European IFRS banking conferencePage 48
What do IFRS 9 disclosures tell us?
EY European IFRS banking conference
► The (complex) IFRS 9 story
► IFRS 7 Financial Instruments: Disclosures requires some disclosures by class of financial instruments (movement table, maximum exposure and collateral)
► For the rest, an entity shall consider how much detail to disclose, how much emphasis to place on different aspects of the disclosure requirements, the appropriate level of aggregation or disaggregation, and whether users of financial statements need additional explanations to evaluate the quantitative information disclosed (IFRS 7 Financial Instruments: Disclosures, § 35D)
Page 49
CoverageStage
allocationStage credit
qualityForwardlooking
Movements and trends
Expectedcredit loss
(ECL)
1 2 3 4 5 6
Can we make sense of the full picture?
EY European IFRS banking conferencePage 50
SICR: Significant Increase in Credit Risk PD: Probability of DefaultPOCI: Purchased or Originated Credit Impaired LGD: Loss Given DefaultEAD: Exposure at Default
CoverageStage
allocation
Stage credit quality
Forwardlooking
Movements and trends
ECL
1 2 3 4 5 6
Practice-based differences
Scenarios,Weights,Overlays
SICR, modelsWrite-off,
forward-looking
IFRS 9 application
Models: PD, LGD, EAD,
Life
SICR triggers, Default, PD models,
Write-off, POCI
Can we make sense of the full picture?
Risk-based differences
PD bandsDelinquency
Loan to value
Customers, products, geographies, business
segments
Sensitivity to economic
factors
Changes in risk,new loans, disposals
Business mixGrowth
Risk-management
EY European IFRS banking conferencePage 51
CoverageStage
allocation
Stage credit quality
Forwardlooking
Movements and trends
ECL
1 2 3 4 5 6
Practice-based differences
Scenarios,Weights,Overlays
SICR, modelsWrite-off,
forward-looking
IFRS 9 application
Models: PD, LGD, EAD,
Life
SICR triggers, Default, PD models,
Write-off, POCI
How do stage allocation and coverage ratios compare?
EY European IFRS banking conferencePage 52
0.8%
0.6%
2.0%
1.5%
1.1%
1.9%
2.8%
1.5%1.6%
4.3%
4.4%
2.6%
3.2%
0.7%0.8%
0.2%
0.6% 0.8%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
-
200
400
600
800
1,000
UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3 FR 4 IT 1 IT 2 SP 1 SP 2 NL 1 NL 2 CH 1 DE 1 DE 2
Loans to customers : stage allocation and total coverage ratio
Stage 1 Stage 2 Stage 3 Total coverage ratio
USD GBP GBP USD GBP EUR EUR EUR EUR EUR EUR EUR EUR EUR EUR USD EUR EUR
Based on public information (2018 Annual reports)
The scope may differ for some banks
Billions (in ReportingCurrency)
Exposure Coverageratios
How do stage allocation and coverage ratios compare?
EY European IFRS banking conferencePage 53
Source: Based on public information (2018 Annual reports)
The scope may differ for some banks
6%5%
13%
6%
8%8%
10%
5%
9%
7%
10%
6%
8%
6%
5%
4%
5%
4%
1% 1%
3%
2%
2%3%
4%
3%
3%
6%
7%
4%
4%
2%2%
1%
1%
1%
0%
10%
20%
30%
40%
50%
60%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3 FR 4 IT 1 IT 2 SP 1 SP 2 NL 1 NL 2 CH 1 D 1 D 2
Stage 2 and 3 proportions and coverage ratios
Stage 2% in total exposure Stage 3% in total exposure Coverage rate stage 2 Coverage rate stage 3
Are we comparing apples and oranges?
► Outside the UK, banks rarely show stage 1 and 2 allocation at a detailed level
► Retail and non-retail seems a basic split, yet only half of the banks provide it
► Further detail on customers or products is rare and heterogeneous
► A few banks also allocate exposures by countries and regions or business segments
► ECL is not always provided with the same level of detail
► Scope of instruments varies (measurement categories and on / off balance-sheet)
► Many disclosures on credit risk without stage 1 and 2 split
EY European IFRS banking conferencePage 54
How detailed are banks on stage 1 and 2 allocation?
UK Bank 1
Source: Based on public information (2018 Annual reports)
Non-retail
Retail
Retail
Non-retail
Commercial real estate
Residential mortgages
Business segments
First lien residential mortgages
Interest only
Affordability
Credit cards
Second lien residential mortgages
Motor vehicle
Other
Country or region
Stage 1and 2 split only available for
loans to customers
Loans to customers
Corp or non-bank Financial Institutions (FI)
Industries
Geographies
Renegotiated
EY European IFRS banking conferencePage 55
How detailed are banks on stage one and two allocation?
EY European IFRS banking conferencePage 56
Comparison of banks on 4 axis: retail, non-retail, geographies, business segments
Based on public information (2018 Annual reports)
UK 1 UK 2 UK 3 UK 4 UK 5
The rest of the sample show Stage 1 / 2 split at the level of « loans to customers » only
FR 1 FR 3 SP 1 NL 2 CH 1 DE 1
Can we compare the credit quality of stage 1 and 2? Credit risk rating grades
► All banks provide an analysis of stage 1 and 2 by PD bands or risk rating ranges
► However, the formats vary significantly:
► Number and size of PD bands (from three to eight)
► Use of rating bands is difficult to compare with PD bands
► Products are rarely differentiated
► ECL or coverage ratio is rarely provided
► Can we compare stage allocation for a given PD band?
► Can we compare average or median PD of stage 1 and stage 2?
EY European IFRS banking conferencePage 57
Can we compare stage 1 and 2 allocation for a given PD band?
Page 58 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
PD bands varyand do not allow comparisons of stage allocation for a given PD range.
Total loans
Retail / Non Retail
Products
GranularityPD % UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3 IT 1 SP 2 NL 1 NL 2 CH 1 D 1 D 2
0,01 0,01 0,00 0,01
0,02 0,02 0,02 0,02
0,03 0,02
0,04 0,04 0,03 0,04
0,05 0,05 0,05
0,07
0,08 0,08
0,10 0,10
0,15 0,12 0,11 0,11 0,13 0,12 0,11
0,20
0,25 0,25
0,30 0,30
0,40 0,38 0,39 0,37
0,50 0,50 0,43 0,50 0,48 0,46 0,5 0,50
0,60 0,60 0,58
0,70 0,68
1,00
2,00 1,50 2,00 2,16 1,37 1,94 1,77
3,00 2,35 2,22 2,10 2,27
4,00 3,22 3,10
5,00 5,00 4,50
6,00
7,00
8,00 8,60 7,93 7,57
10,00 9,35
11,00 10,61 10,22
12,00 11,35 11,67
16,00 14,00 15,75
17,00 17,22
18,00 17,80
20,00 20,00 20,00 20,00 19,97
21,00 20,67 20,20
22,00 21,81 21,21
30,00 29,58
50,00
100
Can we compare median PD of stage 1 and 2?
Page 59 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
Stage 1median PD
Stage 2median PD
PD % UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3 IT 1 SP 2 NL 1 NL 2 CH 1 D 1 D 2
0,01 0,01 0,00 0,01
0,02 0,02 0,02 0,02
0,03 0,02
0,04 0,04 0,03 0,04
0,05 0,05 0,05
0,07
0,08 0,08
0,10 0,10
0,15 0,12 0,11 0,11 0,13 0,12 0,11
0,20
0,25 0,25
0,30 0,30
0,40 0,38 0,39 0,37
0,50 0,50 0,43 0,50 0,48 0,46 0,5 0,50
0,60 0,60 0,58
0,70 0,68
1,00
2,00 1,50 2,00 2,16 1,37 1,94 1,77
3,00 2,35 2,22 2,10 2,27
4,00 3,22 3,10
5,00 5,00 4,50
6,00
7,00
8,00 8,60 7,93 7,57
10,00 9,35
11,00 10,61 10,22
12,00 11,35 11,67
16,00 14,00 15,75
17,00 17,22
18,00 17,80
20,00 20,00 20,00 20,00 19,97
21,00 20,67 20,20
22,00 21,81 21,21
30,00 29,58
50,00
100
0.3
2.9
6.7
1.8
4
0.36
4.1
0.3
0.3
6.4
1.4
0.08
0.2
5.3
0.2
7.1
0.33
6.1
0.11
0.4
8.6
0.45
5.5
0.33
1.65
0.37
6.39
2.3
0.34
4.3
Can we compare the credit quality of stage 2 assets? Delinquency status
Page 60
DPD status of stage 2 exposures (in % of total stage 2)
EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
R: Retail / NR: Non-Retail
0%
5%
10%
15%
20%
25%
30%
35%
UK Bank 1 R NR UK Bank 2 R NR UK Bank 3 R NR UK Bank 4 R NR UK Bank 5 R NR French B 1 R NR Spanish B 2 Italian B 1 Italian B 2
dd > 90 days 30 < dd ≤ 90 days dd ≤ 30 days Not past due
UK Bank 1
Can we compare the credit quality of stage 2 across banks? Overview of credit quality disclosures
EY European IFRS banking conferencePage 61
PD bands andrating grades
ECL
CorporateNon-bank First lien Other personal
Commercial real estateOther corporateResidential mortgageThree regions for each
Delinquency
Non-retail products
Retail products
Geographies
Business segments
PD bands
Delinquency
Loan to value
35 cuts
Loan to value
PersonalCorporate, Non-bank FI
ECL provided for loans to customers
(x 8 PD bands)
Source: Based on public information (2018 Annual reports)
Can we compare the credit quality of stage one and two? Overview of credit quality disclosures
Comparison of banks on the four axis: retail, non-retail, geographies, business segments
EY European IFRS banking conferencePage 62
Source: Based on public information (2018 Annual reports)
Comparison of banks on the 4 axis: ECL, PD bands, delinquency, Loan to Value
UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3
IT 1 IT 2 SP 2 NL 1 NL 2 CH 1 DE 1 DE 2
What did movements over 2018 look like ?
EY European IFRS banking conferencePage 63
Coverageratios
Exposure
Source: Based on public information (2018 Annual reports)
0%
1%
2%
3%
4%
5%
6%
7%
-
200
400
600
800
1,000
1,200
UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3 FR 4 IT 1 IT 2 SP 1 NL 1 NL 2 CH 1 DE 1 DE 2
Changes in size of loan book and total coverage ratio in 2018
Exposure Jan 2018 Exposure Dec 2018 Total coverage Jan 2018 Total coverage Dec 2018
Billions(in ReportingCurrency)
USD GBP GBP USD GBP EUR EUR EUR EUR EUR EUR EUR EUR EUR USD EUR EUR
What did movements over 2018 look like? (cont’d)
EY European IFRS banking conferencePage 64
Source: Based on public information (2018 Annual reports)
7%
6%
8%
5%
15%
13%
7%
6%
8% 8%
6%
8%
11%10%
5% 5%
11%
9% 9%
7%
11%
10%
7%
6%7%
6%
5%5%
5%
4%4%
5%
4% 4%
1%
1%
1%
1%
3%
3%
3%
2%
4%
2%
3%
3%
4%
4%
4%
3%
3%
3%
8%
6%
10%
7%
4%
4%
2%2% 2%
2%
1%
1%
1% 1%
0%
5%
10%
15%
20%
Allocation of Exposures in Stage two and three in January and December 2018
% of exposures in stage 2
% of exposures in stage 3
Page 65
ECL movement table
► Diversity in line items description and granularity
► Many banks don’t disclose the movements in gross carrying amounts (8/18)
► Stage movements
EY European IFRS banking conference
6 lines (or 3 lines and 3 columns)
Stage 1 to 2
Stage 1 to 3
Stage 2 to 1
Stage 3 to 1
Stage 2 to 3
Stage 3 to 2
3 lines
Net transfers in Stage 1 (from / to Stage 2/3)
Net transfers in Stage 2 (from / to Stage 1/3)
Net transfers in Stage 3 (from / to Stage 1/2)4
0
1
1
4
4
5
2
3
1
4
2
5
2
9
13
ECL transfers (P/L neutral)
ECL only
Carrying Amount + ECL
Net transfers
Carrying amount only
ECL only
Carrying amount + ECL
Gross transfers
Total sample of banks
UK Other
Page 66
Stage movements reflects the sensitivity of SICR triggers
Migration of loans gross exposure in 2018
EY European IFRS banking conference
For two banks information includes debt securities and bonds.
Stage 1(91.9%)
Stage 2(6.7%)
Stage 3(1.4%)
3.1%
8.8%
5.2%
63%5.7%
0.2%
UK banks (4)
Europeanbanks (4) Stage 1
(85.7%)Stage 2(8.4%)
Stage 3(5.9%)
1.6%
4.6%
8.8%
39.3%
4.9%
0.4%
► Over 60% of stage 2 healed to stage 1, 5.2% entered stage 3.
► Over 11% of the value of stage 3 cured.
► 40% of stage 2 healed to stage one, 8.8% entered stage three.
► Only 6% of the value of stage 3 cured.
Source: Based on public information (2018 Annual reports)
0.2%
UK
banks (4)
Can we assess the effect of banks’ SICR triggers?
EY European IFRS banking conferencePage 67
► Information is mainly qualitative
► PD thresholds are rarely quantified and difficult to compare
► Banks don’t provide sensitivity analysis for SICR thresholds
Qualitative triggers
DPD
Forbearance
Watchlist
Bureau or external rating
Monitoring processes
4
5
6
6
2
5
7
12
Qualified PD threshold…
Qualified rating denotching
Use of lifetime PD threshold
Use of 12m PD threshold
All Banks in population
PD Thresholds
UK Non-UK
(PD x X or PD + Y)
Can we assess the effect of banks’ SICR triggers?
► Two UK banks split stage 2 based on SICR triggers
69%
30%
1%
UK Bank 3 – stage 2 decomposition by SICR triggers
quantitative test qualitative test 30 DPD backstop
48%
15%
21%
1%
2% 2%11%
UK Bank 5 - Stage 2 decompositionby SICR triggers (retail)
PD movement PD persistence
Event - Adverse credit bureau Event - Forbearance
Event - Customers in collection DPD > 30
Other
EY European IFRS banking conferencePage 68
Source: Based on public information (2018 Annual reports)
ECL movement table – other movements
Page 69 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
Gd Bk UK 1 UK 2 UK 3 UK 4 UK 5 FR 1 FR 2 FR 3 FR 4 IT 1 IT 2 SP 1 SP 2 NED 1 NED 2 SW 1 GER 1 GER 2
Change of risk inputs X X X X X X X X X X X X X X
New loans X X X X X x X X X X X X
Repayments X X
Disposals X X X X
Write-offs X X X X X X X X X X X X X X X X
Modifications X X X X X X
Changes in models X X X X X X X X X X
Unwind of discount X X X
FX movements X X X X
Others (*) X X X X X X X X X X X X X X X X X X
XX X X
X xX
XX
X
X X X XX X X
► Diversity in line items description and granularity
► Limited explanations
► Portfolios with material movements
► Interaction with the charge to the income statement
► Disposals / write-off (business as usual vs. « one off »)
Forward-looking modeling: how much did banks disclose?
Page 70
6
5
6
5
5
6
3
2
3
3
8
12
0 2 4 6 8 10 12 14 16 18
Sensitivity analysis
More than 10parameters
Macroeconomicparameters
Scenario weights
Number of scenarios
Total sample of banks
Forward-looking disclosures
UK Non-UK
EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
Conclusion
► Understanding and comparing stories is challenging
► Key metrics are still to be defined
► Analytics are out of reach
► Improved and homogeneous granularity is a priority
► Retail / non-retail at a minimum
► Country / product for significant porfolios
► More harmonized formats would improve clarity and comparability
► Scope of instruments
► Organization of the disclosures
► Terminology
Page 71 EY European IFRS banking conference
IFRS 9 disclosures
The UK perspective
Overview of the UK Retail portfolios
2.7%
0.7% 0.5% 1.0%0.3% 0.2% 0.2%
0.5%
8.6%
2.4% 2.4%
6.9%
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
9.0%
10.0%
Barclays HSBC Lloyds RBS
UK Retail lending coverage ratios
Total Retail Mortgage lending Other retail
Page 73 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
UK Bank 5UK Bank 3 UK Bank 1 UK Bank 2
Focus on UK mortgages
1.00%
12.10%
4.70%
9.20%
7.10%
0.80%1.60% 0.50% 1.70% 2.20%
5.30%
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
HSBC Barclays LloydsStatutory
LloydsUnderlying
RBS
UK mortgage portfolio
Stage 2 Stage 3 POCI
% of portfolio
Page 74 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
1.7%0.5%
1.3%
2.7% 2.2%
0.5%
11%
14.2%14.7%
18.2%
8.5%
Coverage
UK Bank 5UK Bank 3 UK Bank 1 UK Bank 2 – Statutory
UK Bank 2 – Other
UK Bank 2 – Underlying
A UK perspective : forward-looking assumptions
Upside 2 Upside 1 BaseDown-side 1
Down-side 2
Down-side 3
Overlay
UK Bank 1 — 10% 50% 30% 5% 5% $410mn
UK Bank 2 — 30% 30% 30% 10% — N/A
UK Bank 3 9% 24% 41% 23% 3% — £150mn
UK Bank 5 12.8% 17% 30% 25.6% 14.6% — £101mn
UK bank 6 5% 15% 40% 30% 10% — N/A
UK bank 4Simple average across 50 scenarios modelled under Monte Carlo
simulation
Page 75 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
One bank model the wholesale portfolio using a Monte Carlo simulation
A UK perspective: forward-looking assumptions
Page 76 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
UK 6
UK 5
UK 1
UK 2
UK 3
UK 6
UK 5
UK 1
UK 2
UK 3
UK 6
UK 5
UK 1
UK 2
UK 6
UK 5
UK 2
UK 1
A UK perspective: forward-looking assumptions and ECL build
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Barclays - Mortgages Barclays - Other HSBC - UK Lloyds - Mortgages Lloyds - Other
Forward-looking – ECL build
Base case Effect of MES Overlays Other
Page 77 EY European IFRS banking conference
Source: Based on public information (2018 Annual reports)
UK Bank 3 — mortgages UK Bank 3 — other UK Bank 1 — other UK Bank 2 — mortgages UK Bank 2 — other
(MES: Multiple economic scenarios)
EY European IFRS banking conferencePage 78
Finance function of the future
Francois Rossouw Director, Ernst & Young LLP
Ladislas Tyl Partner, Ernst & Young et Associés
The ‘new normal’ has changed
EY European IFRS banking conference
Stakeholders
Forward looking Non-financial information
Trusted
Location
Skills
Technology
Chief Value Officer
Compliance
Cognition
Control
CostReal-time
Self service
Future workforce
Outsource
Automation
Finance function of the future EMEA CFO survey 2019
Page 79
Driving transformation
EY European IFRS banking conferencePage 80
People and talent management
Increase finance function’s attractiveness, new ways ofworking and transform the finance team profile
Invest time and budgetin IT integration andnew technologies
Build new services tocreate alternative revenue streams andoffset costs
Make the CFO roleevolve as a businesspartner and designnew missions
Foster better use of data to amplify the strategist and catalyst roles of finance
Scale the finance organization, converge with risk and setup strategic partnership
Digital andIT revolution
New services
Businesspartner
Data
1
2
3
4
5
6Real-time
AutomatedStraight-through
Advanced analysis
Forward looking
Predictive
Self serviceBehaviour based
Efficient
Upgradingoperating model
1 How well equipped is your finance function to deliver against the organizational strategic priorities?
Driving revenue growth
Implementing organizational transformation
Driving cost
efficiency
Efficient management
of capital
Risk management
Regulatory changes
Organization priority
Low
Fin
an
ce
fu
ncti
on
ab
ilit
y
High
Medium
Low
What changes to the industry will have the largest impact on your finance function?
2
10%
50%
20%
50%
78%
30%
30%
80%
40%
11%
60%
20%
0%
10%
11%
0% 20% 40% 60% 80% 100%
Refining / changing theBusiness Model
Rapid development of newproducts
Products that leveragedynamic real time data about
clients / customers
Regulator demand for moretimely and comprehensive
data
Introduction of newtechnologies
Low Medium High
A change in focus
EY European IFRS banking conferencePage 81
Medium High
Refining or changing the business model
Products that leverage dynamic real-time data about
clients or customers
Source: Finance function of the future EMEA CFO survey 2019
4What are the top three ways your finance function provides value to your organization’s end customers or clients?
Looking ahead five years from now, what finance capabilities will be critical to meeting the demands of your organization
Improve regulator
relationships
3 1
Reduce the cost of business
Produce scenario and profitability
analysis
2
0 2 4 6 8 10
Investor relations
Agile implementatuion ofregulatory changes
Corporate reporting
Strategic risk management
Incorporating non-financial data
An agile Finance Function able torespond to business
Sophisticated planning andforecasting
Big Data and advanced analytics
A shift in capabilities
EY European IFRS banking conference
3
Page 82
Big data and advanced analytics
An agile finance function able to respond to business
Source: Finance function of the future EMEA CFO survey 2019
Regulatory change focused
EY European IFRS banking conferencePage 83
65
Less Same More
Strategy development and strategic decision making
Reporting of financial data
Providing financial analysis and insights
Reporting of non-financial data
Monitoring and risk-assessment of the financial reporting control environment
Implementing strategic initiatives
Implementing regulatory and accounting change
People management
What are your top operational risks within the finance function and how do these impact the organization as a whole?
Time spent relative to five years ago
Manual processes and controls
Poor technology and infrastructure
Key person dependencies
Data qualityMulti-location of finance function
Source: Finance function of the future EMEA CFO survey 2019
Regulatory reporting focused
EY European IFRS banking conference
65 What are your top three operational risks within the finance function and how do these impact the organization as a whole?
Currently spend enough time
Manual processes and controls
Poor technology and infrastructure
Key person dependencies
Data qualityMulti-location of finance function
Too little Enough Too much
Strategy development and strategic decision making
Reporting of financial data
Providing financial analysis and insights
Reporting of non-financial data
Monitoring and risk-assessment of the financial reporting control environment
Implementing strategic initiatives
Implementing regulatory and accounting change
People management
Page 84
Source: Finance function of the future EMEA CFO survey 2019
Shifting towards strategy and insight
EY European IFRS banking conferencePage 85
65 What are your top three operational risks within the finance function and how do these impact the organization as a whole?
Time spent in five years relative to today
Manual processes and controls
Poor technology and infrastructure
Key person dependencies
Data qualityMulti-location of finance function
Less Same More
Strategy development and strategic decision making
Reporting of financial data
Providing financial analysis and insights
Reporting of non-financial data
Monitoring and risk-assessment of the financial reporting control environment
Implementing strategic initiatives
Implementing regulatory and accounting change
People management
Source: Finance function of the future EMEA CFO survey 2019
Overcoming barriers
EY European IFRS banking conference
What are the barriers to transforming your finance function?
Do you have the right finance capabilities?
Legacy technology and
systems complexity
Investment required
Finance skills
Skills shortage
Other priorities
Capacity to change
Disagree Neutral Agree
Right mix of capabilities to meet the demands of our future strategic priorities
Access and ownership of the right technology, systems and or data analytics to meet the demands of our future strategic priorities
Ownership or access to the right quality of data in a timely manner to meet the demands of our future strategic priorities
Capacity or capability to meet the data demands of regulators
Page 86
87
Source: Finance function of the future EMEA CFO survey 2019
Enabled by technology
EY European IFRS banking conference
Blockchain
Robotic Process Automation
Rationalisation of Regulatory Reporting systems
Implementing new / uprgading existing ERP systems
Artificial Intelligence (including machine learning)
Cloud and SaaS
Big data technologies
Advanced Data Analytics and Forecasting
Least
How critical are the following to enable your future finance function?
Most
Page 87
9
Robotic process automation (RPA)
Advanced data analytics and forecasting
Cloud and Software as a Service (SaaS)
Artificial intelligence (including machine learning)
Implementing new or enterprise resource planning (ERP) systems
Rationalization of regulatory reporting systems
Source: Finance function of the future EMEA CFO survey 2019
Enabled by technology (cont’d)
EY European IFRS banking conference
Blockchain
Robotic Process Automation
Rationalisation of Regulatory Reporting systems
Implementing new / uprgading existing ERP systems
Artificial Intelligence (including machine learning)
Cloud and SaaS
Big data technologies
Advanced Data Analytics and Forecasting
Least
How critical are the following to enable your future finance function?
Most
No
a
cti
vit
y
Inve
stig
ati
ng
No
t p
rog
ress
ing
Imp
lem
en
tati
on
Bu
sin
ess
as
usu
al (B
AU
)
Page 88
9
RPA
Advanced data analytics and forecasting
Cloud and SaaS
Artificial intelligence (including machine learning)
Implementing new or enterprise resource planning (ERP) systems
Rationalization of regulatory reporting systems
Source: Finance function of the future EMEA CFO survey 2019
Transforming skills
EY European IFRS banking conferencePage 89
Low High
Improving ability to manage offshoring, shared services andoutsourcing
Developing deep technical skills in key areas of risk, such asregulatory and cyber
Improving digital technology skills in areas such as RPA,Cloud and SaaS
Improving regulatory knowledge to keep abreast of anuncertain and changing environment
Building understanding of ethical decision-making in support of your organisation’s purpose and reputation
Developing a wider Finance Function leadership team toassume delegated CFO responsibilities
Building skills in predictive and prescriptive analytics
Improving commercial knowledge and understanding tobetter partner with the Business
Challenge in attracting and retaining talent
Banking experience
Technology and
analytics skills
RewardRegulatory knowledge
Looking ahead five years from now, how important will the following people and skills initiatives be for your finance function?
Finance skills
Career paths
1110
Improving digital technology skills in areas such as RPA, cloud and SaaS
Developing a wider finance function leadership team to assume delegated CFO responsibilities
Improving commercial knowledge and understanding to better partner with the business
Source: Finance function of the future EMEA CFO survey 2019
Supervisory Update
EY’s European IFRS banking conference, 7 June 2019
Nic van der Ende
(views expressed here may not necessarily reflect those of De Nederlandsche Bank, EBA, ECB, BCBS or BIS)
Agenda
• Experiences with ECL over 2018
• EBA’s Priorities 2019 Accounting
• Prudential topics related to provisions
• Other prudential topics
91
Experiences with ECL over 2018
Coverage ratio by non-impaired / impaired
92
Average
impaired
Average non-
impaired
France 55% 0,46%
UK 33% 0,50%
Canada 28% 0,43%
Experiences with ECL over 2018
Total coverage ratio
93
Range from Range to
France 1,6% 2,9%
UK 0,3% 2,0%
Canada 4,8% 10,3%
Experiences with ECL over 2018
• Residual shortfall as per 1 January 2018
94
Experiences with ECL over 2018
Canada: Lacks probability weights No disclosure of probability weights
Inconsistent approach to calculating ECL sensitivity to FLI.
France: Lack of available data
No link between qualitative and quantitative information, no explanation between stage 3 exposures/Stage 3 coverage ratio and write off policies
No impact on the sensitivity of ECL to FLI
No link between SICR criteria or coverage ratio and credit risk analysis, no explanations on movements of the period
FR banks don’t disclose in their FS granular breakdowns of exposures (by portfolios, rating grades or geographical area) except one.
2 FR banks out of 4 have adjusted their Pillar 3 report following the implementation of IFRS 9
UK: Lack of consistency Inconsistency of disclosure across banks
Challenging to compare inputs for MES
95
EBA’s priorities 2019 Accounting
• IFRS9:
• Monitoring implementation IFRS9 (including qualitative aspects)
• Monitoring use of IFRS9 transitional arrangements
• Monitoring quantitative impact of ECL through indicators
• Monitoring effects for EBAs GL CRAECL
• Interaction ECL with prudential requirements
• Accounting standard setting projects
• Dynamic risk management (core model)
• IBOR
• FICE
• Regulatory products & advise to the EC
• IFRS9 benchmarking exercise
96
Prudential topics related to provisions
Regulatory treatment of ECL
Extant situation maintains (IRB: excess/shortfall, SA: specific/general)
Collecting data for longer term analysis
Massive disposal of NPLs (article 500 CRR2)
If disposal is >20% of portfolio
Then disregard loss on disposal when assessing LGD
Prudential backstop (article 47a, 47b, 47c CRR2)
Into force as of 26 April 2019
Forward looking
Calender for unsecured and secured loans (see next slide)
Formula:
prud minimum -/- acc prov -/- IRB shortfall -/- POCI prov -/- ‘write-off’ prov
8
Calender minimum loss coverage
Calender Unsecured CRR Unsecured SSM Secured
immovable CRR
Secured
movable CRR
Secured SSM
Year 1 0 0 0
Year 2 0 0 0
Year 3 35% 100% 25% 25%
Year 4 100% 35% 35%
Year 5 55% 55%
Year 6 70% 80%
Year 7 80% 100%
Year 8 85% 100%
Year 9 100%
Year 10
98
Other prudential topics
Treatment of software
Mandate in CRR2 for EBA to provide advise to EC
Until future revision of CRR extant situation remains
Accounting and capital aspects (joint effort at EBA)
Sustainable Finance
Climate change consequences for prudential framework
Credit risk
Operational risk
ESG data
Recording requirements for banks
Risk management inclusion
Disclosures
99
EY European IFRS banking conferencePage 100
Integrated reporting and climate risk
Rebecca SelfChief Financial Officer (CFO), Sustainable Finance, HSBC
Doug JohnstonPartner, Ernst & Young LLP
Despite clear evidence of climate risk, many businesses have not adapted adequately
EY European IFRS banking conferencePage 101
While there is enormous operational and financial risk to the economy, businesses have been slow to develop an effective response
CNN Business
Regulatory bodies are beginning to consider climate risk, making change even more pressing
EY European IFRS banking conferencePage 102
The discussion paper seeks input on four areas:
► Climate change and pensions
► Enabling competition and market growth for green finance
► Ensuring disclosures provide adequate information to investors on the financial impacts of climate change
► The scope for a new requirement for financial services firms to report publicly on climate risk management
Financial Conduct Authority (FCA)
Consultation paper on integrating sustainability risks into Markets in Financial Instruments Directive (MiFID) II:
► Environmental, social and corporate governance (ESG) considerations in the advisory process and portfolio management should not lead to mis-selling practices
► ESG preferences should be taken into account when identifying potential target markets
► Adequate product governance arrangements to ensure the products and services are compatible with customers' ESG preferences
► Information about clients' ESG preferences must be collected
European Securities and Markets Authority (ESMA)
Draft supervisory statement on climate risk management:
► Embed the consideration of financial risks from climate change in their governance arrangements
► Incorporate the financial risks from climate change into existing risk management practice
► Use (long-term) scenario analysis to inform strategy setting and risk assessment and identification
► Develop an approach to disclosure on the financial risks from climate change
Bank of England (BoE)
The Task Force on Climate-related Financial Disclosures (TCFD) recommendations are a framework for assessing climate-related risks and opportunities
EY European IFRS banking conferencePage 103
Governance
Strategy
Risk management
Metrics and
targets
Core elements of the TCFD recommendations
The organization’s governance framework for climate-related risks and opportunities
The actual and potential impacts of climate-related risks and opportunities associated with the organization's businesses, strategy and financial planning
The processes used by the organization to identify, assess and manage climate-related risks
Strategy
Risk management
Governance
Metrics andtargets
The metrics and targets used to assess and manage relevant climate-related risks and opportunities
The TCFD was founded to provide consistent, high-level guidance to assessing and disclosing climate-related risks and opportunities, using forward-looking and scenario-based analysis. You can find the report here.
Climate change risk requires a response from all parts of a business, including finance, strategy and risk management
EY European IFRS banking conferencePage 104
Strategic planning risk management
Financial impact
Balance sheet Cash flow statement Income statement
OpportunitiesRisks
Policy and legal
Technology
Market
Reputation
Acute
Chronic
Physical risks
Transition risks Opportunities
Market
Reputation
Revenues
Expenditures
Resource efficiency
Energy source
Products or services
Markets
Resilience
EY climate risk disclosure barometer — how are industries performing against the TCFD recommendations?
EY European IFRS banking conferencePage 105
EY teams have developed the Climate risk disclosure barometer to provide an annual snapshot of the uptake of the TCFD recommendations across highly impacted sectors. This provides analysis of current corporate disclosures to compare the high-risk sectors listed in the recommendations against each proposed TCFD disclosure.
Coverage Quality
Source: EY climate risk disclosure barometer 2019 *Overall scoring results do not include companies from within these non-key TCFD sectors
PUBLIC
Author: Rebecca Self
Chief Financial Officer – Sustainable Finance
Sustainable Finance
107
Environmental
• We strive to manage sustainability risk, principally via the
implementation of our policies put in place to protect the
environment, society and supporting customers through the
transition to the low-carbon economy
• Our sustainability risk policies cover sensitive sectors
Social
• This covers our customers, employees and areas of operations
which could impact people, such as human rights
• Products are designed with customers in mind, with regular
feedback monitored
• Our approach to approach to diversity and inclusion looks to
increase and leverage diversity of thought to drive greater
innovation, better identify and manage risks, enhance
collaboration, and improve workforce agility
• As part of HSBC’s ongoing focus on improving gender balance in
senior leadership, by the end of 2020 we are aiming for 30+% of
our senior leadership to be female
Governance
• Full details of Corporate Governance may be found in our
Annual Report
• Financial crime risk management is important to protect our
customers, our communities and the integrity of the financial
system
• We continue to strengthen and significantly invest in our ability
to prevent, detect and respond to the ever-increasing threat of
cyber attacks
HSBC’s ESG ProfileActivity highlights
More than 240 of our largest suppliers have
accepted our Ethical and Environmental Code of
Conduct.
HSBC is a signatory to or has expressed public
support for: ▪ The Global Sullivan Principles
▪ The OECD Guidelines for Multinational Enterprises
▪ The UN Global Compact
▪ The UN Principles for Responsible Investment
▪ The UN Principles for Sustainable Insurance
▪ The UN Sustainable Development Goals
▪ Paris Agreement and Taskforce on Climate-related Financial
Disclosures (TCFD)
PUBLIC
23.6% 24.5% 25.4% 26.8% 28.2%
0%
20%
40%
60%
80%
100%
2014 2015 2016 2017 2018
Female share of senior leadership headcount
at HSBC 2014-2018
108PUBLIC
▪ Climate change represents an
urgent and irreversible threat to
human society, as recognised
by the almost 200 countries
that have signed the 2015
Paris Agreement on climate
change.
▪ An estimated USD90 trillion of
investment is needed in new
green infrastructure over the
next 15 years – double the
current annual rate of
spending – just to keep the
global temperature increase
below two degrees.
▪ Major injections of capital are
needed to pay for more
efficient and less carbon-
intensive technologies and
infrastructure, to reduce the
carbon footprint of established
companies and industries, and
to cover the costs of climate
adaptation.
HSBC’s Commitments
Source 100% of our
electricity from
renewables sources by
2030 (90% by 2025)
Reduce our exposure to
thermal coal and actively
manage the transition for
other high carbon sectors
Adopt recommendations
of Task Force on Climate-
related Financial
Disclosures (TCFD)
Provide USD100bn of
sustainable financing and
investment by 2025
▪ Provide USD 100bn of financing/investment to develop clean energy, lower-
carbon technologies, and projects that contribute to the delivery of the Paris
Agreement and the UN Sustainable Development Goals
▪ Lead the development of sustainable capital markets, support corporate and
institutional clients in managing risks and promote sustainable investment
products for retail and private banking clients
▪ Use direct investment and direct purchases via PPAs and similar mechanisms
that directly help the financing of new renewable electricity assets.
▪ Collaborate with RE100, governments and regulators to open up renewable
energy markets where PPAs or similar are not currently available
▪ Reduce electricity per FTE by 20% by 2020
▪ Discontinue financing of new thermal coal mines (including new customers
dependent on it) and new coal-fired power plants in developed countries and
continuously reinforce lending criteria in developing countries
▪ Engage with clients in high carbon sectors to influence their transition
strategies
▪ Continuously review our risk policies on low carbon technologies▪ Report according to governance/ strategy/ risk management recommendations
of the task force
▪ Engage with academia/ industry associations/ civil society networks to support
robust climate scenario analysis to price transition and physical risk.
▪ Promote uptake of these recommendations across our global network
Lead and shape the
debate around
sustainable finance and
investment
▪ Establish a Centre of Sustainable Finance to provide thought leadership about
climate change and the role of the financial services sector.
▪ Promote the development of industry-wide definitions, standards, tools and
metrics to enhance market analysis of ESG issues and impacts.
Context
HSBC’s ESG ProfileHSBC’s commitments to support the transition to a low carbon economy
109
HSBC’s ESG Profile
▪ HSBC is fully committed to its own sustainability approach and compliance with the sustainability commitments that we have made in
the public domain
▪ HSBC recognises that we have responsibilities not only towards our customers, employees and shareholders, but also the countries and
communities in which we operate. This means understanding and managing the impact we have on society and the environment, and
investing in the future of our employees and the communities we serve
▪ HSBC Group Sustainability’s mandate is to ensure that the business translates this recognition into practice.
Spotlight on Sustainability Risk Policies
Mining and Energy
▪ We issued an updated mining and metals
policy in 2016, providing more details on
human rights issues in the sector
▪ We issued an updated Energy Sector
Policy in 2018, restricting finance for new
coal-fired power plants (with some time-
bound exceptions in developing markets)
and specific sensitive areas
Palm oil
§ In 2017 our Agriculture commodities
policy was updated to include a “No
Deforestation, No Peat and No
Exploitation” commitment
§ Since launching our first Forestry policy
in 2004, we have been recognised as a
leader by Forest 500 ranking, an
independent analysis of companies,
investors and governments on their
commitment to preventing deforestation,
an analysis carried out by a UK-based
think tank
Climate Change
§ In addition a statement on climate change
and our approach is available on our
website
§ HSBC expects to respond to the Financial
Stability Board Task Force on Climate-
related Financial Disclosures in our 2017
Annual Report and Accounts
PUBLIC
110
HSBC’s ESG Profile
Taskforce for climate-related Financial Disclosures
Strategy
Risk
Management
Metrics and
Targets
Governance
▪ Describe the board’s oversight of climate-related risks and opportunities.
▪ Describe management’s role in assessing and managing climate-related
risks and opportunities.
▪ Describe the climate-related risks and opportunities the organization has
identified over the short, medium and long term.
▪ Describe the impact of climate-related risks and opportunities on the
organization’s businesses, strategy and financial planning.
▪ Describe the resilience of the organization’s strategy, taking into
consideration different climate-related scenarios, incl a 2°C or lower scenario.
▪ Describe the organization’s processes for identifying and assessing climate
related risks.
▪ Describe the organization’s processes for managing climate-related risks.
▪ Describe how processes for identifying, assessing and managing climate
related risks are integrated into the organization’s overall risk management.
▪ Disclose the metrics used by the organization to assess climate-related risks
and opportunities in line with its strategy and risk management process.
▪ Disclose Scope 1, Scope 2 and, if appropriate, Scope 3 greenhouse gas
(GHG) emissions and the related risks.
▪ Describe the targets used by the organization to manage climate-related
risks and opportunities and performance against targets.
TCFD recommendations
✓ Two years of TCFD
disclosures published in
the Annual Report.
✓ Qualitative disclosure on
Governance, Strategy, and
Risk Management topics.
✓ Approach to transition risk
published in April 2018
ESG Update
✓ Quantitative data on
impacted industry sectors
published using a
materiality based
approach
Next steps
✓ Engage with academia,
industry associations and
civil society networks to
support robust scenario
analysis to price transition
and physical risk
✓ Develop transition metrics
and disclosures
2017 and 2018 disclosure
PUBLIC
111
HSBC’s TCFD 2018 disclosure
PUBLIC
112
HSBC’s ESG Profile
▪ Proceeds from the issuance of bonds which comply with the SDG Bond Framework will be used in defined Eligible Sectors relating to
the SDGs as specified, further information on governance, reporting and indicative portfolio is provided on the following pages
▪ The defined Eligible Sectors under the HSBC SDG Framework are:
Key features of HSBC’s SDG Bond & Framework
The HSBC SDG Framework is an example of our strategic commitment to sustainability and
support for our customers and clients in this important area
PUBLIC
113 PUBLIC
IFRS hot topics and accounting in the digital age
Marek WalendowskiDirector, Ernst & Young LLP
Jane HurworthAssociate Partner, Ernst & Young LLP
EY European IFRS banking conferencePage 114
Agenda
Measurement of equity investments in start-up entities
4 Crypto-assets5Changes to operating IT infrastructure3
Impact of IFRS 16 leases on the banking sector2
IFRS 7 hedge accounting disclosures1
Page 115 EY European IFRS banking conference
Diversity in banks’ hedging approaches
16 banks considered in the benchmark exercise (all applying IAS 39 hedge accounting requirements)
Five UK
Two French, Two German,
Two Dutch, Two Canadian
One Swiss, One Italian, One Finnish
16
10
6
16
10
3
11
0 2 4 6 8 10 12 14 16 18
FV - Micro IRR
FV - Macro IRR
FV - EU-Carve out IRR
CFH - Interest rate risk (IRR)
CFH - Forex (FX)
Cash flow hedge (CFH) - Equity risk on cash settled SBP
Net investment hedges (NIH)
Page 116 EY European IFRS banking conference
Number of banks disclosing type of hedge relationship
Overview findings
Single note44%
Single note plus reference to other section for
further information 12%
Single note plus reliance
on other section 44%
► Disclosure of risk management strategy
Yes75%
No25%
► Is change in FV of the hedged item and the hedging instrument separately disclosed?
► High levels of compliance with IFRS 7 financial instruments: disclosures requirements across the sample
► Majority of disclosures provided within single hedge accounting note
► Some utilization of risk management report and statement of comprehensive income
► Mostly explicit compliance with quantitative requirements
► Improved description of hedge accounting arrangements, but some ‘boiler plate’ information remains
Page 117 EY European IFRS banking conference
Disclosure of hedge ratio and risk components
0
2
4
6
8
10
12
14
Not disclosed Specified Highly specified
Hedge ratio Designation of risk component How risk component relates to entire fair value change
Page 118 EY European IFRS banking conference
Nu
mb
er
of
ba
nks
Disclosures of ineffectiveness
Boiler plate31%
Some specificity
44%
Highly specific25%
► Some banks provide a detailed comprehensive overview of the sources of ineffectiveness separately for each individual hedge program
► Other banks provide some level of detail, however it is not broken down for each individual hedge program
► A few banks list rather generic sources of ineffectiveness without providing details about the reasons for ineffectiveness
► Ineffectiveness is generally reported within trading income
► Description of sources of ineffectiveness
1
11
3
1
0 5 10 15
Net interest income
Line item which includes trading
Other line item
Separate line on the face of theSOCI
► Presentiation of ineffectiveness in Statement of Comprehensive Income (SOCI)
Page 119 EY European IFRS banking conference
Disclosures regarding the amount, timing and uncertainty of future cash flows
Yes62%
No38%
Disclosed if static or dynamic hedge is applied?
Disclosure requirement for static hedges fulfilled?
Met62%
Not met38%
Is the average price disclosed in a fair value hedge?
Disclosure requirement for dynamic hedges fulfilled?
Yes44%
No56%
Met67%
Not met33%
Page 120 EY European IFRS banking conference
Disclosure of the initial impact of IFRS 16 leases
► Most banks applied IFRS 16 leases using the modified retrospective approach, with the Right of Use (RoU) asset equal to the lease liability, and only few adjusted the measurement of the RoU-asset
► The extent of disclosure provided by banks varied across the industry
► Vast majority provided the description of initial measurement principles, but only some commented on the type of discount rates used, explained subsequent measurement and other key judgements
► The quantitative impact from initial application of IFRS 16 varied across the industry
Estimated impact of IFRS 16 on the common equity tier (CET) 1 ratio*
-0.25%
-0.20%
-0.15%
-0.10%
-0.05%
0.00%
Bank 8 Bank 13 Bank 14 Bank 15 Bank 16 Bank 7 Bank 12 Bank 11 Bank 17 Bank 6 Bank 5 Bank 10 Bank 18 Bank 4 Bank 2 Bank 1 Bank 3 Bank 9
Page 121
*Based on the data from the banks’ 2018 annual reports
EY European IFRS banking conference
Current IFRS 16 discussion topics
► In June, the International Financial Reporting Standards Interpretations Committee (IFRS IC) is expected to discuss the following IFRS 16 questions:
► EMSA’s request to clarify lessee’s determination of the enforceable lease period and useful life leasehold improvement where:
► The lease does not have a specified term and continues until one party terminates it
► Neither party incurs contractual termination costs upon exercising their right to exit
► Lessee constructed non-removable leasehold improvements which would need to be dismantled upon contract termination
► ESMA noted diversity in practice of applying IFRS 16 due to lack of explicit guidance
Lease term and useful life of leasehold improvements
► IFRS IC was asked whether a lessee’s incremental borrowing rate must reflect the interest rate in a loan with both:
► Similar maturity to the lease
► Similar payment profile to the lease payments
Lessee’s incremental borrowing rate
Page 122 EY European IFRS banking conference
Changes to IT operating infrastructure
► Banks historically relied on asset-driven IT infrastructure and operating models
► Current technological advancements change this traditional operating model and often raise questions about the appropriateness of accounting practices in a new, more digital world
► Common areas of focus include:
► Assessment of the appropriateness of assets’ useful lives
► Accounting for flexible third-party cloud computing solutions
► Approach to capitalization of costs
Cloud computing
Robotics Mobile Big data
EY European IFRS banking conferencePage 123
Proposed changes to the capital treatment of software
► Capital Requirements Directive (CRD) V or Capital Requirements Regulation (CRR) 2 introduces changes to the regulatory capital treatment of capitalized software recognized as intangible assets under IFRS
► Prudently valued software assets, whose value is not negatively affected by resolution, insolvency or liquidation will be excluded from the scope of deduction from the CET1 capital
► The European Banking Authority (EBA) has been tasked to specify the application guidance, which is expected in late 2019 or early 2020
► Changes to regulatory capital treatment will likely result in additional scrutiny of capitalized balances
► Existing processes and controls may require enhancing
Page 124 EY European IFRS banking conference
Cloud computing
► Cloud computing is generally referred to as on-demand availability of IT resources including data storage, computing power or software, without direct active management by the user.
Overview of cloud service models
SaaS
Networking
Storage
Server
Database
Developer tools
Operating system
Data
Applications
Networking
Storage
Server
Database
Developer tools
Operating system
Data
Applications
Networking
Storage
Server
Database
Developer tools
Operating system
Data
Applications
Networking
Storage
Server
Database
Developer tools
Operating system
Data
Applications
On-premise IaaS PaaS
Third-party managedYou manage
► Wide range of technological solutions commonly referred to as cloud requires careful consideration of the scope and unique characteristics of each contract.
► Depending on the level of reliance on the third party vendor, we distinguish between:
► Infrastructure as a Service (IaaS)
► Platform as a Service (PaaS)
► Software as a Service (SaaS)
► Accounting conclusions focus on identifiability, control, and assessment of future economic benefits.
► In March 2019, IFRIC concluded that a contract that conveys only the right to receive access to software in the future is a service, not a lease.
EY European IFRS banking conferencePage 125
How agile impacts cost capitalization processes
Analysis
Coding
Testing
Construction RetrospectiveSprint planning
Agile project approach
Waterfall project approach
Product backlog
QA
Shippable product
Quality assurance
Weekly sprints
User stories
Feedback on sprint activities
Expense Capitalize Expense
Design
DeploymentResearch
Development
► Common questions in accounting for internally developed intangible assets include:
► At which point in time the threshold for meeting the asset recognition criteria is met?
► Is software always one unit of account?
► When to start the amortization of the asset(s) and what is their useful life?
► How to distinguish development work from further research relating to new functionalities?
► Complexity of those questions is magnified in an agile software development process, which allows project requirements and solutions to evolve over time.
EY European IFRS banking conferencePage 126
What is agile?
EY European IFRS banking conferencePage 127
Agile: project management method characterized by division of tasks into short phases of work and frequent reassessment and adaptation of plans
Key elements of agile include:
► Product backlog: full set of prioritized scope items and functionalities desired in the product
► User story: description of a software feature from an end-user perspective which defines what they want and why
► Epic: group of user stories with a common objective
► Sprint: repeatable work cycle during which work is completed and made ready for review
Agile
How agile impacts cost capitalization processes
► Accounting standards have not changed and there is no specific interpretive guidance for agile
► While organizations still rely on detailed time tracking by development teams, some implemented an estimation-based approach to agile projects, which distinguish two phases:
► Project planning documentation, including budget and timeline an overall business case is approved for feasibility.
► Once the teams are established, their overall labor costs create the pool of cost with capitalization potential.
► Individual user stories in the backlog are reviewed to determine the treatment of costs, leading to an estimated capitalization ratio per project, epic and a user story.
► The backlog and user story categorization is reviewed and approved by an accounting function.
Preliminary phase
► During the sprints, costs are accumulated based on the time tracking systems at an epic level to flag individual user stories as capital or expense.
► Capitalization ratio is not a static measure but is reviewed and adjusted based on the backlog changes over the course of the project.
► Formal accounting oversight review takes place as part of regular change management process.
Development phase
EY European IFRS banking conferencePage 128
Measurement of equity investments in start-up entities
Illustrative approach to FV measurementof equity investments1
► Banks often invest in start-up entities with potential to improve their operating model or distribution channels.
► Common types of investment include equity or convertible loans which under IFRS 9 should be measured at FV (unless investment results in significant influence or control).
► The early stage of product development, lack of liquid market, current inability to generate cash flows and uncertainty of future profitability are common challenges in determining the FV of such investments.
Are there any indicators that the cost might not be representative of fair value?
Is observable market price available?
Revalue the investment Continue with the
current measurement
Refresh inputs to initial valuation model
NoYes
Is the price deemed appropriate?
Yes
No
No
No
Is the fair value change material?
Yes
Yes No
1 Where the investor does not have significant influence or control over the investee.
EY European IFRS banking conferencePage 129
Accounting for crypto-assets
► In March 2019 IFRIC discussed how IFRS standards apply to holdings of a narrow subset of crypto-assets — cryptocurrencies:
► Digital or virtual currency recorded on a distributed ledger, using cryptography for security
► Not issued by a jurisdictional authority or other party
► Holding does not give rise to a contract between the holder and another party
► IFRIC tentatively decided that an accounting model should depend on whether the asset is held for sale in the ordinary course of business:
► Apply IAS 38 unless the holding meets the definition of a financial asset or is within the scope of another standard
Cryptocurrency is not held for sale in the ordinary course of business
► Apply IAS 2 to inventories of intangible assets held for sale in the ordinary course of business
► Commodity broker-traders who buy or sell commodities for others, or on their own account, to generate profit from price fluctuations or margin measure inventories at FV less costs to sell
Cryptocurrency is held for sale in the ordinary course of business
Cryptocurrency isnot cash
Cryptocurrency is not a financial asset
EY European IFRS banking conferencePage 130
Other topics
Incentives paid to
customers
Location strategy
Business combinations
Profit sharingarrangements
Share-basedcompensation
New product offerings
Jointarrangements
App-enabled services
Staff compensation
Open-end infrastructure
EY European IFRS banking conferencePage 131
The macro environment and related accounting and reporting impacts
Mark Gregory
Chief Economist, Ernst & Young LLP
EY European IFRS banking conferencePage 132
Macroeconomic context
EY European IFRS banking conferencePage 133
Some expansions and policy positions are already long compared to history, we are moving into new territory
0
20
40
60
80
100
120
Australia US France UK SwedenGermany Japan Canada
Qu
art
ers
of
gro
wth
sin
ce la
st r
ece
ssio
n
Current Historical Average Historical Max/Min
(1)
0
1
2
3
4
5
6
7
2005 2007 2009 2011 2013 2015 2017 2019
%
US Eurozone Japan UK
Forecast
Source: ITEM Club and Haver Analytics
Advanced economies: current and pastexpansion lengths
World: policy rate
Source: Oxford Economics and Haver Analytics
EY European IFRS banking conferencePage 134
Reviewing multiple economic scenarios
EY European IFRS banking conferencePage 135
Overview of our process
Review of multiple economic scenarios (MESs)
1. Asset segmentation
2. Variable selection
3. Scenario development
4. Probability weightings
5. Variable forecasts
6. Credit risk modelling
7. Incorporate
into probability of default (PD)
and loss given default
(LGD)
8. Estimated credit loss
(ECL) estimation
EY European IFRS banking conferencePage 136
Most common approach across Europe is three scenarios and symmetric probabilities for the upside and downside
D: downside U: upside
0
2
4
6
8
10
12
14
3 scenarios 4 scenarios 5 scenarios Additional UKeconomic
uncertaintyoverlay
Nu
mb
er
of
inst
itu
tio
ns
0
1
2
3
4
5
6
7
8
9
10
D>U D=U D<U
Nu
mb
er
of
inst
itu
tio
ns
Source: EY analysis
Number of scenarios Distribution of probabilities
Source: EY analysis
EY European IFRS banking conferencePage 137
D: downside U: upside
There is a weak correlation between the severity of the downside scenarios and their assigned probabilities
Correlation: 35.8% Correlation: 46% Correlation: (47%)
(4.5%)
(4.0%)
(3.5%)
(3.0%)
(2.5%)
(2.0%)
(1.5%)
(1.0%)
(0.5%)
0.0%
0% 10% 20% 30% 40%
Pe
ak t
o t
rou
gh
Probability (40%)
(35%)
(30%)
(25%)
(20%)
(15%)
(10%)
(5%)
0%
0% 10% 20% 30% 40%
Probability
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
10%
0% 10% 20% 30% 40%
Probability
Source: EY analysis
UK forecasts
Gross domestic product (GDP): peak to trough recessions
House price index (HPI): peak to trough recession
Unemployment peak
EY European IFRS banking conferencePage 138
Base forecasts tend to be close to consensus
Source: EY analysis and HMT
Summary of UK forecasts
GDP growth base forecasts HPI growth base forecasts Unemployment base forecasts
-
0.5
1.0
1.5
2.0
2.5
3.0
2019 2020 2021 2022 2023
HMT Average EY sample max
EY sample mean EY sample min
0
1
2
3
4
5
6
7
2019 2020 2021 2022 2023
HMT Average EY sample max
EY sample mean EY sample min
HMT rangeHMT range
(2.0)
(1.0)
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
2019 2020 2021 2022 2023
HMT Average EY sample max
EY sample mean EY sample min
a a a
EY European IFRS banking conferencePage 139
Scenarios tend to vary considerably among institutions
D: downside U: upsideSource: EY analysis
Range of scenarios — 2019-2023 compound annual growth rate (CAGR)
Range of scenarios — extreme values
UK sample
Note: for the banks that had more than one downside or upside scenario we calculated the weighted average from the probabilities
2.0%2.9%
3.4%
7.7%
3.0%
4.2%
(0.3%)
1.7%
(4.1%)
1.7%
4.4%
8.7%
(6%)
(4%)
(2%)
0%
2%
4%
6%
8%
10%
Upside Downside
2.3%4.6% 3.9%
8.4%
2.1%4.2%
(3.3%)
0.7%
(17.8%)
(1.4%)
4.5%
9.5%
(20.0%)
(15.0%)
(10.0%)
(5.0%)
0.0%
5.0%
10.0%
15.0%
Upside Downside
EY European IFRS banking conferencePage 140
GDP HPI Unemployment GDP HPI Unemployment
But effects are relatively benign especially for GDP
D: downside U: upsideSource: EY analysis
GDP downside scenarios comparison
UK sample
Note: for the banks that had more than one downside or upside scenario we calculated the weighted average from the probabilities
(5.0%)
(4.0%)
(3.0%)
(2.0%)
(1.0%)
0.0%
1.0%
2.0%
Inst 1 Inst 1 Inst 2 Inst 3 Inst 4 Inst 4 Inst 5 Inst 6 Inst 7 Inst 8.1 Inst 8.2 Inst 9.1 Inst 9.2 Inst 10.1 Inst 10.2
CAGR 2019-2023 Peak to trough fall
EY European IFRS banking conferencePage 141
Sensitivity of ECL estimates to MES varies considerably, and in some cases is very low
D: downside U: upsideSource: EY Analysis
Increase on ECL of using multiple scenarios instead of the base scenario — European sample
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
Inst 1 Inst 2 Inst 3 Inst 4 Inst 12 +overlay
Inst 9 +overlay
Inst 5 Inst 6 Inst 7 Inst 8 Inst 9 Inst 10 Inst 11 Inst 12 Inst 13 Inst 14
Inst 2 has the most negative severe downside of UK banks.
Inst 3 has only 1% weight on the upside and two downsides, one of which is very severe.
Institution (Inst) 1 has a high weighting on a modest downside, and a small weighting on a very extreme downside.
EY European IFRS banking conferencePage 142
In our UK sample, scenarios with a high increase in unemployment do not necessarily have high increases in ECL.
Application of credit risk models can have a significant impact on outcomes
D: downside U: upsideSource: EY Analysis
Impact on ECL1 vs. peak unemployment in downside scenarios
1 Increase on ECL of using multiple scenarios instead of the base scenario
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
14.0%
16.0%
18.0%
20.0%
4.0% 4.5% 5.0% 5.5% 6.0% 6.5% 7.0% 7.5%
Imp
act
on
EC
L
Unemployment peak
EY European IFRS banking conferencePage 143
Variable selection may not fully reflect future risk
► Common issues found in the risk models of a sample of banks:
► Lack of interest rates in the models
► Coefficients with counterintuitive signs
► Statistical correlations that lack intuition (e.g., different transformations in the same equation)
► Short sample period
► Lack of documentation justifying modeling approach
► The lack of interest rates in the models is likely to be underestimating risk:
► Interest rates in the developed world have been relatively stable for an extended period, making it difficult to find a statistically significant relationship in the models.
► With the normalization of monetary policy, this could become an issue, as the models may not be able to forecast an increase in defaults due to the increase in interest rates.
► Using debt to income ratio, debt service ratio1 or debt gearing2 could be an alternative to incorporate interest rate in the models.
1 Debt service over disposable income.2 Interest payment from debt over disposable income.
EY European IFRS banking conferencePage 144
Model comparison: differenced vs. logistical transformation — UK unemployment and default rate
Difference models seem reasonable but lack the explanatory power of nonlinear relationships
D: downside U: upsideSource: EY analysis
0.00%
0.05%
0.10%
0.15%
0.20%
0.25%
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
Actual Logit Model
0.00%
0.05%
0.10%
0.15%
0.20%
0.25%
0.30%
19
93
19
94
19
95
19
96
19
97
19
98
19
99
20
00
20
01
20
02
20
03
20
04
20
05
20
06
20
07
20
08
20
09
20
10
20
11
20
12
20
13
20
14
20
15
20
16
20
17
20
18
Actual Data Differenced Model
EY European IFRS banking conferencePage 145
Actual data Differenced Model Logit Model
Conclusions
1. Scenarios should include sufficient downside to test credit losses
✓ ► We expect to see consideration of a significant downside.
► Projecting forward over ten years, we expect to see a recession risk scenario.
✓
2. Scenarios and their probabilities should be produced together
► Probability weighting must depend upon the severity of the scenario.
► Historic frequency analysis is a good benchmark to the probability of a scenario.
✓
4. Credit loss models should include appropriate economic drivers
► Statistical correlations alone will not produce robust models.
► Must give consideration to which economic drivers apply to each credit product.
3. Probabilities applied to scenarios should fit with economic history
► Frequency of downsides in past data is a good test.
► Current conjuncture and identifiable risks should also be considered. ✓
EY European IFRS banking conferencePage 146
Inside Brussels
Dr. David P. DoyleSenior European Financial Services Regulatory Advisor, Ernst & Young LLP
EY European IFRS banking conferencePage 147
Brexit — still facing a no-deal scenario
► Dual-listed equities under MiFID II share trading obligation
► Outsourcing of critical activities to UK and EU – “empty shells”
► Back-to-back booking and third country branches
► Shape and governance: EU equivalence regime
Key no-deal issues pending for financial firms
► ESMA abandons plan to ban EU fund managers and banks from trading 14 dual-listed stocks in London, post-Brexit (29 May)
► Battle to come: ESMA insisting on remaining 27 EU dual-listed stocks be traded on EU venues
► MiFID II and MFIR exemptions allowed if the trades are:
► Non-systematic, ad-hoc, irregular and infrequent
► Carried out between eligible and professional counterparties
► Do not contribute to the price-discovery process
Dual-listed equities under MiFID II share trading obligation
► ‘Time limited (one year) and strictly conditional’ EC equivalence decision — UK central counterparties (CCPs) granted temporary recognition by ESMA: immediate implementation by end October 2019
► Central securities depositories: conditional equivalence decision for 24 months
► For over the counter (OTC) contracts: 12-month transition period to allow UK counterparties to be replaced without triggering the clearing requirement
Cleared derivatives temporary equivalence decision
ESMA and UK memoranda of understanding
► ESMA and National Competent Authorities, including BoE, agree to Memorandum of understanding (MoU): on the exchange of information in relation to the supervision of credit rating agencies (CRAs) and trade repositories (TRs)
► ESMA and FCA MoU: ‘will allow certain activities, such as fund manager outsourcing and delegation, to continue to be carried out by UK-based entities on behalf of European economic area (EEA) counterparties’.
Brussels desperately pursuing contingency measures to avoid a financial meltdown
EY European IFRS banking conferencePage 148
Revised capital requirements regime — May 2019
Not the end of the Basel saga for banks
CRD V
CRR 2
► Capital output floor vs. IRBA for credit risk
► New standardized measurement approach for operational risk
► Credit valuation adjustments
► Green factor:
CRD V and CRR 2 integrates ESG and sustainability disclosures
► European Banking Authority mandated to:
a. Develop guidelines for inclusion of ESG risks in supervisory review and evaluation process(SREP) and stress-testing framework. How do banks deal with such risks?
b. Develop possible prudential regime for banks linked to environmental and climate change
Outstanding issues
► CRR 2 — application 2 years after entry into force
► CRD V — implementation 18 months after EiF
► TLAC — application with immediate effect after entry into force (EiF)
► Single resolution regulation — application 18 months after EiF
► Leverage ratio requirement of 3% for all institutions andleverage ratio buffer for all G-SII’s. Possible extension to O-SII’s in the future
► Net stable funding requirement
► New proportionate market risk framework for reporting purposes, i.e., reducing reporting and disclosure requirements and simplifying market risk and liquidity rules for small, noncomplex banks
► Requirement for third-country Global systemically important banks (G-SIB) type banks + €40bn with significant activities in the EU to have an EU intermediate parent undertaking
► New total loss absorbing capacity (TLAC) requirement for global systemically important institutions (G-SIIs)
► Enhanced minimum requirement for own funds and eligible liabilities (MREL) subordination rules for G-SIIs and other large banks
► Fundamental review of trading book (FRTB) — being reviewed by EBA, but in the interim, reporting (not capital) requirement — in two phases (i) standardized in Q1 2021, (ii) Internal model approach (IMA) in Q1 2023
► Targeted measures to cater for EU specificities
► Incentives for investments in public infrastructures
► SME factor, lower capital charges and €2.5mn loans
► Credit risk framework facilitating the disposal of nonperforming loans.
CRD V and CRR 2 timeframe for implementation or application
EY European IFRS banking conferencePage 149
EC package of measures
► Establishing a unified EU classification system of sustainable economic activities (taxonomy) — eco labels
► Improving disclosure requirements on how institutional investors integrate ESG factors in their risk processes
► Creating a new category of benchmarks that will help investors compare the carbon footprint of their investments.
► Integration sustainability risks and factors into MiFID II, Undertakings for Collective Investment in Transferable Securities (UCITS) and Alternative Investment Fund Managers Directive (AIFMD).
The EU sustainability disclosure regime
The ‘E’ factor in ESG leaps to prominence in Brussels
Key regulatory initiatives
Taxonomy classification system
► Uniform criteria to determine whether an economic activity is environmentally sustainable
► Must contribute to; 1) climate change mitigation; 2) climate change adaptation; 3) sustainable use and protection of water and marine resources; 4) transition to a circular economy, waste prevention and recycling; 5) pollution prevention and control; 6) protection of healthy ecosystems
► EU parliament wants fossil fuels, nuclear energy and gas infrastructure excluded
ESG disclosures regulation
► Applicable to UCITS management companies, (Alternative Investment Fund Managers Directive) AIFMs, MiFID investment firms, insurers, institutional investors and pension funds
► Requires disclosure of:
1. The procedures financial actors have in place to integrate ESG risks into their investment and advisory process
2. The extent to which ESG risks are expected to have an impact on the returns of the product or service provided, irrespective of whether or not sustainable investment objectives are pursued
► Product specific disclosure — how products fulfill or meet ESG sustainable investment objectives
Low-carbonbenchmarks
► A climate-transition benchmark — aligning benchmark portfolio with decarbonization
► An EU Paris-aligned benchmark — linked Conference of the Parties 21 (COP21) limit of global temperature increases to 1.5° above pre-industrial levels
► All EU benchmarks to disclose whether they pursue ESG objectives and if aligned with COP21 (except foreign exchange (FOREX) and interest rate benchmarks)
European Commission
EY European IFRS banking conferencePage 150
EC update on nonbinding guidelines in nonfinancial reporting directive
Disclosing not only how the climate affects your entity but also how you affect the climate — the ‘double materiality’ factor
How climate change may affect the entity's business model
The entity's due diligence, governance and control policies relating to climate-related issues, including involvement of the board and management
Climate-related policies and an assessment of the entity's development, position, performance and climate impact as a result of its policies
Climate-related risk factors that the entity has identified and a description of its risk determination and risk management processes
Supporting key performance indicators (KPIs), to be defined in the updated guidelines, including specific KPIs for the insurance and banking sectors
EY European IFRS banking conferencePage 151
EC FinTech action plan — market developments overtaking pace of EU policy
Opportunities and challenges for financial institutions, but a cautious approach pursued by EU regulators
► Guidelines for sandboxes and hubs
► Fitness of regulation for new technology — common EU standards and interoperable solutions
► EC comprehensive strategy on distributed ledger technology and blockchain addressing all sectors of the economy
► Review barriers limiting information-sharing between industry actors on cyber threats
► Develop EU legislative framework for crypto assets: transparency rules on primary markets/initial coin offering (ICOs), security, investor protection – based on financial stability report (FSB) and EBA work
► Create EU financial sector cybersecurity initiative or act
Action points 2019
EY European IFRS banking conferencePage 152
► EU-wide authorisation with EU passport
► Covers investment and loan-based business models
► Investment protection disclosures: risks and charges, i.e., insolvency risk to services and platforms
► Scope: crowd-funding offers up to €8m
► Immediate application
Crowdfunding platforms regulation
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