Overview EU-wide Stress Test 2014

Mario Quagliariello – Head of the Risk Analysis Unit

23/05/2014 - Executive Banking Briefing - Athens

Agenda

Context

Key features

Quantification of different risk types

Process and time line

2

1

2

3

4

Supervisory stress testing in the EU 2014: Where are we?

3

Pre-emptive capital

raising

Credit sensitivities

Disclosure (capital

and sovereign)

EU-widestress test 2011

9% after sovereign

buffer

EUR 204bn capital

raised

CT1 ratio

comparable to US

EU CT1 sufficient if

RWA can be trusted

EU-widerecapitali-

sation

EBA recommen-

dation

Common definition

of NPL

CAs responsibility

PIT assessment of

capital to

recapitalise

AQRs

Forward looking

assessment and

reaction function

EU-widestress test

2014

Ongoing, leading to

supervisory

consistency,

transparency and

benchmarking

RWA consistency

Focus today

3. EBA stress testing – towards 2014

EBA Core Tier 1 capital ratio dispersion measures (median, average, interquartile range, 5th and 95th percentiles)

Motivation: Multi country – multi institution

5

Motivation Components of EU-wide stress test

Microeconomic perspective

Assessing cross border groups

Comparability across markets

Macroeconomic perspective

Concentrations and correlations

Systemic shocks

Why?

Consistent, relevant and efficient EU-wide stress test

124 consolidated banks, 28 jurisdictions, 80% of total assets in the EU

What?

Tools

Trans-parency

Co-operation

Comprehensive, consistentand relevant scenario

Constrained bottom-up methodology (key features, risk quantification, templates)

Detailed disclosure to inform supervisors and market participants

Cooperation amongst supervisors and other involved parties

The suite of stress tests

Firms Firms own stress testing

Risk analysisBanks’ risk

management

SupervisorsMicro prudential stress

tests under pillars 1 and 2

bank-by-bank information on risks and vulnerabilities

Supervisory analysis; early warning tools

Macro prudential authorities

Macro economic stress tests;

System-wide macro prudential stress tests

Aggregated information on

systemic risks and vulnerabilities

Systemic stability, economic policy

implications

6

System-wide micro-prudentialstress tests

•Hybrid in methods and aims; multiple use•Focused on sample bottom up stress test•Focused on sample top down stress tests•Focused on comparability

Type Aim Use

Agenda

Context

Key features

Quantification of different risk types

Process and time line

7

1

2

3

4

Overview key features (1/2)

8

• Highest level of consolidation

• Perimeter of the banking group as defined by the CRD/CRRConsolidation

• Common baseline and adverse macro-economic scenarios and stressed market parameters for positions sensitive to a change of market prices

• CAs may develop additional sensitivities to incorporate country specific featuresScenario

• Consolidated year-end 2013 figures

• Scenarios applied over a period of three years (from 2014 to 2016)

Time-horizon and reference

date

• CET1, with transitional arrangements; CoCos reported if trigger is above the bank’s CET1 ratio in the adverse scenario

• CAs may, in addition, assess the impact of the stress test on other yardsticks

• Prudential filters are discretion of CAs; conditions for common approach assessed

Capital

Overview key features (2/2)

9

• 8% Common Equity Tier 1 ratio for the baseline scenario

• 5.5% Common Equity Tier 1 ratio for the adverse scenario

• CA may calibrate possible supervisory measures based on a ladder of intervention points and set higher hurdle rates

Hurdle rate

• Zero growth assumption for baseline and adverse scenario and same business mix

• Assets and liabilities that mature replaced with similar financial instruments in terms of type, credit quality and original maturity; no workout of defaulted assets

• Exemption due to mandatory restructuring plans announced before reference date

Static balance sheet

• Solvency stress test – credit risk, market risk, sovereign risk, securitisation, cost of funding, non-interest income and costs, operational risk; no liquidity stress test

• CAs may include additional risks but results reported under common approachRisk coverage

• EBA responsible for common methodology, templates, disclosure

• Competent authorities responsible for quality assurance and reaction function

• Outcome of AQR may inform starting pointProcess

Agenda

Context

Key features

Quantification of different risk types

Process and time line

10

1

2

3

4

Overview credit risk methodology

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• All assets in the banking book which are exposed to credit risk including counterparty credit risk, on and off-balance sheet positions, IRB and STA portfolios

• Methodology also applied to IRCScope

• Stressed point-in-time PD and point-in-time LGD for provisioning

• Potential rating migration and stressed IRB regulatory parameters for RWAMethodology

• Expected loss based on point-in-time parameters used to calculate credit risk losses on performing portfolio

• Additional losses on defaulted portfolio based on worsening LGDs and portfolio characteristics

Impact on P&L

• Stressed RWA in IRB and STA, including RWA for defaulted assets and IRB excess or shortfall

• RWA floored at 2013 levelsImpact of RWA

Overview market risk methodology

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• All financial assets and liabilities assessed at fair value (positions in HfT, AfS and designated at fair value through profit and loss portfolios)

• Hedge accounting portfolios

• Securitisations held at fair value

Scope

• Simplified: bank-specific reduction in NTI based on historical variation

• Comprehensive: full revaluation of positions based on market risk parameters

• CVA haircuts for OTC derivatives

• Default of largest counterparty (excl. CCP, market infrastructure, sovereign)

Methodology

• Reduction in NTI or other comprehensive income impact due to fair value variation; loss from default of largest counterparty; loss from CVA haircuts

• Valuation adjustments on debt securities and P&L gains resulting from credit spread widening of own liabilities cannot be taken into account

Impact on P&L

• RWA increase for VaR, SVaR and CRM capital charges due to predefined assumptions (constant RWA for banks using simplified approach; VaR replaced by SVaR for banks using comprehensive approach, fixed scaling for CRM)

• IRC and CVA increase due to worsened risk parameters

Impact of RWA

Overview securitisation risk methodology

13

• Securitisation and re-securitisation positions assessed at fair value (HfT, AfS, designated at fair value through profit and loss) and amortised cost positions

Scope

• Increase of RWA depending on risk profile of the positions (three risk buckets)

• Impairment estimates for positions not held for trading

• Application of market risk methodology for fair value positionsMethodology

• Impairments for securitisation positions not held for trading

• Mark-to-market treatment for positions at fair value in line with market risk methodology

Impact on P&L

• RWA increase for all securitisation positions based on pre-defined risk bucketsImpact of RWA

Overview cost of funding and interest income

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• Interest bearing assets and liabilitiesScope

• Sensitivity analysis of the P&L effect for deterioration in wholesale funding markets and a significant increase in retail funding costs

• Banks’ own estimates but subject to constraints

• Asymmetric pass-through

• LTRO replaced with MRO

Methodology

• Increase of cost of funding partially mitigated by an increase in interest incomeImpact on P&L

• N/AImpact of RWA

Overview sovereign risk methodology

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• Sovereign exposures (direct debt exposures as well as indirect exposures to central and local governments)

• Assessed at fair value (HfT, AfS, fair value through profit and loss) and amortised cost positions

Scope

• All fair value positions: application of market risk methodology for impact of changes in market prices

• Regulatory banking book positions: application of credit risk methodology for impairment estimates based on rating migration defined by ESRB/ECB

Methodology

• Direct P&L impact for positions accounted for at fair value (with AFS prudential filters phased out 20/40/60%)

• Further impairment estimates for regulatory banking book assetsImpact on P&L

• RWA increase due to worsened risk parameters in IRB and STAImpact of RWA

Agenda

Context

Key features

Quantification of different risk types

Process and time line

16

1

2

3

4

• Common methodology, templates • Data hub for final dissemination

• Common scenario (in cooperation with ECB, NCAs)

• Responsibility for the quality assurance• Assessment of the reliability and

robustness of banks’ assumptions, data, estimates and results

• Definition and communication of any additional sensitivities

• Supervisory reaction function

• Calculation of bottom-up stress test results

124 banks in 2014 EU-wide stress test

28 Nations, 28 National Supervisory Authorities and ECB

Overview responsibilities

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European Systemic Risk BoardEuropean Commission

European Banking Authority

Non-SSMNational Competent

Authorities

SSMECB, National

Competent Authorities

20 Non-SSM banks 104 SSM banks

Join

t wo

rk and

info

rmatio

n sh

aring

Tentative time line

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April May June July August September October

Advance data collection

ST calculation by banksIteration with

banks

Publication ECB

benchmarks

Submission close-to-

final results to EBA

Publication methodology,

templates, scenario

Workshop with banks

Submission first results to

EBA via CAs

EBA feedback on results

to CAs

Publication of results

Disclosure preparation

Prepa-ration

Calculation

Disclosure

Milestones

Finalisation methodology,

templates, scenario

29/04/14

Overview disclosure

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• Main P&L items like net interest income, net trading income, impairments for financial assets and other comprehensive income

P&L

• Exposure, RWA, value adjustments and provisions, default and loss rates

• No disclosure of credit risk parameterCredit risk

• Market risk position by main risk typesMarket risk

• Securitisation exposure, RWA and impairmentsSecuritisation

• Sovereign exposure by country, maturity and accounting treatmentSovereign

• RWA by risk typeRWA

• Capital position, components and adequacy including stressed solvency ratios

• Capital restructuringCapital

EUROPEAN BANKING AUTHORITY

Tower 42, 25 Old Broad StreetLondon EC2N 1HQ

Tel: +44 2073821770Fax: +44 207382177-1/2

E-mail: info@eba.europa.euhttp://www.eba.europa.eu