2012-03-06
Amendments were made to the General Regulations for the Calculation of Capital Adequacy and other related documents
The Board of the Bank of Lithuania amended the General Regulations for the Calculation of Capital Adequacy. The amendments were made with regard to the new European Union (EU) directives. Another three documents were amended accordingly: The General Provisions for the Internal Capital Adequacy Assessment Process (ICAAP), The General Provisions for the Supervisory Review and Evaluation Process (SREP), and Minimum Requirements for Information Made Available to the Public. EU directives that regulate these issues are to be implemented by the end this year; so, the Board decided the new requirements, specified in its resolutions, must come into force on 31 December 2011.
Some requirements have been specified and tightened in the General Rules for the Calculation of Capital Adequacy, which are applied to securitization transactions and aimed at the transaction originator to secure funding in capital markets by transforming the assets he manages or receivable income into securities, and the monetary funds received from these operations may be used to finance new transactions.
By the time, securitisation exposure in the bank’s trade book was not taken into account when calculating capital need for hedging specific financial instruments-(interest rates) related risks. From now on, it will be calculated applying an 8 per cent risk coefficient. The calculation is to be done by taking into account the approach (standard or internal ratings-based approach) applied to the securitisation exposures in bank’s trade book, rather than grouping them according to their financial capability and with the help of an appropriate risk coefficient.
The requirement for capital needed to hedge specific risk related to the equity securities was tightened: an 8 per cent risk coefficient is to be applied instead of previous 4 per cent and 2 per cent in specified cases.
The recent changes had also an impact on internal models-based approaches towards exposures in bank’s trade book. From now on, banks that apply so called Value-at-Risk model will have to do this in stress conditions too in observance of strict qualitative and quantitative requirements.
The assessment of extra default risk and exchange risk are entirely new capital adequacy regulation field. This is a a credit risk assumed by a bank in its trade book, which shows correlation between default probability and the ratings set by the bank itself and (or) external ratings. The General Regulations for the Calculation of Capital Adequacy define in detail methods for assessment of internal models related to default and exchange risks, which are based on strict supervisory review standards.
The Board established that in carrying SREP, and referring to the results received during stress testing of internal models, the Bank of Lithuania would be allowed to identify extra capital charges for the bank’s correlation trading portfolio in case the bank used internal models to calculate its capital requirement needed to hedge specific financial instruments-related risks. Based on the results of SREP and in strive to hedge the risk that arises due to improper variable pay policy, the Bank of Lithuania will be able to apply the following two additional requirements in relation to containing operational risks: to not exceed the set amount of net income when paying out variable pay, and request the bank to use its net profit for strengthening its capital base.
Banks which calculate the capital needed to hedge risks specified in the trade book by applying internal models will have to disclose the highest, lowest, and medium risk value in stress conditions during a reporting period or the end of the period. Banks were also instructed to disclose to the public the amount of capital needed for hedging specific interest rate risk related to securitisation exposure. Also, banks were instructed to provide for public disclosure mechanisms in documents that define their public disclosure policy.