Basel’s large exposures framework is a central plank of regulatory efforts to prevent concentration of risk between big banking organisations and their counterparties. The objective is to ensure financial institutions extend a safe level of credit to a single counterparty.

That raises a question: how can authorities put a number on safe?

The US Federal Reserve has come up with two numbers: 15% and 25%. In the US, large banks must not take exposure to any one entity that adds up to more than 25

US economic growth has slowed down during 2019, coming in at 1.9% in the third quarter, compared with 3.1% in the first quarter. The decline is starting to be reflected in corporate credit quality as well. The creditworthiness of US high-yield corporates has declined by 3% since the start of 2019, while investment-grade corporates are flatlining. 

That’s still a stronger performance than in the UK, where investment-grade and high-yield credit quality is in negative territory – investment-grade credit quality has fallen by around 5% since the end of 2018. Even the top 100 companies, which had been relatively resilient, have now started to slide since the second quarter.

This decline is unsurprising, as the economy in the UK is much more challenged than in the US. UK economic output fell 0.2% in the second quarter of 2019, the first such decline since the fourth quarter of 2012. As the third quarter was overshadowed by fears over the possibility of a...

Jump to Spotlight: Mozambique | In Focus: Data breaches

October’s largest operational risk loss relates to an Indian loan fraud dating back to 2011. Executives of Srinagar-based J&K Bank are under investigation for colluding with a rice processing company over commercial loans totalling 11.24 billion rupees ($158.3 million) based on fake documents.

REI Agro took out loans from J&K Bank branches in Mumbai and New Delhi under the pretence that it would use the funds to pay farmers who provided

Jump to Spotlight: Mozambique | In Focus: Data breaches

October’s largest operational risk loss relates to an Indian loan fraud dating back to 2011. Executives of Srinagar-based J&K Bank are under investigation for colluding with a rice processing company over commercial loans totalling 11.24 billion rupees ($158.3 million) based on fake documents.

REI Agro took out loans from J&K Bank branches in Mumbai and New Delhi under the pretence that it would use the funds to pay farmers who provided

Risk USA: Some desks “may not be able to pass these more rigorous standards”, says Morgan Stanley FRTB lead

LCH won’t back single fix for swaptions switch

Clearing house pledges to “support” multiple solutions to discounting problem

 

COMMENTARY: Grim repo

On September 17, rates on overnight repo – despite being backed by the solid pledge of US govvies – surged to 10% and generated outsized profits for some participants in the normally uneventful marketplace.

The spike in rates has previously been blamed on the unhappy coincidence of Treasury issuances and tax payments colliding to result in a drawdown of excess reserves at the US Federal Reserve.

But now, some are beginning to question whether the repo market has undergone more fundamental and structural shifts.

Fingers are pointed at the Fixed Income Clearing Corporation. Its sponsored repo programme was designed to encourage clearing of the...

Clearing houses need to more effectively co-ordinate default auction management between their peers and their members to avoid a looming resource crunch in the event of multiple defaults, banks have warned.

The default of a lone power trader on Nasdaq’s Nordic futures market last September, which saw the bourse botch the auction to sell off the defaulter’s portfolio, has set in motion a year-long debate over CCP default management, with banks, central counterparties and regulators all

The impact of economic sanctions on rogue countries is helping to drive a dramatic rise in their sponsorship of sophisticated cyber attacks, with the goal of stealing funds to replenish national coffers, according to a senior agent in the US Federal Bureau of Investigation’s cyber security division.

Banks also say they fear that a rise in the severity of hacks resulting in successful thefts of north of $100 million per attack is also driving nation states to dramatically increase their

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Banks are choking under a proliferation of risk controls intended to help them prevent disruptions – rendering them more vulnerable to outside threats, not less, according to a senior risk manager at the Federal Reserve Bank of New York.

A key plank of most operational risk frameworks, risk controls are used by firms to monitor and guard against risk breaches, hopefully before they crystallise as losses. For instance, a first-line risk manager might monitor whether a trader on a particular desk

From tariff spats to terrorist threats, geopolitical risk is a persistent driver of securities prices and financial markets. But according to Robert Engle – the NYU Stern economist who won the Nobel prize for his work on measuring volatility – market-watchers may be overestimating the impact of global tensions.

Giving the keynote address at Risk USA on November 6, Engle defined geopolitical risk as “politics which moves markets – in ways we may not have good predictive models for”.

“The

Two banks grappling with the application of artificial intelligence to credit scoring say the techniques will not deliver a big jump in performance when compared to established models.

Machine learning, a subset of artificial intelligence in which computers sift through enormous datasets with varying degrees of freedom, has captured the interest of credit risk managers who hope to automate or speed up screening and decision-making. A survey from the Institute of International Finance last year

Some US banks are offering to insure loans that will look riskier under the Current Expected Credit Losses accounting standard, while others are looking to buy them outright.

“There are some real CECL hogs in every portfolio. I’m hearing rumours that some banks are interested in offloading CECL hogs and other shops are looking to acquire assets with large CECL reserves,” said Stevan Maglic, head of quantitative risk analytics at Regions Bank. “I understand people are looking at buying

The huge cost of complying with the incoming market risk framework is forcing banks to choose between the capital benefits of using internal models to gauge requirements for certain desks versus the practical costs of building and maintaining them.

Under the Fundamental Review of the Trading Book (FRTB), banks can choose between the internal models approach (IMA) and a more punitive and by no means simple standardised approach, under which capital requirements are determined by computing a

On September 17, rates on overnight repo, backed by the bedrock pledge of US Treasuries, suddenly lurched to 10% from typically low single digits in a session that turned into a feral lunge for cash.

In some corners of the market, traders pleaded for cash; in others, people holding it gloated. 

“At dinner and drinks that night, I did hear people bragging that they made 400 basis points selling into overnight repo,” says the head of a broker-dealer in New York.

One hedge fund manager said he

French banks cry foul over EBA’s 2020 stress-test plan

Assumptions about the cost of household sight deposits are “not plausible”, critics say

LCH to cut jump-to-default margin for cleared CDS

Move could bring margin for cleared CDS closer to bilateral trades, but mismatch remains

Structural snags frustrate STS for synthetics

Curbs on excess spread and collateral stymie route to ‘high-quality’ signifier

 

COMMENTARY: Strength in numbers

Banks in France are pushing back against a one-size-fits-all policy imposed by their European regulator. In its stress-test methodology, the European Banking Authority measures banks against a funding shock to consumer deposits caused by an increase in interest rates – when in fact such deposits in France pay no interest.

The nub of the matter goes back to a 2004 European Court of Justice case. The court found preventing interest payments to retail depositors impedes free...

identifying systematically emerging threats, their timescales, and interrelationships (eg, feedback loops and domino effects); quantifying operational risks through structured scenario analysis processes that analyze the drivers of impacts and likelihoods; and validating the outputs of scenario analysis through backtesting against internal and external data sources.

The HS models, which are based on certain transformed historical data, can reliably be used for the estimation of a market risk in terms of the Basel III standards. The incorporation of the volatility models co-opting the leverage effect contributes to the improvement of the applicability of these models. The first step in testing the validity of risk models, in the context of Basel III rules, implies VaR backtesting.

A whitepaper – co-signed by nine banks and large asset managers, including JP Morgan, Citi and BlackRock – on reforming central counterparties (CCPs) “lacked credibility” and was “poorly written”, according to clearing house chiefs.

Speaking at a Futures Industry Association conference on October 30, CME chief executive Terry Duffy shrugged off disapproval of how his Chicago-based CCP and others manage risk, saying that many of the criticisms in the paper were “five or seven years old” and were

This issue of The Journal of Risk starts by looking at risk capital allocation within a firm in the context of two prominent risk measures: value-at-risk (VaR) and expected shortfall (ES). Next, the associated issue of efficiently backtesting ES is addressed. Two empirical papers based on Chinese data complete the set, with one focused on systemic risk and the other focused on the effects of stock price risk and split share reform on the cost of equity capital.

A financial institution’s risk capital is assessed using the risk exposure across its divisions. In “Static and dynamic risk capital allocations with the Euler rule”, the first paper in this issue, Tim J. Boonen highlights some pitfalls of the Euler rule, a common allocation approach. It is used to determine the amount a division will contribute to the risk capital of the whole firm. The author shows that this rule is more sensitive to empirical measurement errors than an alternative proportional rule,...

A theoretical model has developed on the basis of seven hypotheses. The influence of business risks on the performance of Serbian companies was examined. The impact of business risks on the risk of loss of market position was determined.

A group of banks is working to create a utility to pool data and development methodologies for the purpose of building models that could be deployed for stress-testing, among other use cases. The effort is aimed at reducing the costly overheads associated with model development and validation, and speeding up production time.

The project has been under way for about a year, and is being spearheaded by Crisil, a unit of Standard & Poor’s that specialises in risk analytics. The group is aiming to