Implementing Basel 3.1: Strategies for Meeting the Upcoming Requirements with UK Finance and KPMG

Implementing Basel 3.1
Introduction and Participants:
The webinar focused on the implementation of Basel 3.1 and strategies for meeting the upcoming requirements. The moderator was Ronan Donnelly, an SME at Suede. The panelists were Steven Hall from KPMG’s risk and regulatory advisory team and Simon Hills from UK Finance.
Main Topics Discussed:
Overview of Basel 3.1:
Basel 3.1 includes updates impacting credit risk, the output floor, and market risk. The Prudential Regulation Authority (PRA) is in the process of finalising the rules, with significant elements like credit risk and the output floor yet to be published.
Panelists' Backgrounds:
Steven Hall has extensive experience in regulatory advisory work, focusing on Basel regulations, credit risk model development, stress testing, IFRS 9 implementation, and more. Simon Hills leads the prudential capital and risk team at UK Finance, dealing with capital and liquidity requirements, governance, operational resilience, and various banking instruments.
Current Status and Timeline:
The first instalment of near-final rules was published in December last year, covering market risk, credit valuation adjustment (CVA), counterparty credit, and operational risk. The second instalment, covering credit risk and the output floor, is awaited. There are concerns about the timelines for finalising these rules, especially with the upcoming UK general election affecting the schedule.
Challenges and Considerations:
The implementation timeline is crucial, with firms needing adequate time for compliance and strategic planning. There are uncertainties due to potential changes in the final rules and delays caused by the pre-election period. The PRA might face challenges in issuing the final rulebook due to political and regulatory processes.
Key Issues and Industry Concerns:
There is the potential removal of the SME supporting factor and the introduction of new risk-weighted classes for SME exposures. A transition period is needed to phase out the SME supporting factor to avoid sudden impacts on banks' capital requirements. Accurate regulatory reporting and avoiding rushed implementations are essential to ensure quality and compliance.
Panelists' Insights:
Simon Hills emphasised the importance of engagement with the PRA and the need for coherent arguments for any proposed delays in implementation. Steven Hall highlighted the historical context of regulatory changes and the need for detailed planning and accurate implementation.
Interactive Q&A:
Attendees raised questions about the timeline, the potential for phasing in new rules, and the implications of delayed rule publication. The discussion highlighted the balance between regulatory compliance and strategic business planning.
Part Two Summary:
1. Optimising Internal Models for Output Floor Requirements:
Final Rules Impact: Simon Hills emphasised the importance of waiting for the final rules before making decisions on optimising capital returns. Until the rules are finalised, banks can only speculate on the best approach.
Portfolio Mix Over Model Tweaks: Steven Hall suggested that instead of tweaking internal rating-based (IRB) models, banks should focus on their portfolio mix, legal entity structuring, and other mitigations. The shift to an output floor model may alter traditional risk-return dynamics, necessitating a reassessment of portfolio positioning.
2. Real Estate Valuation Changes:
Origination Value for Loans: The discussion shifted to the proposal of using the value at origination instead of market valuation for real estate. Simon Hills highlighted the practical difficulties of this approach, such as finding historical origination values for long-term mortgages.
Use of Automated Valuation Models (AVMs): There is hope that the PRA will continue to allow AVMs for revaluation during mortgage events, which can mitigate some challenges posed by using origination values.
3. Impact on Mortgage Lending:
Potential Unintended Consequences: Steven Hall raised concerns about the potential for increased churn in mortgage lending as borrowers might refinance more frequently to take advantage of new valuations. This could impact financial stability and consumer protection rules.
4. Lending to Unrated Corporates:
New Risk Sensitive Approach: Simon Hills and Steven Hall discussed the PRA's proposal for a more risk-sensitive approach to unrated corporates, allowing banks to distinguish between investment grade and non-investment grade exposures with different risk weights (65% and 135%).
Challenges and Approvals: There is a concern about the complexity and additional approval processes required for banks to use these differentiated risk weights, which might lead some to stick with a 100% risk weight to avoid complications.