Global Regulatory Brief: Risk, capital and financial stability, December edition

The Global Regulatory Brief provides monthly insights on the latest risk and regulatory developments. This brief was written by Bloomberg’s Regulatory Affairs Specialists.

Risk, capital and financial stability regulatory developments

As the risks to global financial markets intensify and take on new forms, regulators are revising and strengthening their requirements to bolster stability and ensure effective risk management . From Dubai to Switzerland, the following global developments in risk, capital, and financial stability from the past month stand out:  

• UK: Government sets out a new retail disclosure framework to replace PRIIPs
• Dubai: Financial Services Authority seek feedback on new credit and counterparty risk regime
• Singapore: Monetary Authority updates complex products regime 
• Australia: Banking regulator seeks feedback on liquidity and capital requirements
• EU: Banking Authority publishes draft rules for assessing internal models under FRTB
• EU: European Central Bank finalizes guidance for counterparty credit risk 
• Switzerland: FINMA adds two risks in latest annual risk monitoring report
• US: Bank regulators extend long-term debt proposal comment period
• US: FSOC approves analytic framework on nonbank financial stability
• China: Regulator publishes capital management requirements for commercial banks
• Taiwan: Regulator defers implementation of Basel bank capital requirements 
• Hong Kong: Monetary Authority confirms Basel III implementation timeline
• Global: Basel Committee publishes technical amendment to Basel framework

UK sets out a new retail disclosure framework to replace PRIIPs

HM Treasury published a draft statutory instrument (SI) and an explanatory note setting out the UK Government’s approach to establishing a new legislative framework for UK retail disclosure to replace the EU Packaged Retail and Insurance-based Investment Products (PRIIPs) Regulation with new rules.

The new UK retail disclosure regime: The UK’s new retail disclosure framework for Consumer Composite Investments (CCIs) will replace the existing PRIIPs retail disclosure framework. The FCA will develop new technical rules in due course with the Government having now established the following direction of travel:

• UCITS inclusion: The government will bring Undertakings for the Collective Investment in Transferable Securities (UCITS) – currently exempted from the PRIIPs disclosure rules – into scope of the new UK disclosure regime for CCIs by December 31, 2026.
• Scope: New UK disclosure requirements will apply to all funds marketing to UK retail investors, including UK authorized funds and recognized overseas funds, and rules will continue to apply to all firms involved in manufacturing, advising, or offering CCIs to UK retail investors
• FCA powers: The FCA will be given additional rule-making powers in relation to all participants – extending to both domestic and overseas unauthorized firms – involved in providing CCIs to UK retail investors 
• Aim: The new CCI regime aims to balance support for UK businesses and ensuring that retail investors receive appropriate disclosure to make informed investment decisions 

Cost disclosure reform as a priority: The Government has empowered the FCA to reform cost disclosure requirements following industry concerns over inaccuracy and a tendency to mislead. 

• However, certain legislative requirements relevant to cost disclosures are also set out in the Markets in Financial Instruments Directive (MiFID) – notably Articles 50 and 51
• The Government therefore intends to repeal relevant cost provisions in MiFID alongside its replacement of the PRIIPs Regulation

Next steps: The SI is the near-final version and the Government welcomes any technical comments on the draft SI by January 10, 2024. 

• The FCA will design and consult on new provisions relating to the formatting and contents of the Key Information Document and provisions setting out the detailed methodologies for calculating cost, risk and performance
• Additionally, the FCA is also considering interim solutions to mitigate the impacts on the investment company sector in the short term, as the government acts to implement a long-term legislative solution

Dubai consults on banking credit and counterparty credit risk

The Dubai Financial Services Authority (DFSA) is seeking public comments to help design an effective prudential framework to implement the Standardized Approach under Basel III for the calculation of capital requirements for credit and counterparty credit risks, including credit valuation risk, and settlement risk by banks. 

In more detail: The DFSA is preparing to implement bank capital requirements in relation to the standardized approach for credit risk, credit risk mitigation, standardized approach for counterparty credit risk, capital treatment of unsettled transactions and failed trades (settlement risk), and credit valuation adjustment (CVA) risk framework. 

Key dates: The deadline for providing comments on this consultation paper is January 19, 2024.

Singapore updates complex products regime

The Monetary Authority of Singapore (MAS) has issued a response to its consultation from 2021 on proposals to enhance and update the complex products regime.

Background context: MAS consulted on the following proposals in 2021:

• Review classifications of certain debentures and hybrid securities, namely perpetual securities and preference shares, as Excluded Investment Products (EIPs) or Specified Investment Products (SIPs), and revise the complexity criteria for collective investment schemes (CIS)
• Streamline the SIP safeguard requiring intermediaries to assess customer investment knowledge and experience, for transactions where the intermediary has already committed to provide advice to the customer

What are EIPs and SIPs: EIPs refer to products prescribed by MAS, which are well-established and have features generally understood by the market; SIPs are products that do not fall within the prescribed EIP list, and which have more complex features that the average retail investor may not be as familiar with. Enhanced distribution safeguards apply to the sale of SIPs to retail investors.

In more detail: In response to the consultation, MAS will remove the restrictions in relation to securities lending and securities repurchase to streamline the complexity criteria on the use of SIPs. MAS will also allow funds that invest in derivatives to be classified as EIPs if they do so only for the purpose of directly replicating the performance of an “acceptable index” (e.g. S&P 500, FTSE 100, Hang Seng Index, STI). This means that these funds can now be offered to retail clients.

Next steps: MAS intends to consult in 1H 2024 on broader proposals on the complex products regime, including a review of the safeguards applicable to SIPs, and enhancements to the Product Highlights Sheets for investment products.

Australian banking regulator consults on liquidity and capital requirements

The Australian Prudential Regulation Authority (APRA) has begun consulting on changes to liquidity and capital requirements aimed at strengthening the banking sector’s resilience to future stress.

In more detail: APRA is proposing a series of changes to the prudential framework, chiefly targeting how banks manage their liquidity. The changes would primarily impact banks that are subject to the Minimum Liquidity Holdings (MLH) regime, rather than the more complex Liquidity Coverage Ratio (LCR) mainly used by larger banks.

Global context: The proposed amendments reflect lessons learned from bank crisis events in the United States and Europe earlier in 2023.

Looking ahead: APRA plans to finalize the rules in the first half of 2024.  

EBA publishes draft rules for supervisors assessing internal models under the FRTB

The European Banking Authority (EBA) published draft technical rules on the assessment methodology under which competent authorities verify institutions’ compliance with the requirements applicable to their internal models under the Fundamental Review of the Trading Book (FRTB) rules. 

The intention: The draft rules are designed to add clarity on the assessment to be performed by competent authorities when granting an internal model approval under the FRTB framework set in the EU Capital Requirements Regulation (CRR). In other words, the draft rules aim to provide clarity regarding the nature of requests institutions can expect to receive from competent authorities during the investigation phase 

Central themes: The rules focus on the three central themes of governance, the internal risk-measurement model – covering the expected shortfall, and the stress scenario risk measure – and the internal default risk model. 

Looking ahead: The EU Commission will now decide whether to adopt the draft rules within the next three months. Following that, the rules will be subject to a scrutiny period of another three months by EU legislators before they are published in the Official Journal of the EU.

ECB finalizes report on how banks govern and manage counterparty credit risk

The European Central Bank (ECB) published its final report on sound practices in counterparty credit risk (CCR) governance and management in order to help banks manage CCR. 

In more detail: The report presents the findings of the targeted review performed in the second half of 2022 on how banks govern and manage CCR. It highlights sound practices observed in the market and points to areas where improvement is needed. Institutions are expected to consider the ECB’s findings when designing their approach to CCR management.

Context: The ECB has identified exposures to CCR as a supervisory priority and has initiated a range of supervisory actions accordingly. With the recent volatility in energy and commodity markets, the ECB has applied particular attention to non-financial counterparties such as commodity traders and energy utilities.  

Swiss regulator publish 2023 risk monitoring report

The Swiss Financial Market Supervisory Authority FINMA published its 2023 Risk Monitor, in which it identifies nine significant risks for the financial sector. 

In summary: Seven risks remain the same as last year, these are as follows: 

• Interest rate risks: FINMA considers there to be high risks resulting from interest rate changes for the banking sector, especially with regard to profitability, market value, and distorted perception of risks   
• Credit risks associated with mortgages: FINMA has intensified its focus on mortgage credit risk owing to the rise in interest rates that can impact both the ability of borrowers to repay and property values
• Credit risks associated with other loans: Continuing high inflation and interest rates as well as macroeconomic and geopolitical shocks could have an impact on borrowers’ capacity to pay and increase credit risk  
• Credit spread risks: The risk of higher credit spreads may cause direct falls in the value of their portfolios, changes to credit valuation adjustments on derivative transactions, and increase the cost of rolling over hedges against credit defaults  
• Risks of cyberattacks: FINMA considers cyber risks as one of the biggest operational risks for supervised institutions 
• Risks in the area of combating money laundering: With Switzerland being a leading global cross-border wealth management hub for private clients, the country is particularly exposed to money-laundering risks
• Risks due to increased impediments to cross-border market access: Changes to and restrictions on access to foreign target markets that are of importance to Swiss financial institutions could have repercussions for their revenue streams

Additional risks: Compared to last year FINMA has identified two new risks, namely risks relating to liquidity and funding as well as to the outsourcing of business activities 

Credit Suisse and UBS merger: FINMA also identifies the first merger of two global systemically important banks (G-SIBs) as posing multidimensional risks regarding risk management and controls, as well as considerable operational risk. 

Artificial intelligence: In addition FINMA views the use of artificial intelligence (AI) as an important industry trend that is likely to impact Swiss financial markets over time. 

• Particular challenges arise in connection with the responsibility for AI decisions, the reliability of AI applications, the transparency and explainability of AI decisions and the equal treatment of financial market clients
• FINMA will review the use of AI by supervised institutions in line with the risk-based approach and the principle of proportionality
• It will also continue to monitor developments in the use of AI in the financial industry, remain in discussions with relevant stakeholders and stay abreast of international developments

US bank regulators extend comment periods on bank capital requirements and long-term debt proposals

Federal bank regulatory agencies announced comment period extensions for (1) proposed rule on long-term debt and (2) proposed rules to strengthen large bank capital requirements.

Long-term debt proposal: Comments, which were originally due Nov. 30, will now be accepted through Jan.16, 2024.

• In more detail: The proposed rule would require large banks with total assets of $100 billion or more to maintain a layer of long-term debt equal to 6 percent of risk weighted assets, 3.5 percent of average total consolidated assets, or 2.5 percent of total leverage exposure under the supplementary leverage ratio, whichever is greatest. Regulators suggest the measure will provide them with additional resources to resolve failed banks and prevent contagion
• Wider context: US banking regulations have been under tighter scrutiny following the collapse of several US banks earlier this year. Last month, US bank regulators announced the extension of their Basel III Endgame comment period to allow stakeholders additional time to analyze its potential impact. Comments are being accepted through January 16, 2024

Proposed rule on large bank capital requirements: The comment period on proposals for large bank capital requirements will now be extended until January 16, 2024. 

• The agencies extended the comment period to allow interested parties more time to analyze the issues and prepare their comments
• The Federal Reserve Board also extended the comment period until the same date for its proposal to modify the capital surcharge for the largest and most complex banks. Comments on both proposals were originally due by November 30, 2023

FSOC approves analytic framework on nonbank financial stability

The US Financial Stability Oversight Council (FSOC or Council) unanimously voted to issue final versions of a new analytic framework for financial stability risks and updated guidance on the Council’s nonbank financial company determinations process. 

In summary: The new Analytic Framework for Financial Stability Risk Identification, Assessment, and Response (Analytic Framework) offers a detailed public explanation of how the Council monitors, assesses, and responds to potential risks to financial stability, whether they come from widely conducted activities or from individual firms. 

In more detail: The Analytic Framework details the vulnerabilities and transmission channels that most commonly contribute to financial stability risk, and explains the range of authorities the Council may use to address any particular risk – including interagency coordination, recommendations to regulators, or the designation of certain entities.

China introduces new bank capital rules

China’s National Administration of Financial Regulation released Capital Management Requirements for Commercial Banks to strengthen financial supervision and help banks optimize their asset structure. 

In more detail: The requirements are intended to build a differentiated capital supervision system to match capital supervision with bank size and business complexity and reduce compliance costs for small and medium-sized banks. The rules also aim to:

• Comprehensively revise the risk-weighted asset measurement rules, including the credit risk weight method and internal ratings method, the market risk standard method and the internal model method, and the operational risk standard method, to enhance the risk sensitivity of capital measurement 
• Require banks to formulate effective policies, procedures, systems and measures to promptly and fully grasp changes in customer risks and ensure the applicability and prudence of risk weights
• Strengthen supervision and inspection, optimize stress testing, deepen the application of the second pillar, and further improve the effectiveness of supervision
• Improve information disclosure standards, strengthen relevant qualitative and quantitative information disclosure, and strengthen market discipline

Key date: The rules will come into effect on January 1, 2024.

Taiwan defers implementation of Basel bank capital requirements

The Taiwan Financial Supervisory Commission (FSC) announced its decision to defer the implementation of Basel III bank capital rules until January 1, 2025.

Global context: The decision to postpone the implementation until 2025 comes as other key global jurisdictions push back their implementation timelines for capital requirements. It also provides banks additional time to prepare their systems and operations.  

In summary: The FSC had originally planned to adopt the Basel III final reform for operational risk, leverage ratio, and output floor from January 1, 2024 and counterparty credit risk, market risk (FRTB) and securitization capital frameworks from January 1, 2025. All standards will now be implemented from January 1, 2025 instead.

Hong Kong confirms timeline of Basel III implementation

The Hong Kong Monetary Authority (HKMA) has stated that all standards under the Basel III final reform package (on credit risk, operational risk, market risk, CVA risk and output floor) will take effect on January 1, 2025. 

Reporting requirements: Reporting-only requirements for the new standards on market risk and CVA risk will commence as planned on July 1, 2024.

Looking ahead: The HKMA are still considering consultation feedback to determine whether further refinements are necessary before the rules are finalized.  

Basel Committee finalize technical amendments to the bank capital framework

The Basel Committee on Banking Supervision published a document setting out various technical amendments to the Basel Framework. 

In more detail: The amendments relate to:

(i) The standardized approach to operational risk 

(ii) The disclosure standards for credit valuation adjustment (CVA) risk 

(iii) The description of the calculation of indicator scores for global systemically important banks (G-SIBs); 

(iv) Terminology used in the countercyclical capital buffer

Next steps: Basel Committee members have agreed to implement the technical amendments as soon as practical and within three years at the latest.

View the additional regulatory briefs from this month:

• Trading and markets
• Green finance
• Digital finance

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