Global Regulatory Brief: Risk, capital and financial stability, November 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 demanding more transparency and disclosure from a greater range of market players. From Singapore to the UK, the following global developments in risk, capital, and financial stability from the past month stand out:  

• Singapore: MAS issues liquidity risk management guidance for funds
• UK: PRA consults on matching adjustment reforms under UK Solvency II insurance rules
• US: Federal Reserve Board finalizes a rule establishing capital requirements for insurers supervised by the Board
• India: RBI extends Basel III requirements to national financial institutions
• US: SEC adopts final rules on short selling information reporting and securities lending market
• UK: PRA executive outlines approach to bank regulation
• EU: European banking regulator publishes Basel III monitoring report
• New Zealand: FMA consults on liquidity risk management guidance

Singapore MAS issues liquidity risk management guidance for funds

The Monetary Authority of Singapore (MAS) set out its liquidity risk management (LRM) expectations for fund management companies. 

In more detail: The MAS expects fund management companies to have in place effective LRM frameworks to ensure they can fulfill redemption requests in a timely and orderly manner. Firms are encouraged to minimize potential mismatches between the liquidity of underlying assets and the redemption terms offered to investors. Drawing on findings from thematic liquidity inspections and a review of prospectuses, the document covers four key areas:

• Governance: Board and senior management should have effective oversight of all relevant liquidity risk matters and appropriate escalation procedures should be established
• Product design: Liquidity risk should be considered upfront during the initial design of the product and there should be processes to review the methodology used to calibrate LRM tools on a regular basis
• Ongoing LRM: Fund managers should monitor a range of liquidity metrics such as investor profile, underlying asset characteristics, and redemption patterns on an ongoing and consistent basis. 
• Stress testing: Fund managers should conduct regular stress testing to ensure that their funds can withstand liquidity stresses during periods of market disruption

UK PRA consults on matching adjustment reforms under UK Solvency II insurance rules

The UK Prudential Regulation Authority (PRA) has launched a consultation on reforms to the matching adjustment as part of a broader review of the UK’s rules for insurance markets under Solvency II. 

In more detail: The proposals set out by the PRA are intended to enable productive and long-term investments in the UK economy through greater investment flexibility and revised eligibility rules. The reforms are also designed to enhance insurance firms’ responsibility for risk management. 

Wider context: Along with upcoming legislation, the reforms are expected to facilitate greater investment freedom by insurers to increase their investments in productive finance from 2024 onwards.

Next steps: The consultation closes on January 5, 2024 and the reforms are expected to be finalized and implemented by June 30, 2024.  

Closely related: The PRA has announced that it intends to run a dynamic general insurance stress test in 2025 to assess the industry’s solvency and liquidity resilience by simulating a sequential set of adverse events over a short period of time. The PRA will provide more details during the first half of 2024. 

US Federal Reserve Board finalizes a rule establishing capital requirements for insurers supervised by the Board

The Federal Reserve Board finalized a rule establishing capital requirements for insurers supervised by the Board. 

The details: The final rule includes a framework, known as the Building Block Approach, that builds on existing state-based insurance requirements, accounts for risks that are specific to the business of insurance, and is different from the calculations used for bank capital requirements.

• Under the Building Block Approach, a Board-supervised insurer is required to aggregate its top-tier company’s capital requirements with its subsidiaries’ requirements to determine its enterprise-wide requirement. 

Looking ahead: All Board-supervised insurers currently hold enough capital to comply with this rule, which takes effect as of January 1, 2024.

India extends Basel III requirements to national financial institutions

The Reserve Bank of India (RBI) issued new master directions requiring the five All India Financial Institutions (AIFI) to adopt the Basel III banking requirements. The AIFIs consist of the following:

• Export-Import Bank of India (EXIM Bank)
• National Bank for Agriculture and Rural Development (NABARD)
• National Bank for Financing Infrastructure and Development (NABFID) 
• National Housing Bank (NHB)
• Small Industries Development Bank of India (SIDBI)

Wider context: AIFIs are increasingly growing in prominence as the Indian economy develops and regulators are keen to establish higher standards. The RBI notes that internationally many development finance institutions have adopted Basel III rules as a means to raise the quality and level of capital to ensure that financial entities are better able to absorb losses.

Key compliance dates: Under the new rules, NABARD, SIDBI, EXIM Bank, and NABFID will have to comply with the new regulations from April 1, 2024 and the NHB will come into scope from July 1, 2024. 

US SEC adopts final rules on short selling information reporting and securities lending market

The US Securities and Exchange Commission (SEC) adopted rules to provide greater transparency into the short sale related data as well as the securities lending market. 

Final rule on short selling information reporting and amendment to the NMS Plan: The SEC adopted new Rule 13f-2 as well as an amendment to the National Market System (NMS Plan) governing the consolidated audit trail (CAT). 

• The amendments to the NMS Plan governing CAT will require each CAT reporting firm that is reporting short sales to indicate when it is asserting use of the bona fide market making exception in Rule 203(b)(2)(iii) of Regulation SHO

Next steps for short selling: The final rules for Rule 13f-2, Form SHO, and amendment to the CAT NMS Plan will become effective 60 days after publication in the Federal Register.

• The compliance date for Rule 13f-2 and Form SHO will be 12 months after the effective date of the adopting release, with public aggregate reporting to follow three months later, and the compliance date for the amendment to the CAT NMS Plan will be 18 months after the effective date of the adopting release

Final rule on to increase transparency in the securities lending market: The SEC adopted new Rule 10c-1a, which will require certain persons to report information about securities loans to a registered national securities association (RNSA) and require RNSAs to make publicly available certain information that they receive regarding those lending transactions. 

• Rule 10c-1a will require certain confidential information to be reported to an RNSA to enhance the RNSA’s oversight and enforcement functions
• Further, the new rule requires that an RNSA make certain information it receives, along with daily information pertaining to the aggregate transaction activity and distribution of loan rates for each reportable security, available to the public 
• Currently, the Financial Industry Regulatory Authority (FINRA) is the only RNSA

Next steps for securities lending: The final rule will become effective 60 days after publication of the adopting release in the Federal Register. The compliance dates for the new rule will be as follows: 

1. An RNSA is required to propose rules within four months of the effective date 
2. The proposed RNSA rules are required to be effective no later than 12 months after the effective date
3. Covered persons are required to report information required by the rule to an RNSA starting on the first business day 24 months after the effective date
4. RNSAs are required to publicly report information within 90 calendar days of the reporting date

UK PRA executive outlines approach to bank regulation

Deputy Governor at the UK Prudential Regulation Authority, Sam Woods, outlined his perspective on the appropriate regulatory response to the bank failures this year.  

In more detail: Woods argued that the collapse of Silicon Valley Bank and Credit Suisse illustrate the success of the post-crisis banking reforms in preventing further contagion and causing a systemic crisis. Nonetheless there are still important lessons to be learned, such as:

• Capital requirements: While banks have been required to hold higher levels of capital, this only works if it is properly measured and held in the right places. The Basel 3.1 reforms are expected to ensure that risk is properly and consistently measured across firms of all types. He also confirmed that the UK implementation of Basel 3.1 has been moved back by six months to align with the current US timeline of July 2025
• Liquidity requirements: Liquidity regulations play an important role by requiring firms to use stable funding sources and to maintain a significant stock of liquid assets. Upcoming focus will be on the calibration of the liquidity coverage ratio and firms’ ability to access central bank liquidity 
• Non-financial considerations: Investor confidence is not just maintained by financial resources but also concepts around governance, controls, risk culture, and operational resilience
• Resolution: Effective bank resolution regimes allow authorities to respond flexibly and rapidly and minimize risks to the public purse. However additional tools are needed, and the PRA is exploring options to maintain continuity of access to deposits in resolution for smaller firms and consulting on ‘ease of exit’ for small firms

European banking regulator publishes Basel III monitoring report

The European Banking Authority (EBA) published its second Basel III monitoring report that assesses the impact that the full implementation of Basel III will have on EU banks in 2028. 

In summary: Overall, the results of the mandatory Basel III capital monitoring exercise show that European banks’ minimum Tier 1 capital requirement would increase by 9.0% at the full implementation date in 2028. The main contributing factors are the output floor and credit risk.

In more detail: The overall minimum Tier 1 capital requirement for large and internationally active banks (Group 1) would increase by 10.0%. The requirements for the global systemically important institutions (G-SIIs, subset of Group 1) and for Group 2 banks would increase by 16.0% and 3.6%, respectively.

New Zealand FMA consults on liquidity risk management guidance

New Zealand’s Financial Markets Authority (FMA) released proposals for Managed Investment Scheme (MIS) managers and their supervisors for effective liquidity risk management (LRM). 

Wider context: Effective LRM is essential to reduce the risk of investor harm when there are significant fund redemption requests. 

• Poor LRM may force an investment manager to sell less liquid assets for a suboptimal price and this will impact the return of all fund investors
• Also, the manager may have to sell a lot of more liquid assets that helps the withdrawing investors but raises the risk of the fund and possibly harms remaining investors
• Effective LRM will also reduce the risk of a liquidity crisis in one fund spreading to other managed funds

In summary: This guidance sets out the FMA’s expectations regarding effective liquidity risk management for both supervisors and industry. 

Industry observations: The proposals follow a self-assessment survey on LRM conducted by the FMA in which they observed excessive levels of optimism regarding LRM capabilities, reinforcing the need for boards and oversight bodies to maintain effective oversight. 

Next steps: The FMA welcomes feedback on the proposed guidance ahead of the November 10, 2023 deadline. 

View the additional regulatory briefs from this month:

• Trading and markets
• Green finance
• Digital finance

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