Response to consultation on RTS on Assessment Methodology for Market Risk Internal Models

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Q1: What are stakeholders’ views regarding the two proposed interpretations for the capture or exclusion of an institution’s own creditworthiness as a risk factor in internal models (non-default only), and consistent treatment for back-testing purposes?

LBG has no strong view on either of the two treatments.

Q2: What is industry current practice in this regard for VaR, SVaR and IRC?

LBG includes IRC excluding default risk of own debt ie just includes the migration risk. LBG includes own debt in VaR/SVaR.

Q3: What are the main operational challenges?

LBG do not expect any major operational challenges if have to move own debt outside of internal model scope.

Q4: Do stakeholders agree with the General-Specific model application hierarchy introduced by the RTS?

LBG is happy with the approach. We assume that when ring fencing is applied if we are allowed to grandfather our existing Market Risk Permission for the non-ring fence entity we would not be expected to run the proposed model application. Please could the approach for this UK specific issue be clarified.

Q5: Do Stakeholders consider that the categories of instruments listed above provide an appropriate guide to assess the complexity of an internal model?

LBG considers that the 4 categories outlined in section 9.4 of SS13/13 are more appropriate given this categorisation is used in our Internal Model Market Risk Permission for stating the scope of our Permission. We are concerned that the implementation of new categories would lead to LBG and other banks being made to change their Internal Model Market Risk Permissions.

Q6: Do stakeholders agree with the use of two differentiated approaches for general and specific risk to assess the significance of positions included in the scope of the model?

The EBA approach appears to conflict with the FRTB approach, although it is possibly Article 363 (2) which is forcing the EBA to take this approach. The FRTB approach for model approval follows a desk by desk approach (overall assessment and then desk level assessment to determine which desks are in scope of internal model, to reduce the possibility of an abrupt move of all the businesses to standardised approach). An alternative approach based on setting thresholds for identifiable desks, desk definition in line with the new Accord covering FRTB, could be more consistent with FRTB.

Q7: What levels do stakeholders consider are appropriate for the proposed thresholds? Please provide your answer considering the calculation before and after positions have been excluded by the competent authority.

LBG believes that an approach based on identifiable desks may work better.

Q8: Do stakeholders agree with the two metrics required to assess regularly the relevance of positions excluded from the scope of the internal model?

As with Q’s 6 and 7 the ongoing thresholds would need to be consistent with the FRTB approach. Under FRTB the assessment of the desk level model performance may require desk(s) to be moved to the standardised approach. This could lead to the ongoing thresholds being breached and hence require the whole trading book to move to the standardised approach under the new framework. Hence would suggest thresholds based at desk level.
The situation under the new internal model framework could be handled by including desks that have reverted to standardised for “technical” reasons. They could still be considered as covered by the internal model approach.
Article 16, point 3 (a) assumes institutions calculate standardised approach for desks which are within the scope of their internal model. This is unlikely to be the case in advance of implementation of FRTB.
Note that for using own funds requirements as described in 3 (b) as at 31/12/14 for LBG share of standardised approach was 35%, excluding RNIVs it was 40% (This includes all standardised approach positions including TB securitisation positions, without these they would be slightly lower).
Article 16 (3) states “for which permission is sought”, but Article 16 is about subsequent reviews - presumably this is an error.
Article 16 (3) b is not sufficiently precise in two aspects: 1. “indication of growth” and 2. Use of “P&L”. Could we have more guidance?

Q9: What are stakeholders views regarding the proposed requirements on the internal committee structure?

LBG have no issues with these proposals.

Q10: Do stakeholders agree that the internal validation requirements are relevant and capture all material risks?

Institutions should consider all possible means of validation and do what they consider are relevant for their trading books. They should be able to demonstrate why they consider some types of validation are not appropriate for their trading books.

Q11: Are there any missing elements that should be incorporated or current elements that may be too burdensome?

LBG has the following concerns:
Art 23 (2) c. assessing empirical correlations is the right thing to do but monthly is potentially onerous (Art 46(2)b).
Art 23 (2) h. A bit vague and potentially onerous/inconclusive.

Q12: Do stakeholders agree that the proposed requirements on limit structure, regular limit update and limit breach approval processes are appropriate?


Q13: Do stakeholders agree with the rationale to provide some flexibility for the introduction of new products?


Q14: What are stakeholders’ views regarding the specific limitations introduced in the RTS regarding the delegation of authority to the new product committee?

LBG considers that they do allow sufficient flexibility.

Q15: Do stakeholders agree that the model should have been working in a stable way during a minimum period of 250 days prior to application for permission to use the model?

LBG considers this to be too onerous/inflexible to have to re-state up to 250 day backtesting history in order to introduce improvements to the model. It also considers this proposal will become an entry barrier for new banks.

Q16: Do stakeholders agree that the results obtained for the portfolios published by the EBA during this period are useful for validation purposes?


Q17: Do stakeholders agree with the requirements related to the model accuracy track record and Stress Testing programme?

Model accuracy track record requirements look reasonable. However as per question 4 we assume that when ring fencing is applied if we are allowed to grandfather our existing Internal Model Market Risk Permission for the non-ring fence entity we would not be expected to perform 250 business days of backtesting. Could the approach for this UK specific issue be clarified?
We also assume that requirements for model changes under the existing Permission are covered under the current RTS for assessing the materiality of extensions and changes of internal approaches.

Q18: Do Stakeholders have any additional comments or concerns regarding the requirements outlined in the governance section?

For Article 34 1. The wording should be relaxed to remove: “no major system breakdowns shall occur” and replace with a Support Level Agreement on recovery of major system breakdown.

Q19: What are stakeholders' views on the proposed requirements for the computation of VaR and PandL at consolidated level?

Not relevant to LBG

Q20: Do stakeholders’ agree with the distinction between ‘global’ and ‘local’ price risk factors?

Not relevant to LBG

Q21: What are stakeholders’ views on the burden a more frequent update than monthly creates?

For LBG there would be no additional burden

Q22: For “partial use” IMA, do you agree with the use of a hypothetical PandL calculated from mark to market PandL including all pricing factors of the portfolio´s positions?

LBG include in the P&L all pricing risk factors of the portfolio. We consider attempting to break out all risk factors which are not being used by the VaR model itself as impractical.

Q23: If your answer to Q22 is no, what impact does this have on the PandL used for back-testing purposes and how do you monitor the appropriateness of the model? Are there alternatives to ensure a proper reporting to senior management?

NA given above answer was yes.

Q24: What are stakeholders’ views regarding the relative merits of the inclusion of all risk factors for the actual PandL computation?

As with our answer to 22 there is no justification with stripping out risk factors.

Q25: What are stakeholders’ views regarding the proposed definition of ‘Net interest income’?

LBG does not consider this to be an issue as the trading book P&L should be valuation based not accrual based.

Q26: What are stakeholders’ views regarding the requirement to assess the importance of intraday and new trades to determine the VaR and SVaR multipliers?

For LBG the intra-day P&L should be relatively small compared to moves based on close of business exposures.

Q27: What alternative methodology, if any, might be appropriate to capture this intra-day risk?


Q28: What are stakeholder’s practices regarding adjustments computed less regularly than daily?

Valuation adjustments will feed through into P&L on the day the adjustment made.

Q29: What are stakeholders’ views regarding the treatment of Theta in VaR and as a component of PandL?

LBG consider Theta should be in both definitions of P&L used for backtesting.

Q30: Taking into account the CRR requirement to capture ‘correlation risk’ do you consider that the use of stochastic correlations should be required?

LBG does not believe that they should be required. The proposal seems to suggest the use of stochastic correlations regardless of expertise within the institution. Institutions should be able to demonstrate that their VaR model appropriately reflects correlation risk.

Q31: Do stakeholders agree with the additional requirements introduced for banks using empirical correlations?

LBG uses historical simulation and therefore implicitly uses empirical correlations. To review implicit correlations from historical simulation at least monthly would be very difficult to perform.

Q33: Do you agree with the elements that should be considered when assessing any internal reserves and/or the VaR and SVaR multiplication factors?

LBG does not disagree with the individual elements. Note that RNIVs can be implemented to capitalise for a risk not capture or not adequately captured by the VaR model. In such cases where an RNIV has been implemented then the regulator should have the autonomy to consider the additional capital required through RNIVs whilst considering the multiplier factor.

Q34: Do you agree that the SVaR multiplier should always be the same or higher than the one used for VaR purposes?

We welcome an explicit list for assessing the SVaR multiplier. We do not see why the SVaR multiplier should always be required to be higher than the standard VaR multiplier. The VaR and SVaR should be judged on their own ability to capture the risks adequately

Q35: Do Stakeholders have any additional comments or concerns regarding the requirements outlined in the VaR section?

We welcome an explicit framework. Our concern is that if the regulator had concerns across a number flaws/shortcomings resulting in an increase in the multiplier by several points.
Also how would it be possible to ensure the regulators apply the review framework proposed for multipliers uniformly and consistently across EU?

Q36: Do stakeholders consider that any proxy validated for VaR should be acceptable for SVaR purposes?


Q37: Do Stakeholders have any additional comments or concerns regarding the rest of requirements outlined in the Stressed VaR sub-section?

No additional comments.

Q38: Do stakeholders agree with the EBA interpretation regarding the treatment of event risk for credit positions after the implementation of IRC?

No issues from LBG’s perspective.

Q39: What are stakeholders’ views regarding the capture of the FX position stemming from Banking Book activities and the treatment proposed in the RTS?


Q40: Do Stakeholders consider appropriate the requirements established in this Article regarding the constant level of risk and constant position assumptions?

No issues from LBG’s perspective under our current methodology.

Q41: Do stakeholders agree that internally-derived ratings shall be prioritised for IRC?

LBG does not agree with this approach. LBG does not use internally derived ratings and considers these not to be practical.
We would like to point out that each institution could have quite different PDs dependent on their IRB model which given Supervisors’ concerns on the variability of internal models may be the wrong direction to proceed.

Q42: Do you consider that PDs derived from spreads or external ratings are more appropriate for IRC modelling than those internally-derived?

It would provide a more consistent approach between different institutions if external based PDs were sourced by all institutions.

Q43: Do stakeholders agree with the exclusion of zero PDs for IRC?

Yes, but would need guidance on levels.

Q44: Do stakeholders consider that losses due to default should be based on the market value or the instrument’s principal?

Could use both.

Q45: Do Stakeholders have any additional comments or concerns regarding the requirements outlined in the IRC section?

LBG has the following comments:
Article 69 2. b. to consider different copula candidates. We suggest that this should be less explicit and require institutions to demonstrate that the copula used in their model is appropriate.
Article 64 2,3 we would like to see more explanation why points 2 and 3 are being proposed.
Article 65 2. Would it be possible to provide more guidance on how institutions should assess the robustness of transition matrices plus what actions could be envisaged to
Article 72 requirement to have procedures to ensure that on the day the IRC is calculated the portfolio is representative of the portfolio held during the week.

Q46: Do Stakeholders have comments or concerns regarding the requirements outlined in the correlation trading section?


Name of organisation

Lloyds Banking Group