In ABI’s opinion an institution’s own creditworthiness should not in principle be captured as a risk factor in internal models.

A consistent treatment should be applied for back-testing purposes.

This seems to be the most appropriate choice, for the sake of consistency:
- between the IMA and the standardized approaches (since an institution’s own creditworthiness is beyond the scope of the standardized charge)
- between the numerator and the denominator of the capital ratio (since the effects of an institution’s own creditworthiness are excluded from own funds).

As a general matter, the EBA should promote the adoption of consistent treatment for an institution’s own creditworthiness throughout the Basel capital framework, at least in those parts that are currently being redrafted (such as the CVA risk).

Since the Basel Committee only considers application at consolidated level, a profile that needs specific attention by EBA relates to the definition of “own”. In ABI’s opinion, it should be clarified that the scope of the definition of “own” includes all entities within the prudential consolidation, or entities that are fully consolidated and fall under the same jurisdiction.

The institution’s own creditworthiness is currently included in the scope of internal models (for IRC, only with respect to migration risk).

The operational effort required to exclude an institution’s own creditworthiness seems reasonable. No major challenges have been identified.

ABI agrees with the proposed hierarchy, which reflects current practices. Additionally, ABI observes that strict criteria should be provided for identifying the risk factors pertaining respectively to “General” and to “Specific” risk, since some cases may still be ambiguous (in particular with respect to equity).

In principle, ABI deems that the complexity of an internal model cannot be properly assessed just by taking into account the complexity of the instruments’ payoff. The features of the risk factors modeled (liquidity and market risk factors involved in pricing, at least) should also be considered.
Anyway, appropriate criteria for defining “complexity” should be identified in the light of the specific measures to which the definition applies. In that regard, ABI argues that, in the draft RTS, the application of the different measures to the three categories is quite vague.
Moreover, ABI deems that the introduction of a definition of “simple” vs “complex” (instruments or models) deserves careful consideration since, once established, this definition could be referred to in further regulations.

ABI acknowledges that the EBA has to define criteria in order to fulfill the CRR mandate, even though it is likely that they will only be applied in a very few cases before the FRTB enters into force (introducing a different approach). The proposed solutions seem reasonable, provided that the EBA sets out clear definitions of “long” and “short” net positions for the purpose of Article 12.

ABI agrees with the EBA proposal, reflecting the current practice of Italian banks.

ABI has not identified any elements that are missing or too burdensome with respect to the internal validation requirements.

In ABI’s opinion, requiring a one-year history before applying would result in excessive delay.
The request that a model has to remain unchanged for one year appears particularly penalizing. Moreover, the period between application and authorization can be used in order to collect the observations needed prior to approval.
In ABI’s opinion, the observation period before application could be reduced from one year to 6 months.

ABI agrees, provided that only portfolios with products actually traded by a bank are taken into account.

While in principle sharing the EBA objectives, ABI argues that the Stress Testing programme seems oversized, since the capital charge includes the SVaR as a countercyclical component.

In order for “hypothetical” back-testing to represent a genuine benchmark for assessing the adequacy of a model, it should consider the P&L stemming only from the risk factors included in the scope of IMA.
ABI acknowledges that the methodology for excluding certain risk factors from the P&L may represent a regulatory issue, as the EBA might not be willing to leave banks excessive room for discretionary approaches. To this end, the industry can work together with the EBA to define appropriate solutions.

In banking practice, several analyses already reported to senior management can be considered suitable for this goal.
Anyway, ABI does not in principle criticize the use of P&L including all risk factors for reporting to senior management or to the supervisor. ABI rejects its use for back-testing purposes, determining automatic effects on the capital charge.
ABI rejects the assumption that gaps between the outcome of the IMA (that can exclude some risk factors) and the P&L including all risk factors are manifestations of model flaws.

Even for “actual” back-testing purposes, the performance of the model should be assessed against the P&L stemming from risk factors already included in the scope of IMA.
Given that the outcomes of back-testing affect calculation of the own funds requirements, the inclusion of risk factors outside the scope of IMA could give rise to a double counting issue.
If the inclusion of risk factors outside the scope determined a higher multiplier for the IMA, these risk factors would be covered twice: by the increase of the multiplier in the IMA and by the standardized capital charge (that the bank applies since these risk factors are outside the scope of IMA).

ABI highlights that setting a definition for net interest income is not trivial and that a modification of current methodologies – approved by the supervisor – would be burdensome for banks.
It seems that the CRR does not explicitly ask EBA for setting out a definition for net interest income. ABI suggests that EBA deletes Article 40(5)(e) of the draft RTS and activates dialogue with banks in order to identify a definition to be introduced upon transposition of the FRTB into EU law.

In ABI’s opinion, the VaR methodology is not suitable for addressing all the peculiarities of intra-day trading and, hence, it is not proper to address the related risks using the VaR and SVaR multipliers.

ABI considers that, to the extent possible, the risk is captured through the consideration of “actual” P&L, including the results of intra-day trading.
An alternative methodology, for the intra-day risk monitoring, would be to produce ad hoc reporting for the only intra-day component in terms of statistics (of the historical series), in order to isolate the effect and demonstrate its role compared to the overall profitability.

Different practices are in place. Anyway, the approach proposed in Article 40(12)(a) of the draft RTS seems reasonable.

ABI thinks it important, in principle, that the treatment of Theta be consistent between the VaR and the P&L (included in or excluded from both, according to modeling assumptions). In practice, Italian banks calculate VaR assuming instantaneous shocks – in accordance with the Basel rule – and therefore support the exclusion of Theta.

ABI thinks that the use of stochastic correlations should not be required.
Making the use of stochastic correlations mandatory would introduce an unnecessary, burdensome task for banks, with a short time horizon.
Furthermore, the use of stochastic correlations is questionable from the theoretical point of view and poses further modelling issues (formulation of a consistent stochastic process for the correlations among several risk factors), implementation issues (calibration of the parameters of these stochastic processes) and practice (numerical simulation could be required, Montecarlo square-like computational issues).
It should also be considered that the FRTB addresses the issue of “correlation risk”, adopting a different solution (constraints on the effects of correlations).

We agree with the requirement to review empirical correlations at a minimum monthly: in the current practice of Italian banks, data sets and consequently (empirical) correlations between risk factors are updated daily.
VaR tests using (even historical) correlation scenarios require important operational efforts. We suggest to identify historical scenarios of high and low correlations on the basis of a restricted set of risk factors, suitably selected for their relevance using risk factor sensitivities.

ABI does not agree. It cannot be taken for granted that weaknesses in the VaR models (that give rise to a higher multiplier) are reflected in the SVaR, as some flaws might not affect the stressed calculation.

Yes, in ABI’s opinion, if a proxy is considered suitable for VaR purposes, it should be considered suitable for SVaR purposes as well.

As for the back-testing add-on to ms, an overshooting of VaR that does not cause an overshooting of SVaR should not be taken into account for SVaR addend purposes.
In addition, with reference to Article 54(3) of the draft RTS, ABI would appreciate clarification about the meaning of “materiality” of the proxy in risk measure, given that it cannot be assessed against the “true” value (which is not available if a bank needs to use a proxy).

ABI agrees with the proposed approach. Anyway, ABI observes that making reference to data based on observations over the previous year can lead to misleading results. Since banks provide quarterly and monthly reporting for accounting and prudential purposes, ABI suggests that reference should be made to more updated values (i.e. single observations or average figures).

ABI does not agree. We believe external ratings, provided by rating agencies, would be preferable.

ABI remarks that the Basel framework is ambiguous about whether “market” PDs or “internal” PDs are to be preferred, and hopes for the adoption of a consistent solution between the market risk and the CVA risk frameworks.
In the light of the above, ABI thinks that no modifications of IRC models should be requested in these RTS, before implementation of the FRTB. In that respect, the FRTB says that “PDs implied from market prices are not acceptable unless they are corrected to obtain an objective probability of default” (1).

ABI also notes that, in addition to theoretical reasoning, technical issues have to be taken into account. In fact, internal models do not always provide transition matrices and, above all, AIRB models usually do not cover the entire scope of the issuers of trading book instruments.

(1) Basel Committee on Banking Supervision, Minimum capital requirements for market risk, January 2016, page 61.

ABI acknowledges that this measure is in line with the FRTB. Anyway, in principle, ABI does not agree with the imposition of a floor. A generic floor can introduce moral hazard in the trading strategy (i.e. same PD for different issuer may determine appetite for higher yield). As a matter of fact, several papers show valid methodologies suitable for a sound PD estimation even when no defaults are observed in the historical sample.