EBA consults on draft Technical Standards on the definition of market and on option risks under the standardised approach for market risk

The European Banking Authority launches today two consultation papers on draft Regulatory Technical Standards (RTS) to define (i) the term market for the purpose of calculating the ‘general' component of market risk for equities under the standardised rules; and (ii) a range of methods to reflect in the own funds requirements non-delta risks for options and warrants. The consultation of both draft RTS runs until 31 August 2013.

Draft RTS on the definition of market

The term market has to be defined for the purpose of calculating the general market risk component for equities under the standardised rules, thus assuming that two equities in the same market are subject to the same general risk.

In these draft RTS, the EBA is consulting on two definitions of market based on the two following criteria: nationality and currency.

The nationality criterion is based on the assumption that the ‘general' risk stems from country-specific drivers. The currency criterion would, on the other hand, recognise that the introduction of a single currency in an already substantially integrated EU Single Market has blurred these country-specific drivers within the Euro-zone.

Under the pre-existing CRDII, most jurisdictions have already implemented the nationality approach via national transposition of the Directive. This approach is more conservative than the currency criterion in terms of capital requirements. However, the currency approach takes account of the growing integration of financial markets.

The EBA is requested to submit these draft RTS to the European Commission by 31 January 2014.

Draft RTS on option risks under the standardised approach for market risk

These draft RTS aim at defining a range of methods to reflect, in the own funds requirements, all the risks, other than delta risk, in a manner proportionate to the scale and complexity of institutions' activities in options and warrants.

The EBA's proposal is broadly in line with the Basel II framework which provides for the three following methods:

• a simplified approach to be applied only by institutions that buy options
• the delta-plus method that can be also applied by institutions that sell options
• the scenario approach that is more sophisticated and addressed to institutions dealing with a considerable trading activity in options

Although the EBA has agreed to refer to the treatment of option risk outlined in the Basel framework, these RTS deviate from Basel due to regulatory specificities included in the CRR or where the EBA has considered that the treatment in Basel was not specific enough. The three methods allowed in Basel are included in the paper, though some specific changes have been introduced. In addition, a fallback treatment for complex options is also proposed.

Furthermore, these draft RTS consult on the possibility of allowing a combination of different methods within an institution or solely between separate legal entities within a group.

The EBA is requested to submit these draft RTS to the European Commission by 31 December 2013.

Background

The final comprise on the Capital Requirements Regulation and Capital Requirements Directive (CRR/CRD) provides a mandate for the EBA to define the term market for the purpose of calculating the general component of market risk for equities under the standardised rules.

The final text of the CRR also provides a mandate for the EBA to define a range of methods to reflect, in the own funds requirements, all the risks other than the delta risks in a proportionate way to the scale and complexity of institutions' activities in options and warrants.

Consultation process

Comments to the consultation paper on the definition of market can be sent to the EBA by e-mail to EBA-CP-2013-15@eba.europa.eu by 31 August 2013, indicating the reference EBA/CP/2013/15.

Comments to the consultation paper on non-delta risk of options can be sent to the EBA by e-mail to EBA-CP-2013-16@eba.europa.eu by 31 August 2013, indicating the reference EBA/CP/2013/16.

All contributions received will be published following the close of the consultations, unless requested otherwise.

A joint public hearing will take place at the EBA premises on 17 July 2013 from 10:00 to 13:00, UK time. To register for the public hearing, click here.