Transcript Prezentace aplikace PowerPoint

Banking
Tutorial 6 – Capital and
Capital Adequacy
Pavel Hrbek
Institute of Economic Studies, Faculty of Social Science,
Charles University in Prague, Czech Republic
November 7, 2012
Contents
1. Types of capital - recap
2. Basel I, II, III - recap
3. Case study – operational risk
4. Examples and tasks from the textbook
Slide 2
Capital
The basic aim of banking is asset-liability
management (ALM) in order to keep the liquidity,
solvency and profitability of a bank in the sense of:
1. Capital management of the equity-liabilities
relationship, i.e. managing the capital structure
under risk conditions;
2. Assets management, their liquidity, profitability
and risk;
3. ALM, liability and off-balance sheet
management.
Slide 3
Capital definitions
a) accounting capital
b) regulatory capital
c) economic capital
b) and c) more used in the sense of „capital
requirement“
a) Accounting capital
Equity = Assets – Liabilities
Assets
Assets
Total Liabilities
Liabilities
Equity
Creditors
Shareholders
Slide 4
Regulatory capital
Defined by Prudential rules - Decree No. 123/2007
Coll., stipulating the prudential rules for banks, credit
unions and investment firms
• Tier 1 – Core capital - the most important component
of bank’s capital and consists primarily of paid-up
equity capital, share premium and retained earnings
• Tier 2 – Supplementary capital - loan loss reserves,
convertible bonds or subordinate debt with a maturity
of at least five years
Total Capital (CAP) = Tier 1 + Tier 2 – Deductibles
Slide 5
Capital adequacy ratio
b) Regulatory capital is used for the computation of
capital adequacy, the ratio of capital to the risks
undertaken by a given bank
CAPITAL
CAD 
 8%
RWA
CAD – capital adequancy
CAPITAL – total capital
RWA – risk–weighted assets
Capital adequacy ratio is one of the measures regulated
by the prudential rules and must be at least 8%.
Slide 6
Economic capital
c) Economic capital - is a buffer against future unexpected losses
brought about by credit, market, and operational risks inherent in the
business of lending money.
Source: Chalupka, R., Teplý , P. (2008). “ Operational Risk Management and Implications for Bank’s Economic Capital – A Case Study ”
IES Working Paper 17/2008. IES FSV
Slide 7
Regulatory vs. Economic capital
The goal of regulation is to set the
regulatory requirements in the way, that
most reflects the real risk the bank is
facing.
=> This shall lead to convergence of
regulatory and economic capital
Slide 8
Economic capital allocation of
individual banks (2007 vs. 2010)
Source: DP Vejdovec (2011)
Slide 9
Economic capital allocation
(2007-2010)
Source: DP Vejdovec (2011)
Slide 10
Czech banking sector capital structure
Source: CNB (2012): Financial Market Supervision Report 2011
Slide 11
Contents
1. Types of capital - recap
2. Basel I, II, III - recap
3. Case study – operational risk
4. Examples and tasks from the textbook
Slide 12
„Basel“
Bank for International Settlement (BIS)
Basle Committee on Banking Supervision
(BCBS)
1988 – Basel I (credit risk)
1996 – Basel I (credit and market risk)
2007 – Basel II (credit, market and
operational risk, 3 Pillars)
2010 – Basel III (credit, market and
operational risk, liquidity risk)
Slide 13
Basel II
The overall objective
to increase the safety and soundness of the
international financial system by:
making capital requirements for banks more risk
sensitive while
maintaining the same level of overall average
regulatory capital in the banking system (BIS,2006)
Improvements in Basel II vs. Basel I (a more “menulike” approach, different risk-weights, operational risk,
own internal rating models etc.)
Slide 14
Basel II
Three pillars
Basel II
Pillar I
Pillar II
Pillar III
MINIMUM CAPITAL
REQUIREMENTS
SUPERVISORY REVIEW
PROCESS
TRANSPARENCY AND
MARKET DISCIPLINE
Credit risk
(new measurement)
Market Risk
(unchanged)
Operational Risk
(new)
•
•
Assesment of risks and
capital adequacy of the
individual banks
Constant contact with
banks
•
Increasing disclosure of
capital requirements as
well methods of risk
assesment
Basel I – Harmonizing bank regulation, internationally standardised capital requirements
*Exce pt for interest ra te risk in the banking bo ok.
Source: Teplý, Černohorská, Diviš (2007)
Slide 15
Basel II
Pillar I - Capital Requirements
Source: Teplý, Černohorská, Diviš (2007)
Slide 16
Basel II – summary of approaches for
calculation of capital requirements
Credit risk
Standardized Approach
Foundation IRB Approach (transformation of PD into RW)
Advanced IRB Approach
Market risk
Standardized Approach
Internal Models
Operational risk
Basic Indicator Approach (BIA)
Standardized Approach (STA)
Advanced Measurement Approach (AMA)
Slide 17
Capital requirements and capital ratio of
the Czech banking sector
Source: CNB (2012): Financial Market Supervision Report 2011
Slide 18
Basel II
Breakdown of capital requirements by
type of risk of EU banks (2008)
Source: DB Research (2007)
Slide 19
Basel III
A new regulatory framework issued by the Basel
Committee on Banking Supervision in 2010 which sets
standards for capital adequacy of banks and now also
for their liquidity.
Overall, Basel III introduces stricter rules than the
previous framework and came into existence mainly as
a reaction to the financial crisis.
Slide 20
Basel III
According to the BCBS, Basel III has the following goals:
"Basel III" is a comprehensive set of reform measures, developed … to
strengthen the regulation, supervision and risk management of the
banking sector. These measures aim to:
• improve the banking sector's ability to absorb shocks arising from financial and
economic stress, whatever the source,
• improve risk management and governance,
• strengthen banks' transparency and disclosures.
The reforms target:
• bank-level, or micro-prudential, regulation, which will help raise the resilience of
individual banking institutions to periods of stress.
• Macro-prudential, system-wide risks that can build up across the banking sector, as
well as the pro-cyclical amplification of these risks over time.
Slide 21
Basel III
Quality of capital shall be raised (strong focus on
common equity, a move away from complex hybrid
instruments (core Tier 1 > 4 %, Tier 1 > 7 %)
Introduction of liquidity standards (Liquidity
Coverage Ratio (LCR), Net Stable Funding Ratio
(NSFR))
Promoting building up capital buffers in good
times, that can be drawn down in periods of stress)
Significat increase in risk coverage, with a focus
on areas that were most problematic during the
crisis - trading book and securitisation activities
Slide 22
Contents
1. Types of capital - recap
2. Basel I, II, III - recap
3. Case study – operational risk
4. Examples and tasks from the textbook
Slide 23
Operational risk (OR)
Basic terms
Basel II: OR = the risk of loss resulting from
inadequate or failed internal processes, people
and systems or from external events failures
this definition encompasses a relatively broad area of
risks, with the inclusion of legal risk (but reputation
risk and strategic risk excluded)
Jerome Kervile ($7.3 billion), Mr. Bernard Madoff ($65
billion swindle), Sir Allen Stanford ($8 billion fraud)
non-existence of $1 billion in a balance sheet of
Indian company Satyam
CSOB Bank in 2000 (USD 53m)
Slide 24
Operational risk
Heavy-tailed data distribution/Black swans
Source: Chernobai et al. (2007)
Slide 25
Operational risk
Modelling of OR losses – BIG CHALLENGE!
INDIVIDUAL
LOSS EVENTS
74,712,345
74,603,709
74,457,745
74,345,957
74,344,576
LOSS
DISTRIBUTIONS
P
•
167,245
142,456
123,345
113,342
94,458
TOTAL LOSS
DISTRIBUTION
Frequency
of events
•
0
•
VAR
CALCULATION
P
1
2
3
4
Severity
of loss
VaR
Calculator
e.g.,
Monte
Carlo
Simulation
Engine
Risk
Mean
99th Percentile
Annual Aggregate Loss ($)
0-10
1020
2030
3040
4050
What is the impact of
the tail on the mean?
Source: Chernobai et al. (2007)
Slide 26
Operational risk
Modelling of OR losses
Two parts of data simulations – body and tail
Source: Chernobai et al. (2007)
Slide 27
Basel II
Operational risk – Research results by P.Teplý
and R. Chalupka
simple parametric distributions significantly underpredict losses
in the tail
focusing on the tail seems more reasonable – EVT fits
statistically and brings reasonable capital estimates
block maxima model (max. dozen) fits the best, hence 7.2%
capital estimate (compared to 15% of banking income as
required by the SA) appears as the most reasonable
Body
Exponential
Gamma
Lognormal
Log-logistic
GH distribution
Empirical sampling
Empirical sampling
Tail
Exponential
Gamma
Lognormal
Log-logistic
GH distribution
EVT (block maxima, max. dozen, PWM)
EVT (block maxima, max. 2%, PWM)
Statistical fit
very poor
very poor
poor
poor
poor
excellent
excellent
Capital estimate (99.9%)
2.7%
2.1%
2.0%
9.5%
>100%
7.2%
9.2%
Source: Teplý (2009)
Slide 28
Basel II
Operational risk – Methodology applied by
P.Teplý and R. Chalupka
Extreme value theory
• losses of low frequency and high severity – upper tail of distribution
block maxima model
o
o
considers largest losses over a particular period of time
the limiting distribution of such normalised maxima is the generalised extreme value
(GEV) distribution
1

 

exp 1   x     if





F ( x)  
x
    
if

exp e

 
o
 0
•Loss
amount
•X
 0
•0
•Block maxima model
•Time
x refers to the maxima, μ is the location parameter, β is the scale parameter, and ξ is the
shape parameter, additional constrains on parameters
(see e.g. Chernobai 2007)
Slide 29
Contents
1. Types of capital - recap
2. Basel I, II, III - recap
3. Case study – operational risk
4. Examples and tasks from the textbook
Slide 30
Examples
Balance sheet of Mikeska & Co
Weight
Assets
0% Cash
Balances due from CNB
Treasury bills of Czech Ministry of Finance
Long-term bonds of the Slovak Governement
20% Cash items in process of collection
Municipal Bonds (Prague)
AA+-rated loans to Reiffeisenbank
Commercial loans, AAA- rated
50% Long-term corporate bonds (A- rated)
Mortgage bonds (Hypoteční banka)
Commercial loans, A rated
100% Commercial loans, BB+ rated
Third world loans, B+ rated
Premises, equipment
150% Commercial loans, CCC+ rated
N/A Deductibes (for capital calculation purposes)
Total Assets
CZK
bln
8
13
60
50
10
20
10
55
50
309
75
390
108
22
10
10
1,200
Calculate:
a) Tier 1
b) total capital
c) on-balance sheet risk-weighted assets (RWA)
d) total capital adequacy (CAD)
Slide 31
Examples
Off-balance sheet of Mikeska & Co
Calculate:
e) off-balance sheet risk-adjusted asset amounts (RAAA)
Off-balance
sheet Item
3-year loan
commitments
Credit
Conversion equivalent
Face value
factor
amount
80.0
50%
40.0
Risk
weight
100%
Risk-adjusted
asset amount
40.0
Off-balance sheet exposure
Type of contract
Risk(remaining
Notional Conversion
Potential
Risk
adjusted
maturity)
principal
factor
exposure
weight
asset amount
4-year fixedfloating IR swap
20.00
0.50%
0.10
50%
0.05
Off-balance sheet (OBS) exposure = Notional amount × Conversion factor
RAAA = OBS exposure × risk weight
Tier1
 4%
f ) Tier 1 ratio Tier1_ ratio  CRAA
g) credit risk-adjusted assets (CRAA) CRAA  RWA  RAAA
h) total capital adequacy (CAD) CAD  CAPITAL  8%
CRAA
Slide 32
Source
Slide 33
Thank you