Impact

Initial estimates suggest that the increase in capital charge for banks’ trading books from FRTB adoption will be considerably higher than current Basel 2.5 capital requirements for trading desks/banks. The impact of the capital increase will vary by jurisdiction. In Europe a “phase-in” proposal in the draft CRR proposes that a multiplier of 65% will be applied for three years and this period could be extended after review by the EBA. Further, banks adopting the standardised approach are expected to experience capital charges 40% higher than for desks/banks adopting the IMA. The sheer increase in capital charge has attracted the attention of bank senior managements. In addition, the wide gap between the standardised and internal models approaches will set the stage for competitive rebalancing across the industry. Banks that invest in and get regulatory approvals for using the IMA will potentially need to allocate only half or less capital than the SA – thus giving them twice the return on capital compared to SA banks, all other factors being equal.

Beyond the impact on capital changes, FRTB regulations could drive senior and functional managements to review their existing data, risk analytics and technology frameworks, and to assess their capabilities for supporting manifold increases in computational capacities across front office, risk, finance and operations. Adoption of FRTB standards will require substantial overhaul of banks’ risk analytics frameworks and processes, including model selection, validation and computation of parameters. It will also have wide-ranging implications on how trading books will be organised, capitalised, managed and regulated.