On April 22nd, the EBA decided to pronounce itself to clarify the scope of its flexibility measures in terms of market risk, SREP, recovery plans, operational resilience in the digital environment and technological risk.
Prudential fair value of financial instruments
In terms of market risk, the EBA wants to reduce the impact that the volatility generated by COVID-19 can have on the valuation of instruments at fair value and, therefore, its negative effect on capital. The regulation establishes additional valuation adjustments or AVAs to ensure a prudent valuation of assets at fair value. These AVAs once calculated are discounted from Tier 1 or CET1 capital. Furthermore, AVAs can be calculated according to two methodologies: main and simplified. Those following the first alternative, calculate the AVAs individually and then add them taking into account an aggregation factor. This factor goes from the initial 50% to the current 66% that will remain until December 31st, 2020.
Additionally, considering the difficulties that banks are facing from an operational point of view to face regulatory information requirements, the EBA postpones the FRTB-SA report until September 2021.
Regarding SREP (Supervisory Review and Evaluation Process) the EBA takes a pragmatic approach to try and alleviate the operating pressure of banks in these times of crisis. Thus, for the 2020 financial year, the EBA considers that for those elements that have not been affected by the crisis or there are no relevant changes, the previously assigned values will be maintained. However, it emphasizes the importance of evaluating the viability of the entities when it comes to achieving their liquidity and capital needs.
The EBA also focuses its attention on recovery plans and warns entities that, although they must focus their operational capacity on their main activities, they must keep their, economic and financial viability recovery plans continuously updated in times of stress, given the rapid evolution of the current crisis. In addition, in the event of any significant change or infringement, entities must update their plans and inform the competent authorities which will be monitoring these plans. However, in order to lighten the operational burden, entities will be able to focus exclusively on the key aspects of their plans and postpone the rest for the next review cycle.
On the other hand, the EBA draws the attention of the entities regarding the management and risks of information and communications in an environment such as the current one in which most of the work is being carried out remotely. Thus, it requests the involvement of senior management when making decisions in this area in order to guarantee the safety and operations of both the entity and its customers. It also asks the competent authorities to supervise the decisions taken in this area.
Finally, the EBA is obliged to clarify the impact on the capital calculation of the securitizations that have been affected by the moratoriums (legislative or not) that arose as a result of the COVID-19 crisis. In this sense, the EBA points out that the assets underlying the qualifications that benefit from the moratoriums cannot be classified as unpaid or defaulters (unless they were previously in that situation), that is, they will not impact the capital calculation. However, entities must continue to monitor these assets from the point of view of credit risk.
This measure joins those already adopted by the ECB itself and other European institutions in recent weeks and which can be found in this article.