Basel iv revised trading and banking book boundary for market. Banks have to prove, that fair valued positions are not held with trading intent or do not hedge positions held with trading intent. What is the difference between the trading book and the banking book of a bank. A financial instrument is any contract that gives rise to both a. Before bcbs come with defined rules for banking book and trading book boundary, currently different banks have setup their on policy to do the same. Arpit is the global head of financial solutions at mathworks. How assets in the trading book and banking book are. A trading book consists of positions in financial instruments and commodities held either with trading intent or in order to hedge other elements.
Under volcker, therefore, trading accounts are not identified as such if the account aligns with the trading book or banking book within the bank. A partial list of these boundaryrelated concerns from the bcbs includes. A fundamental objective of frtb is creating a high, impermeable wall that separates the trading and banking books. Therefore, in addition to transparency requirements and reclassification burdens, a presumptive list for each book was published. What is the difference between a banking book and a. Data from the european banking authority eba published this autumn, assessing the potential impact of basel iii reforms on eu banks, underlined the importance of the eus forthcoming implementation of global regulatory standards on the capital banks must hold for certain activities. Any deviation will be subject to supervisor approval and. The boundary between the trading book and banking book and the scope of application of the minimum capital requirements for market risk. All other instruments must be included in the banking book. However, some joint dynamics are required to capture the emergence of collateral risk exploring both regulatory and internal risk capital concentration and correlation affects for concentration risk.
So far, the banks have been deciding if a book was a trading book or a banking book, and there was an incentive to arbitrage from this determination, as. Basel propose tougher boundary between trading and banking books. Basel iv revised trading and banking book boundary for. While the frtb has been finalized, it is important that the revised framework is fully tested and continuously monitored to ensure the calibrations are appropriate and risk sensitive. Basel propose tougher boundary between trading and banking. Definitions have been tightened and new restrictions introduced on transfers and hedges between the trading book and the banking book a key new concept is the regulatory trading desk, a standalone unit which will be run by a head trader with its own strategy and risk management structure.
The boundary between trading and banking books under frtb. Instruments comprise financial instruments, foreign exchange fx, and commodities. Trading book risks cannot be moved to the banking book for regulatory capital purposes. The eu published a proposal to amend the existing crr rules to meet the new bcbs standard in november 2016. The trading book of the banks refers to assets held by a bank that are regularly traded by the bank. Rbc25 boundary between the banking book and the trading book. May 03, 2012 measures designed to improve trading book capital requirements basel propose tougher boundary between trading and banking books investment executive ce corner. The revised boundary between the banking book and the trading book. What are the issues with the classification of the trading book and banking book boundary. Revised trading and banking book boundary for market risk 7 frtb still builds on the intent based criteria for tradingbanking book assignment but supplements it with essential prescriptive rules in order to provide more objectiveness. The boundary between the trading book and banking book and. Positions arising from internal hedges are eligible for trading book capital treatment, provided that they are held with trading intent and that the general criteria on trading intent and prudent valuation specified in bipru 1. The precise answer is both complex and involves considerable latitude for opinion.
Deviation requires explicit approval from supervisor. Regulatory boundary between trading and banking book new defined list of instruments presumed to be included in the trading book or banking book. Jan 14, 2016 standards minimum capital requirements for market risk effective from 1 january 2019 a. The boundary between the banking book and trading book has been revised to reduce incentives for a bank to arbitrage its regulatory capital requirements between the two regulatory books, with the boundary based on the banks intent to trade or hold a position to maturity. The basel committee on banking supervision bcbs wants to make banks treat the assets in their trading books more like those in their banking books by forcing them to hold increased capital against assets designated for trading historically, lower capital requirements for trading book assets had encouraged banks to shift assets from the more expensive. Aug 07, 2016 in general, trading book boundary rules restrict banks to transfer instruments between trading and banking book, specially for the regulatory arbitrage purposes. The primary issue with the above framework has been a lack of clear demarcation of boundary between the two books, which in the past enabled banks to shift assets to the trading book from the banking book prior to the financial crisis due to lower capital requirements and then do the reverse post financial crisis due to massive loss in. Regardless of where they are booked, all repostyle transactions are subject to a banking book counterparty credit risk. There has been a lot of discussion on how frtb will define whether a book is a banking book or a trading book. The trading book is required under basel ii and iii to be marked to market daily. One of the most immediate issues, from the eus perspective, is addressing capital requirements for market. Here is an analysis of the governance, position transfer and risk transfer provisions, comparing the existing eu rules with the bcbs standard and eu. For this purpose, trading related repostyle transactions are defined as only those that meet the requirements of rbc25.
The final rules establish a more objective boundary that serves to reduce incentives to. The trading book is an accounting term that refers to assets held by a bank that are regularly traded. Boundary trading book banking book definition of the boundary on an instrument basis tradingintent presumptive lists accounting trading asset or liability trading book marketmaking trading book real estate holdings banking book eg switching limits capital arbitrage mitigation supervisory redesignation. This chapter sets out the instruments to be included in the trading book which are subject to market risk capital requirements and those to be. Strict limits on the movement of instruments between the. The basel committee published in may 2012 a consultation paper proposing a more robust boundary between trading and banking books to avoid regulatory arbitrage, capture market illiquidity more effectively, strengthen the risk measurement and valuation requirements under both standardised and internal model based approaches along with. Arpit narain global head of financial solutions mathworks linkedin. A key new concept is the regulatory trading desk, a standalone unit which will be run by a head trader with its own strategy and risk management. Revised trading and banking book boundary for market risk. Through the frtb rules, bcbs is seeking, for example, to establish a more objective boundary between the trading book and the banking book, and to eliminate capital arbitrage between the regulatory banking and trading books. So far, the banks have been deciding if a book was a trading book or a banking book, and there was an. The valueatrisk var for assets in the trading book is measured on a 10day time horizon under basel ii.
One of the most visible updates to the trading book regime is the revised trading banking book boundary. In its previous form, the boundary between the trading book and the banking book was unclear. Financial instruments in a trading book are purchased or sold for reasons including to. Market risk is defined as the risk of losses arising from movements in market prices. Bcbs is seeking, for example, to establish a more objective boundary between. May 03, 2012 banks face tougher rules on how they differentiate between assets they keep in their banking and trading books, making it harder to dodge capital rules, under proposals published by the basel. Managing capital and stress testing for traded book assets. Strict limits on the movement of instruments between the books after initial designation. Definitions have been tightened and new restrictions introduced on transfers and hedges between the trading book and the banking book. In summary, the frtb involves a meaningful reorganization of the trading bookbanking book boundary, with a redefinition of some existing concepts and the creation of several new ones. A more sophisticated standardized approach sa based on risk factor sensitivities to adequately capture. Basel seeks tougher boundary between banking, trading books.
In this context, stricter limits as well as capital disincentives. So here are the definitions on how to treat a position either as a banking book or as a trading book. Frtb requires that business be allocated to either the trading or banking book, and not jump the boundary in an arbitrary way. Internal asset transfers between books need to meet stringent rules in order to limit the ability of banks to move assets from the trading book to the banking book, and vice versa. Capital requirements for market risk protiviti united. A new definition of the regulatory boundary between the banking book and trading book. Rbc25 boundary between the banking book and the trading. This would prevent lenders from shifting assets between books to try to lower their capital. Criteria for trading banking book boundary include instrument structure, accounting treatment, availability of prices, portfolio, desk, hedge. Program issues and impacts impact of the trading bookbanking book boundary regulators are establishing a more objective boundary to mitigate capital arbitrage between the regulatory trading. On larger view below methodology gets followed to classify the book as banking and trading.
Thinking strategically both from investment and capital perspective. The valueatrisk for assets in the trading book is measured on a 10day time horizon under basel ii norms in order to determine the capital requirement. Reassignments are more difficult, so it is critical that banks get it right the first time. Measures designed to improve trading book capital requirements. Following the 200708 global financial crisis gfc, bcbs and other regulatory bodies studied the global regulatory framework in an effort to understand what caused or contributed to systemic breakdowns in markets during that period. The change strongly restricts the current discretionary approach in the assignment and future reallocation of an instrument between the banking book and the trading book. This ability to arbitrage the boundary between the banking. So far, the banks have been deciding if a book was a trading book or a banking book, and there was an incentive to arbitrage from this determination, as there was a difference in the capital requirements for these books. Position paper crd vcrr ii international swaps and. Basel capital rules for banks trading books will shift. Switching require approval from senior management as well as regulators. What the basel proposals on bank tradingbook rules mean.
A partial list of these boundary related concerns from the bcbs includes. The difference between the trading and banking book blogger. A trading book is the portfolio of financial instruments held by a brokerage or bank. Basel seeks tougher boundary between banking, trading. The boundary between banking and trading book should be adapted in a way that should lead to a more objective allocation of positions. Traditionally, analysis of trading book and banking book is viewed as distinct from the analysis of the different nature and dynamics of risks. Consistency and crossover with other regulations mifid, bcbs 239, ifrs 9. Implications and actions for banks nevertheless, a number of banks have expressed the concern that frtb will lead to a significant increase in capital requirements which, combined with higher. If a bank does an interest rate swap with a customer, thats trading book. The boundary between the trading book and banking book.
In summary, the frtb involves a meaningful reorganization of the trading book banking book boundary, with a redefinition of some existing concepts and the creation of several new ones. A trading book consists of all instruments that meet the specifications for trading book instruments set out in rbc25. As per the bcbs rules, the revised boundary has been strengthened to discourage regulatory arbitrage. What you need to know about the new trading boundary. Capital requirements for market risk protiviti united states. A revised boundary between the trading book and banking book. The revised requirements will lead to increased demands on the availability of. Differences between interest rate risk irr in the banking and. Frtb new market risk framework polarizes regulators and. It seeks to bettercapture tail risk, to redraw the boundary between banking and trading books, and to raise the bar for internal models. For example, banks could move assets between the banking book and the trading book to minimise the capital charge. Tougher boundary between a banks trading book and its banking book to reduce regulatory arbitrage. The boundary between the trading book and banking book needs to be tightly defined.
The boundary between the trading book and the banking book. What you need to know about the new trading boundary frtb. It offered a degree of choice over how banks would like their assets to be classified and subsequently regulated. It was generally agreed that permeability across the tradingbanking book boundary created the opportunity for extreme mismatches between. Scope of application and methods of measuring market risk. The frtb will tighten desk management standards, trading. Implementing the frtb in the european union financial. Operating model, data management and system challenges.