The European Banking Authority (EBA) published the final guidelines that set out requirements for data inputs used to determine the scenarios of future shocks applied to modellable risk factors. The guidelines clarify the conditions that data inputs for modellable risk factors should meet for their use in the expected shortfall calculations. Institutions using the alternative Internal Model Approach (IMA) for market risk are required to compute the expected shortfall risk measure for their modellable risk factors. The guidelines, which are part of the deliverables included in the roadmap for the new market and counterparty credit risk approaches, will be applicable from January 01, 2022.
The final guidelines set out criteria in relation to the accuracy, appropriateness, frequency of updates, and completeness of data inputs used by institutions for their modellable risk factors. The criteria aim to ensure the calibration of data inputs to historical data reflective of prices observed or quoted in the market, capture of general and specific risks, updates at appropriate frequency and whenever changes in market conditions require it, and replacement of any missing or inconsistent values in the data inputs, as needed. The data inputs used to determine the scenarios of future shocks applied to the modellable risk factors for the computation of the expected shortfall measure must, according to Article 325bc of the Capital requirements Regulation (CRR), be calibrated to historical data, from either the preceding 12-month period or a continuous 12-month period of financial stress. Institutions may use different sources or types of historical data for this purpose. Once a risk factor has been deemed modellable, an institution should verify that data inputs for the risk factor are accurate, appropriate, frequently updated and complete, based on the provisions included in these guidelines. The guidelines also include provisions to cover the following cases:
- Data inputs used in multifactor models (beta approximations) and other random data-generating approaches for the purpose of determining the scenarios of future shocks
- Data inputs used for combinations of risk factors
- Interpolation and extrapolation techniques used for replacing missing or inconsistent values in the data input
The revised Capital Requirements Regulation (revised CRR) implements, into EU legislation, the revised framework for minimum capital requirements for market risk, also known as the Fundamental Review of the Trading Book (FRTB), developed by the Basel Committee of Banking Supervision. One of the aspects introduced by the FRTB and included in the revised CRR is the alternative internal model approach, specifically revised to overcome the identified drawbacks in the Basel 2.5 internal model approach. The alternative internal model approach comprises three different components, one of which is the expected shortfall risk measure.
Effective Date: January 01, 2022
Keywords: Europe, EU, Banking, Market Risk, CRR, CRR2, FRTB, Expected Shortfall, Counterparty Credit Risk, Basel, Regulatory Capital, Internal Models, EBA
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