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    PRA Sets Out Application Dates for FRTB Approaches, Reviews SIMM Model

    June 28, 2022

    The Prudential Regulation Authority (PRA) issued a letter setting out the approach and timeline for firms to submit new market risk internal model and standardized approach applications, ahead of the UK implementation of Basel 3.1. Also published was a letter on use of the Standardized Initial Margin Methodology (SIMM) model by firms in scope of the Mandatory Margining Rules for non-centrally cleared derivatives. In addition, the UK central bank's Financial Policy Committee (FPC) confirmed that it will withdraw the mortgage market affordability test recommendation, with effect from August 01, 2022. The test specifies a stress interest rate for lenders when assessing prospective borrowers’ ability to repay a mortgage.

    Recently, PRA had announced its intent to consult on the UK implementation of Basel 3.1, including the Fundamental Review of Trading Book (FRTB), in the fourth quarter of 2022, with a planned implementation date of January 01, 2025. Assuming this implementation date, in this recent letter, PRA has set out an expected timetable for firms to submit the new market risk internal model approach (IMA) applications to PRA for review and decision, ahead of the UK implementation of FRTB. Due to the changes in the new market risk framework, the existing internal model permissions for market risk are expected to become redundant. Therefore, the current internal model approach firms would automatically move to the new standardized approach when the new rules are implemented, unless they are granted a new internal model approach permission under FRTB. To allow sufficient time to review the applications, PRA would expect firms to submit the final pre-application materials at least 12 months in advance of the implementation data—that is, by January 01, 2024. Again, A number of provisions in the new standardized approach are also expected to require regulatory permission (for example, the use of firms’ own risk-sensitivity calculations). Given the larger number of firms that will use the standardized approach, again, PRA would expect firms to submit any related pre-application materials at least 12 months in advance of UK implementation.

    As another one of its supervisory initiatives, PRA had conducted a review of the use of the Standardized Initial Margin Methodology (SIMM) model by large banks, to monitor performance during the COVID-19 pandemic market stress period and assess model compliance against the regulations governing exchange of margin on non-centrally cleared derivatives. The review identified issues primarily relating to the SIMM model governance and firms’ capability to identify and remediate model underperformance on a timely basis. Based on the findings of its review, PRA has outlined certain actions for the Category 1 banks using SIMM and it expect firms to take the indicated steps (in the Annex to the letter), where relevant, by December 2022 and then report the findings to their supervisors. In this context, PRA expects firms to undertake a self-assessment of their implementation of the mandatory margining for non-centrally cleared OTC derivatives requirements against the relevant regulations and provide a corrective action plan for any gaps identified.

     

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    Keywords: Europe, UK, Banking, Basel, Market Risk, Internal Models, Standardized Approach, FRTB, SIMM, ISDA, FPC, Credit Risk, Derivatives, Mortgage Affordability Test, PRA

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