Basel
ii in the United States of America
From the
Basel ii
Compliance Professionals Association (BCPA),
the largest association of Basel ii Professionals in the
world
Final Rule, USA: Risk-Based Capital Standards:
Advanced Capital Adequacy Framework — Basel II
Internal
Assessment Approach (IAA)
Under the final rule, as under the
proposal, a bank is permitted to compute its risk-based capital requirement for a
securitization exposure to an ABCP program
(such as a liquidity facility or credit
enhancement) using the bank’s internal assessment of the credit quality of the securitization
exposure.
The ABCP program may be sponsored by
the bank itself or by a third party.
To apply
the IAA, the bank’s internal assessment process and the ABCP program must meet
certain qualification requirements in section 44 of the final rule, and the
securitization exposure must initially be internally rated
at least equivalent to investment grade.
A bank
that elects to use the IAA for any securitization exposure to an ABCP program
must use the IAA to compute risk-based capital
requirements for all securitization exposures that qualify
for the IAA.
Under
the IAA, a bank maps its internal credit
assessment of a securitization exposure to an equivalent external credit rating from an
NRSRO.
The bank must determine the risk weighted asset amount for a securitization exposure
by multiplying the amount of the exposure (using the methodology set forth
above in the RBA section) by the appropriate
risk weight provided in Table F or G
above.
Under the proposal, a bank required prior
written approval from its primary Federal supervisor before it could use the
IAA. Several commenters objected to this requirement maintaining that approval is
not required under the New Accord and would likely delay a bank being authorized to
use the IAA for new ABCP programs.
Instead, commenters requested a submission and
non-objection approach, under which a bank would be allowed to use the IAA in the
absence of any objection from its supervisor based on
examination findings.
The
final rule retains the requirement for prior written
approval before a bank can use the IAA.
Like
other optional approaches in the final rule (for example, the double default treatment
and the internal models methodology), it is important that the primary Federal
supervisor have an opportunity to review a bank’s
practices relative to the final rule before allowing a
bank to use the optional approach.
If a bank chooses to implement the IAA at the
same time that it implements the advanced approaches, the IAA review and approval
process will be part of the overall qualification process.
If a
bank chooses to implement the IAA after it has qualified
for the advanced approaches, prior written approval is a
necessary safeguard for ensuring appropriate application
of the IAA.
Furthermore, the agencies believe this requirement can be implemented without impeding future
innovations in ABCP programs.
Similar to the proposed rule, under the
final rule a bank must demonstrate that its internal credit assessment process
satisfies all the following criteria in order to receive approval to use the IAA.
The bank’s internal credit assessments of
securitization exposures to ABCP programs must be based on publicly
available rating criteria used by an NRSRO for evaluating the credit risk of the
underlying exposures.
The requirement that an NRSRO’s rating criteria be publicly available does
not mean that these criteria must be published formally by the NRSRO.
While
the agencies expect banks to rely on published rating criteria when these criteria are
available, an NRSRO often delays publication of rating criteria for securitizations involving new
asset types until the NRSRO builds sufficient experience
with such assets.
Similarly, as securitization structures evolve over time,
published criteria may be revised with some lag.
Especially for securitizations involving new structures or asset types, the
requirement that rating criteria be publicly available should be interpreted broadly to encompass
not only published criteria, but also criteria
that are obtained through written
correspondence or other communications with an NRSRO.
In such
cases, these communications should be documented and
available for review by the bank’s primary Federal
supervisor.
The
agencies believe this flexibility is appropriate only for unique situations
when published rating criteria are not generally applicable.
A commenter asked whether the applicable
NRSRO rating criteria must cover all contractual payments owed to the bank
holding the exposure, or only contractual principal and
interest.
For
example, liquidity facilities typically obligate the
seller to make certain future fee and indemnity payments
directly to the liquidity bank.
These ancillary obligations, however, are not an
exposure to the ABCP program and would not normally be covered by NRSRO rating
criteria, which focus on the risks of the underlying
assets and the exposure’s vulnerability to those risks.
The
agencies agree that such ancillary obligations of the seller
need not be covered by the applicable NRSRO
rating criteria for an exposure to be
eligible for the IAA.
To be eligible for the IAA, a bank must
also demonstrate that its internal credit assessments of securitization exposures
used for regulatory capital purposes are consistent with those used in its internal
risk management process, capital adequacy assessment
process, and management information reporting systems.
The bank
must also demonstrate that its internal credit
assessment process has sufficient granularity to
identify
gradations of risk.
Each of
the bank’s internal credit assessment categories must correspond to an external credit rating of
an NRSRO.
In
addition, the bank’s internal credit assessment process, particularly
the stress test factors for determining credit enhancement requirements, must be at least
as conservative as the most conservative of the publicly available rating criteria of
the NRSROs that have provided external credit ratings to the commercial paper issued by
the ABCP program.
In light
of recent events in the securitization market, the agencies
emphasize that if an NRSRO that provides an external rating to an ABCP program’s
commercial paper changes its methodology, the bank must evaluate whether to revise its
internal assessment process.
Moreover, the bank must have an effective
system of controls and oversight that ensures compliance with these operational
requirements and maintains the integrity and accuracy of
the internal credit assessments.
The bank
must also have an internal audit function independent from the ABCP program
business line and internal credit assessment process that assesses at least
annually whether the controls over the internal
credit
assessment process function as intended.
The bank
must review and update each internal credit assessment whenever new
material information is available, but no less frequently
than annually.
The bank
must also validate its internal credit assessment process on an ongoing basis, but not less
frequently than annually.
Under the proposed rule, in order for a
bank to use the IAA on a specific exposure to an ABCP program, the program had to
satisfy the following requirements:
(i) All commercial paper issued by the
ABCP program must have an external rating.
(ii) The ABCP program must have robust
credit and investment guidelines (underwriting standards).
(iii) The ABCP program must perform a
detailed credit analysis of the asset sellers’ risk profiles.
(iv) The ABCP program’s underwriting
policy must establish minimum asset eligibility criteria that include a
prohibition of the purchase of assets that are
significantly past due or defaulted, as well as
limitations on concentrations to an individual obligor or geographic area and the tenor of the
assets to be purchased.
(v) The aggregate estimate of loss on an
asset pool that the ABCP program isconsidering purchasing must consider all
sources of potential risk, such as credit and dilution risk.
(vi) The ABCP program must incorporate
structural features into each purchase of assets to
mitigate potential credit deterioration of the underlying
exposures.
Such features may include wind-down triggers
specific to a pool of underlying exposures.
Commenters suggested that the
program-level eligibility criteria should apply only to those elements of the ABCP program
that are relevant to the securitization exposure held by the bank in order to
prevent an ABCP program’s purchase of a single asset pool that does not meet the above
criteria from disallowing the IAA for
securitization exposures to that program
that are unrelated to the non-qualifying asset pool.
The
agencies agree that this is a reasonable approach.
Accordingly, the final rule applies criteria
(ii)
through (vi) to the exposures underlying a securitization
exposure, rather than to the entire ABCP program.
For a program-wide credit enhancement facility, all of the separate seller-specific
arrangements benefiting from that facility must meet the above requirements for the facility to be
eligible for the IAA.
Several commenters objected to the
requirement that the ABCP program prohibit purchases of significantly past-due or
defaulted assets.
Commenters contended that such purchases should be allowed so long as the
applicable NRSRO rating criteria permit and deal
appropriately with such assets.
Like the
New Accord, the final rule prohibits the ABCP program from purchasing significantly
past-due or defaulted assets in order to ensure that the IAA is applied only to
securitization exposures that are relatively low-risk at inception.
This criterion would be met
if the ABCP program does not fund underlying assets that are significantly past due or
defaulted when placed into the program (that is, the program’s advance rate against such
assets is 0 percent) and the securitization exposure is
not subject to potential losses associated with these
assets.
The
agencies observe that the rule does not set a specific
number-of-days-past due criterion.
In addition, the term ‘defaulted assets’ in
criterion (iv) does not refer to the wholesale and retail definitions of default in the final
rule, but rather may be interpreted as referring to assets that have been charged off or
written down by the seller prior to being placed into the ABCP program or to assets that would
be charged off or written down under the program’s governing contracts.
In addition, commenters asked the agencies
to clarify that a bank may ignore one or more of the eligibility requirements
where the requirement is not relevant to a particular
exposure.
For
example, in the case of a liquidity facility supporting a
static pool of term loans, it may not be possible
to incorporate features into the transaction that mitigate against a potential deterioration
in these assets, and there may be no use for detailed credit analyses of the seller
following the securitization if the seller has no
further
involvement with the transaction.
The
agencies have modified the final criterion for determining whether an exposure
qualifies for the IAA, to specify that where relevant, the ABCP program must incorporate
structural features into each purchase of exposures underlying the securitization exposure to
mitigate potential credit deterioration of the
underlying exposures.
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