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ComplianceFinanceSeptember 12, 2023

Basel IV: An integrated risk framework can furnish a 360-degree view of exposures and performance

As operating and compliance challenges mount, bankers need a comprehensive approach to data analysis, risk management and regulatory reporting so they can devote more energy to strategic planning.

Implementing and living under the new suite of financial regulations, most notably the still evolving final Basel III standards, is never going to be easy for financial institutions in the best of circumstances. Between the pandemic and its aftermath of soaring inflation and interest rates, alas, circumstances are far from the best. 

The more fraught operating environment amplifies a number of challenges that the industry has been struggling with. If not dealt with correctly, they may impair an institution’s ability to meet regulatory reporting obligations and operate effectively in its marketplace.

The key to converting adversity into concrete opportunity is an integrated risk and reporting framework that saves time, resources, and offers banks the 360-degree view of risk and performance that regulators and business conditions demand.

Thorny issues at the start, thornier ones now

Institutions, especially large, systemically important ones, are due to experience much harsher regulatory burdens under Basel IV, as the framework is known, and its regulatory and legislative offshoots, such as the third iteration of the European Capital Requirements Regulation (CRR3) or UK PRA’s Basel 3.1, than under the old regime. In perhaps the most consequential change, capital requirements are likely to rise due to provisions intended to steer banks away from using internal-ratings-based analytical models and toward standardized approaches. It will be necessary for banks to provide more granular data more frequently and to undergo more rigorous stress tests.

Further, the Basel Endgame proposal from the U.S. Federal and Regulatory agencies may materially increase capital requirements applicable to banking organizations with total assets of $100 billion or more and applying a broader set of capital requirements to larger banks. The proposal is estimated to bring 16 domestic banks and the intermediate holding companies of 12 foreign banks under the regulatory net.

Greater reporting requirements raise the likelihood of errors when compiling data and running it through analytical processes to derive metrics that regulators are interested in. That, in turn, heightens the risk of fines and reputational damage. Greater capital requirements, meanwhile, make it more difficult to achieve performance goals that shareholders are interested in.

With so much at stake, the last thing banks need is the pressure of a ticking clock. But that is what they have got. Deadlines for putting various Basel rubrics into practice were pushed back after banks and financial authorities alike acknowledged the tall order that the industry was presented with, but that wiggle room is shrinking, and for firms that have fallen behind in reconfiguring their processes and technology, the wiggling may turn to squirming.

Financial supervisors are not trying to torture banks. The laudable goal is to help them know themselves and their vulnerabilities better so they can make necessary corrections and improvements and be as ready as possible for the next crisis.

Old ways masking old and new mistakes

Yet banks maintain systems and methods that almost seem designed to limit self-awareness and an ability to ferret out mistakes. The siloed organizational structure that prevented so many from seeing the cracks in the system before the global crisis 15 years ago remains entrenched at many institutions.

Ignorance of their vulnerabilities is a luxury that banks could never afford, and certainly not today. Compliance and regulatory reporting obligations are increasing. So are risks, and not just from traditional sources.

Risks related to environmental, social and governance factors are a growing priority for supervisors. At the same time, hackers, money launderers and other financial criminals are raising their game.

These developments will make planning around performance and risk management more crucial than ever, and that will give every key strategic decision, especially about risk, heightened importance. Yet with so many immediate regulatory and marketplace concerns to contend with, bankers have little time for long-term thinking.

A holistic approach to managing multiple risks

There is one strategic decision that will free financial institutions and bankers to make many others: adoption of a fully integrated risk management framework. Details may vary, but a well-conceived solution will feature a modular, cloud-based design and have a common source of data available to all users within an organization via the interface that is most useful to each one.

Such a simple design makes data analysis and compliance cheaper and faster. Full integration facilitates an understanding of interdependencies among risks, a key element of Basel IV and an important capability when an institution is trying to gauge the true nature of its exposures and adjust them to satisfy regulators and meet commercial objectives.

Having a single source of data is especially useful in maintaining seamless operations during the transition to the new supervisory regime as internal models are replaced with standardized ones, and as new and existing processes run side by side. It also enhances accuracy and consistency in analysis and reporting, particularly at multi-regional firms, where manual adjustments would have piled-up over the years through use of operational silos and disparate legacy technology.

Once the transition is complete, the ability to take a comprehensive view – to understand risk and performance from multiple vantage points – helps banks achieve a key Basel goal of limiting variability of risk-weighted assets. It allows them to get a better handle on, and control of, impacts to capital from adjustments to models and computation methods.

Accurately pricing products becomes easier, as does calculating the value of business lines, portfolios, or individual contracts. Optimizing capital use, profitability and overall performance becomes a fully realizable objective.

The focus on these grander issues can be sharpened because the inherent simplicity of an integrated framework permits more efficient handling of day-to-day tasks. When assessing your organization's readiness to implement Basel III reforms, consider these four factors.

  • Regulatory Reporting: Understand and comply with regulatory implications related to model, data, reporting, controls, and validation for your business to meet compliance timeline business.
  • Enhance Performance: Prepare technology and IT infrastructure for scalability, flexibility, robustness, and security to address data lineage, business, and auditing requirements.
  • Manage Uncertainty: Evaluate capital allocation strategies through quantitative assessments of hypothetical and real market scenarios across various risk types.
  • Future Compliance: Ensure seamless and friction-free updates to impacted components for future regulatory refinements without disrupting ongoing operations.

OneSumX for Basel can help you manage the entire process from data integrity and lineage, through to finance and risk management, and into regulatory calculators and reporting. Connect with us today!

OneSumX for Basel Solution
Manage the entire process from data integrity and lineage, through to finance and risk management, and into regulatory calculators and reporting.
Amar Laddha
Product Manager for Risk and Finance, APAC
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