LONDON, 24 May 2007 — Many banks, even those perceived as the most sophisticated, may not yet have sufficiently transparent, auditable or replicable systems in place to efficiently allocate regulatory capital among individual business units and will face challenges implementing Pillar 2, according to Standard & Poor’s Risk Solutions, a leading provider of integrated credit risk solutions.
Until recently, for most banks adopting an Internal Ratings based-approach, the focus of Basle was Pillar 1.
“Developing, validating and creating a user-test history has been a huge investment in time and money for the major international banks,” said Paul Waterhouse of Standard & Poor’s Risk Solutions. “But now, Pillar 2 looms large and has the potential to undermine investment to date. Of course, for those banks that work through Pillar 2 successfully, the regulatory hurdle it represents for others can be a profound source of competitive advantage.”
Executing an enterprise-wide, transparent risk capital system and firm-wide portfolio approach were among the key challenges faced by banks as they move to adopt Pillar 2, Waterhouse said.
“The irony for some of the more sophisticated banks that moved early to more complex economic capital management is that business unit or department-specific execution may actually now challenge meeting Pillar 2 as central to Pillar 2 is firm-wide, transparent and consistent implementation of risk capital management,” Waterhouse said.
“Internal Rating-based banks will need to demonstrate a robust and objective approach to an integrated risk capital calculation. This includes having an effective, codified and transparent system for evaluating the impact of guarantees, group structures, inter-asset class correlations, pricing and limit setting and management.”
“While process has been key for Pillar 1, much of it is related to the technical execution of executing and validating probability of default, loss-given default and exposure at default measures,” Waterhouse said.
“With Pillar 2’s focus on firm-wide overall capital adequacy, the focus switches to ensuring a ‘top down’, integrated risk position and a strategy around this. Issues such as liquidity risk and legal risk become much more central and, hence, so do the processes for managing and calculating these.”
Standard & Poor’s Risk Solutions has been providing solutions required to satisfy Pillar 2 for some time but has recently codified its offering into a comprehensive suite of services.
Standard & Poor’s Risk Solutions helps clients worldwide to develop, enhance, and validate their credit assessment processes, collect and analyze data, model credit risk, and train staff, working on both low default and SME credit risk. Risk Solutions leverages Standard & Poor’s experience in credit assessment to help institutions manage their credit activities with confidence. The analytic services provided by Standard & Poor’s Risk Solutions are performed as entirely separate activities in order to preserve the independence and objectivity of each Standard & Poor’s analytic process. All non-public information received by Risk Solutions is held in confidence, and Risk Solutions analysts do not disclose non-public information outside their specific analytic areas. Risk Solutions’ credit risk products and services are based solely on information received by Risk Solutions. Standard & Poor’s Risk Solutions has no access to information obtained by other divisions of Standard & Poor’s, including Ratings Services, which may in their regular operations obtain information of a confidential nature.
