Libor fallback, Brexit and the problems with Cover 2

The week on, November 17-23, 2018

7 days montage 231118

Japan dealers unhappy with all Libor fallback options

Bank association snubs request to rank Isda’s proposals – reluctantly picking ‘least bad’ option

‘Cover 2’ reserves inadequate for many CCPs – study

Stress tests underestimate how twin member failure affects clearing house stability

Eurozone banks bet on 2024 MREL deadline to ease Brexit pain

SRB says legacy English law bonds ineligible, but BRRD grandfathering could solve the problem


COMMENTARY: The power of the unexpected

The process of the UK’s orderly and measured departure from the European Union continued to run smoothly this week. Except when it didn’t. On the ‘good news’ side of the line, a solution is now within reach to the problem of dealing with bonds issued under English law, which won’t be eligible for inclusion in banks’ bail-in buffers after the UK leaves. The EU authorities are converging on an extended grace period to 2024, which should be long enough for most of the problematic bonds to be rolled over into newer compliant versions. There’s also room for case-by-case exemptions, the EU’s Systemic Risk Board says, though most market participants doubt this will be necessary if the extended deadline is approved.

Unfortunately, there is bad news as well. The proposed agreement brought back last week by UK prime minister Theresa May was not well received by Parliament – both the opposition Labour party and many of her own Conservatives were dismissive of the terms on which the UK would leave. May’s future as prime minister was thrown into doubt, as reflected in the turbulence in foreign exchange options markets. The deal now has to pass a vote in Parliament – far from a sure thing – and future possibilities include a second vote in the new year, an extension to the Brexit deadline, attempts to renegotiate, and even the fall of the UK government and a second referendum.

Political risks like this are the bugbear of risk managers. They’re difficult if not impossible to model in any sort of quantitative way – and qualitative risk assessments can be little better than semi-informed guesses, vulnerable to bias and ignorance. How can any institution attach a defensible probability to the possible outcomes of the latest twist in the Brexit saga? And yet this is exactly what senior management will have to do repeatedly over the next four months as the exit date approaches – and possibly, if an extension is sought and granted, for a year or more after that.

Operational risk managers in particular have long wrestled with the problem that tail risk events are at once the hardest to model and the most likely to cause the collapse of their companies. The problem is not just risk, but uncertainty; the possible outcomes of events such as Brexit are hard to enumerate accurately, let alone model in order to produce a probability figure (though recent attempts using AI-derived technology have seemed promising).

Political risk remains one of the hardest challenges for risk professionals and senior managers everywhere, and underlines once again the huge and unappreciated value of stable and predictable politics.



Deutsche Bank held €42 trillion ($48 trillion) in OTC derivatives notionals at the end of last year – 8% of total exposures across the sample of 75 bulge-bracket dealers the Basel Committee uses to designate global systemically important banks.



I think the spot [cryptocurrency] market has a lot of issues. From a potential for conflicts of interests to exist on the platforms, for questions around security and custody, for surveillance of manipulative activity – Brian Quintenz, CFTC

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