FSA outlines op risk development

REGULATORY UPDATE

LONDON -- Officials from the UK’s Financial Services Authority (FSA) outlined the regulator’s approach to the development of the new operational risk regime under Basel II at a conference in London in mid-September. Officials at the FSA event, Implementing the Basel proposals in the UK, acknowledged that there is still a long way to go before banks can fully implement the basic indicator (BIA), standardised (TSA) or advanced measurement (AMA) approaches.

Ian Tower, head of the risk review department of the prudential standards division at the FSA, noted in his speech that within the AMA approach, one of the major outstanding issues was the minimum threshold that is to be applied to the collection of loss data. In the regulator’s consultation paper 189 -- Report and first consultation on the implementation of the new Basel and EU capital adequacy standards, it chose to leave that threshold up to the judgement of individual firms. However, Tower says that several firms have since asked the regulator for further guidance on this subject, and so the FSA will be issuing a document outlining how firms might determine their threshold number. Indeed, the threshold paper is the first in what is expected to be a series of ‘issues papers’ from the FSA giving guidance on various operational risk subjects, according to Colin Tattersall, manager of the operational risk policy team in the prudential standards division of the FSA.

Tattersall, in his own speech, indicated that the upper limit of such a threshold would normally be about €20,000. He also indicated that the FSA will ask firms to collect data for their internal loss databases based on accounting, rather than economic losses, and that firms should not include near misses for now in their calculations of the op risk capital under Pillar I. However, he indicated that firms should continue to track near misses and manage them. In addition, the loss database should map to the 56-cell matrix outlined in Basel II, and the FSA will expect data accuracy and robustness to be the same as it is for credit risk, he said.

The draft text for the Prudential Sourcebook will be issued over the course of 2004, with the text for the BIA and TSA coming earlier in the year, and the AMA text expected around September. A draft of the waiver pack -- banks will have to apply for a waiver to adopt the AMA -- will also be released in early 2004. Tower said that the FSA will probably charge fees for firms wishing to apply for the AMA or A-IRB approaches to help finance the additional staff that is required, and other expenses.

Tattersall said that the FSA will begin discussions with firms who wish to apply for the AMA in the first half of 2004. But Tower indicated that it would be "unrealistic" to contemplate giving firms approval of their individual approaches to the AMA before mid-2005. Said Tattersall, "The AMA will be a challenge for the industry and for ourselves." OpRisk