Internal Ratings Based (IRB) approach: clarifying PRA expectations

Policy Statement 23/17 | Consultation Paper 5/17

Published on 3 October 2017

Internal Ratings Based (IRB) approach: clarifying PRA expectations – PS23/17

Overview

This Prudential Regulation Authority (PRA) policy statement (PS) provides feedback to responses to Consultation Paper (CP) 5/17 ‘Internal Ratings Based (IRB) approach: clarifying PRA expectations’. It contains the final amendments to Supervisory Statement (SS) 11/13 ‘Internal Ratings Based (IRB) approaches’.

This PS is relevant to UK banks, building societies, and PRA-designated investment firms.

The proposals in CP5/17 sought to clarify PRA expectations for firms applying for IRB model approval as to:

how they can demonstrate that they meet the requirements of the Capital Requirements Regulation (CRR) on ‘prior experience’ of using IRB approaches; and
on the use of external data to supplement internal data for estimating Probability of Default (PD) and Loss Given Default (LGD) for residential mortgages.

CP5/17 also proposed to set two reference points for estimating Probability of Possession Given Default (PPGD) for residential mortgages for firms that lack significant possession data.

Chapter 2 of this PS outlines the PRA’s feedback to the responses received during the consultation. The Appendix contains the updated SS11/13.

Having considered respondents’ comments, the amendments to SS11/13 are as proposed in CP5/17 with two additional clarifications that are outlined in paragraphs 2.5 and 2.9 of this PS. These clarifications relate to the calibration of margins of conservatism in PD and LGD estimation and to the monitoring of rating systems. The PRA does not consider these clarifications to have any additional material impact on firms, and so has not provided an updated cost-benefit analysis.

Implementation

The amendments to SS11/13 apply with immediate effect. They will apply to any IRB model application received after publication of the updated SS11/13, and also to IRB applications that have been received by the PRA prior to that date but for which a PRA approval or rejection decision has not yet been taken.

Policy Statement 23/17

Appendix

Supervisory Statement 11/13 UPDATE

Published on 28 March 2017

Internal Ratings Based (IRB) approach: clarifying PRA expectations - CP5/17

Overview

This consultation paper (CP) sets out the Prudential Regulation Authority’s (PRA) proposed changes to Supervisory Statement (SS) 11/13 ‘Internal Ratings Based (IRB) approach’ to clarify the PRA’s expectations for firms applying for IRB model approval as to:

how they can demonstrate that they meet the requirements of the Capital Requirements Regulation (CRR) on ‘prior experience’ of using IRB approaches; and
on the use of external data to supplement internal data for estimating Probability of Default (PD) and Loss Given Default (LGD) for residential mortgages.

The PRA is also proposing to set two reference points for estimating Probability of Possession Given Default (PPGD) for residential mortgages for firms that lack significant possession data.

The proposals are relevant to UK banks, building societies, and PRA-designated investment firms.

The proposals in this CP are part of a suite of enhancements to improve the IRB model application process and to clarify the PRA’s expectations regarding areas of the IRB framework that have been identified by firms as lacking clarity. These areas were set out in the PRA’s 2016 Annual Competition Report (ACR).

Background

The PRA’s 2016 ACR set out some of the ways in which the PRA has delivered, and intends to deliver, against its secondary competition objective. The ACR included a review of the PRA’s approach to IRB model applications from smaller firms. Feedback from the industry on the IRB approach covered three broad issues: i) process, (ii) clarity about regulatory requirements for IRB model approval; and iii) data inadequacies.

The PRA committed in the ACR to respond to these issues by:

enhancing the application process;
clarifying the PRA’s expectations regarding the IRB approach; and
providing further information regarding data requirements, including the use of external data to supplement a firm’s own data.

Responses and next steps

This consultation closes on Wednesday 28 June 2017.

The PRA aims to issue the updated SS11/13 in October 2017. The proposals are set out in the appendix to this CP.

Consultation Paper 5/17 Opens in a new window