Including updates on liquidity reporting, EMIR and FICOD


Liquidity outflows: How many buckets does it take?

The 2007-08 crisis demonstrated the importance of understanding and managing liquidity. Global regulators have proposed a two pronged approach to ensuring that banks will be more prepared when the next liquidity crunch comes around:

  • Liquidity Coverage Ratio (LCR): a 30 day liquidity coverage ratio designed to ensure short-term resilience to liquidity disruptions
  • Net Stable Funding Ratio (NSRF): a more complicated longer-term structural liquidity ratio to address liquidity mismatches and promote the use of stable funding sources.

We are still a long way on calibrating the NSFR but global regulators have agreed the LCR. So now the fun starts on agreeing the details of the 30 day liquidity ratio. Countries will undoubtedly follow different paths (particularly in relation to defining liquid assets); the EBA is tasked with ensuring a harmonised approach in the EU.

On 1 August 2013, the EBA consulted on the methodology under the Capital Requirement Regulation (CRR) for identifying retail deposits that are subject to higher outflows. The proposal takes into account the likelihood of retail deposits leading to outflows of liquidity during a 30 day period during a financial crisis.

Under CRR the tranche of ‘stable’ retail deposits are subjected to a lower hypothetical outflow rate (5%). The remaining retail deposits are grouped in a broad bucket and have an outflow rate of at least 10% under proposals. Banks must then identify retail deposits which, owing to the behaviour of depositors, are subject to outflow rates in excess of the 5% and 10% minima. The draft guidelines split these into two further categories: high and very high risk.

This means firms will have to assign deposits into three buckets: stable, unstable (which have two separate categories high risk and very high risk) and deposits subject to a guarantee scheme, when they are reporting outflows for the purposes of regulatory reporting.

Deviating from EBA’s February discussion paper, the draft guidelines do not prescribe the associated outflow rates. Banks will report retail deposit amounts allocated to each bucket and their own estimates of expected outflows under stressed conditions. Banks will have to take into account the likelihood of deposits leading to outflows of liquidity over a 30 day horizon—not a easy task. The outflows should be assessed under the assumption of a “combined idiosyncratic and market-wide stress scenario”. The objective is to ensure a consistent and comparable measure of outflow rates across institutions for deposits that are subject to higher outflows than specified in the CRR.

We expect more consultations on CRR’s new liquidity regime in the coming weeks. In particular, the methodology for defining liquid assets under the LCR needs to be hammered down. The LCR requires banks to have adequate stock of high-quality liquid assets that can be converted easily and immediately in private markets into cash to meet their liquidity needs for a 30 calendar day liquidity stress scenario. Based on a previous discussion paper, the EBA’s methodology for defining liquid assets may be based on a scorecard, with the objective of producing an ordinal ranking of assets by combining a set of different liquidity indicators.

The discussion paper also outlined the scope of the EBA’s forthcoming analysis of defining liquid assets. The EBA will start its analysis by assessing the range of asset classes against the definitions in the draft CRR. It will then perform a detailed quantitative assessment of the liquidity of individual assets, with the objective of producing a ranking of the relative liquidity of the different asset classes. Finally, it will identify the features that are of particular importance to market liquidity. The objective of this last step is to provide the characteristics assets should have to be qualified as highly, or extremely highly liquid. Following the outcome of this analysis, EBA will report to the EC on appropriate definitions of high and extremely high liquidity assets and credit quality of transferable assets for the purpose of the LCR.

Work is also ongoing on the global stage to help banks and supervisors prepare for LCR. The Basel Committee issued the final version of its report on ‘Monitoring tools for intraday liquidity management’ back in April. The paper outlines a set of intraday liquidity indicators to help supervisors monitor how well banks manage intraday liquidity risk. The report stresses that no single indicator can provide supervisors with sufficient information on intraday liquidity risks or on how well risks are managed. In all, there are seven primary intraday liquidity tools, not all of which will be applicable to all banks at all times:

  • daily maximum intraday liquidity usage
  • available intraday liquidity at the start of the business day
  • total payments
  • time-specific obligations
  • value of payments made on behalf of correspondent banking customers
  • intraday credit lines extended to customers
  • tool applicable to reporting banks which are direct participants
  • intraday throughput.

These indicators, if used and handled correctly, should give supervisors a better take on banks’ ability to meet payment and settlement obligations on a timely basis, both in normal times and in stressed conditions. The crisis demonstrated the importance of managing liquidity positions and the risks of meeting payment and settlement obligations on a timely basis under stressed conditions are serious. Given the close relationship between the management of banks’ intraday liquidity risk and the smooth functioning of payment and settlement systems, the indicators are also likely to benefit those who oversee payment and settlement systems.


EMIR proposals narrow impact outside of EU

The European Securities and Markets Authority (ESMA) recently published a consultation paper on draft Regulatory Technical Standards on non-EU counterparties OTC derivatives under EMIR.

EMIR rules apply to derivative counterparties (both financial and non-financial entities which trade derivatives) established in the EU. But the EMIR primary legislation contains principles for extending certain obligations to derivative trading entities established outside the EU, when transactions have a “direct, substantial and foreseeable effect in the Union” or are conducted under arrangements designed to evade EMIR rules.

ESMA proposes that transactions  caught by the “direct, substantial and foreseeable” condition would be only those conducted by non-EU derivatives counterparties which are guaranteed by an EU regulated financial firm (over certain cumulative thresholds) or transactions conducted between EU branch offices of non-EU entities.  Whilst the proposals are narrower than expected it is important for derivative market participants outside of the EU to understand these proposals and consider whether they are likely to become subject to EMIR. 

Regarding anti-evasion, ESMA proposes an approach which looks to the primary purpose of the transaction, not just its form, and provides a list of factors which may indicate evasion. Both EU and non-EU derivative traders should consider their trading arrangements, and any indirect trading arrangements (where an EU counterparty retains a business or economic interest) in light of the anti-evasion factors.

Our Regulatory Briefings track the EU’s recent international discussions on extending EMIR rules outside of the EU (see our article on the US/EU Path Forward here) and provide more details of ESMA’s proposals.



The Joint Committee of the ESAs (JCESA) published final draft RTS on the consistent application of the calculation methods under Article 6(2) of FiCOD under the CRR and CRD IV on 29 July 2013. The RTS relate to the ESAs’ mandate contained in CRD IV and the CRR.

The Financial Conglomerates Directive (Directive 2002/87/EC), dubbed FiCOD, established four methods for calculating own funds to be held at the level of the financial conglomerate, over and above sectoral requirements. These four methods were the accounting consolidation method, the deduction and aggregation method, and book value/requirement deduction method and the combination of the first three methods. Member States were given the discretion to determine which method(s) should be used by financial conglomerates within their jurisdiction.  The possibility of using the third method (book value/requirement deduction method) was removed by a 2011 amendment to the Directive, leaving the first two methods and the possibility of combining them.

CRD IV introduces amendments to FICOD (Article 21a) and CRR, under Article 49(1), introduces the possibility of using the FICOD calculation methods as an alternative to deduction.  The RTS introduce identical requirements covering the two legal bases in order to ensure consistent application of the different calculation methods by national supervisors. Importantly, they limit the use of the third combination method only to situations where the use of one of the first two methods is not feasible.

The RTS take into consideration the revised sectoral rules, introduced through CRD IV/CRR, Solvency II, UCITS and AIFMD, to ensure a consistent approach across different financial conglomerates. They aim to:

  • eliminate multiple gearing
  • eliminate intra-group creation of own funds
  • ensure own funds are transferable and available
  • ensure coverage of deficit at the financial conglomerate level, taking into account the definition of cross-sector capital.

The JCESA has passed the RTS to the EC for endorsement.