Response to consultation on Guidelines on proportionate retail diversification methods
Q2. Do you identify any implementation issue in implementing the diversification method?
The EBA proposes a highly disproportionate method where a portfolio of retail exposures of EUR 500mn or more is considered by definition as diversified and therefore can be granted the 75% risk weight whereas a portfolio of retail exposures of less than EUR 500mn is subjected to a diversification test which may result in the entire portfolio or parts of it being assigned a risk weight of 100%. The proposed method effectively means that the smaller a financial institution's retail portfolio is, the larger is the part being assigned a 100% risk weight.
The method proposed by EBA is based on a Basel III standard which stipulates that a retail exposure is considered as diversified if the exposure does not exceed 0.2% of the total portfolio of retail exposures. As both Basel and CRR at the same time set an upper limit for a retail exposure of EUR 1mn, all retail exposures of institutions with a retail portfolio of EUR 500mn or more will by definition meet the threshold of 0.2% (as the individual exposure would otherwise not be considered part of the retail exposure category), and the entire retail portfolio will by definition be considered as diversified (EUR 500mn x 0.2% = EUR 1mn).
Therefore, for smaller institutions, EBA’s Guidelines on the diversification of the retail portfolio may lead to a significant increase in the capital requirement for the retail portfolio, despite two alternative methods of calculating the part of the exposures in the retail portfolio that can exceed the 0.2% threshold (an iterative 10% approach and a non-iterative 5% approach).
Furthermore, the quarterly implementation of the granularity test leads to considerable expense. Since the structure of the relevant credit portfolio is not expected to change significantly within a quarter, an annual calculation should also be permitted for banks whose share of loans that exceeded the 0.2% criterion in the CRSA retail business at the last survey is well below the 10% threshold.
A quarterly calculation not only makes planning and price calculation for the retail portfolio more difficult but also adds unnecessary complexity. By reducing the frequency of the test, we can alleviate this burden and streamline operations, making the process more straightforward and less complex for banks.
To further reduce the burden on banks, the test should only be carried out once a year at year-end for banks whose RWA from CRSA retail business accounts for less than 10% of total RWA (de minimis limit 1) or a certain amount (de minimis limit 2).
Banks should also be able to exclude from the granularity test those exposures in the CRSA retail class that receive the guarantor's risk weight due to guarantors providing unfunded credit protection (e.g., guarantees) outside the CRSA retail exposure class.
Q3. Which methods do you currently use to assess retail diversification? Please elaborate.
Currently, very different methods are used to define the granularity threshold. The majority of banks use the 0.2% criterion, a quantitative measure, while small banks, in particular, mainly use qualitative criteria. This diversity ensures that banks with different business models can define the granularity threshold that suits them, taking into account their specific business requirements and size.
Using qualitative criteria, particularly for small banks, ensures consistent treatment of loans in the retail portfolio. This flexibility is not just a preference, but a necessity to account for the specific requirements of a business area and the different sizes of institutions. It reassures banks that the proposal is adaptable to their unique circumstances.