Response to consultation Paper on draft RTS on back-testing and PLA attribution requirements
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Day-one profit or loss: the fair value impact of new financial instruments that at the end-of-day (due to market fluctuations, passage of time and other factors) have a fair value price that differs from the transaction price;
Day-one reserve: sum of the amounts that are reserved for day-one profits that cannot be directly recognized in P&L. This is because the fair value estimation at the end-of-day of new financial instruments (mainly L3) is too uncertain, due for instance to the use of unobservable inputs
When looking at the End-Of-Day P&L of a portfolio (managerial view), the Day-1 P&L does not play a specific role and is generically part of the MOP (Market Operations) section of the P&L Explain process. This includes new trades, expires, novation, cancellation and reissuances, etc. Accordingly, the Day-One P&L is part of the End Of Day P&L and of APL. It is not part of HPL since the portfolio is kept static there.
When looking at the Accounting P&L representation however Day-1 P&L for L3 instruments is reserved and gradually released throughout its life.
As for the client margin this is not explicitly identified when it comes to OTC transaction, but it is rather part of the final price of the trade.
We would definitely see its advantage in dealing with RNIM (RF not in Model) where – if capitalized under SES – it is allowed to use the actual return realised in HPL to help passing PLA.
Q5. Do you agree with the criteria in paragraph 5 allowing institutions to exclude an adjustment from the changes in the trading desk’s portfolio value? Are there any other criteria you deem useful for this purpose?
The EBF in principle agrees with the criteria set out in paragraph 5. However, those criteria should be relevant only for those adjustments that are market risk related.Q6.How do institutions identify client margins and day-one profits/losses in the systems (e.g. as commissions, margins)? Please specify if currently they are taken into account in the end-of-day valuation process, in the actual P and L and in the hypothetical P and L.
Following the EBA 2020 EU Stress Test draft methodological note, the following definitions apply:Day-one profit or loss: the fair value impact of new financial instruments that at the end-of-day (due to market fluctuations, passage of time and other factors) have a fair value price that differs from the transaction price;
Day-one reserve: sum of the amounts that are reserved for day-one profits that cannot be directly recognized in P&L. This is because the fair value estimation at the end-of-day of new financial instruments (mainly L3) is too uncertain, due for instance to the use of unobservable inputs
When looking at the End-Of-Day P&L of a portfolio (managerial view), the Day-1 P&L does not play a specific role and is generically part of the MOP (Market Operations) section of the P&L Explain process. This includes new trades, expires, novation, cancellation and reissuances, etc. Accordingly, the Day-One P&L is part of the End Of Day P&L and of APL. It is not part of HPL since the portfolio is kept static there.
When looking at the Accounting P&L representation however Day-1 P&L for L3 instruments is reserved and gradually released throughout its life.
As for the client margin this is not explicitly identified when it comes to OTC transaction, but it is rather part of the final price of the trade.
Q7. Paragraph 4 requires institutions to compute (for the purpose of the backtesting) the value of an adjustment (that is included in the changes in the portfolio’s value) performing a stand-alone calculation, i.e. considering only the positions in trading desks that are calculating the own funds requirements using the internal model approach (i.e. desks meeting all conditions in article 325az(2)). Do you agree with the provision? Do you consider the provision clear?
The provision is clear but not fully aligned to Basel text. We strongly disagree with the provision since it introduces purposed built P&L elements that have no recognition in accounting/economic terms and as such are not managed or steered by the Banks (see also Q4).Q8. Do you agree with the possibility outlined in paragraph 5 to include in the portfolio’s changes the value of an adjustment stemming from the entire portfolio of positions subject to own funds requirements (i.e. both positions in standard-approach desks and positions in internal model approach desks)? Or do you think it would not be overly burdensome for institutions to compute adjustments on the positions in trading desks that are calculating the own funds requirements using the internal model approach only?
The possibility to recalculate the adjustments for top of the house back-testing only referencing positions under IMA should indeed be left as an option. However, using the back-allocation rules in place within the bank rather than by triggering recalculations. Not only a recalculation would be burdensome, but it would also suffer from the shortcomings described above and reported in Q4.Q9. Do you agree with the criteria outlined in this article for the alignment of input data? Please provide some examples where an institution could use the provision set out in paragraph 2.
The conditions for the use of the HYP risk factor value are not really clear (in particular what is meant by paragraph 2), however the principle as such is sound and should be left as an option in those cases where it might proof useful.We would definitely see its advantage in dealing with RNIM (RF not in Model) where – if capitalized under SES – it is allowed to use the actual return realised in HPL to help passing PLA.