Fundamental Review of the Trading Book

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The Basel Committee released “Fundamental Review of the Trading Book” in January 2016, with the joint aims of addressing the shortcomings of existing market risk capital frameworks (Basel 2.5) and to design a minimum capital standard for market risk that is to be more uniformly applied across jurisdictions.

The clue is in the name – it is a fundamental overhaul of the existing market risk capital rules. Unlike those quick fix rules, the FRTB is intended for the long term, so the industry must strategically plan business, operations and technology roadmaps accordingly. It overhauls the standardised approach to market risk, forcing banks to calculate and report Market Risk Capital for the first time, radically altering the way that model approval is granted and policed, replaces value-at-risk (VAR) with expected shortfall (ES) as the standard risk measure, redefines the boundary between banking and trading books and impacts many other areas that require strong significant transformation of technology and operational infrastructures.

We distilled these challenges into – Strategic, Business and Technology – categories.

  1. Business – Gaps and impact of new risk and capital management treatments, processes, procedures, control, reporting and organisational structure to facilitate and maintain compliance.
  2. Strategic – Significant overhaul of Target Operating Models, Optimisation of capital and business re-engineering.
  3. Technology – How to augment existing ecosystems without impacting “business as usual” so that the firm can support FRTB compliance prep, the migration from current to future steady state and then the ongoing maintenance under a robust, high performing, transparent and efficient technical environment.

At Razor Risk, we provide a comprehensive consultative, technology and risk management solution offering that meets the business and technology challenges facing banks. The Razor™ platform is designed to provide risk measurement, management, control and reporting for Market Risk, Liquidity Risk, Counterparty Credit Risk and Capital Calculations as an integrated risk management platform. The existing infrastructure provides a full suite of sophisticated risk valuation models, a facility to run 3rd party or in-house built models and a flexible rules engine that can be end-user maintained to make changes as needed. We also work with established partners in Management and Business consulting to deliver holistic and comprehensive business and technology solutions.

The current version of Razor™ supports the Standard Model approach (SA) “out-of-the-box” along with all components needed to support Expected Shortfall (ES) under the Internal Model Approach (IMA). We fully support stress and back testing requirements while allowing ES and VaR calculations to be run in parallel. Although our presumption is that the Default Risk Charge (DRC) and Non-Modellable Risk factors (NMRF) will be bank-specific, we provide standardized DRC and NMRF capabilities that are customisable to individual bank specifications during implementation.

In addition to SA and IMA, Razor™ is capable of receiving and storing sensitivities and historical P&L risk factors from external systems, enabling users to compare the numbers to ascertain per desk P&L Attribution results. The powerful Razor™ ‘What-If’ analyser is designed to help business users to assess the impact of alternate desk structures and impacts on capital charges to arrive at an optimal target model and regulatory capital.

Additionally a flexible Limits and Excess management function, including 4-eyes workflow and reporting allows users to set limits for each desk in terms of exposure, trade contributions, modellability, face-value checks, maximum availability checks, pre-deal assessments and risk factor volatilities, that can be maintained by risk managers to provide the rigor needed to ensure compliance.

Overall, from a solution perspective, Razor™ provides a software environment that supports a comprehensive and flexible FRTB solution giving banks the options of:-

  1. Integrating Razor™ as part of the overall FRTB solution with existing market risk BAU systems and data sources; or
  2. Replacing existing market risk solutions with the Razor™ Market Risk module, a framework that includes the ‘built-in’ FRTB solution.

From an implementation perspective, we have looked at the complexities of market risk infrastructures within each bank and the challenges FRTB poses. Razor Risk proposes an iterative approach to implementing the Razor™ FRTB solution “out-of-the-box” to enable optimised desk structures under the IM approach. Razor™ will also enable banks to begin early reporting to regulators (“shadow reporting”) to gain regulators’ confidence in the performance of the chosen internal model, which in turn will smooth the regulatory application approvals procedure.


How this helps compliance with FRTB

Our Platform

Ability to map bank’s risk policy and desk structures

End user configurable Reference Data module that enables each bank to map their desk and organisational structures into the system

Give an initial “current” state assessment for Market Risk Capital Charges on SA basis quickly.

Data can be auto-loaded if available e.g. Volker Rule trading desk hierarchy, OR input manually

Ability to map policy for Trading and Banking Book frontier

As above plus the firm’s risk appetite and related documentary rules can also be maintained in Razor Risk so that applicable Limits and Monitoring rules can be applied as needed.

FRTB requires extensive documentation to support regulatory assessments. Razor™ can be used to set up templates, portfolios and associated rules so each trade is earmarked automatically as it enters the system, thereby avoiding any misplacements and highlighting any breaches or alerts indicating an error.

Limits and Excess Management

This module allows end users on each desk to set, monitor, report and maintain the structures needed to provide controls and early warning s of any potential exposures or excesses

The Limits for each desk in terms of exposure, trade contributions, modellability, face-value checks, maximum availability checks, pre-deal assessments, risk factor volatilities, etc. can all be deployed and maintained by end users to provide the rigor needed to ensure compliance

Integrated Workflow engine for Limits & Excess setups

The workflow engine can be set up to ensure seamless, straight-through processing of all manual tasks oriented activities so that the admin of the overall system can efficient and effective.

Making the processes more efficient and integrated back into the overall FRTB solution, providing controls from trader up to desk heads and Desk heads into Risk and Risk into Board as seamless, transparent and auditable as required

Real-Time SA- Capital Charge Calculations

On a trade-by-trade basis, each trade or market data update creates an ”event” in Razor™ that automatically triggers a revaluation of all impacted portfolios, ensuring the capital charge is known throughout each trading period.

The significant additional calculations and aggregations will have a huge impact on BAU systems; Razor™ can pick up the slack and augment capabilities in a cost effective and efficient manner.


The ability to re-model different structures and portfolios to see the impact on a particular area e.g. Capital Charges

This will provide each bank with the ability to model away from the “current state” towards an optimised “steady state” highlighting exactly where the impact of any re-organisation or use of an Internal Model lies

Real-Time IMA-Capital Charge Calculations

On a trade-by-trade basis, each trade or market data update creates an ”event” in Razor™ which automatically triggers a revaluation of all impacted portfolios, ensuring the capital charge is known throughout each trading period.

The complexity of running additional Expected Shortfall calculations, incorporating non-modellable risk factors and computing each Default risk Charge on top of the prescribed calculations will be very difficult with BAU systems. Razor Risk can pick up the slack and augment capabilities in a cost effective and efficient manner.

VaR and ES calculations

The follow up of ensuring model veracity is to conduct tests and validations using a VaR/ES model alongside the other FRTB calculations

Whilst this is a fairly straightforward requirement, Razor™ can run the calculations simultaneously with the other FRTB calculations thereby reducing compute time and reduce the number of systems used to support these requirements.

Stress testing and Scenario Analytics

FRTB requires a significant testing regime to be established in addition to existing regulatory requirements.

Razor™ can handle this and take away the pressures on existing BAU systems.

Back testing

With the increased number of models (potentially one per desk plus the SA), the requirement for prescribed rigorous back testing adds additional pressures on desk level administration as well as central management. Existing systems and BAU may not be able to cope easily

The significant additional calculations and aggregations will have a huge impact on BAU systems; Razor™ can pick up the slack and augment capabilities in a cost effective and efficient manner.

P&L Attribution

FRTB requires to compare P&Ls from different systems to test the reliability of the risk models

Razor™ can efficiently and agnostically store external historical P&L and compares the numbers to get the P&L Attribution qualification per desk.

Integrated reporting

Reporting under FRTB will necessitate the generation of desk level daily reports as well as periodic regulatory returns. Existing systems may already be at or near capacity

Razor™ can handle real-time, ad hoc and scheduled reporting without needing to impinge on existing infrastructure. A low cost option for maintaining the flow of information and reports to all required consumers.

Audit trail

Any regulatory solution needs to be transparent and auditable

Razor™ is delivered with a fully auditable and transparent facility that can be interrogated without the need for any impact on other systems

End user security and role profiling

Now that desk level controls and usage will be required, significant administration will need to be in place to protect the bank and staff across a wider range of roles.

Razor™ has a flexible, powerful and comprehensive user security and role related matrix. This is again deployed without the need to impinge on existing systems

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