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ITCB Consulting and Training Ltd. Summary of Comments on CP10

Core Content

ITCB Consulting and Training Ltd. has provided detailed comments on the CEBS Consultation Paper (CP10) regarding the validation process under the Capital Requirements Directive (CRD). The comments highlight areas where the guidelines lack clarity and suggest specific questions to be addressed by CEBS to improve the implementation and consistency of the validation framework.

Main Points and Key Information

General Remarks

• ITCB welcomes the opportunity to comment on CP10, which aims to clarify the validation process.
• Two areas are identified as needing further clarification:
  • Provisions: The exact definition of provisions that should be compared with the Expected Loss (EL), and how CRD requirements for provision calculation will harmonize with IFRS rules.
  • Credit Risk Mitigation Techniques: The reason why the validation of these techniques is out of scope in CP10.

Chapter 2: Co-operation Procedures, Approval and Post-Approval Process

2.2.6. Transition Period

• Several countries will implement the CRD in local regulations by end-2006 or later, which may lead to implementation challenges.
• ITCB requests clarification on:
  • The proposed method and timetable for pre-application consultations during the transition period.
  • How validation will be handled for banking groups if one subsidiary cannot implement the IRB approach due to delayed local regulation.

Chapter 3: Supervisor's Assessment of the Application Concerning the Minimum Requirements of the CRD - Credit Risk

3.1.1. Roll-out

• ITCB questions the proposed portion of exposures to be covered by the IRB approach when initiating the approval process.
• It also asks how home and host supervisors should handle differing levels of coverage.

3.1.2. Permanent Partial Use

• ITCB suggests that if private banking exposures are immaterial within the retail portfolio, the institution may use the standardised approach for them permanently.
• It requests confirmation that this interpretation is correct.

3.2. Use Test

Use of Data for Internal Purposes

• ITCB notes that the use test for LGD and CF estimates is considered fulfilled if the provision calculation is broadly in line with minimum requirements.
• It recommends that this should be clearly stated in the guidelines.

Experience Test

• ITCB suggests that the experience test for LGD and CF estimates in retail exposures may be reduced to one year, similar to the one-year requirement for rating systems.
• It requests that this derogation be explicitly mentioned in CP10.

'Good Mix' and 'Use-Test Trade-off'

• ITCB asks for clarification on the meaning of "good mix" and the "use-test trade-off" mentioned in point 149.

3.3. Methodology and Documentation

3.3.1.1. Retail Exposure Class

• ITCB finds point 159 misleading. It states that SMEs should not be automatically classified as retail exposures if only some credit process components differ from corporate exposures.
• It agrees with the intention of CEBS but requests clarification on which components are most critical for this classification.

3.3.2.1. Definition of Default

• ITCB highlights that the requirement for defining default based on the regulatory definition may lead to inconsistencies.
• It requests further clarification on how national authorities should harmonize the definition of default, especially for banking groups.

3.3.3.2. Loss Given Default (LGD)

• ITCB requests clarification on the definition of "default-weighted average of realised LGDs".
• It argues that including incomplete workout cases in LGD calculations may distort results and recommends removing this requirement.
• It also asks for more details on the "two step approach" for computing LGD (points 234-235).
• ITCB suggests that if indirect costs are immaterial and collateral fully covers the exposure, the institution may calculate LGD as 0%, without adjusting for indirect costs.

Conclusion

ITCB's comments emphasize the need for greater clarity and consistency in the validation process, particularly regarding provisions, the use of internal data, the experience test, and the classification of exposures. The firm advocates for harmonization across jurisdictions and suggests that certain derogations should be explicitly stated to allow for practical implementation of the CRD.