Effective maturity for FIRB
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We are working with a client which is planning to include multiple LDP portfolios as Foundation IRB for RWA calculation under CRR3 (namely, Large Corporates, Financial Institutions and Project Finance).
To calculate the RWA, they are planning to use the calculated effective maturity (or weighted average life) for all portfolios, instead of the 2.5yrs fallback. This approach is beneficial for all the portfolios, except for Project Finance.
We would like to understand if there has been any recent experience with Supervisors approving different approaches by portfolio and what have been the arguments for it (i.e., for some portfolios the calculated effective maturity and for other portfolios the 2.5yrs)
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I suspect the answer will depend on what regulators require – for example the PRA expects all FIRB firms to use effective maturity (there’s currently a carve-out for SMEs, but they want to remove that too under Basel 3.1 – see below)
I have to admit, I cannot recollect what ECB/ EBA has had to say about this, but I think it would be pretty hard to justify using it in most places but not some – would very much feel like a bank would be open to challenge around whether it was cherry-picking
PRA CP16/22 proposal around Effective Maturity
4.305 The PRA currently specifies within IRB permissions that firms using the
FIRB approach must calculate effective maturity rather than apply fixed
parameters. This is because the PRA considers that calculation of effective
maturity is a more risk-sensitive approach, which better reflects the economic
substance of the exposures, and thus enhances the safety and soundness of firms.
Furthermore, using effective maturity facilitates effective competition because
firms using the AIRB approach are also required to apply the effective maturity
approach.4.306 The PRA proposes to maintain the substance of its existing approach and
that firms using the FIRB approach would continue to be required to apply the
effective maturity approach. The PRA proposes to include this provision in its
rules as it considers this would be more appropriate than applying the
requirement on a firm-by-firm basis as is currently the case.4.307 The PRA considers that the proposed approach is in line with the Basel 3.1
standards as these include a discretion for national supervisors to require
firms using the FIRB approach to calculate effective maturity for all exposures.4.308 Similarly, to improve risk-sensitivity, the PRA proposes to remove the
option currently setout in the CRR that allows firms that are otherwise
calculating maturity to instead apply fixed maturity values for exposures to
small UK corporates.