Systemically important US banks saw larger-than-expected trading losses on 11 days in aggregate in 2018, with six of these occurring in the last three months of the year.
State Street reported three days in the last quarter of 2018 on which trading losses exceeded its regulatory value-at-risk model estimates, Goldman Sachs two, and Bank of America one. For 2018 in total, State Street had four breaches, Bank of America three, Goldman Sachs two, and BNY Mellon and Citi one apiece. In 2017, the banks as a group reported just three VAR breaches.
State Street’s fourth-quarter breaches happened on three days when losses exceeded its VAR estimates by 163%, 154% and 110%, respectively.
Goldman’s breaches occurred on days when losses were 149% and 127% higher than its VAR model predicted, and Bank of America's when losses exceeded the VAR estimate by 144%.
The US units of large foreign banks, known as intermediate holding companies, also incurred a number of VAR breaches at the end of 2018. Credit Suisse recorded three breaches, Barclays two, and BNP Paribas and TD Bank one apiece. The IHCs in aggregate reported 23 VAR breaches for 2018, up from eight the year before.
Credit Suisse’s three fourth-quarter breaches happened on days when losses overshot VAR by 147%, 125% and 114%, respectively. Barclays’ actual loss-to-VAR ratio for the two days on which breaches were reported were 147% and 122%. For BNP Paribas’ breach, the ratio was 108% and for TD Bank’s, 159%.
If a bank exceeds four breaches in a rolling 250-day period, under US rules the three-times multiplier applied to its VAR-based capital requirements will automatically increase, boosting its overall market risk charges. BNP Paribas was the only dealer to hurdle this threshold in 2018 and is today subject to a 3.75 times multiplier.
What is it?
US prudential regulators – the Federal Reserve, Office of the Comptroller of the Currency and Federal Deposit Insurance Corporation – require institutions subject to the market risk capital rule to report quarterly data on the accuracy of their minimum capital requirement calculations.
Firms disclose their quarterly VAR and stressed VAR capital requirements, any mandatory add-ons, as well as their VAR backtesting results.
Why it matters
It’s no good setting market risk capital requirements according to model outputs if those models consistently underestimate the frequency and size of losses. That’s why US regulators ramp up capital multipliers when banks’ VAR models low ball actual losses too many times in one year.
Though for all dealers bar BNP Paribas the number of breaches were within acceptable bounds, a repeat performance of their VAR models this quarter could see State Street, Bank of America and Credit Suisse hit with unwelcome capital multipliers.
These banks' model risk and validation teams will be on overdrive tweaking their VAR measures to prevent just such an outcome.
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Tell me more
Goldman suffers first VAR breach since 2016
Equity risk amps up Citi’s VAR charges
JP Morgan VAR surges 46% in Q4
BNPP, Credit Suisse, State Street incur VAR breaches
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