Wells Fargo could escape Collins floor

Op risk-weighted asset increases see advanced RWAs near standardised measures

The upward trajectory of operational risk-weighted assets (RWAs) at Wells Fargo puts the bank on course to exceed the so-called Collins floor, meaning its binding risk-based capital requirement could soon be set via the advanced approach.

If total advanced-approach RWAs are below 100% of standardised, a bank must capitalise according to the latter methodology. At Wells Fargo, advanced-approach RWAs were 97.8% of standardised as of Q3 2019, compared with 94.4% at end-2018 and 94.9% just three months prior. It’s the closest the two measures have been together since Q1 2016.

The bank’s total advanced-approach RWAs stood at $1.22 trillion at end-September, up $35.7 billion from end-June. On the flip side, RWAs measured using the standardised approach fell $445 million to $1.25 trillion over the period.

 

A $44.5 billion increase in op RWAs in the third quarter explains the build-up of advanced RWAs. Year-to-date, op RWAs have increased $54 billion, whereas credit and market RWAs under the advanced approach have declined by $6.4 billion each.

Standardised credit RWAs have increased by $5.4 billion over this period, and standardised market RWAs declined $6.4 billion.

As of Q3 2019, six of the eight US global systemically important banks (G-Sibs) were below the Collins floor: BofA Securities, Citi, JP Morgan, Morgan Stanley, Wells Fargo and State Street.

 

What is it?

The standardised approach for calculating RWAs relies on rules and formulas set by regulators – based on methodologies cooked up by the Basel Committee on Banking Supervision – whereas the advanced approach uses banks’ internal models, inputs and assumptions derived from their own data. The standardised approach, given its broader scope, generally results in higher RWA outputs. 

Under the Collins amendment to the Dodd-Frank Act, US banks must report their regulatory capital ratios under both modelled and standardised approaches. If standardised credit and market RWAs exceed total modelled RWAs, then a bank must calculate its regulatory capital requirements in reference to the former. 

Standardised RWAs, therefore, form a so-called ‘Collins floor’, below which banks cannot reap any further regulatory capital efficiency from reducing their modelled RWAs by improving their models or bringing more business activities into scope.

Why it matters

Right now, though Wells Fargo has to calculate op RWAs, and therefore a op risk capital requirement, as it is below the Collins floor it can disregard this for regulatory capital purposes.

But that may all soon be about to change. If op RWAs keep growing, and continue to outpace the falls in advanced-approach credit and market RWAs, the bank could find itself above the Collins floor, meaning its op risk capital charge would become binding.

Since op risk capital is “dead capital”, meaning it cannot be used to underwrite loans or fund trading activities, bankers say this detracts from their companies’ ability to support the economy. According to this reading, Wells Fargo could soon be subject to a capital requirement of which a large portion simply acts as a tax on their balance sheet. 

On the flip side, it could benefit from lower regulatory capital costs for its lending activities, as advanced-credit RWAs are substantially lower than standardised.

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