IFRS9 Best Practice. Focus on Impairment Presentation prepared for RiskMinds Digital Week. Christian Düsterberg, Erste Group Bank AG

Transcription

1 IFRS9 Best Practice Focus on Impairment Presentation prepared for RiskMinds Digital Week Christian Düsterberg, Erste Group Bank AG

2 Disclaimer The views expressed herein are the views of the author and do not necessarily reflect the opinion of Erste Group Bank AG. The information herein cannot be used to infer any opinion about the future financial position of Erste Group Bank AG. This document does not constitute an offer or invitation to purchase or subscribe for any shares or other securities issues by Erste Group Bank AG or any of its subsidiaries and neither it nor any part of it shall form the basis of or be relied upon in connection with any contract or commitment whatsoever. The information contained herein and this presentation shall not be further disseminated without written consent of the author

3 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

4 General Thoughts: What is Best Practice? IFRS9 concepts are prone to highly theoretic and not yet practical interpretation Best theoretically desirable approach Best Practice Close alignment with relevant auditors and regulators Ensure common understanding of expectations for IFRS9 interpretation and implementation Alignment on definition of materiality in case optimal compliance cannot be achieved for some portfolios or elements of the implementation

5 Key Elements of a Best Practice IFRS9 Framework Sound internal governance Debate and explicit application of judgement to determine the organization s interpretation and choices in defining its IFRS9 compliant framework Appropriate (nevertheless pragmatic) validation of IFRS9 models & set up of backtesting framework for Expected Credit Losses (ECL) Areas in which the firm s IFRS9 implementation requires application of sound judgement need to be covered with appropriate governance mechanisms Definition of run the bank or business as usual policies and processes Harmonisation across a group of entities

6 Regulators View on Best Practice Prudential Regulators ECB Thematic Review Motivated to understand and control capital effects of provisions When IFRS9 provisions drive capital requirements there will be significant interest and influence Accounting Regulators Specific mandate to ensure correct implementation of accounting standards Formulation of specific expectations regarding key elements of the standards (even if not yet communicated commonly)

7 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

8 Provision Management & Budgeting Management and forecasting of provisions Shift from focus on defaulted / credit-impaired assets (stage 3 under IFRS9) to changes in stage allocation of performing assets (stage 1 / stage 2 transitions) Involvement of different stakeholders into the provision management Operative Risk Managers; Relationship Managers Regular monitoring of likely stage transitions and definition of individual counter measures Implies dedicated resource for this task which (at least initially) expands significantly from current activities Budgeting to consider ranges of outcomes Scenarios for forward looking information and their influence on stage transitions Statistically likely / expected stage transitions

9 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

10 Implementation Approach (IT) Centralisation and/or standardisation Need for regular & timely future impact simulations favour uniform implementations Harmonised implementation of IFRS9 requires harmonised internal rules and is most easily supported by harmonised IT implementations Flexibility of choices: Criteria for stage transitions may require calibration esp. in early phases of parallel run or go-live Methodology for ECL or FLI may change over time Wide range of actual options available Fully central Common, central tool locally implemented Local implementations following central methodology and specifications Consistent with provision governance Changes in parameters to be clearly documented and approved

11 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

12 Staging Criteria (1) Challenge for set up and practical application Black Box criteria which do not easily align with lending criteria IFRS9 principle: Stage transition as yield adjustment View on the IFRS9 logic: Significant increase triggers recognition of lifetime expected losses, effectively reducing the GCA of an asset such that the yield becomes adequate again. Depending on the respective market environment which may support risk sensitive pricing to a higher or lower degree this concept may not appear very intuitively sensible

13 Staging Criteria (2) Chosing staging criteria Focus on relative changes in lifetime PD and qualitative criteria. Absolute triggers / threshold which reduce the effect of any relative change test may be interpreted as fulfilling the low credit risk exemption. Qualitative criteria 30dpd criteria will be rebutted only very rarely Interaction with forbearance Transition to workout Early warning indicators / watchlist: Careful formulation of staging criteria is needed to avoid unnecessary stage transitions related to monitoring of credit quality rather than actual increase of risk Link to re-rating triggers Capture residual risks in manual stage alliocation if necessary Overall assessment based on final staging results, e.g. Stage 3 only before a reasonable amount of time in stage 2 Limited flip-flop between stage 1 & 2 High correlation between assignment to stage 2 and eventually (over life) moving to stage

14 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

15 Forward Looking Information (1) Scenario Creation Type of information & scenarios Macroeconomic indicators are required in all current interpretations Alignment (of the expected baseline) with scenarios used already for other purposes Additional portfolio specific considerations may be needed, possibly judgmentally Wide range of solutions to generate macroeconomic scenarios Full Monte Carlo simulation of scenarios Deriving scenarios with defined probability of occurrence from historic data analysis Narrative scenarios Relevance of forecasts Backtesting of overall quality of forecast (and resulting effect on ECL models) Historic experience that macro forecasts may not be very accurate especially on longer time horizons

16 Forward Looking Information (2) Incorporation Into PD, ECL & Staging Translation into PD and ECL Consistent with models / approaches used for Stress Testing Consideration of probability weighted scenarios Step 1: Staging Lifetime PD is weighted average of possible scenarios. Staging to be determined based the resulting PD Step 2: ECL calculation Stage for each transaction to be fixed based on outcome of Step 1, i.e. for all scenarios the same stage will be used Range of options Full live calculation for each scenario when calculating provisions Offline simulation of range of scenario impacts and reflection in average risk parameters for the actual calculation

17 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

18 Expected Credit Losses Design concepts Re-use existing risk parameters from IRB or other purposes (as applicable) Adjustment of parameters to IFRS9 principles Removal of conservatism (with caution) PIT and FLI adjustments Focus Top focus on (lifetime) PD estimates as these drive staging and ECL Methodology Depending on the portfolio Most common appear to be migration matrices or direct modelling / empirical determination of marginal parameters

19 Agenda Best Practice for IFRS9 Provision Management and Budgeting Implementation Approach (IT) Staging Criteria Forward Looking Information Expected Credit Loss Classification

20 Classification Identification Definition of firm s appetite for fair value assets Risk-based review of the current portfolio as completely as possible Definition of mitigating measures if fair value loans are not desired Definition of non-harmful product features New product approval process which is capable of capture and harmful product features very early Calculation of fair value Central fair value engine with common valuation procedure highly desirable