The Fundamental Review of the Trading Book (FRTB), is a set of proposals by the
Basel Committee on Banking Supervision
The Basel Committee on Banking Supervision (BCBS) is a committee of banking supervisory authorities that was established by the central bank governors of the Group of Ten (G10) countries in 1974. The committee expanded its membership in 2009 a ...
for a new
market risk-related
capital requirement for banks.
Background
The reform, which is part of
Basel III, is one of the initiatives taken to strengthen
the financial system, noting that the previous proposals (
Basel II
Basel II is the second of the Basel Accords, which are recommendations on banking laws and regulations issued by the Basel Committee on Banking Supervision. It is now extended and partially superseded by Basel III.
The Basel II Accord was publis ...
) did not prevent the
financial crisis of 2007–2008. It was first published as a ''Consultative Document'' in October 2013. Following feedback received on the consultative document, an initial proposal was published in January 2016, which was revised in January 2019.
Key features
The FRTB revisions address deficiencies relating to the existing ''
Standardised approach''
[''International Convergence of Capital Measurement and Capital Standards''](_blank)
Basel Committee on Banking Supervision, 2006 and ''
Internal models approach''
and particularly revisit the following:
*The boundary between the "
trading book
The Fundamental Review of the Trading Book (FRTB), is a set of proposals by the Basel Committee on Banking Supervision for a new market risk-related capital requirement for banks.
Background
The reform, which is part of Basel III, is one of th ...
" and the "
banking book
The Fundamental Review of the Trading Book (FRTB), is a set of proposals by the Basel Committee on Banking Supervision for a new market risk-related capital requirement for banks.
Background
The reform, which is part of Basel III, is one of th ...
": i.e. assets intended for active trading; as opposed to assets expected to be
held to maturity, usually customer loans, and deposits from retail and corporate customers
Banking book
bankpedia.org (important since the " st majority of losses were from trading books during the 2008 crisis"[''Minimum Capital Requirements for Market-Risk''](_blank)
International Monetary Fund, 2016)
*The use of expected shortfall instead of value at risk as a measure of risk under stress; thus ensuring that banks capture tail risk
Tail risk, sometimes called "fat tail risk," is the financial risk of an asset or portfolio of assets moving more than three standard deviations from its current price, above the risk of a normal distribution. Tail risks include low-probability ev ...
events
*The risk of market illiquidity
Implementation
FRTB sets a "higher bar" for banks to use their own, internal models for calculating capital, as opposed to the standardised approach.[''Fundamental Review of the Trading Book (FRTB)''](_blank)
risk.net The rationale is that the standardised approach is directly implementable, but, at the same time, carries more capital; whereas the internal models approach, by contrast, carries less capital, but the modelling is more complex, requiring that expected shortfall is applied, together with add-ons for the "non-modellable risk factors" that lack sufficient data. Given this complexity, for a desk to qualify for the internal models approach, its model must pass two tests: a profit and loss attribution test and a backtest.
References
Bibliography
*Ioannis Akkizidis, Lampros Kalyvas (2018). ''Basel III Modelling: Implementation, Impact and Implications''. Palgrave Macmillan.
*Sanjay Sharma, John Beckwith (2018). ''The FRTB: Concepts, Implications and Implementation''. Risk Books. {{ISBN, 9781782723240
Bank regulation
Market risk
Capital requirement