by Laura Cox, Lead Partner, and Ian Kelly, Manager, PwC’s Financial Services Risk and Regulatory Centre of Excellence
The financial sector continues to face big changes and challenges in prudential regulation. The new Capital Requirements Directive (CRD IV) and the associated Capital Requirements Regulation (the CRR) came into effect in January 2014, but the journey to full implementation of CRD IV has only just begun. Many banks, building societies, brokers, asset managers (and indeed regulators) are still getting to grips with these complex prudential rules. Firms have not yet felt the full impact of CRD IV on their capital management and treasury functions. Laura Cox and Ian Kelly of PwC’s Financial Services Risk and Regulatory Centre of Excellence take a look at where the industry is now - and what is still to come.
The basic requirement to maintain regulatory capital at least equal to 8% of risk weighted assets hasn’t changed. But firms now have to meet a much bigger proportion of this (4.5% of risk weighted assets) with share capital or reserves. These ‘high quality’ capital resources are referred to as Common Equity Tier 1 (CET1) capital.
Banks may also boost their Tier 1 capital to a certain extent by using contingent capital instruments - so called because they are designed to convert into CET1 capital in a financial emergency. These instruments (sometimes called ‘cocos’) are more costly to service and market than previous debt-capital bonds because investors are exposed to the potential risk of a loss of their capital investment should the conversion occur.