Monthly LRA Update

REGULATORY DEVELOPMENTS

Basel III Endgame Proposal – Update

On September 12 various banking and financial services trade associations (including the American Banker Association, SIFMA, and Bank Policy Institute) submitted a letter to the banking regulators requesting that the regulatory capital rule be re-proposed in conjunction with expanded information on the underlying data and assumptions used by the regulators in drafting the proposals. The comment letter also requested an extension to the comment period.

Below are a few excerpts from the letter addressing topics that could potentially impact the RWA of BOLI programs:

• Securitizations: The proposed rule increases the “supervisory parameter p for securitizations that are not re-securitization exposures from 0.5 to 1.0” to offset the decrease in “risk weights applicable to certain underlying assets under the proposal . . . and the proposed reduction in the risk-weight floor under SEC-SA for securitization exposures that are not re-securitization exposures.” No analysis used to calibrate the increase in the “p” parameter to offset the decrease in credit risk weights has been made available to the public.
• Investment Grade Corporates: In order to justify a requirement that a corporate borrower or its parent company have securities outstanding that are publicly traded in order for its exposures to qualify for a preferential “investment-grade” risk weight, the proposal flatly asserts with no data or explanation that “publicly-traded corporate entities are subject to enhanced transparency and market discipline as a result of being listed publicly on an exchange.” Presumably, the agencies have concluded that company disclosures under the Securities Exchange Act of 1934 create this transparency and market discipline, but they do not explicitly state as much, nor do they make any attempt to tie these qualities to improved creditworthiness vis-à-vis unlisted borrowers, such that only publicly listed companies should qualify for the preferential risk weight.
• Derivatives (Credit Valuation Adjustment): The proposed rule would scale the capital requirement under the basic credit valuation method used to calculate the capital charge for credit valuation adjustment risk “by a factor of 0.65” to “ensure” that the basic approach “is calibrated appropriately relative to the” standardized approach.” Neither the analysis justifying the 0.65 factor, nor any explanation for what the agencies deem “appropriate” calibration, has been publicly released.

We continue to review the proposed rule to assess potential impact on the RWA calculations of BOLI for affected banks.

OTHER DEVELOPMENTS

NAIC Financial Condition (E) Committee – Framework for Regulation of Insurer Investments

At its summer national meeting in Seattle on August 15, the Financial Condition (E) Committee of the NAIC reviewed a memo titled Framework for Regulation of Insurer Investments – A Holistic Review (see Attachment Sixteen).

Of note, the NAIC indicated support for ongoing efforts to improve the consistency of RBC factors for insurer investments across asset classes, noting that, “While perfection under a principle of ‘Equal Capital for Equal Risk’ is likely unachievable, it should nevertheless be a goal to create consistent standards to the highest degree practicable.” A specific example of private credit funds was described, where the underlying assets are fixed income, but certain regulatory “barriers” cause them to be assigned equity factors. The memo observes that this, in turn, causes insurers to structure such investments through securitization in order to receive a fixed income charge. Further, it is noted that such structuring may “overcorrect” and lead to capital arbitrage.

Another notable objective set forth in the memo was to reduce “blind” reliance on credit rating providers (CRPs) but retain overall utilization of CRPs with the implementation of a strong due diligence framework (designed by an external consultant). The memo observes that it would be inefficient for the SVO to effectively replicate the capabilities of CRPs on a large scale.

Finally, at the annual meeting, Superintendent Dwyer made it clear that the multiple investment-related workstreams underway would not be paused.