This June will see the new Investment Firm Directive and Regulations come into force for EU asset managers. At present, it looks likely that UK firms will be required to comply with the new regulations, subject to the UK deciding to adopt the EU regulation (quite possible since the UK played a key role in developing the regulations, but not certain given the negotiations likely to take place with the EU on future trade arrangements). There will be a transition period, but firms need to be thinking ahead, not least since the effects will need to be reflected in stress and scenario tests projected out for three to five years.
UK managers have often wished for a simplified (and more relevant) approach to Pillar 1 capital to replace the old method of MAX(MR+CR, FOR), which entailed the tedious calculation of risk-weightings and the FX position requirement (both of which are subject to error and subsequent regulatory censure—if you doubt this, just refer to the effect on Metro Bank!).
However, the new approach, based on K-factors, may not be as beneficial as might first appear. Many firms will only need to calculate K-AUM, but even this entails having an accurate monthly AUM figure (harder than it may sound) and calculating a 15-month moving average. Things will be more complicated if K-ASA, K-CMH and K-COH need to be calculated as well. Further, the minimum capital requirement will now be the greatest of the permanent minimum requirement, the FOR and the K-factor total. So the FOR doesn’t go away and, worse, the FOR calculation will be aligned to the IFPRU calculation approach, which will be higher than the BIPRU approach.
Just to rub salt in the wound, the capital resources will be subject to deductions for, inter alia, deferred tax and pension obligations without the benefit of the exemptions allowed in CRD IV. So, a higher Pillar 1 and lower capital resources, before the FCA considers a firm’s ICAAP and Pillar 2 estimates.
The new approach may (theoretically) be simpler and more relevant to an asset manager’s business model, but could well result in a squeeze on capital adequacy. Time will tell…..