Chapter 9: Capital Adequacy Requirements

Question 1

What is the purpose of SREP?

Answer 1

The Supervisory Review and Evaluation Process (SREP) is the supervisory tool for establishing the appropriate level of capital resources that a CIF should hold in order to meet its present and future capital requirements over a period of up to 5 years.

Question 2

What is the purpose of ICAAP?

Answer 2

The outcome of the Internal Capital Adequacy Assessment Process (ICAAP) represents the view of the CIF on the capital it should hold, given its risk profile and complexity of its business. It serves as an input to the SREP (should be suitable for 3-5 years)

Question 3

What are the 5 stages of SREP?

Answer 3

• Planning
  * CySEC’s request to a CIF to submit the ICAAP report.
• Review and assessment of ICAAP submission
  * Desk-based review of ICAAP
  * May include an on-site assessment of ICAAP implementation
• Review of additional information
  * Outcome of the ongoing supervision
• Supervisory measures for risk mitigation
  * CySEC sets the capital resource requirements for Pillar 2
• SREP validation
  * CySEC’s internal validation process of the SREP’s results

Question 4

What is a CIF required to do during the SREP planning phase?

Answer 4

To submit its ICAAP report to CySEC.

Question 5

What does CySEC do during the Supervisory Measures for risk mitigation phase?

Answer 5

Sets the capital resource requirements for Pillar 2.

Question 6

What is the frequency of the SREP?

Answer 6

At least annually, but depending on previous inspections.

Question 7

How often should the ICAAP reviewed?

Answer 7

At least annually or if required more frequently to ensure that risks are covered adequately and that capital coverage reflects their actual risk profile.

Question 8

What is the purpose of stress test required in the ICAAP?

Answer 8

To obtain an overview of their exposure or vulnerability to the impacts of exceptional but possible events that may occur due to rare risk events that can have severe consequences.

Question 9

What is the aim of the Capital Requirement Regulation (CRR)?

Answer 9

To decrease the likelihood that Banks or Investment Firms go insolvent

Question 10

Who can waive capital requirements?

Answer 10

CySEC

Question 11

What is the maximum exposure to a client or to a group of connected clients?

Answer 11

Maximum 25% of a CIF’s eligible capital

Question 12

What is the maximum exposure to a client or to a group of connected clients if the client is an institution?

Answer 12

Maximum 25% of the CIF’s eligible capital, or 150million euros, whichever is higher.

Question 13

Which exposure is exempted by CySEC?

Answer 13

Covered bonds

Question 14

Who is responsible for the collection of information disclosed by institutions in relation to remuneration?

Answer 14

CySEC

Question 15

When should the remuneration of a member of the senior management be disclosed?

Answer 15

On demand of CySEC

Question 16

What criteria should the risk management function fulfill?

Answer 16

To be independent from the operational functions.

Question 17

What is the aim of a risk register?

Answer 17

A risk register is used by a CIF to document and categorize all risks that is or could be exposed to.

Question 18

What is the reverse stress test?

Answer 18

The reverse test starts with the outcome of a business failure and identifies the circumstances under which these outcomes might occur.

Question 19

What is sensitivity analysis?

Answer 19

The methodology that illustrates how a CIF’s position changes in the event a single relevant risk factor is modified, while all other factors remain equal.

Question 20

What is scenario analysis?

Answer 20

Assumes the simultaneous change of several risk factors and quantifies their combined impact on the position of the CIF.

Question 21

What is the main disadvantage of scenario analysis?

Answer 21

In the event of a crisis, interrelations between risk factors are not necessarily stable.

Question 22

Who decides if a third country has supervisory measures equivalent to those of the EU?

Answer 22

The European Commission (EC)

Question 23

What criteria must the members of a risk committee meet?

Answer 23

The risk committee must consist of members of the Board of Directors who do not perform any executive function in the CIF.

Question 24

Who is the consolidating supervisor for CIFs?

Answer 24

CySEC

Question 25

List the capital ratios:

Answer 25

• CET 1: 4.5%
• Total tier 1: 6%
• Total Capital: 8%
• Capital Conservation Buffer: 2.5%

Question 26

To whom does the remuneration policy apply?

Answer 26

To those categories of staff whose professional activities have a material impact on its risk profile.

Question 27

Which principles apply in regards to remuneration?

Answer 27

• Bonus (variable component) shall not exceed 100% of salary (fixed component)
• Can be raised up to 200%, following shareholders’ approval.

Question 28

Name the Pillar 1 risks:

Answer 28

Credit risks:
• Risk of loss of capital caused by the borrower’s failure to repay a loan or meet a financial obligation.

Market risk (includes):
     • Interest rate risk
     • Currency risk
     • Equity risk
     • Commodity risk

Operational risk:
• The risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events.
• Includes legal risk

Question 29

Name the risks not Fully Covered in Pillar 1:

Answer 29

Credit concentration risk:
• Any singe exposure with the potential to produce losses large enough to threaten a CIF’s ability to maintain its core operations.
• Should ne analyses at both a local legal entity level and a consolidated level.

Residual risk:
• Inability to realize payment from a CL in a timely manner

Securitization risk:
• The effect of securitization arrangement failing

Settlement risk:
• One party fails to deliver the asset or cash value at the time of settlement of a trade.

Foreign exchange risk:
• Movement in foreign exchange rates resulting in a loss for the CIF.

Question 30

List the Pillar 2 risks:

Answer 30

Liquidity risk:
• A CIF has insufficient financial resources to meet its current and prospective obligations.

Business risk:
• CIFs are exposed to performance risks which affect their ability to generate income.

Legal and Compliance Risk: the CIF
• Does not execute orders appropriately.
• Giving unsuitable advice.

Reputational risk:
• The adverse perception of the image of the CIF by customers, counterparties, investors or regulators.

Strategic risk:
• A result of adverse business decisions, improper implementation of decisions or lack of responsiveness to changes in the business environment.

Group risk:
• Applies to the risks that emanates from the relationship that the CIF has with other entities in the group.