TRIM and Spreadsheet Risk Management
The Targeted Review of Internal Models (TRIM) is a planned part of the ongoing programme of regulatory enhancements forms part of the European Banking Authority’s (EBA) activities to enhance its visibility of the European financial services sector, and address key areas of systemic risk. TRIM is due to come into effect in 2019.
TRIM specifically targets those institutions that make use of Internal Models, rather than the Standardized Model, for calculating their risk weighted assets, and their regulatory capital under Basel III.
Utilizing Internal Models for calculating the regulatory capital required for banks allows them to have more discretion over the structure of their regulatory capital, provided they are allowed to do so by their supervisor. It can enable them to align regulatory capital structure more closely with the structure of the business, compared with the more expensive Standardized Approach. Ultimately utilizing Internal Models allows institutions to reduce their cost of capital, and this provides a powerful incentive for adopting this approach.
The vast majority of the effort used to calculate the results for Internal Models utilizes powerful calculation engines, using corporate IT applications that leverage relational databases to calculate the results for credit risk, market risk and counterparty risk. These applications will be integrated into a bank’s core IT applications covering credit cards, current accounts, mortgages and so forth.
Spreadsheet Risk Management and TRIM
For the vast array of a bank’s business processes, this framework will meet their requirements under TRIM. However, some banks, typically in the Investment Banking sector, will feature highly innovative, potentially bespoke business processes that underpin a range of ‘non-vanilla’ products and services, which may feature a blend of multiple instruments, cash flows, asset classes and currencies for example.
These offerings – typically unique and bespoke – are likely to utilize spreadsheets to design, structure, price, deliver and underwrite them.
While offering enormous flexibility and power, the spreadsheets that typically underpin these highly complex offerings present significant challenges for institutions that have adopted, or are looking to adopt Internal Models, and who need to consider the demands of TRIM.
The lack of controls inherent in spreadsheets presents challenges for banks affected by TRIM. The TRIM requirements for data governance and auditability around issues such as data quality management and data lineage, for example, must be mirrored in the management of the spreadsheets that underpin the exotic products and services that utilize spreadsheets, rather than corporate applications.
Lack of transparency around the spreadsheet processes is likely to result in a regulator forcing a bank back onto the more capital-demanding standardized model. In additional from an operationally perspective without a capability that allows a bank to assess the data governance and accuracy of spreadsheet-based data imported into its regulatory capital management framework, a bank cannot assure the quality its final results calculated under an Internal Model, and may cause them to miscalculate and miss-state their regulatory capital requirements. It can expose the bank to regulatory censure, reputational harm, and potentially the need to restate earnings.
To ensure that the data from this dedicated spreadsheet estate does not compromise the governance, auditability, and accuracy of the results under in the Internal Model, it is essential that the same level of control is applied to the spreadsheet environment as is applied to the wider corporate IT environment.
The ideal solution for banks to achieve this would be to deliver a solution that helps them:
- Identify the spreadsheets that impact the Internal Model framework the most
- Build a centralized inventory for these key spreadsheets, that provides a foundation to assure the data governance and auditability of these key spreadsheets
- Monitor the most important spreadsheets for changes, to assure accuracy, but also provide the governance, transparency and auditability that are core to the TRIM requirements.