Global SIFIs must complete their draft recovery plan by December 2011, followed by a draft resolution plan by June 2012. Creating RRPs can highlight significant challenges where the business model and strategy restrict both recoverability and resolvability.
In principle the recovery plan “remains under the control of management”, however, it is a key supervisory tool to identify options for recovering financial strength and viability under severe stress.
Its ultimate objective is to identify credible recovery options that can be implemented quickly under a range of idiosyncratic and market-wide stress scenarios, addressing both capital shortfalls and liquidity pressures. It is a logical extension of current processes for managing capital and liquidity under stress; however, it does require additional analysis around core asset disposals and radical de-risking steps that may result in franchise damage. A firm’s strategy and risk appetite should reflect the options necessary to deliver an effective recovery plan.
Questions firms should ask:
Does our corporate strategy reflect the pressure of regulatory reform on our business model and operating structures, including the likely impact on client, counterparty and investor behaviour?
Have we understood the systemic risk associated with our core businesses and critical functions, including the way in which we currently aggregate / manage risk and provide operational support across borders?
Have we identified the key financial and operational dependencies between legal entities and products / services that could restrict recovery and resolution flexibility?
Have we determined implications for profitability and competitive positioning, and can pricing structures flex with any future changes in operating structures and/or capital surcharges?
Regulatory and government authorities are requiring data and information to help them to create an iterative guide for achieving orderly resolution in the event that recovery measures are either not feasible or ineffective. It remains to be seen if they will rely on that analysis, or look to derive greater comfort via higher capital requirements and / or legal entity restructuring.
In addition, firms are being encouraged to adopt operating structures that will facilitate a viable separation of legal entities and of banking and insurance products/services; thereby deliver greater ‘resolvability’ and more flexibility within the resolution strategy.
Particular focus is being given to practical obstacles to resolution such as:
- A lack of comprehensive understanding of the position of each legal entity.
- A reliance on service providers that may reduce the ability to preserve the continuity of systemically important functions and operations.
- Intra-group transactions that may impede actions to separate legal entities.
- Continuation of essential services provided by payments systems.
Questions firms should ask:
Recovery options and triggers
Do the trigger framework and menu of recovery options address local regulatory concerns, and demonstrate both an ability and intention to act quickly?
What stress scenarios have been envisaged when framing recovery options? Do these include market-wide stresses that may restrict our ability to sell assets or raise new capital?
How frequently do we need to refresh the feasibility and quantum of recovery options?
Are we vulnerable to counterparty failure, including indirect exposure via market infrastructure?
What impact will market infrastructure reforms have on funding and revenues (e.g. payment services)?
- Have we evaluated the need for up-front operational and legal entity restructuring to facilitate a potential future resolution?
- Have we evaluated the best solutions for improving resolvability across staff, premises, intellectual property, IT systems and data?
- Do our key third parties create the necessary resolution flexibility? Is internal service provision subject to service level agreements that would operate effectively in the event of a break up?