Risk Managers Warn on Proposed Leverage Ratio, Mortgage Servicing Rules
The US-based Risk Management Association (RMA), a trade group that pushes sound practices in financials, said that recent proposed rules from the Basel Committee on Banking Supervision -- that are designed to strengthen banks ability to operate smoothly -- may in fact have the opposite effect once in practice. Furthermore, defining the wording around mortgage servicing rights practices under the new requirements remains unclear. The RMA is a member-driven organization, with a board comprised mainly of bankers and risk managers from medium to large financial institutions. The Capital Working Group consists of senior staff at major banking companies responsible for risk measurement and management, including the management of bank capital positions. The Basel committee serves under the Bank for International Settlements (BIS), an international organization with basically the same wants as the RMA. Currently, the BIS committee is pushing for the implementation of Basel 2 standards by 2012. The Basel 2 standards are recommendations on banking practices with an eye on risk management. The RMA's main concerns surrounds new leverage ratio requirements set forth by the BIS, as well as the shifting status of mortgage servicing rights on the balance sheet. The proposal to adopt a 1,250% risk weight for certain positions that previously have been deducted 50/50 from Tier 1 and Tier 2 capital, results in effective capital allocations that are all out of proportion to risk, said the RMA in a letter in its role as advisor to the BIS. "These effective capital requirements are complicated by supervisory requirements in the US that lead to effective capital ratio requirements above the Basel II minimums," said the letter, written by Suzanne Wharton, an associate director of risk management and the RMA attorney, Edward DeMarco. Further, the letter does not specifically name current legislation in Congress, namely H.R. 4173 which would establish a Systemic Risk Council, though this is considered a sticking point by bankers as adhering to the Congressional Council would likely be mandatory and Basel 2 adaptation is optional. The US regulation would require 15-to-1 cap on leverage ratios for these companies. "When the 1,250% risk weight is used, instead of the 50/50 deduction, the resulting supervisory requirements can easily result in a total capital requirement above 100% and, sometimes, a Tier 1 capital requirement above 100%," the RMA said in the letter to the BIS. Under Basel II modifications, mortgage-servicing rights are defined as "certain intangibles." Being classified as intangible describes a status akin to difficult to value with certainty, and therefore cannot provide liquidity in a downturn, explains the larger complaint sent to the BIS. "In the case of Mortgage Servicing Rights (MSRs), however, the term 'intangible' is inappropriately applied. MSRs are a written, tangible, legal contract like any other financial asset," says the letter. "MSRs have an ongoing market for their value, and firms can sell MSRs and their associated servicing facilities and staff, both in a going concern situation as well as in conservatorship or receivership. For these reasons, we believe that MSRs should not be deducted from regulatory capital." Write to Jacob Gaffney. The author holds no relevant investments.