The Single Supervisory Mechanism (SSM) has determined the process for the supervision of credit institutions should consist of homogeneous supervisory methodologies accompanied by standards of the highest quality. With this in mind, the SSM has developed a common Supervisory Review and Evaluation Process (SREP) methodology for the ongoing assessment of credit institutions’ risks, their governance arrangements and their capital and liquidity situation. This methodology shall be understood as the SSM´s transposition of European Banking Authority (EBA) guidelines as well as incorporating SSM National Competent Authorities’ (NCAs’) previous experience and best practices.
The 2015 results were initially communicated to the banks through a “draft SREP decision letter” whereby banks were given 15 days to prepare their comments according to the right to be heard. Banks generally have agreed with the SREP results expressed in terms of a required CET1 ratio and the identification of a series of requirements and weaknesses that require action plans.
Initial impressions from the first contacts between the institutions and the ECB on the issue are twofold. First, entities consider it useful to receive a holistic list of weaknesses that require their attention; however many banks are not used to some of the new supervisory requirements, such as those on business model, profitability or corporate governance, which seem to be in some cases difficult to address. Second, other recommendations related to levels of non performing exposures, risk management framework, or entities´ ICAAP are welcome, despite the criticism they imply on the entity´s management.
The required capital threshold is also causing certain reactions. On the one hand, the average CET1 level has been set at around 9.75% (on average 30 basis points higher than last year’s Pillar2 decision, according to the ECB) which represents a significant increase with respect to the minimum requirements according to Pillar 1 regulation. The main question is how this threshold has been set and whether the communicated figure should be interpreted as a floor for entities (or if the remediation of weaknesses would have an impact on that level).
Another question is the relationship between the “supervisory score” obtained, the situation vis-a-vis the so called peers, and the required level of CET1. It appears that the results of the entities are conditioned by their comparative situation amongst their peers. This has generated great interest among the banks in order to understand who their peers are, their level of CET1 required, and the weaknesses identified. According to the existing information it appears that most entities are included in a range of approximately 150bp (including the G-SIFIs).
Finally, the interrelation of the results of the SREP letters with the existing regulation is generating some controversy. Although the ECB has clarified the relationship between the SREP requirements of CET1 and the capital buffers that are beginning to be required at national level, other aspects remain to be clarified, such as the impact on viability plans or on dividends distribution.
Although the SSM´s SREP methodology is still being ironed out and the ECB needs to work on a more homogeneous application and on certain methodological aspects, we see that significant progress in harmonizing the approach has been achieved which is a key element of the supervisory model of SSM.