Supplementary ICAAP guidance
DNB drew up a policy rule1 in 2015 explaining how institutions can set up their internal capital adequacy assessment process (ICAAP). An ICAAP is a comprehensive assessment of all the risks to which an institution is or may be exposed. Although we issued explanatory notes to the policy rule at the time, we have found that there are still questions about the ICAAP in the sector, which is why we have prepared supplementary guidance.
In providing this guidance, we aim to lend institutions more concrete assistance in preparing their ICAAP in a structured manner. Please note that an ICAAP is not a mandatory methodology. Institutions that choose to prepare an ICAAP are at liberty to select a method that best reflects the risks they face. The supplementary guidance below incorporates the input and response we received during our seminar for investment firms and investment funds of 15 November 2016.
We expect an institution to first conduct a risk assessment consisting of two elements as the basis for its ICAAP.
The first element: the resolution scenario
We expect an institution to assess whether the fixed overheads capital requirement (FOR) provides sufficient capital for the supervisory authority to ensure orderly resolution. The guidance refers to this as the resolution scenario. The law prescribes a three-month basic period for the FOR. We therefore expect an institution to assess whether this statutory period suffices. Rather than a resolution plan, we expect the institution to estimate the time needed for resolution. This is a proportional requirement: as the institution is more complex, we expect it to devote more attention to this element. If in the institution's assessment a period longer than three months is required, it will need to adjust its capital requirement proportionally. If in its assessment it needs a period less than three months, we do not expect it to adjust its capital requirement, given that the statutory requirement is based on a minimum three-month period.
The second element: the risk calculation
We expect an institution to adopt a comprehensive risk-based approach, addressing any risks the institution might be exposed to. The ICAAP Policy Rule lists the risks that may apply, but this list is not exhaustive. An institution must itself identify the risks to which it is exposed. For each risk identified, we expect the institution to describe it, as well as the controls implemented and the capital required following their implementation. Ideally, we would like to see the institution assess both gross and net risks.
The supplementary guidance suggests a method with which identified risks can be assessed. An important consideration is that we also expect an institution to take account of the capital it is required to hold as a fund manager, based on the UCITS Directive or the AIFMD.
In addition, we expect an institution to perform stress analyses on the basis of a range of scenarios. The depth of such analyses is determined mainly on the basis of proportionality, meaning that we expect complex institutions to perform a more detailed stress analysis than less complex institutions. Risks discussed individually do not need to be included in the stress analysis. What matters to us is that an institution's management board must demonstrate that it has considered which stress scenarios could apply to the institution and how they impact the institution. The scenarios will depend on an institution's specific risk profile and activities. Overall, possible stress scenarios could include the loss of the biggest customer or key personnel, or a major shock in the financial markets.
Calculating the required ICAAP capital
After an institution has assessed its resolution scenario and performed its individual risk calculations, it must compare the results of the two assessments. The highest outcome of both calculations must be compared with the Pillar 1 requirement. The highest outcome of Pillar 1 and Pillar 2 represents the capital the institution is required to hold as ICAAP capital, i.e. the outcome of the resolution scenario and the risk calculations need not be added up. The professional indemnity insurance (beroepsaansprakelijkheidsverzekering - BAV) 2 reported in Pillar 1 applies to managers of alternative investment funds and serves to cover professional indemnity risks.
1ICAAP Policy Rule for investment firms and investment funds under the Financial Supervision Act (Beleidsregel ICAAP beleggingsondernemingen en beleggingsinstellingen Wft 2015) (Government Gazette 2015, 21650). This policy rule entered into force on 25 July 2015.
2The alternative investment fund manager provides additional own funds to the amount of at least 0.01% of the total value of the managed alternative fund portfolios to cover the professional indemnity risks deriving from professional negligence. Managers are also permitted to use qualifying professional indemnity insurance. If managers decide to use this option, they must hold the deductible amount of this professional indemnity insurance as capital.