Treatment of management actions by competent authorities when providing guidance on additional own funds (P2G) within SREP

(a) When providing guidance on additional own funds in accordance with Art. 104b of CRD, should competent authorities adjust for the specifics of an institution’s risk profile with regards to in particular: The level of strategic investments for business expansion, where a rapidly expanding business will have a cost base that to a larger extent is made up of discretionary or non-recurring expansion costs compared to an institution with a lower level / share of investment for business expansion; and The nature of the lending business, e.g., accounting for the difference between a balance sheet primarily made up of short-term assets as compared with a bank with primarily long-term assets, in order to fulfil the requirement of an institution-specific guidance? (b) When providing guidance on additional own funds in accordance with Art. 104b of CRD, should competent authorities assess the credibility of management actions taking into account the specifics of the institution, with regards to in particular: The level of strategic investments for business expansion, where a rapidly expanding business will have a cost base that to a larger extent is made up of discretionary or non-recurring expansion costs compared to an institution with a lower level / share of investment for business expansion; and The nature of the lending business, e.g., accounting for the difference between a balance sheet primarily made up of short-term assets as compared with a bank with primarily long-term assets. in order to fulfil the requirement of an institution-specific guidance?

Investments linked to business expansion (e.g., investments in marketing, product development or strategic acquisitions) are (a) closely linked to the future growth which they are expected to generate, and (b) such investments in business expansion can be stopped at short notice with little impact on the existing business. Where it is not possible to reflect growth - e.g., in a static balance sheet stress test - it could be misleading to include the related investment costs in a recurring baseline cost base. In comparison, reducing investment costs for a bank that needs to replace outdated and complex infrastructure may be a very challenging management action.   Institutions with short credit duration (e.g., average duration of 2 months) can steer credit portfolio size and quality in the short term if a stress situation is identified. As such, within a medium-term scenario, they could more credibly manage their credit exposure to reduce credit losses compared to longer duration credit portfolios. Thus, not considering that such an institution would be able to take action, and/or has proven to do so in past stressed situations, to change the credit profile over a three-year horizon when the balance sheet has turned multiple times could lead to an unrealistic or misleading outcome from the stress test. It should further be noted that European Commission’s proposed amendment to Regulation EU No. 575/2013 from 27th of October 2021  lowers the risk weight of transactor exposures (from 75% to 45%), which indicates that some short-term assets are also believed from a prudential perspective to give rise to relatively lower risk exposure.    The above should also be seen in the light of EBA/GL/2018/03 Article 587b that explicitly allows competent authorities to use dynamic balance sheet assumptions, in which the above consideration could be more directly considered compared to a static balance sheet approach including relevant management actions.