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Trading book and Banking book
09August
Trading book and Banking book 0 Comments | By

Trading Book and Banking Book treatment in FRTB can be summarized in three lines as follows:

  • Close the loop hole of Capital Arbitrage between the Trading book and the Banking book
  • Calculate the Capital for the trading book and the banking book as if the banks are in Stressed Market Conditions
  • Calculate Capital using the Standardized Approach, even though Trading desks calculate the Capital Charge using internal Models approach for the trading book

What are the issues with the classification of the “trading book and banking book” boundary

There has been a lot of discussion on how FRTB will define whether a book is a banking book or a trading book. So here are the definitions on how to treat a position either as a banking book or as a trading book.

The loose definition of the regulatory boundary has been a source of weakness, and banks have been defining the status of a book, based upon their self-determined intent to trade. This was also exacerbated with a large difference in capital requirements on either, such that the overall capital framework became arbitrary and susceptible to abuse and arbitrage.

The intent of the regulation is to allocate the instruments into the prudential capital regime that is best equipped to deliver an appropriate capital charge for that instrument/portfolio. Main points that the BCBS considered while deciding the Trading / Banking book boundaries are:

  • The degree to which capital arbitrage opportunities can be mitigated
  • The extent that the arbitrate opportunity and the boundary be made less permeable.
  • Ease of understanding and application.
  • The extent to which a bank can align the boundary guidelines with its own internal policies

 Main differences between the current and proposed definition for the Banking and Trading book boundary can be described in the table below:

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