Economic Capital Allocation with Basel II

COMMERCIAL BANKS AND THE NEW REGULATION:BASLE II, IMPACT STUDIES, AND COST OF IMPLEMENTATION; Introduction; The Three Pillars of Basel II; A Birdseye View of Standardized, Foundation IRB, and Advanced IRB Methods; Quantitative Impact Studies and Capital Adequacy; Examples on the Sophistication of the A-IRB Method; The Cost of Basel II; Business Risk and Cost Control; BENEFITS FROM BASEL II: RISK-BASED PRICING AND RATING TARGETS; Introduction; Risk-Based Pricing- A Major Benefit from Basel II; Targeting "AA" and "AAA" by Rating Agencies; Which Way Basel II Will Affect Credit Institutions?; Benefits on the Road from Basel I to Basel II; Basel II Objectives and the Effects of Leverage; The Need for a Devil's Advocate in Risk Management;REGULATORY CAPITAL DEFINED; Introduction; The Role of Regulatory Capital; Two Components of Regulatory Capital: T-1 and HT-1; Beyond Tier 1: The Tier 2 and Tier 3 Regulatory Capital; Pricing Assets in Tier 1 and Tier 2 Capital; Accounting for Risks Assumed with Lending; Provisioning for Bad Loans Under the New Framework; MARKET DISCIPLINE AND ITS GLOBAL IMPACT; Introduction; Market Discipline and Enhanced Financial Disclosure; Qualitative and Quantitative Information in Financial Reporting; Credit Ratings Are a Tool of Market Discipline; Important Notions About Risk Grades and Rating Systems; Market Discipline and Management of Default Risk; The Ultimate Test of Any Business Operation Is Its Ability to Predict Its own Outcome; THE ALLOCATION OF ECONOMIC CAPITAL TO BUSINESS UNITS: ECONOMIC CAPITAL DEFINED; Introduction; A Close Look at Economic Capital; Emphasizing the Total Economic Equity; Economic Capital, Contingent Assets and Contingent Liabilities; Economic Capital and Management Accounting; The Synergy Between Economic Capital and Risk Management; Economic Capital and the Impact of Default Models; ECONOMIC CAPITAL AND SOLVENCY MANAGEMENT; Introduction; Practical Examples with Basel II Implementation; Economic Capital and an Institution's Solvency; Solvency and the Regulation of Insurance Companies; A Practical Look at Position Risk; Stress Testing Risk Positions; ECONOMIC CAPITAL ALLOCATION- PRACTICAL APPLICATIONS AND THEORETICAL BACKGROUND; Introduction; Role of the Corporate Center in Economic Capital Allocation; Top-Down and Bottom-Up Identification of Economic Capital Requirements; Economic Capital Allocation at Rabobank, Credit Suisse, Deutsche Bank; Citibank's Adjustment Factor- An Example with Operational Risk; Developing a Theoretical Framework for Capital Allocation; An Algorithmic Solution for Unexpected Losses by the Deutsche Bundesbank; EVOLVING RULES AND PROCEDURES FOR ECONOMIC CAPTIAL ALLOCATION; Introduction; Corporate Focus on Economic Capital Allocation; Reallife Examples with Economic Capital Allocation to Business Units; First Order and Second Order Risks; Learning a Lesson from Physical Sciences; The Issue of Procyclicality and Its Impact on Economic Capital; STRATEGIES USED BY BANKS TO INCREASE THEIR CAPITAL BASE; Introduction; The Modigliani-Miller Hypothesis on Equity vs. Debt; Leverage Propels the Probability of Default to New Heights; Economic Capital Increases Should Only Be Done in a Responsible Way; Diversification in the Banking Business is Often Wanting; Capital Arbitrage Through Securitization; Statistics on Securitized Corporate Debt and Other Instruments; DEFAULTS, INTERNAL RATINGS AND TECHNOLOGICAL SOLUTIONS: DEFAULT DEFINED; Introduction; Default Milestones; Definition of Default Point; Contribution of Default Point to Credit Risk Strategy; Credit Risk Information Can Be Painful News; Expected Default Frequency and the Database; IRB, TECHNOLOGICAL INFRASTRUCTURE, MODELS AND CORRELATIONS; Introduction; IRB and the Technology Needed by Credit Institutions; 21st Century Real-time and Realspace in the Banking Industry; Requirements for Efficient IRB Modeling; Management Must be Careful with Models and Statistics; The Calculation and Evaluation of Correlation Coefficients; Beware of Magnitude of Risk with Correlated Exposures; INTERNAL RATINGS, SUPERVISORY WEIGHTS AND COLLATERAL; Introduction; The Volatility of Capital Reserves and Basel II; Meeting the Prerequisites of Layers of Supervision; Problems and Opportunities Associated to Risk Weights; A Case Study with Small and Medium Enterprises; Risk Weights with Standardized and IRB Methods; The Handling of Collateral; Remargining Collateral, Credit Derivatives, and Special Vehicles; SOFTWARE WHICH CAN HELP IN IRB IMPLEMENTATION; Introduction; Mapping the Analysis of Bankruptcy Patterns into the Computer; Marking to Model the Loans Portfolio, RAROC and LAS; Moody's KMV Family of Models; Economic Capital Allocation Using Moody's KMV Portfolio Manager; Sharpe Ratio- Its Usage and Misusage; Implementing the Best Capital Adequacy Ratio (BCAR); HOW TO BE IN CHARGE OF IRB; Introduction; The Risk of Misinterpretation of Financial Information; Management Quality and the Rating System by Goldman Sachs; Management's Appreciation of Unexpected Losses; Legal Risk in a Globalized Economy and Bankruptcy Laws; Longer Term Liability and Legal Risk; Ratings Agencies, Legal Risk, and Other Risks;REGULATORY AND POLITICAL ISSUES TEND TO BE INDIVISIBLE: SUPERVISORY AUTHORITIES AND THEIR REGULATORY POLICIES; Introduction; Broader Context of Basel II and Its Implementation; The Need to Expand the Supervisors' Power of Action; Core Principles, Financial Stability Forum, and Committee on the Global Financial System; Group of Seven, Group of Ten, and Group of Twenty; Memoranda of Understanding Concerning Offshores and Bankruptcies; Globalization, Wealth of Nations, and the Financial Industry.