PRA considers making IRB approaches more accessible to a wider range of lenders (DP 1/25)

The Prudential Regulation Authority (PRA) have released a discussion paper (DP 1/25) on potential changes to IRB calculations for Residential Mortgages. The main discussion point is a significant shift in the options for mid-size mortgage lenders by offering them a F-IRB approach, akin to those seen for corporate portfolios, but not currently offered for retail. This would allow firms with insufficient data to build LGD models to still get partial RWA benefit through the development of PD models alongside the use of PRA prescribed LGDs, likely varied by LTV and portfolio type (OO/BTL).

From our experience this will be of interest to a number of aspiring IRB firms, both on a positive basis in that it may solve some existing development challenges, but also a challenge that it may increase the approval bar of a more beneficial A-IRB rating system, given the F-IRB option.

Impact on PD

This also brings the potential for changes to the development of PD. These changes include the consideration of removing or increasing the assumed cyclicality cap, the use of GFC data with uplifts instead of backcasting to the 1990’s and the potential of the reintroduction of the option of a TtC-style rating systems. These approaches are mainly aimed at mid-size firms, but it does allow for the possibility that existing tier 1’s may be able to leverage some of the changes, should they be followed through.

Whilst this would likely result in RWA benefit that will be welcomed by banks, it may not be fully welcomed by modelling teams that are suffering ‘hybrid fatigue’ after many years of developments and have either passed the finish line or feeling that they are approaching it.

The road ahead…

The discussion paper at this stage is very non-committal and is clear that the PRA has concerns with introducing changes, but at a time when many aspiring IRB firms are deep in the development of their models, the progress and outcomes from these discussion will need to be monitored very closely to ensure that they are following a path that is most efficient both from an effort and capital perspective.

Get in touch

We’ll be sharing more thoughts over the next few weeks on how this discussion paper will impact lenders of all sizes. Get in touch if you would like to learn more about how upcoming regulatory changes could impact your organisation – info@4-most.co.uk.