What Banks Need to Know from the EBA’s Fourth LCR & NSFR Monitoring Report

Inflows from open reverse repos 

In May 2024 the EBA stated¹ that inflows from open reverse repos cannot be recognised in LCR calculations unless the call option has already been exercised, or the institution can demonstrate that the repos would be called under specific circumstances Given the ambiguity and interpretive room in the initial statement, the EBA now provides two approaches that institutions may use to substantiate when such repos would be called. 

• The first approach is forward-looking and states that banks can include the inflows in case they clearly specify events whose occurrence triggers the call of the option of the repo. The deadline of calling the option should also be shorter than 30 days. 

• The second approach is backward-looking and allows banks to use their historic data. If banks can show that certain events have historically led to calling the option within 30 days, the inflows from the repos can be included in LCR calculations. The EBA stresses that the historical observations must have occurred during a period of stress of at least 30 days to ensure that reputational issues under such scenario are taken into account.

Operational deposits and excess operational deposits 

Outflows of operational deposits, defined as deposits received for the purposes of obtaining clearing, custody, cash management or other comparable services, are significantly lower than those of non-operational deposits. Moreover, operational deposits are generally less vulnerable to significant withdrawals during a period of idiosyncratic or market-wide stress. As a result, operational deposits may be treated differently from non-operational deposits in LCR calculations. EBA’s first report (2019)² on the monitoring of the LCR implementation already provided additional guidance on identifying operational deposits. However, based on a recent survey of competent authorities, the EBA found there may be divergence in the way institutions demonstrate the existence of legal or operational limitations that make significant withdrawals within 30 calendar days unlikely. Additionally, quite some heterogeneity was observed in the modelling techniques used to identify excess operational deposits. 

To promote a level-playing field, the EBA now provides further regulatory guidance. It emphasizes the importance that institutions have a framework in place that provides a proper and evidence-based mapping of deposits to the different deposit types recognized in the LCR regulation (i.e. stable retail deposits, non-stable retail deposits and operational deposits). It is also noted that the length of the trade cycle used to identify excess operational deposits should reflect the specific characteristics of the client’s business model. Finally, prudent statistical measures should be applied when analysing historical deposit balances or payment flows. 

Retail deposits excluded from outflows 

Retail term deposits with a maturity beyond 30 days may be exempted from outflows in LCR calculations. Institution may exclude such deposits if they can demonstrate, on economic or contractual grounds, that the deposits will mature beyond 30 days. EBA’s first report on the monitoring of the LCR implementation (2019) already provided guidance on how to assess whether deposits mature beyond 30 days for economic reasons. Given the significant increase in term deposits in recent years, the EBA has reviewed whether this guidance remains adequate. 

Overall, competent authorities report that the 2019 guidelines are properly implemented across the industry. However, the definition of a ‘material’ penalty for early termination under the LCR still leaves room for interpretation. This may lead to wrongly classifying term deposits as having a maturity beyond 30 days. To address this, the EBA now requires that historical data show a material penalty was applied to all early redemptions of exempted retail term deposits, even during periods of rising interest rates. 

Interdependent assets and liabilities in NSFR 

Under the CRR, banks can exclude assets and liabilities from NSFR calculations if they appear on the balance sheet only because the bank serves as a pass-through unit to channel the funding from the liability into the corresponding asset.³ Often times, these are derivatives from clients that are passed through to Central Counterparties (CCPs) in order to provide the client access to central clearing. 

In the report, the EBA highlighted some unclarities around the eligibility of indirect client clearing activities where affiliated institutions are used to clear derivatives. To further clarify when such activities are eligible to be excluded from NSFR calculations, the EBA suggested a slight adjustment to the regulatory CRR text. This does not have any practical implications to the requirements around NSFR. 

Conclusion 

The fourth report on the monitoring of LCR and NSFR by the EBA provides additional guidance on four regulatory unclarities around LCR and NSFR. For three of the topics, all related to LCR, there is an impact on the implementation of the liquidity metric: 

1- Banks may include inflows from open reserve repos when they demonstrate that the repos would be called within 30 days in a period of stress. This can be done by clearly stating this in the liquidity risk management policy or by showing that this has historically been the case. 

2- Banks should have proper frameworks in place to map deposits to different deposit types, should ensure that the length of the trade cycle used to identify excess operational deposits reflects the client’s business model and should ensure that prudent statistical measures are applied when analyzing historical deposit balances. 

3- Banks have to show with historical data that material penalties were applied to prematurely terminated retail term deposits before the term deposits can be excluded from LCR outflows. 

The EBA provided clear instructions to follow up for the inflows from open reverse repos and the outflows from retail term deposits, but the additional guidance for (excess) operational deposits still leaves some ambiguity. Especially the statement that institutions should refer to ‘prudent statistical measures’ leaves room for interpretation. Nevertheless, the additional remarks made by the EBA indicate that competent authorities are likely to increase focus on the (liquidity-typical) modelling of operational deposits and on the calculation of LCRs in general. 

Reach out to Erik Vijlbrief or Jelle Thijssen for more information.