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The incoming regulation on Market Risk, known as the Fundamental Review of the Trading Book (or FRTB) raise many challenges for Financial Institutions to implement it on time. One of the main changes, and posing particular operational complexity, is the possibility of applying for an internal model at single trading DESK level.

Considering no diversification is allowed between the internal model and the standardized approach, the question on which desks to allocate to which approach is particularly cumbersome.

We propose a five step approach to find an optimal mix:

  • Strategy setup: selecting the right strategy (e.g. minimizing the capital charge)
  • Definition of limitations: some of the potential combinations can be excluded a priori as non convenient or too difficult to implement
  • Charge breakdown: each product is analyzed for which components of the regulation it is subject to
  • Products´ assignation: assignment to group of homogenous products in terms of capital charges methodology
  • Pattern identification: identify which products would tendentially perform better in one approach rather than the other

This approach allows to find general tendencies which are unrelated to the specific composition of the portfolio at the time of the analysis, and it is much quicker than trying different (if not all) the possible combinations.

If you would like to read more in detail about our approach, you can download our paper.

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