TLAC: what you should know
We explain the FSB's total loss-absorbing capacity requirements for global systemically important banks (G-Sibs).
The Financial Stability Board (FSB) issued the final minimum total loss-absorbing capacity (TLAC) standard for 30 banks identified as global systemically important banks (G-Sibs) that the Basel Committee on Banking Supervision (BCBS) deems at risk from being too big to fail on 9 November 2015.
The TLAC requirements aim to bolster G-Sibs' capital and leverage ratios, ensuring these banks are equipped to continue critical functions without threatening financial market stability or requiring further taxpayer support.
A comprehensive quantitative impact study (QIS) was completed by the FSB in collaboration with the BCBS to calibrate the optimal Pillar 1 element of the TLAC requirement for all G-Sibs. The FSB proposed a minimum total loss-absorbing capacity (TLAC) requirement for G-Sibs in November 2014, in consultation with the BCBS.Basel III rules require banks to meet a minimum total capital ratio of 10.5% by 2019 – though in some jurisdictions the minimum ratio is far higher. The proposed minimum TLAC requirements for G-Sibs unveiled at the G20 Brisbane summit in November 2014 was 16% to 20% of a group's consolidated risk-weighted assets. This proposal was under consultation until February 2, 2015, when the requirement was finalized.
The TLAC should consist of instruments that can be written down or converted into equity in case of resolution: capital instruments (CET1, AdT1 and T2), together with long-term unsecured debt – subordinated and senior debt. Debt must be unsecured; have a minimum residual maturity of more than one year; arise through a contract; and be subordinated to liabilities that are explicitly excluded from TLAC.
The minimum TLAC requirement is in addition to minimum regulatory capital requirements, but qualifying capital may count towards both requirements, subject to conditions.
From 1 January 2019, the minimum TLAC requirement for G-Sibs is at least 16% of the resolution group’s risk-weighted assets (RWA's), increasing to at least 18% from 1 January 2022. Emerging market G-Sibs must meet the 16% RWA and 6% LRE Minimum TLAC requirement no later than 1 January 2025, and the 18% RWA and 6.75% LRE minimum TLAC requirement before 1 January 2028. The period for emerging market G-Sibs conformance accelerates if, in the five years following publication of the term sheet, aggregated corporate debt issuance exceeds 55% of the economy's GDP.
Banks still have much work to do filling out their TLAC ratios at the lowest possible cost.
New Basel regulations disqualify old-style amortizing tier-2 bonds with less than five years remaining to maturity to count in the TLAC computation. In February and early March 2015, a slew of European banks issued 10-year bullet maturity Basel III-compliant, tier-2 (B3T2) subordinated bond deals, as they sought to grow a new market for these lower cost TLAC-eligible instruments. Investor yield-hunger drove strong demand for bonds offering coupons around 2.625%.
Crédit Agricole drew €16.5 billion of orders for its €3 billion dual-tranche T2 bond.
BNP Paribas attracted €5.5 billion of demand for its €1.5 billion offering at 170 basis points over mid-swaps.
Deutsche Bank took €4.4 billion of orders for its €1.25 billion deal priced at 210bp over.
Société Générale drew €3.8 billion of orders for its €1.25 billion transaction at 190bp over.
Under the proposed rules, TLAC eligible debt must qualify as long-term debt (LTD) – no debt instruments with residual maturity of less than one year can count towards these ratios. Eligible debt with remaining maturities between one to two years still qualify, but at a 50% haircut. US banks have begun issuing senior debt with call options one year before maturity, with plans to redeem the debt before it stops counting towards their TLAC requirement, allowing them to save on interest payments for debt with no regulatory benefit.
JPMorgan issued the first deal to use a call feature to address TLAC rules in August 2016; the $2.5 billion of five-year bonds that can be called in their fourth year brought in $5.5 billion of orders.
In the four months following JPMorgan's initial deal, more than $20 billion equivalent of callable senior debt was printed. Reuters reports: "Wells Fargo, Bank of New York Mellon and State Street are the only banks subject to TLAC that have not yet tapped the callable structure." Issuer calls are subject to regulatory approval if calling the issue would result in breach of TLAC.
TLAC is formally implemented in 2019. Once established, non-compliance could impede a bank’s ability to make discretionary distributions such as dividend payments or additional tier-1 coupons, as TLAC is part of the Pillar 1 Basel requirements.
Recent Euromoney coverage
European Parliament drags heels over fast-tracking rules; Nykredit flips out in €500 million deal.
G-Sibs face conflicting TLAC and MREL requirements; deduction rules could favour European bank investors.
€9.5 billion issued after Sapin 2 law passed; EC chooses French instrument for harmonized solution.
A last-minute proposal by the European Commission risks throwing global bank capitalization rules into further flux.
With TLAC and minimum requirement for own funds and eligible liabilities (MREL) due to be in place by 2019, the focus on both the quantum and form of bank capital is intense. JPMorgan repo retreat shows cost of rule changes
The leverage ratio requirement makes the relative cost of capital too high for low-margin activities such as repos because all assets are treated the same. The systemically important bank buffer, which US regulators use for total loss-absorbing capacity (TLAC) purposes, is another factor because it means big banks need to hold more debt as well as more capital.
Deal shows appetite after February sell-off; bank’s tier-2 issuance could herald TLAC surge.
The fear is that the clampdown on the IRB and risk-weight changes to the standardized approach together represent wholesale changes to the bank-capital framework, given the interconnected nature of rulemakings, including on the total loss-absorbing capacity standards.
Subordinated debt meltdown raises capital questions; investors and issuers ‘don’t know’ how bail-in works.
Flight to AT1 from high yield expected; tier 2 needed to mitigate ALAC impact.
Having spent the years since 2008 focusing on building up their capital buffers, banks are now faced with the dual headache of leverage rules and looming total loss-absorbing capacity (TLAC) requirements, never mind further potential Basel IV changes in treatment to risk-weighted assets.
Tier-3 debt faces contractual hurdles; FSB accedes on structure disparities.
Rule to bail in all bank senior debt; initial Schuldscheine exemption reversed.
Last month a slew of European banks issued 10-year bullet maturity Basel III-compliant, tier-2 (B3T2) subordinated bond deals, as they sought to grow a new market for these lower cost total loss-absorbing capacity (TLAC)-eligible instruments.
Basel III law opens up funding; investors bring $1 billion book.
As 2015 dawns, senior bankers are still poring over the implications of the Financial Stability Board’s proposals to boost their total loss absorbing capacity (TLAC) to ensure that beyond common equity, Additional Tier 1 capital and Tier 2 subordinated debt, banks still have enough liabilities on which losses can be imposed in the event of a failure so that taxpayers never again have to bail them out.
“Some investors will be very nervous about what TLAC means for future supply,” says one banker. “There may be friction between what issuers want to issue and what investors are prepared to buy.” That nervousness isn’t helped by the lack of clarity around the shape and size of this future market.”
EU-US tensions remain over leverage ratio
US officials are waging a war to promote the leverage ratio as a binding constraint on banks’ capital frameworks, further imperilling strategic planning for cross-border lenders.
Haunted by the global crisis, policymakers from the US to the UK are erecting national barriers and waging a war against too-big-to-fail banking. Vice-chairman of the Federal Deposit Insurance Corp Thomas Hoenig defends the drive toward balkanization.
Collateral damage of the focus on too-big-to-fail, capital rules and bankruptcy resolution risk rolling back financial globalization.
Debt service costs will hit profits; regulators see M&A as the answer.
November 17, 2014
In an interview with Euromoney, Bundesbank board member Andreas Dombret sounds an upbeat note on the rigour of the ECB’s asset-quality review (AQR) and the eurozone’s resolution arrangements, but issues a sharp warning over banks’ risk-free treatment of sovereign debt.
October 24, 2014
Bankers are looking past Sunday's publication of the stress-test results and the TLAC requirements that will follow to a substantial change in how banks fund in the capital markets and maybe even new forms of senior debt.
September 29, 2014
The November G20 meeting could see the capital requirements of systemically important banks doubled.
Euromoney April 2014
Overwhelming demand for a string of bank AT1 deals shows the extent of investors’ desperation for yield as much as their faith in the restored health of the banking sector. As more new investors accept these deals, hopes grow that a €150 billion AT1 market might emerge quickly now. But terms have tightened far and fast and AT1 can be volatile.
Citi, BAML and JPMorgan might need to issue subordinated debt to meet OLA requirement.
From the Euromoney archive
"Too big to fail – The hazards of bank bailouts was written in 2004 – when the authors decided that the too-big-to-fail (TBTF) problem was serious and getting worse.... The authors argue that one of the ways to manage TBTF is to put creditors at risk of real loss. They also suggest policymakers should attempt to institute reforms that prevent the failure of one bank spilling over to another and that provide regulators with greater certainty of how to deal with a bank defaulting."
- Maestro, my ass! How we got into this mess: Breaking the Maestro’s baton, Euromoney August 2009.
"One of the natural consequences of government support for banks that are deemed too big to fail is that those banks will have to be more tightly regulated."
- Banks begin great financial retrenchment, Euromoney June 2009.
"If you gave your assets to Lehman as collateral and they lent those out, then more than one person has a claim on those assets. Everyone passes around the security, then the music stops, there is one chair to sit on and too many people who want to sit on it. I cannot see how PwC is going to work that out. And I think the outcome will be that Lehman really was too big to fail."
-Prime brokerage: The day the music stopped, Euromoney, November 2008.
"Absolutely no bank is too big to fail," says governor Laurence H Meyer of the Federal Reserve Board, "if the measure is whether shareholders take a loss and management gets replaced."
-US bank regulation - Winners and losers of new finance law, Euromoney December 1999.
"...innovation in the next century concerns liquidity risk measurement... Most banking supervisors require a portion of assets to be in instruments which can be easily liquidated... If a firm has been carrying those assets linked to short-term funding at liquidation values, the initial phase of a crisis can be weathered. However, if the loss of confidence persists, then it is up to the central bank to provide what amounts to re-insurance. Regulatory capital can be thought of as the deductible on that re-insurance coverage. From this perspective, any financial firm whose failure would generate systemic risk (too big to fail) must carry proper capital for all of its activities."
-Euromoney 30th anniversary: The future of risk, Euromoney June 1999.
"A bank which regulators regard as too important or too big to fail enjoys a free put option on its home government and taxpayers. Regulators are right to demand something in return for that option, such as a certain level of regulatory capital or minimum reserves."
-The rise and rise of the risk manager. Euromoney February 1998.
External resources: Speeches, consultation papers from the FSB, BIS, BOE, EBA
12 October 2016
9 November 2015
Financial Stability Board
9 November 2015
Financial Stability Board
9 November 2015
Financial Stability Board
20 November 2014
Speech given by Martin Taylor, External Member of the Financial Policy Committee, Bank of England. Oliver Wyman Institute annual conference, London.
18 November 2014Mark Carney, Chair of the FSB, answered questions from media persons in Basel on 10 November 2014 on too big to fail, total loss absorbing capital and ending implicit public subsidies for banks.
17 November 2014
Speech given by Mark Carney, Governor of the Bank of England, Chair of the Financial Stability Board. 2014 Monetary Authority of Singapore Lecture.
12 November 2014
Report to the G20 on progress in reform of resolution regimes and resolution planning for global systemically important financial institutions (G-SIFIs).
10 November 2014
The Financial Stability Board (FSB) has today issued for public consultation policy proposals consisting of a set of principles and a detailed term sheet on the adequacy of loss-absorbing and recapitalisation capacity of global systemically important banks (G-Sibs). Under consultation until 2 February 2015. During the consultation period, the FSB will collaborate with the Basel Committee on Banking Supervision to carry out a Quantitative Impact study to assess optimal Pillar 1 minimum TLAC requirement.
Updated November 2014
Fair and Effective Markets Review consultation document
October 20, 2014
William C. Dudley, President and Chief Executive Officer.Remarks at the Workshop on Reforming Culture and Behavior in the Financial Services Industry, Federal Reserve Bank of New York, New York City
14 October 2014
Response to the Commission’s call for advice of December 2013 related to the merits of, and the potential ways of, promoting a safe and stable securitisation market
5 September 2014
Bank of England
European Central Bank and Bank of England
Updated April 2014
Basel Commitee on Banking Supervision
FSB Progress Report on Enhanced Supervision
7 April 2014
26 November 2013
Why the UK - and European - bank-deleveraging cycle has much further to go, following George Osborne's call for the Bank of England to review leverage ratios.
2 September 2013
Report of the Financial Stability Board to the G-20, FSB,
G20 leaders' declaration, Russia G20
Macroeconomic Assessment Group on Derivatives established by the OTC Derivatives Coordination Group
7 February 2012
ADB Financial Sector Forum on “Enhancing financial stability – issues and challenges”, Manilla.
20 October 2010
FSB recommendations and time lines
Bank of England financial stability report