The ECB can and does impose quantitative capital and/or liquidity measures as well as other supervisory measures following the SREP, including qualitative recommendations. Changes to this year’s Pillar 2 Requirements (P2Rs) were limited, with total capital P2Rs largely stable at around 2% of RWA, compared to 1.9% last year.

The European Court of Auditors’ May report, which reviewed the ECB’s supervision of banks’ credit risk, pointed to areas where the P2R setting process could be improved, noting that proportionally higher P2Rs were not imposed on banks with higher credit risks, while supervisory measures for some banks were not escalated when high and sustained credit risk and control weaknesses persisted.

“As we head into 2024, asset quality is likely to be at a turning point,” said Pauline Lambert, executive director in Scope’s financial institutions team. “There has been a great deal of resilience due to a combination of factors but we expect to see signs of credit deterioration and would welcome improvements to the ECB’s supervisory process as recommended in the report. The active supervision of banks remains a key support for the credit fundamentals of the sector.”

A key recommendation is amending the P2R methodology to improve transparency and provide assurance that all relevant risks are sufficiently covered. The current methodology does not follow a risk-by-risk approach hence it is not possible to directly link individual risk drivers with the risk-by-risk add-ons. Further, the auditors found no evidence of the ECB quantifying these risks for individual banks. In response, the ECB has stated that it will perform a more structural review of the effectiveness and efficiency of its P2R methodology throughout 2024.

The EBA recently updated its Risk Indicators Methodological Guide which includes numerous indicators supervisors use to monitor various risks but which market participants do not necessarily have access to. The guide is meant to aid EBA compilers of risk assessment indicators and provides transparency on the methodology used to compute indicators included in the EBA’s official publications. “While the guide is not meant to bind competent authorities and is not mandatory, its use would facilitate comparisons amongst different samples of banks,” Lambert noted.

In the capital markets, there continue to be questions about whether the European AT1 market is properly open for issuers. A number of elements have helped push the AT1 market towards normalisation but it has not yet fully regained its poise. Market observers point to progress but add that the investor universe is likely to have shrunk.

Recent weeks have seen only a very limited re-opening of the AT1 market for European issuers. In fact, the euro market has accommodated just one European issuer in size since the Credit Suisse AT1 write-down – a EUR 1bn 8.375% AT1 from BBVA – along with a sub-benchmark 12.5% EUR 220m offering from Bank of Cyprus.

Read the Bank Capital Quarterly here.

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