Risk drivers and rating criteria
1. When assessing the risk drivers and rating criteria used in the rating system for the purposes of Article 170(1), point (a), (c) and (e), (3), point (a), and (4) of Regulation (EU) No 575/2013, competent authorities shall verify all of the following:
(a)
the selection process of the relevant risk drivers and rating criteria, including the definition of potential risk drivers, criteria for selection of risk drivers and decisions taken on the relevant risk drivers;
(b)
the consistency of the selected risk drivers and rating criteria and their contribution to the risk assessment with the expectations of the business users of the rating system;
(c)
the consistency of the risk drivers and rating criteria selected on the basis of statistical methods with the statistical evidence on risk differentiation associated with each grade or pool.
2. The potential risk drivers and rating criteria to be analysed in accordance with paragraph 1(a) shall include the following, where available for the type of exposures:
(a)
obligor risk characteristics, including:
(i)
for exposures to corporates and institutions: financial statements, qualitative information, industry risk, country risk, support from parent entity;
(ii)
for retail exposures: financial statements or personal income information, qualitative information, behavioural information, socio- demographic information;
(b)
transaction risk characteristics, including type of product, type of collateral, seniority, loan-to-value ratio;
(c)
information on delinquency: internal information or information derived from external sources, such as credit bureaus.
Distribution of obligors and exposures in the grades or pools
1. When assessing the distribution of obligors and exposures within the grades or pools of each rating system for the purposes of Article 170(1), points (b), (d) and (f), (2) and (3)(c) of Regulation (EU) No 575/2013, competent authorities shall verify that:
(a)
the number of rating grades and pools is adequate to ensure a meaningful risk differentiation and a quantification of the loss characteristics at the grade or pool level and that:
(i)
for exposures to corporates, institutions, central governments and central banks and specialised lending exposures, the obligor rating scale has at least the number of grades set out in Article 170(1)(b) and (2) of Regulation (EU) No 575/2013, respectively;
(ii)
for purchased receivables classified as retail exposures, that the grouping reflects the seller’s underwriting practices and the heterogeneity of its customers;
(b)
the concentration of numbers of exposures or obligors is not excessive in any grade or pool, unless such distribution is supported by convincing empirical evidence of homogeneity of risk of those exposures or obligors;
(c)
the rating and facility grades or pools for retail exposures have a sufficient number of exposures or obligors in a single grade or pool, unless such distribution is supported by convincing empirical evidence that the grouping of those exposures or obligors is adequate, or that direct estimates of risk parameters for individual obligors or exposures are used as referred to in Article 169(3) of Regulation (EU) No 575/2013;
(d)
the rating and facility grades or pools for exposures to corporates, institutions, central governments and central banks, where sufficient data is available, do not have too few exposures or obligors in a single grade or pool, unless the distribution of exposures or obligors is supported by convincing empirical evidence that the grouping of those exposures or obligors is adequate, or that direct estimates of risk parameters for individual obligors or exposures are used as referred to in Article 169(3) of Regulation (EU) No 575/2013.
2. In addition to the verification laid down in paragraph 1, competent authorities shall assess, where appropriate, the criteria applied by the institution when determining:
(a)
the maximum and the minimum overall number of grades or pools;
(b)
the proportion of exposures and obligors assigned to each grade or pool.
3. For the purposes of paragraphs 1 and 2, competent authorities shall take into account the current and past observed distributions of the number of exposures and obligors and of the exposure values, including the migration of exposures and obligors between different grades or pools.
Risk differentiation
1. When assessing the risk differentiation of each rating system for the purposes of points (b) and (c) of paragraph 3 of Article 170 of Regulation (EU) No 575/2013 for retail exposures, competent authorities shall verify all of the following:
(a)
that the tools used to assess risk differentiation are sound and adequate considering the available data and that the adequate risk differentiation is evidenced with records of time series of realised default rates or loss rates for grades or pools under various economic conditions;
(b)
that the expected performance of the rating system as regards risk differentiation is defined by the institution by means of clearly established fixed targets and tolerances for defined metrics and tools as well as actions to rectify deviations from these targets or tolerances; separate targets and tolerances may be defined for the initial development and the ongoing performance;
(c)
that the targets and tolerances for defined metrics and tools and mechanisms applied to meet those targets and tolerances ensure sufficient differentiation of risk.
2. The competent authorities shall also apply paragraph 1 to the assessment of risk differentiation for exposures other than retail exposures pursuant to Article 170(1) of Regulation (EU) No 575/2013 if a sufficient quantity of data is available for this to be possible.
Homogeneity
1. When assessing the homogeneity of obligors or exposures assigned to the same grade or pool for the purposes of Article 170(1) and (3)(c) of Regulation (EU) No 575/2013, competent authorities shall assess the similarity of the obligors and transaction loss characteristics included in each grade or pool with regard to all of the following factors:
(a)
internal ratings;
(b)
estimates of PD;
(c)
where applicable, own estimates of LGD;
(d)
where applicable, own estimates of conversion factors;
(e)
where applicable, own estimates of total losses.
For retail exposures competent authorities shall assess those factors for each rating system. For exposures other than retail exposures competent authorities shall assess them only for those rating systems in respect of which a sufficient quantity of data is available.
2. For the purposes of the assessment under paragraph 1, competent authorities shall assess the range of values and the distributions of the obligor and transaction loss characteristics included within each grade or pool.
Source: EUR-Lex (Publications Office of the EU), © European Union, reuse permitted under Commission Decision 2011/833/EU.
