trading book vs banking book

Discussion in 'P2.T7. Operational Risk & ERM (25%)' started by shanlane, May 10, 2012.

  1. shanlane

    shanlane Active Member


    What are the advantages or disadvantages, from a capital requirement perpsective, of being treated as part of the trading book or part of the banking book?

    In other words, why would we want a position to be treated as one as opposed to the other? Can we hold less capital against trading book positions?


  2. David Harper CFA FRM

    David Harper CFA FRM David Harper CFA FRM (test) Staff Member

    Hi Shannon,

    It's a whole thing with a history (for me, starting with this post from Aug 2007: )

    BIS just last week (!) released a fabulous summary, an unrivaled synthesis, a must-read on the subject:

    The really brief version (IMO) is that, basically, banks could (regulatory) arbitrage by shifting from the banking book to the trading book. In particular, loans that would have been charged for credit risk, at one-year 99.9% horizon, could get the much more favorable interest rate (market risk) VaR charge at 10-day 99.0%. But, the credit crisis demolished this assumption, and the IRC was introduced to restore some credit risk (default) charge to the trading book, among other fixes. Much of the efforts, ongoing too, since has been to "fix" the weakness of the advantageous trading book. Thanks,
  3. shanlane

    shanlane Active Member

    That makes perfect sense.


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  4. shanlane

    shanlane Active Member

    Sorry, I think I am missing something really basic here, but I think I see the light at the end of the tunnel.

    If we have an interest rate sensitive item that should be considered banking book, this treated as a credit risk (99.9% 1 yr VaR), whereas if we securitize it and hold onto it, it would then be treated as a trading book asset (99% 10 day VaR). Is this correct?

    And now, under the new rules, if we do this, the securitizations come with hefty capital charges and this is considered the specific risk charge and basically be treated as though it were a banking book item?

    And this is the reason that the IRC would not include the securitization, because it would be accounted for under the specific risk charge?

    If this is correct, then exactly what DOES the IRC cover?

    I REALLY hope this is right. It has been one of my most confused subjects.



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