Building Sustainable Capital Positions

Thanks to astute oversight by GCC and Levant regulators in the form of capital and liquidity support, banks in the region came through the financial crisis in a stronger position than many banks in Western countries. However, that does not guarantee their future success.

Booz & Company recently conducted its study of capital and liquidity levels at 64 regional banks and found that many face the prospect of capital and liquidity shortfalls in the near term as new Basel III rules are phased in from 2013 to 2018. To avoid these shortfalls, they must immediately begin managing their capital and liquidity more proactively.

According to our study, the capital shortfall for the surveyed banks will increase from about $11 billion in total in 2012 to up to $27 billion in 2017.

On the liquidity side, Booz & Company ran a number of scenarios to measure the liquidity coverage ratio (LCR) – a new Basel III ratio introduced to measure the banks’ resilience vis-à-vis liquidity stress. We found that the liquid assets needed to satisfy full implementation of the LCR could reach up to $10.5 billion.

More proactive management of capital and liquidity will better prepare banks for the near-term Basel III regulatory changes. Longer term, proactive management is part of a holistic capital, liquidity, and risk transformation that will make banks more competitive and capable of fulfilling growth ambitions at home and overseas.

Several factors makes this long-term proactive approach necessary: tighter regulatory requirements will raise the bar for banks in terms of capital, leverage, and liquidity requirements; international expansion plans in the face of more expensive capital, more complex funding, and multiple regulatory jurisdictions; increasing stakeholder demands for a healthy risk-adjusted return on capital; and continued degradation of legacy assets that weigh on banks’ ability to generate capital internally.

Each bank’s ability to tackle these issues depends on where it currently stands in terms of risk, capital and liquidity management capabilities; data quality; as well as human and financial resources. Nonetheless, all banks need to follow five strategic imperatives for long-term, holistic capital, liquidity, and risk transformation.

Integrate bank-wide, risk, capital planning and funding management strategies

Maximise value creation by striking the right balance between the strategic objectives, risk appetite, and capital and funding availabilities. Ensure integration and internal alignment among stakeholders by elevating the endeavour to the board and management levels.

Utilise capital effectively and efficiently

Identify the capital gap—the difference between capital availability and capital requirements—and identify internal and external sources for capital raising initiatives. Consolidate these findings into a holistic capital plan and mobilise resources for implementation.

Enhance funding and liquidity management

Identify the funding gap—the difference between funding availability and funding requirements—and identify sources of funding to bridge the gap.
Consolidate these finding into a holistic funding plan. Be sure to establish a centralised, consolidated, timely view of the bank’s liquidity positions to understand all liquidity needs and sources to avoid unexpected shortfalls or other liquidity surprises.

Integrate risk governance with the organisation, culture and processes

Articulate and tailor risk processes, policies and procedures. This includes: defining the end-to-end credit process; assigning clear roles and responsibilities; and embedding the processes in policies and procedure manuals.

Invest in reporting, solutions, data and IT infrastructure

Produce reports and dashboards to support senior management and board decision-making. Create transparency around performance and risk-adjusted profitability at the group and subsidiary levels to improve measurement and increase accountability.

Basel III compliance, while important in the short-term, is not the only reason to manage capital and liquidity more proactively. Longer term, banks must undergo a holistic capital, liquidity and risk transformation to fulfill their growth ambitions and compete on the global stage.

George Haimari and Dr. Mazen Ramsay Najjar are partners at Booz & Company.