On March 31st, the Office of the Superintendent of Financial Institutions (OSFI) released its plans and priorities for 2015 and 2016. While the release contained many familiar themes, some of the plans and priorities are interesting because they signal a new focus for OSFI or a recommitment that may not have been expected. Institutions and compliance departments may want to review the release to help plan their own priorities. The following areas were of particular interest to me.
Review of Supervisory Processes
The Superintendent’s cover note stated that OSFI will complete a comprehensive review of its supervision processes and their alignment with international best practices. He also mentioned that changes will be implemented to enhance OSFI’s effectiveness. It is somewhat unusual for a Superintendent to concede that that OSFI’s effectiveness is in need of enhancement. Coincidentally, since last November when the Deputy Superintendent of Supervision left OSFI to join the Investment Industry Regulatory Organization of Canada, the Supervision Division at OSFI has not had an identified leader. On April 1st, one day after the Plans and Priorities were released, a new Assistant Superintendent of Deposit-taking Supervision was appointed. That seems to suggest that rather than fill the previous role, the Superintendent will rely on two co-heads of supervision, one for deposit-taking and another for insurance. Putting this all together, Supervision has a new organization structure and ongoing work is underway to align its practices with international best practices and improve its effectiveness. What might this mean for the institutions that it supervises? Institutions might anticipate that there will be changes in their relationship with OSFI.
Compensation, Corporate Governance and Risk Management
While none of these topics are new, OSFI stated that it will be conducting compensation and corporate governance/risk management oversight assessments with the domestic systemically important banks (D-SIB) (the big 6) based on updated expectations and links to their risk appetite framework and risk culture. The latest version of OSFI’s Corporate Governance Guideline was released in 2013 and, prior to that, OSFI had indicated an expectation that institutions would incorporate the Financial Stability Board’s guidance on compensation into their compensation practices. OSFI has also conducted reviews of both compensation practices and corporate governance at the D-SIBs. Therefore, a mention of further assessments suggests that OSFI believes that changes are required. Of course, as the smaller banks and insurance companies know well, what OSFI learns at the large banks often trickles down to them.
OSFI indicated that it intends to deepen its understanding of asset encumbrance practices and clarify expectations on the extent to which banks can pledge assets or otherwise provide security to counterparties and creditors.
Until 2001, banks were generally prohibited from giving security over their assets. The concern of course was that in the event of an insolvency, the secured creditors would grab most of the assets leaving depositors and other creditors unprotected. Since 2001, banks have been permitted to give security provided that their practices are governed by a policy approved by their boards of directors. However, OSFI was given the power to require that a bank alter its pledging policies. Pledging is, of course, an important aspect of securities lending and derivatives programs. It will be interesting to see if OSFI takes any steps to restrict pledging practices once it has completed its review.
OSFI announced that it is also review the business models, risk appetites and controls of major bank capital markets platforms and assess whether the size, scope and tail risks of these activities are consistent with the prudential view of each of the organizations as a whole. Each of the large banks derives a significant portion of its revenues from their capital markets businesses. However, the earnings from these businesses can sometimes be more volatile than earnings from traditional banking. Again, given the importance of these operations to the large banks, it will be interesting to see what changes OSFI might want to suggest in this area.
OSFI reiterated that it is continuing to monitor the threat posed to the financial sector by global financial uncertainty, historically low interest rates, and elevated household indebtedness in Canada. OSFI took the opportunity to add cyber security events as one of its top line risks. It is not new for OSFI to raise cyber security as a concern. In 2013, OSFI issued a self-assessment template and asked all institutions to conduct a self-assessment of their preparedness. What is interesting is that OSFI now mentions cyber security as a key concern together with the other three risks.
To read OSFI’s Plans and Priorities for 2015-2016 click here.