In summer 2024, the Prudential Regulation Authority (PRA) published a Consultation Paper, CP11/24, on International firms: Updates to Supervisory Statement (SS5/21) and branch reporting. CP11/24 is key to understanding the booking models that the PRA will accept and reflects the debates which the branches of European banks have had in the UK over the last few years. The core of the paper retains the concepts of proportionality and case-by-case basis, an approach which contrasts with guidance issued by the European Central Bank (ECB), and for which the PRA has rightly been praised since Brexit. However, CP11/24 is much broader, as it applies to other third country branches in the UK and, crucially, UK trading banks in relation to booking models.

CP11/24 needs to be set in the context of developments in the EU. Previously, the ECB launched a desk-booking review in spring 2020, focusing on 264 trading desks across seven institutions. The review assessed institutions against the ECB’s 2018 supervisory expectations on booking models whereby third-country subsidiaries are required to have adequate governance and risk management capabilities and should not operate as empty shells.

The ECB found that c.70% of desks assessed implemented a back-to-back booking model, with 20% organised as split desks. The ECB further found that 21% of the desks assessed warranted targeted supervisory action, representing c.46% of the risk-weighted exposure amount (RWEA) of the incoming banks’ trading desks. All of this reflects the more formulistic approach of the ECB in relation to third country branches in comparison to the historically more pragmatic PRA approach which emphasises a case-by-case analysis based on rational justifications. 

There is a lot of detail in CP11/24, and I would make two main points

The first is a macro point: whether it would be better if the PRA did not go in the proposed direction of more detailed guidance and instead retained its merits-based case by case basis approach. As always, once formal guidance is issued, the danger is that one is trying to squeeze different fact patterns into an inappropriate schema. The PRA would argue that it is proposing this approach both because of industry pressure for clearer guidance and in response to the ECB’s approach. However, query whether this is in fact the right response.

There are several more granular issues to consider which I would divide into three main headings

• The first is that CP11/24 argues for an individual to have management of risk in respect of each product set traded by a desk. One can see the argument that this makes sense in the context of the global trading book and, where appropriate, the banking book. However, the question is how this fits with the other key proposition in CP11/24, that the risks to UK based business should be managed, or at least overseen, in the UK. The hostility in CP11/24 to the concept of split management of risk might be argued to sit awkwardly with the concept of local management for third country banks with large branches in London. My query is whether this will make business leave rather than come to London. To put the point more directly, is this not just the ECB’s agenda replayed?

For UK banks subject to the booking guidance for first time, given the complexity of their booking models, there is a question to be raised as to whether a single product and risk approach works. Underlying this is a more fundamental point: the relationship between the location of execution of trade and the decision to adopt a particular booking model. As we all know, historically the booking model has sometimes been based on accounting and tax factors; query how this new approach fits with that.

• Secondly, it is not clear in my own mind how the references in the proposed text to one individual trader having control of the booking process, including trade capture and modification, sits alongside first- and second-line division of responsibilities.

• Thirdly, there is a clear hostility to remote risk management. This is understandable where there is a complete mismatch between the location of traders and the location of booking. However, in many of situations that we see, there are global business lines that have mixed location. I am worried that this might indicate a more ECB-like rigidity in approach, rather than the case-by-case analysis that the PRA has been known for.

I would make two other points.

• First, the language of economic rationale for changes in the business model is understandable but does not quite strike the same tone as the PRA’s historic approach of case-by-case justification based on the bank’s own requirements. Of course, the PRA has always looked at this through their statutory objectives but query if this “economic rationale” concept could be used in the same way as some might view the EU using it as a trojan horse for a more protectionist or “nationalist” agenda.

• Secondly, the apparent hostility to split desks seems odd in the context of UK branches of third country banks, though CP11/24 does not go so far as to forbid the operation of a split desks altogether. Rather. the proposal recognises that back-to-back structures or hedge structures may be possible even in a centralised booking model, but I am not clear whether this is saying that the initial trade before the back-to-back needs to be in the ultimate location of the booking, or whether the back-to-back is permissible on a cross location basis. My working assumption from the definition is that it is the latter, but query if that is what CP11/24 says. To put it another way, the key is to distinguish remote booking situations, which the PRA has historically been hostile to in common with other regulators, versus legitimate movement of risk within the single entity that is the bank. Again, there is a question here around whether uncertainty will lead to more impetus to move back to head office both in the case of UK banks and third country banks.

Summary

To summarise all of this, the broad intention of giving clearer and more certain guidance to the market seems sensible. My question is whether the way this has been drafted quite achieves that. Time will tell as we get from consultation to policy statement.

There is of course a second piece of the jigsaw relating to the senior managers regime and the SMF7, which is due to be consulted on, so perhaps that will also make the picture clearer.