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Is it in your your ILAA?

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Published: 6th January 2011 by William Webster

The FSA's proposed Dear CEO letter (Review of implementation of systems and controls requirements in liquidity regime dated December 2010) tells you that if it's not in writing it doesn't exist.

In June 2010 the FSA undertook a sample desktop review of BIPRU firms that had confirmed they were in compliance with the new systems and controls requirements. The vast majority of firms fell substantially short of requirements. Three areas were of particular concern.

1. Pricing liquidity risk (see BIPRU 12.3.15-16): Proper funds transfer pricing is central to the FSA's new regime. It passes the costs of liquidity to the parts of the business that create the risk. However most firms failed to explain how FTP was managed or how it altered decision making.

2. Intra-day management of liquidity (see BIPRU 12.3.17-21): Insufficient evidence was provided about managing intra day liquidity under stress. For firms that are not direct participants in a clearing system it is insufficient to ignore the risk that your agent may reduce your daylight exposure or may experience payment difficulties that affect you.

3. Management of collateral (see BIPRU 12.3.22-25): Collateral management can lead to a call on liquidity or liquid assets. The FSA found that firms were unable to demonstrate an efficient process linking the operations area and treasury. This could adversely affect counterparty's perception of the firm's liquidity.

The FSA has also alluded that it expects to see the following in your ILAA:

1. A stated risk tolerance as a finite metric(s) including survival days under stress and structural ratios.

2. A minimum of monthly ALCO meetings that deal with liquidity and can escalate matters of concern to the board.

3. Contingent plans to deal with a reduction in daylight limits or operational failure by an agent that deals with the firm's payments.

4. A process to meet currency liabilities under stress that does not require access to the currency market.

5. Adequate reporting on the source of liabilities including limits on the source and maturity of funding.

6. Reverse stress testing to determine what could lead to the need for external liquidity support.

7. A tested Contingency Funding Plan. This means not just a dry run but really using it to raise liquidity.

Is it in your ILAA?

In 2011 the FSA undertakes its review of firms' ILAAs. If you have not sufficiently covered these issues it will affect your Individual Liquidity Guidance (ILG).

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