Last year, the Australian Prudential Regulation Authority (APRA) released a discussion paper that outlined planned changes to Prudential Standard APS 111 Capital Adequacy: Measurement of Capital (APS 111), which establishes the criteria for ADIs’ regulatory capital requirements.
The proposals aim to balance the benefits of revenue diversification that banks can achieve by owning subsidiary operations against the potential concentration risk that occurs as those investments increase in size.
A major proposal in the paper was an adjustment to the capital treatment of authorised deposit-taking institutions’ (ADI) equity investments in their banking and insurance subsidiaries.
While APRA plans to finalise and implement APS 111 in 2021 and 2022, respectively, it said that any new or additional equity investments made before then are undertaken with the proposed policy in mind.
As such, it has issued guidance to ADIs to advise them of an interim change to the capital treatment of new or additional equity investments in banking and insurance subsidiaries.
There will be no change to the capital treatment of any existing equity investments in these subsidiaries in the interim period, with these exposures continued to be risk weighted at 300 per cent if listed or 400 per cent if unlisted.
“However, until the new APS 111 is finalised and implemented, APRA will require any new or additional equity investments in banking and insurance subsidiaries, where the amount of that new or additional investments takes the aggregate value of the investment above 10 per cent of an ADI’s Common Equity Tier 1 (CET1) capital, to be fully funded by equity capital at the ADI parent company level,” APRA said.
“This treatment would apply to the proportion of the new or additional investment that is above 10 per cent of an ADI’s CET1 capital.”
According to APRA, while this interim measure is a reflection of the direction of the proposed APS 111, it does not impact on existing investments.
Furthermore, it does not restrict or prohibit ADIs from making new investments or increasing their existing investments in banking and insurance subsidiaries in the period ahead.
“However, it will ensure that any new or additional equity investments, particularly where the aggregate value of the investment is large relative to the ADI’s CET1 capital, are backed by appropriate capital to reduce the risk to Australian depositors,” APRA said.
APRA has stipulated that in the interim period, ADIs will be expected to notify APRA in advance of any new or additional equity investments in banking and insurance subsidiaries, which would result in the aggregate value of any investment exceeding 10 per cent of an ADI’s CET1 capital.
Malavika Santhebennur is the features editor on the mortgages titles at Momentum Media.
Before joining the team in 2019, Malavika held roles with Money Management and Benchmark Media. She has been writing about financial services for the past six years.