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Guide to internal models

European Central Bank (ECB)

In February 2017, the ECB issued a Guide to the Targeted Review of Internal Models (TRIM) addressed to the management of significant institutions, which sets out its view on the appropriate supervisory practices and spells out how the ECB intends to interpret the relevant EU law on internal models and on general model governance topics. The Guide to the TRIM covers four main chapters: general topics, credit risk, market risk, and counterparty credit risk.

The TRIM carried out by the ECB is aimed at enhancing the credibility and confirming the adequacy of approved Pillar I internal models (for credit, market and counterparty credit risks) permitted for use by significant institutions when calculating own funds requirements. In this regard, the TRIM will encompass two aspects: i) compliance with regulatory requirements related to internal models, through an assessment based, among others, the CRR, CRD IV, EBA RTS and guidelines (GL), etc.; ii) the reduction of unwarranted variability in RWA as it relates to internal model outcomes, taking into account the results of benchmarking, delivering interpretations of the CRR and addressing current gaps in interpretation of regulations relating to internal models.

In this context, the ECB published in November 2018 an update of the first chapter on general aspects of the Guide to internal models, which contains principles for the following non-model-specific topics. Further, in July 2019, the ECB also issue an update of the risk-type-specific chapter of the Guide to internal models, which covers credit risk, market risk and counterparty credit risk and aims at ensuring a common and consistent approach to the most relevant aspects of the applicable regulations on internal models for banks directly supervised by the ECB.

This Technical Note includes an analysis of the ECB’s Guide to internal models.

Executive Summary

The ECB Guide to internal models aims at spelling out how the ECB intends to interpret the relevant EU law on internal models for credit, and counterparty credit risks and on general model governance topics, ensuring a harmonised interpretation and application of the existing legal framework and ensuring close alignment with upcoming changes in the regulation on internal models.

Area of application

  • The ECB Guide to internal models is addressed to significant institutions supervised by the ECB.

Main content

The ECB Guide to internal models covers:

  • General topics, which aims to inform institutions on the principles for the general topics, covering certain areas (e.g. roll-out and permanent partial use, internal governance, or internal validation).
  • Credit risk. This section covers areas such as data maintenance, use of data, PD, LGD, review of estimates, and calculation of maturity for non-retail exposures.
  • Market risk. This section covers areas such as regulatory back-testing of VaR models, internal validation of market risk models and methodology for VaR and sVaR.
  • Counterparty credit risk. This section covers areas such as trade coverage, margin period of risk and cash flows, collateral modelling, modelling of initial margin (MPOR), maturity and granularity.

Download the technical note by clicking here (document available in english).


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