Credit Suisse USA experienced two instances of trading losses surpassing value-at-risk limits in Q4 2023, resulting in the reimposition of a higher market risk capital add-on that had been lifted just two quarters earlier. 

The Swiss bank’s US intermediate holding company – which remains regulated on a standalone basis even after the group’s acquisition by UBS – notched buy-and-hold hits for 138% and 104% of VAR on separate, unspecified days during the quarter.

Coupled with losses-to-VAR of 285% and 108% during Q1 and of 364% in Q3, the latest two breaches pushed the tally for 2023 to five. This triggered an increase in the multiplier applied to the VAR- and stressed VAR-based readings to derive capital requirements, from 3x to 3.4x, in only the second such ratchet-up since at least Q3 2017.

The multiplier hike added $16 million to risk-based charges. Nevertheless, market risk capital requirements were down 28% from Q3, to $152 million, thanks to ebbing VAR and SVAR measures.

What is it?

US prudential regulators – the Federal Reserve, Office of the Comptroller of the Currency and Federal Deposit Insurance Corporation – require institutions subject to the market risk rule to report quarterly data on their trading risk capital calculations.

Firms disclose their VAR- and SVAR-based capital requirements, any mandatory add-ons, as well as their VAR backtesting results. The disclosures also cover the three largest trading losses incurred each quarter as a proportion of VAR, although their value and the date they were incurred are not disclosed. 

The VAR-based measure must be calculated on a daily basis using a one-tail, 99% confidence level and a 10-day holding period. Banks must use at least 12 months of historical data as the basis for their estimates.

VAR- and SVAR-based capital requirements are pinned to the greater of the previous three months’ average reading, multiplied by a factor of three or higher, or the previous day’s measure.

If a bank incurs more than four VAR breaches over a rolling 250-day period, the multiplier applied to the average-based requirement increases. This multiplier climbs in increments from three to a maximum of four with every additional breach above the threshold.

Regulatory VAR differs from management VAR, which is not connected to capital requirements and can have a different perimeter and lower confidence level.

Why it matters

Credit Suisse declined to comment on the exact timing or the drivers behind the latest VAR breaches. But it’s easy to imagine the chances of incurring a VAR breach increasing when a dealer is in the midst of restructuring its portfolio, especially when assessed against the stringent hypothetical profit-and-loss basis US banks are required to use for regulatory backtesting.

At the wider group level, risk managers and executives also have to coordinate activities across two IHCs that retain their distinct models, systems and P&L lines – which, for one, may prevent any Credit Suisse VAR breach to be subsumed into offsetting gains on the UBS side. It’s a complicating factor rival dealers simply don’t have to grapple with.

Still, Credit Suisse USA’s VAR performance stands out as particularly error-prone among major US banks. Only one quarter out of the last eight, the three months ending on September 30, 2023, passed without any backtesting excesses. If the market risk models fail to get their mojo back even after the merger and the restructuring are complete, more fundamental adjustments may be in order.

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