The third consultative paper on capital adequacy is part of the process to replace the 1988 Basel Accord, the first global attempt to set minimum levels of capital that banks need to hold. Under the new rules, the focus for determining capital adequacy will shift to a more sophisticated measurement of credit risk. It will take into account some financial disasters that have taken place since the original proposals were drawn up, such as the collapse of Long Term Capital Management (LTCM) – the world’s largest hedge fund. There is little doubt that with the implementation of Basel II and the new International Accounting Standards (IAS), capital management will become more dynamic. The greater emphasis on marking financial instruments to market on both sides of the balance sheet and the increased calibration of credit risk for risk weighting purposes will entail greater volatility in reported earnings and capital.
Bank treasurers and CFOs will be looking for tools to manage this volatility. In so doing, they will make use of a range of financial markets products including securitisation, covered bonds, hybrid capital in all its forms and equity linked financings.
