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How assets in the trading book and banking book are distinguished?

How assets in the trading book and banking book are distinguished?


The books held by the banks may be identified as banking book and trading book. Banking book held by the bank is important for the risk management practice; more so in the context of capital treatment of banks’ balance sheet items under Basel framework. In accounting jargon banking book is referred to registers of accounts that cover assets and liabilities of the bank. The assets of banks include the assets that are expected to be held to maturity. These assets listed in banking books are not marked to market; they are accounted at their actual purchase (acquisition) price or book value.  However, in a situation where counterparty default is imminent, the bank may mark to market those assets held by it in order to measure the realistic value of the assets. (Mark-to-market provides a realistic estimate of a financial situation)

The trading book of the banks refers to assets held by a bank that are regularly traded by the bank. These assets are required to be marked to the market to comply Basel II & III framework. The value-at-risk for assets in the trading book is measured on a 10-day time horizon under Basel II norms in order to determine the capital requirement.

There are three major differences between trading books and banking books.

Sr.No Trading Book Banking Book
1 Assets  held by a bank for trading purpose is entered in the Trading Book  

Assets that are held to maturity are entered  in the banking book

 

2 The assets are marked to market on daily basis.  

Assets are normally not marked market and they are held by the banks at their actual purchase (acquisition) price or book value.

3* The value-at- risk (VaR)for assets measured at a 99% confidence level on a 10 days’ time horizon The value-at-risk (VaR) for assets is measured at a 99.9% confidence level on a one-year horizon.

 

[VaR refers to assessment of financial risk over a specific time frame]

Sr.no.3* In view of BCBS’s observations that many banks were cosseting to shift assets to the trading book from the banking book in the circumstances of financial crisis and subsequently reverse the same to the original position just to lower capital requirements to meet Basel norms. In view of the above, the Basel Committee has come up with a presumptive list of securities to be included for each of these books. Any movement of assets from banking book to trading book and vice versa can be done only by the senior management of the bank, in terms of thorough internal review for compliance and internal policies adapted by the Board. The movement of assets from one book to other attracts prior approval by the regulatory authorities. In addition to that in such cases the difference in capital is accounted for additional capital surcharge.

 

 

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