Funds Transfer Pricing Regimes

What are the three template FTP Regimes?

Though there is no “one size fits all” FTP regime, we present here best practice guidelines for the FTP approach in retail, corporate and wholesale market business lines.

What is the Retail Bank FTP Regime?

A retail bank is stable funded, and in large part funded by zero or low-rate liabilities. The asset FTP tenor is generally set at less than the contractual tenor, at the expected life (EL) of the asset. This preserves a competitive position. Liabilities are also priced at behavioural tenor. So here FTP = TLP and not the cost of funds (COF).

For the floating rate asset, FTP is 3M Libor + TLP. The TLP tenor will be the behavioural life of the asset, so we have suggested 7-year as that is the average life of variable rate mortgages in the UK. For the fixed rate asset, FTP is the fixed rate equivalent to 3M Libor plus TLP where the TLP tenor matches the product life. This transfers interest rate risk from the business line and centralises it in Treasury, which is recommended.

The reality of FTP policy in retail banking is that it must reflect the two-way relationship between assets and customers. We can summarise that the practical considerations for FTP should reflect:

• Actual rates paid by both sides of the balance sheet
• Competitive position and the bank’s relative appetite for certain business lines
• Properly priced products
• And whether the bank applies assumptions around the behavioural maturity of its liabilities

What does the Corporate Bank FTP Regime consist of?

Compared to retail banking, corporate banking encompasses a wider range of products that attract FTP. In essence the FTP regime will be similar to that described for retail banks. Per the orthodox approach, business lines originating assets or raising liabilities will have funding and interest rate risk transferred to Treasury and made up to an equivalent interest basis. The key consideration here, which also applies in retail banking but to a lesser extent, is the hedging side, as a significant amount of corporate bank lending is at a fixed rate that must be hedged against interest rate risk. The bank’s IRR hedging policy document should influence product origination strategy, to ensure basis risk is minimised at the point of origination.

What would a Wholesale Bank FTP Regime include?

There is little, if any, concept of a “customer deposits” funding business and the asset side is typically funded with repo (secured funding) and wholesale funding (money markets, derivatives market making and capital markets). This makes the FTP model more straightforward to implement. For example, a summary template might look like this:

• Trading book: funded in repo at the repo rate
• Securitisable assets: origination of assets that are eligible for securitisation often receive a lower funding rate, a specified reduction in basis points, because they do not expose the bank to a need for more unsecured wholesale funding
• Derivatives book: contractual and collateral funding cash flows are modelled into tenor buckets, as expected positive exposure (EPE) and expected negative exposure (ENE), with the net number (“expected exposure” or EE) charged or credited with the appropriate wholesale market COF, rather than the TLP