Société Générale / Risk Report - Pillar III

6 CREDIT AND COUNTERPARTY CREDIT RISK RISK MEASUREMENT AND INTERNAL RATINGS

RISKMEASUREMENT AND INTERNAL RATINGS 6.5

Since 2007, Societe Generale has been authorised by its supervisory authorities to apply the Internal Ratings-Based (IRB) approach to most of its exposures in order to calculate the capital requirements in respect of credit risk. The system for monitoring rating models is operational, in accordance with applicable regulations and detailed in this section “Risk measurement and internal ratings”. In accordance with the texts published by the EBA within the framework of the “IRB Repair” program and in view of the finalisation of the Basel 3 agreements, the Group plans to develop its system of internal credit risk models so as to strictly comply with these new requirements. This relates in particular to the roll-out plan towards the IRB approach and maintaining the Standardised approach (Permanent Partial Use), in consultation with the supervisors and on the basis of materiality

criteria (risk profile of the portfolios in question, commercial strategy, heterogeneity of customers…). The exposures dealt with on Standardised approach mainly concern the portfolios of retail customers and SME (Small and Medium Enterprises) of the international retail banking activity. For its exposures covered by the Standardised approach, Societe Generale mainly uses the external ratings assigned by Standard & Poor’s, Moody’s and Fitch Ratings and by Banque de France . If several ratings are available for a third party, the second best rating is used. Should an external rating be available, the corresponding exposure is assigned a risk weight according to the mapping tables provided in CRR (Articles 120-121-122) or more precisely to the tables published by the French supervisor ACPR (link: https://acpr.banque-france.fr/sites /default/files/media/2019/07/17/notice_2019_crd_iv_final.pdf).

TABLE 20: CREDIT RATING AGENCIES USED IN STANDARDISED APPROACH

MOODY'S

FITCH

S&P

Sovereigns

P

P

P

Institutions

P

P

P

Corporates

P

P

P

General framework of the internal approach

procedures allow, among other things, to facilitate critical human judgment, an essential complement to the models for these portfolios. The Group also takes into account: the impact of guarantees and credit derivatives, by substituting the p PD, the LGD and the risk-weighting calculation of the guarantor for that of the obligor (the exposure is considered to be a direct exposure to the guarantor) in the event that the guarantor’s risk weighting is more favourable than that of the obligor; collateral used as guarantees (physical or financial). This impact is p factored in either at the level of the LGD models for the pools concerned or on a line-by-line basis. To a very limited extent, Societe Generale also applies an IRB Foundation approach (where only the probability of default is estimated by the Bank, while the LGD and CCF parameters are determined directly by the supervisory authority) to a portfolio of specialised lending exposures, including those granted to the subsidiaries Franfinance Entreprises, Sogelease and Star Lease. Moreover, the Group has authorisation from the supervisor to use the IAA (internal assessment approach) method to calculate the regulatory capital requirement for ABCP (Asset-Backed Commercial Paper) securitisation. In addition to the capital requirement calculation objectives under the AIRB method, the Group’s credit risk measurement models contribute to the management of the Group’s operational activities. They also constitute tools to structure, price and approve transactions and participate in the setting of approval limits granted to business lines and the Risk function.

To calculate its capital requirements under the IRB method, Societe Generale estimates the Risk-Weighted Assets (RWA) and the Expected Loss (EL) that may be incurred in light of the nature of the transaction, the quality of the counterparty ( via internal rating) and all measures taken to mitigate risk. The calculation of RWA is based on the parameters Basel parameters, which are estimated using its internal risk measurement system: the Exposure at Default (EAD) value is defined as the Group’s p exposure in the event that the counterparty should default. The EAD includes exposures recorded on the balance sheet (loans, receivables, accrued income, market transactions, etc.), and a proportion of off-balance sheet exposures calculated using internal or regulatory Credit Conversion Factors (CCF); the Probability of Default (PD): the probability that a counterparty of p the Bank will default within one year; the Loss Given Default (LGD): the ratio between the loss incurred on p an exposure in the event a counterparty defaults and the amount of the exposure at the time of the default. The estimation of these parameters is based on a quantitative evaluation system which is sometimes supplemented by expert or business judgment. In addition, a set of procedures sets out the rules relating to ratings (scope, frequency of review, grade approval procedure, etc.) as well as those for supervision, back-testing and the validation of models. These

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