Capital management

Capital management relates to two areas: capital adequacy management and capital allocation. For both areas, management goals were set.

The goal of capital adequacy management is: (a) meeting the requirements specified in external regulations (regulatory capital adequacy) and (b) ensuring the solvency in normal and stressed conditions (economic capital adequacy/internal capital). Completing that goal, Bank strives to achieve internal long-term capital limits (targets), defined in Risk Strategy. 

Capital allocation purpose is to create value for shareholders by maximizing the return on risk in business activity, considering established risk appetite. 

In a scope of capital management process, there is also a capital planning process. The goal of capital planning is to designate the own funds (capital base that is risk-taking capacity) and capital usage (regulatory capital requirements and economic capital) in a way to ensure that capital targets/limits shall be met, given forecasted business strategy and risk profile – in normal and stressed macroeconomic conditions. 

The Bank is obliged by law to meet minimum own funds requirements, set in art. 92 of Regulation (EU) No 575/2013 on prudential requirements for credit institutions and investment firms CRR. At the same time, the following levels, recommendations, and buffers were included in capital limits/targets setting: 

• Pillar II RRE FX buffer – KNF recommendation to maintain additional own funds for the coverage of additional capital requirements to secure the risk resulting from FX mortgage loans granted to households, in line with art. 138.1.2a of Banking Act. A value of that buffer is defined for banks by KNF every year because of Supervisory Review and Evaluation process (SREP) and relates to risk that is in KNF’s opinion – inadequately covered by minimum own funds requirements, set in CRR art. 92. At present, the buffer was set by KNF in recommendations issued in the end of 2021 in the level of 2.82pp (Bank) and 2.79pp (Group) as for Total Capital Ratio (TCR), which corresponds to capital requirements over Tier 1 ratio of 2.11pp in Bank and of 2.09pp in Group, and which corresponds to capital requirements over CET 1 ratio of 1.58pp in Bank and 1.56pp in Group1; 
• Combined buffer – defined in Act on macro prudential supervision over the financial system and crisis management – that consists of: 
  • Capital conservation buffer at the level of 2.5 per cent; 
  • Other systemically important institution buffer (OSII) – at the level of 0.25 per cent, and the value is set by KNF every year2; 
  • Systemic risk buffer at the level of 0 per cent in force from March 2020, in line with Regulation of Ministry of Development and Finance; 
  • Countercyclical buffer at the 0 per cent level.

In accordance to binding legal requirements and recommendations of Polish Financial Supervisory Authority (KNF), Bank defined minimum levels of capital ratios, being at the same time capital targets/limits. These are OCR (overall capital requirements) as for particular capital ratios. 

On February 11, 2022, the Bank received a recommendation from the PFSA to limit the risk occurring in the Bank’s operations by maintaining both at the standalone and at consolidated basis own funds to cover the additional capital add-on in order to absorb potential losses resulting from the occurrence of stress conditions under Pillar II (P2G). The required level of total capital ratio is described in the article 92 item 1 letter c of the regulation (EU) No. 575/2013 of the European Parliament and of the Council on prudential requirements for credit institutions and amending regulation (EU) No 648/2012 and equals to 0.89 p.p. on the top of total capital ratio, increased by the additional own funds requirement referred to in Article 138(2)(2) of the Banking Act and by the combined buffer requirement referred to in Article 55(4) of the Act on macro prudential supervision. The additional capital requirement should be made up of Common Equity Tier 1 capital only. More details are available here: P2G buffer 

(*) That recommendation replaces the previous one from 2020, to maintain own funds for the coverage of additional capital requirements at the level of 3.41pp (Bank) and 3.35pp (Group) as for TCR, which should have consisted of at least 2.56pp (Bank) and 2.52pp (Group) as for Tier 1 capital and which should have consisted of at least 1.91pp (Bank) and 1.88pp (Group) as for CET1 capital.
(**) In November 2020 KNF issued the decision on identification the Bank as other systemically important institution and imposing OSII Buffer

The below table presents these levels as of 31 December 2021. The Bank will inform on each change of required capital levels in accordance with regulations.

Capital risk, expressed in the above capital targets/limits, is measured, and monitored in a regular manner. As for all capital targets, there are determined some minimum ranges for those values. Capital ratios in each range cause a need to take an appropriate management decision or action. Regular monitoring of capital risk relies on classification of capital ratios to the right ranges and then performing the evaluation of trends and drivers influencing capital adequacy.

The Group is during a project of an implementation of internal ratings-based method (IRB) for calculation of own funds requirements for credit risk and calculates its own funds minimum requirements using the IRB and standardise method for credit risk and standardise methods for other risk types. 

In the end of 2012, Banco de Portugal (consolidating Regulator) with cooperation of Polish Financial Supervision Authority (PFSA) granted an approval to the use of IRB approach as to following loan portfolios: (i) Retail exposures to individual persons secured by residential real estate collateral (RRE), (ii) Qualifying revolving retail exposures (QRRE). According to the mentioned approval, minimum own funds requirements calculated using the IRB approach should be temporarily maintained at no less than 80 per cent (‘Regulatory floor’) of the respective capital requirements calculated using the Standardized approach. 

In the end of 2014, the Bank received another decision by Regulatory Authorities regarding the IRB process. According to its content, for the RRE and QRRE loan portfolios, the minimum own funds requirements calculated using the IRB approach had to be temporarily maintained at no less than 70 per cent (‘Regulatory floor’) of the respective capital requirements calculated using the Standardized approach until the Bank fulfils further defined conditions.

In July 2017 the Bank received the decision of Competent Authorities (ECB cooperating with KNF) on approval the material changes to IRB LGD models and revoking the ‘Regulatory floor’. 

Since 2018, the Bank has been successively implementing a multi-stage process of implementing changes to the IRB method, related to the requirements regarding the new definition of default. In the first phase, in line with the “two-step approach” approved by Competent Authorities, the Bank in 2020 successfully implemented solutions for the new definition of default in the production environment. The Bank is obliged to include an additional conservative charge on the estimates of the RWA value for exposures classified under the IRB approach. The level of this add-on, calculated based on the supervisory algorithm, was set at 5 per cent above the value resulting from the IRB method. 

In 2021, all credit risk models included in the rating system subject to the current regulatory approval were recalibrated and rebuilt. In 2021 the Bank also obtained a decision from Competent Authorities to approve significant changes to the IRB models used (LGD, LGD in-default and ELBE) for rating systems subject to the IRB approval. 

The Group defines internal capital according to Polish Banking Act, as the estimated amount needed to cover all identified, material risks found in the Bank’s activity and changes in economic environment, considering the anticipated level of risk in the future.  

Internal capital is used in capital management in following processes: economic capital adequacy management and capital allocation. The Bank defined an internal (economic) capital estimation process. To this end, as for measurable risk types, mathematic and statistic models and methods are used. 

Maintaining economic capital adequacy means a coverage (provision) of internal capital (that is an aggregated risk measure) by available financial resources (own funds). An obligation to banks to have in place that sort of risk coverage stems from Banking Act. It was mirrored in the Group’s capital targets/limits: economic capital buffer and economic capital buffer in stressed conditions. 

In 2021, both above capital targets were met with a surplus. A surplus of own funds over internal capital supports a further increase of banking activity, in areas with a higher risk-adjusted return.  

At the same time internal capital is utilised in capital allocation process, to assign an internal capital to products/business lines, calculating risk-adjusted performance measures, setting risk limits and internal capital reallocation. 

Capital adequacy evolution of the Group and the Bank during 2021 was as follows:

As at 2021 end, capital adequacy in Bank Millennium Group stood on the safe level. Total Capital Ratio stayed at year end at 17.06 per cent level for the Group (17.17 per cent for the Bank) and Common Equity Tier 1 Capital ratio (equals T1 ratio) was at 13.97 per cent for the Group (14.04 per cent for the Bank). Therefore, minimum capital levels required by KNF for Bank and Group were achieved with a surplus.  

TCR of the Group decreased during one year period by ca 2.4pp (by 2.0pp for the Bank). The reason for this was a significant decrease in Own funds, mainly due to the created provisions for the legal risk of FX housing loans. Own funds decreased in 2021 by approx. PLN1.5bn for the Group and by ca PLN1.3bn for the Bank (by 15.4 per cent and 13.7 per cent, respectively). At the same time, there was a decline in risk-weighted assets, which to some extent neutralized the decline in the capital base. The Group’s risk-weighted assets decreased in 2021 by approximately PLN1.7bn (by 3.3 per cent), with a decrease for the Bank by PLN1.9bn (by 3.7 per cent). 

Leverage ratio stood at the safe level of 6.46 per cent for the Group (6.45 per cent for the Bank), and considerably exceeds a regulatory minimum 3 per cent. 

In a long perspective, capital adequacy level of Bank and Group is evaluated as satisfactory.  

In November 2021, the Group received a joint decision of the Single Resolution Board (SRB) and the Bank Guarantee Fund, obliging the Bank to meet the minimum requirements for own funds and eligible liabilities (MREL). Pursuant to this decision, the Group is required to meet the minimum MREL_trea³ requirement of 21.41 per cent and the MREL_tem⁴ requirement of 5.91 per cent by December 31, 2023. The decision also sets out a gradual path towards reaching the minimum requirements. Their level will be updated annually. 

In connection with the above decision, in January 2022, the Supervisory Board of the Bank approved the Eurobond Issue Program with a total nominal value of no more than EUR3bn. 

(*) Calculated as a percentage of the total risk exposure amount
(**) Calculated as a percentage of the total exposure measure