OREANDA-NEWS. More widespread disclosure of bank-specific "Pillar 2" capital requirements will aid risk assessment and investor confidence in bank capitalisation, Fitch Ratings says. Most of the large UK and Italian banks have followed Nordic banks' lead on disclosing individual capital requirements imposed by their regulators. We expect a trend towards more consistency in setting and disclosing Pillar 2 requirements across the EU. This will make it easier to understand important differences between banks.

Disclosure of Pillar 2 requirements is needed to analyse non-payment risk on additional Tier 1 securities (AT1) and, in the longer term, on all classes of loss-absorbing debt. European banks have been issuing AT1 instruments to replace legacy Tier 1 instruments being phased out under Basel III. AT1s have fully discretionary coupon payments, which we believe are the most easily activated form of loss absorption. We would consider this non-performance of the debt instrument.

We expect non-payment of coupon to become a real possibility if banks breach their combined buffer requirements (the sum of various capital buffers set out in the EU Capital Requirements Regulation), which in some jurisdictions include Pillar 2 add-ons. A breach of the combined buffer requirements can be an automatic trigger for non-payment in the securities contract. In such cases disclosure of bank-specific requirements enables analysts to calculate the "trigger distance" and assess risk trends for AT1 securities.

Italian banks have disclosed Pillar 2 individual regulatory capital requirements set by the ECB in its new supervisory role. The disclosure in Italy is at the request of Consob, the financial markets regulator. We have previously highlighted that regulatory requirements can be market-relevant news. The move improves transparency, but Italian banks are the only ECB-supervised firms to have revealed their individual requirements to date.

Common equity Tier 1 (CET1) ratio thresholds range from 9% for Intesa Sanpaolo, Popolare Sondrio, BPER and BPM to 11% for Banca Popolare di Vicenza. There is greater variation for total capital ratios requirements, between 10.5% for Banco Popolare and 13% for Unicredit. The thresholds appear manageable in light of reported 4Q14 capital ratios for most of the sector. But a few banks, including Monte dei Paschi di Siena and Banca Popolare di Vicenza, will have to execute previously announced capital-raising plans to meet their requirements.

In the UK, six of the major banks have disclosed "Pillar 2A" requirements, which are point-in-time regulatory estimates of the total capital needed for risks not covered or fully covered by the minimum capital requirements under Pillar 1. Pillar 2B requirements, a UK-specific regulatory buffer, have not been disclosed. The PRA's Pillar 2A add-ons ranged from around 1.15% of risk-weighted assets for Standard Chartered to 3.8% at Lloyds in 4Q14 results announcements. The requirement increases the CET1 thresholds for the banks because 56% of the Pillar 2A requirement has to be met using CET1 capital.

The ECB's capital requirements will probably boost banks' target capital ratios, especially as there is likely to be a management buffer above the minimum regulatory requirement to provide some flexibility. The capital bar is still creeping up even with the implementation of Basel III well under way, so keeping capital levels in line with peers remains important, especially when competing for funding.

We focus on a bank's regulatory and Fitch-calculated capital ratios relative to ratings peers' rather than solely on absolute thresholds in our analysis. There could be more upward revisions of capital targets as transparency on these thresholds improves and as the ECB takes further steps in setting bank-specific requirements.