How it works

Common Equity Tier 1, usually abbreviated CET1, is the core of a bank's regulatory capital. It is the highest-quality and most loss-absorbing form of own funds because it is permanent, fully available to absorb losses at all times, and ranks last in the creditor hierarchy, meaning its holders are the first to bear losses.

CET1 comprises mainly common shares that meet strict eligibility criteria, share premium related to those shares, retained earnings, accumulated other comprehensive income and other disclosed reserves. From this gross figure a series of regulatory deductions and prudential filters are applied, including deductions for intangible assets, deferred tax assets that rely on future profitability, and certain holdings of the capital of other financial entities. The result is the CET1 capital that counts towards regulatory requirements.

CET1 is measured against the total risk exposure amount to produce the CET1 ratio, the most closely watched indicator of a bank's capital strength. CET1 also sits at the top of the loss-absorption sequence: in resolution it is written down first, ahead of Additional Tier 1, Tier 2 and eligible liabilities.

The definition and treatment of CET1 are set out in the Capital Requirements Regulation. Articles 26 to 50 of the CRR specify the items that qualify as CET1, the eligibility conditions for common shares, the applicable prudential filters and the deductions that must be made. These provisions sit within the wider own funds framework of Articles 25 to 88 of the CRR, and CET1 requirements are expressed relative to the total risk exposure amount defined in Article 92(3).

CET1 is also central to the buffer framework: the combined buffer requirement under the Capital Requirements Directive must be met with CET1, and a breach restricts distributions through the maximum distributable amount mechanism.

Practical relevance

For banks, CET1 is the anchor of capital management. The CET1 ratio determines the headroom above the combined buffer requirement, and the distance to the maximum distributable amount trigger governs whether the bank can pay dividends, buy back shares or pay discretionary coupons on Additional Tier 1 instruments.

For investors, CET1 is decisive in two ways. Equity holders own the instruments that absorb the first loss, and CET1 depletion directly threatens their position. Holders of Additional Tier 1 instruments watch the CET1 ratio closely because it drives contractual write-down or conversion triggers and, through the maximum distributable amount, the risk that coupons are cancelled. The CET1 ratio is therefore one of the most important figures analysts track when assessing a bank's resilience.