Any emphasis ours.
Washington, Apr 24 2009 April 24 – The Federal Reserve today released more details about the methodology financial regulators used to run “stress tests” on 19 major bank holding companies to see how they would hold up under varying economic circumstances over the next two years. Reports today said the results of these stress tests are complete and being shared privately with the banks, and will be released on May 4 publicly.
The baseline assessment averages the projections published by Consensus Forecasts, the Blue Chip survey, and the Survey of Professional Forecasters. It assumes a 2.0% GDP decline in 2009 and a 2.1% GDP gain in 2010, unemployment reaching 8.4% in 2009 and 8.8% in 2010, and house prices falling 14% in 2009 and 4% in 2010.
Supervisors also compiled a more “severe but plausible” scenario, which assumes a 3.3% GDP decline in 2009 and 0.5% GDP gain in 2010, unemployment at 8.9% in 2009 and 10.3% in 2010 and house prices down 22% in 2009 and 7% in 2010.
Using these scenarios, bank holding companies were asked to estimate potential losses on loans, securities and trading positions, as well as pre-provision net revenues and any resources available from the allowance for loan and lease losses.
The Fed said supervisors tried to asses whether banks have less capital than needed under the more adverse scenario, and if so they will request firms to add capital. “Thus the capital needs determined by this supervisory exercise should be viewed as a capital buffer designed to be drawn down as losses materialize should the economy be weaker than expected, and still be substantial enough at the end of 2010 for firms to be considered sufficiently capitalized,” the Fed said today.
The reviews were conducted by more than 150 professionals from the Fed, FDIC and Office of the Comptroller of the Currency. Staff not only directly reviewed the assumptions and models used in loss and resource projections, but also developed benchmarks against which to evaluate submissions.
One set of benchmarks was the indicative loan loss rate ranges provided to firms prior to their preparing assessments. “These supervisory benchmarks provided important information to the teams evaluating the BHC submissions, since the benchmarks were calculated using consistent methodologies across firms, while still incorporating detailed firm-specific information about the BHCs,” the Fed said.
To determine the capital buffer needed, supervisors examined a “range of indicators of capital adequacy including but not limited to pro forma equity capital and Tier 1 capital, including the composition of capital,” the Fed said.