The Federal Reserve (“Fed”) released the results of its Comprehensive Capital Analysis and Review (CCAR) for 2016 on June 29. Some key facts:
- Fed noted objections to two firms out of thirty-three (Deutsche Bank and Santander) and required resubmission for one (Morgan Stanley)
- All objections and resubmissions were driven by Fed-cited weaknesses around qualitative issues
- No firm failed to meet post-stress capital minimums, and compared to four the previous year, only one firm (M&T) needed to scale back its capital distribution request to do so, taking a so-called “mulligan”
The prior week’s release of the Dodd-Frank Act Stress Test (DFAST) results provided more detailed information on the Fed’s stress test. Compared to CCAR, those results exclude buybacks and capital issuances and hold past common dividends constant.
Some key takeaways
Systemic and complex firms will dominate the Fed’s CCAR supervisory agenda
Summary of results
Aggregate results and buffers over minimums
In aggregate, the lowest capital ratios over the nine-quarter forecast (post-stress minimums) were down from starting actual ratios by between 330 and 520 basis points across categories. However, stress minimums were well above minimum regulatory requirements.
The size of buffers over minimum requirements varied widely across banks, as illustrated below, for the common equity Tier 1 capital ratio sorted in descending stress minimum ratio order . The dark blue portion of the bar indicates the degree of stress impact on the actual starting capital ratio.
Capital actions matter
The Fed stress tests include the conservative assumption that historical or requested capital distributions under normal conditions will also continue during stress. While DFAST incorporates the assumption that dividends will be maintained at the same rate as in the prior four quarters, CCAR results include firm requests for dividend increases and stock buy backs. Consequently, stress capital ratios can be lower in the CCAR results due to these potentially higher capital distribution levels. In aggregate, the effect on common equity Tier 1 was a reduction of the minimum ratio of 1.3 percentage points, compared to 1.0 percentage point the prior year. The amount of capital action impact varied widely across firms, with most reducing the stress minimum in the 100 – 200 basis point range. Compared to 2015, most firms appear to have increased their capital ask, and only one firm needed to scale back its request, compared to four the previous year.
Stress impact on capital ratios improves for some
The stress impact on Bank Holding Company (BHC) capital ratios (starting capital ratio compared to minimum post-stress capital ratio) has improved in aggregate this year, reversing a worsening trend. However, about one-third of the firms, largely more traditional lenders, continued to experience worsening trends.
In aggregate, post-stress minimum capital ratios are substantially higher than in prior years and, as noted earlier, amply exceed the minimum required.
Preparing for next year
2017 planning: With only a year until the next CCAR exercise – as opposed to one year and a quarter last time – there is less time for remediation. Firms should prepare detailed remediation plans to improve communication with the Fed. They should also be prepared for exams that touch on the key issues of their past CCAR well before their capital plan submission.
Expect the unexpected yet again: With less stress on trading banks and more on traditional banks this year, next year the pendulum could swing the other way. Given the evolving Brexit consequences and greater uncertainty, the Fed may design a scenario that is more targeted at certain new potential vulnerabilities. As always, having a flexible CCAR program that can respond to a wide range of macro and idiosyncratic scenarios could be key to effectively navigating the next CCAR cycle.
Expect head winds: While the Fed postponed the introduction of the supplementary leverage ratio (SLR) requirement for this year, it will apply in CCAR 2017. The SLR applies to systemic and complex firms beginning in the first quarter of 2018, and therefore in the fifth quarter of next year’s CCAR forecast and beyond. These new requirements will likely pose a new constraint dynamic under stress that of course will be dependent on firm business models as well as the design of the Fed scenario. Over the longer term, the eight Global Systemically Important Banks (GSIBs) will also potentially contend with the phase in of the GSIB surcharge as part of the post-stress minimum capital requirement.
Data, data, data: The Fed has been emphasizing the need for improved data quality for the last several years and it has been at the core of some objection decisions. With the advent of formal CCAR report attestations this coming yearend, and the emphasis on end-to-end controls in the capital planning process, the Fed is likely to test whether attestations are backed by adequate data governance, controls and infrastructure.
Be specific and deliver on time To address outstanding weaknesses identified by the Fed, many firms will be asked to enhance current processes and develop remediation plans, inclusive of accountable parties, activities, and, milestones to be completed prior to the next CCAR cycle or beyond. Just like BHCs and IHCs, the Fed does not like surprises, so sticking to deadlines or providing updates on any slippage is important in making sure that firms and regulators are on the same page. Not delivering key remediation items on time or of adequate quality can drive an objection decision. Moreover, being clear on items that have longer duration remediation, getting agreement, and defining a delivery date is also important to avoiding objection.
1Systemic and Complex firms in this document refers to (1) those firms subject to the Federal Reserve’s Large Institution Supervision Coordination Committee (LISCC) framework and (2) Large and Complex bank holding companies (BHCs) and intermediate holding companies (IHCs) of foreign banking organizations that have total assets greater than $250 billion or total on-balance sheet foreign exposure of more than $10 billion. Large and Noncomplex firms are US BHCs and IHCs that are not part of the LISCC framework, have assets of between $50 billion and $250 billion, and total on-balance sheet foreign exposure of less than $10 billion.
Sources of data utilized within this document from the Board of Governors of the Federal Reserve System are listed below.
- Comprehensive Capital Analysis and Review 2016: Assessment and Framework and Results, June 2016
- Comprehensive Capital Analysis and Review 2015: Assessment and Framework and Results, March 2015
- Comprehensive Capital Analysis and Review 2014: Assessment and Framework and Results, March 2014
- Comprehensive Capital Analysis and Review 2013: Assessment and Framework and Results, March 2013
- Dodd-Frank Act Stress Test 2015: Supervisory Stress Test Methodology and Results, June 2016
- Dodd-Frank Act Stress Test 2015: Supervisory Stress Test Methodology and Results, March 2015
- Dodd-Frank Act Stress Test 2014: Supervisory Stress Test Methodology and Results, March 2014
- Dodd-Frank Act Stress Test 2013: Supervisory Stress Test Methodology and Results, March 2013