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Supervisory Review Readiness post CCAR March 2015 Results- Somanshu Jend

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Supervisory Review Readiness post CCAR March 2015 Results.

A preliminary inspection of the CCAR Stress Test Results released by Federal Reserve Board on March 2015.

Raises some questions that the BHCs management should be asking while reviewing CCAR results.

Published in: Economy & Finance
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Supervisory Review Readiness post CCAR March 2015 Results- Somanshu Jend

  1. 1. Supervisory Readiness for CCAR Post 2015 Stress Test Results Somanshu Jend http://www.linkedin.com/in/sjend March 2015 1
  2. 2. What is CCAR?  The Fed’s annual Comprehensive Capital Analysis and Review (CCAR) is an intensive assessment of the capital adequacy of large (Assets $10B+), ex U.S. bank holding companies (BHCs) and of the practices these BHCs use to assess their capital needs.  The identified BHCs should have sufficient capital to withstand a highly stressful operating environment and be able to continue operations, ready access to funding, meet obligations to creditors/ counterparties, and continue to serve as credit intermediaries.  See Stress Tests and Capital Planning, http://www.federalreserve.gov/bankinforeg/stress-tests- capital-planning.htm March 2015 Somanshu JEND www.linkedin.com/ini/sjend 2
  3. 3. CCAR Stress Test Scenarios BHC must conduct a stress test using the following five scenarios:  3 provided by the Board under the Dodd-Frank Act stress test rules  Supervisory baseline  Supervisory adverse  Supervisory severely adverse  2 BHC defined  BHC baseline: a BHC-defined  BHC stress: at least one BHC-defined March 2015 Somanshu JEND www.linkedin.com/ini/sjend 3
  4. 4. CCAR QUALITATIVE Review Guidelines: Assessment of Capital Planning Process  Strengthen Supervisory Review Of The Capital Adequacy Processes For Risk Governance/Identification/Assessment In Baseline Or Severe Or Adversely Severe  Assess Capital Needs Under Material Risks Should Incorporate Reasonable/Appropriate Assumptions And Analyses  Improve The Methodology To Test The Capital Adequacy Review Process To Make It Robust  Capital Planning Process & Capital Distribution Process Should Not Violate any Viability Test of BHCs under Different Scenarios March 2015 Somanshu JEND www.linkedin.com/ini/sjend 4
  5. 5. CCAR QUANTITATIVE Review Guidelines: Assessment of Capital Planning Process  After Taking The Capital Actions In Each Quarter Of The Planning Horizon.  Maintain Post Stress Tier I Common Capital Ration Above 5%  Maintain Regulatory Capital Ration Above Applicable Minimum  In The Supervisory Scenarios And BHCs’ Own Scenario  Difference In CCAR And DFAST  CCAR Adds The BHC’s Planned Capital Actions Onto The Scenarios  DFAST Uses The Standardized Scenarios Of Capital Action Using The Same Level Capital Actions As Last Year  FRB asked to Adjust Capital Distributions to Some BHCs and Releases Both Stress Test Results (Before & After) March 2015 Somanshu JEND www.linkedin.com/ini/sjend 5
  6. 6. 2015 Stress Test Results* http://www.federalreserve.gov/newsevents/press/bcreg/20150311a.htm  All BHCs pass the first phase:  3 BHCs told to alter Capital Spending Plans  BHCs Stress Test 2nd Phase:  2 BHCs Capital Spending plans rejected  Four BHCs asked to resubmit Tier 1  Federal Reserve requested that each BHC make supervisory process documentation available that outlines the BHC's procedures to ensure the accuracy of the regulatory reports that affect CCAR, including the FR Y-9C and FR Y-14.  BHC must reflect the Basel III-revised capital framework, and  Include the minimum regulatory capital ratios and transition arrangements March 2015 Somanshu JEND www.linkedin.com/ini/sjend 6
  7. 7. 2015 Stress Test Results* Reasons for Qualitative Objections to Specific BHCs’ Capital Plans  Santander  Weak Capital Planning Process & Weak Framework Supporting Capital Planning Process  Deutsche Bank  Weak Process For Capital Planning And Stress Testing  Deficiency In Risk-identification, Measurement, And Loss And Revenue Projection Aggregation ; Issues with Internal Controls.  Bank of America  Deficiency in the Capital Planning Process: Loss & Revenue Modeling Internal Controls  Re-Submit by Sep-2015 March 2015 Somanshu JEND www.linkedin.com/ini/sjend 7
  8. 8. 2015 Stress Test Results* Reasons for Quantitative Objections to Specific BHCs’ Capital Plans  No Quantitative Assessment Objections March 2015 Somanshu JEND www.linkedin.com/ini/sjend 8
  9. 9. Ten Questions for Supervisory Review to improve Qualitative Assessment 1. Supervisory Review: What is the Internal Control & Process Accuracy Verification to generate CCAR, FR Y-9C and FR Y-14? 2. BHC Specific Tests: Does the Final Capital Plan, FR Y-9C and FR Y-14 pass the common sense test for top-down allocations (Conceptually soundness test) for Revenue Aggregation and Planned Capital Distribution? 3. Risk Identification and Measurement Process: What is the confidence level that it would withstand CCAR and BHC specific stressful scenario? 4. MIS: How accurate is MIS? How accurate are the underlying data and aggregation rules for Risk and Loss Modeling? 5. Assumptions & Analysis: Does accurate data provides accurate metrics/measures? What are the differences in the underlying data and derivation logic? 6. Loss & Revenue Aggregation: Does the underlying data have the same Granularity, Congruity, Timeliness, logic across all the underlying models at each entity level March 2015 Somanshu JEND www.linkedin.com/ini/sjend 9
  10. 10. Ten Questions for Supervisory Review to improve Qualitative Assessment 1. Risk Governance: Is the Regulatory Process to collect and present the data reliable and mature? How much of the process to calculate the Capital is manual/automated? 2. Risk Governance: What is the validation for the Vendor model used? How were the Proprietary models validated? What is the capital mix coming from Vendor /Proprietary models? 3. Capital Planning Process: What is Known-Unknown in the Internal Control Framework (Data Lag, Data Capture Issues, LOB (Entity/Sub-Entity/Group) Allocation, Model Maturity/Seniority Rules, Internal Correlations, etc.)? What are the efforts underway to correct the Control Framework? 4. Risk Governance: When can we make all these changes to the Internal Control process for Regulatory Reporting? How Reliable is the Loss Modeling Processes 5. Internal Control framework: What questions were raised during the Audit Findings and Results Review March 2015 Somanshu JEND www.linkedin.com/ini/sjend 10
  11. 11. References  FR Y-14: Basel III and Dodd-Frank Schedule: http://www.federalreserve.gov/reportforms/forms/FR_Y-14A20140930_i.pdf  FR Y-14: Basel III and Dodd-Frank Schedule Instructions: http://www.federalreserve.gov/reportforms/formsreview/FRY14A_20120118_f.pdf  Guidelines for computing capital for incremental risk in the trading book (July 2009): http://www.bis.org/publ/bcbs159.pdf  Comprehensive Capital Analysis and Review 2015: Summary Instructions and Guidance http://www.federalreserve.gov/bankinforeg/stress-tests/CCAR/2015-comprehensive- capital-analysis-review-summary-instructions-guidance-intro.htm  Comprehensive Capital Analysis and Review 2015: Assessment Framework and Results http://www.federalreserve.gov/newsevents/press/bcreg/bcreg20150311a1.pdf March 2015 Somanshu JEND www.linkedin.com/ini/sjend 11
  12. 12. Disclosures  All data and disclosures, used from the cited public sources, by the author’s and for theoretical purposes only.  No part can be used without written consent of the author.  Please send questions to LinkedIn profile www.linkedin.com/in/sjend March 2015 Somanshu JEND www.linkedin.com/ini/sjend 12
  13. 13. Appendix March 2015 Somanshu JEND www.linkedin.com/ini/sjend 13
  14. 14. Model inventory to Submit  Present as per Summary Schedule (FR Y-14A) to Basel III and Dodd-Frank Schedule Instructions (FR Y-14)  Show Model inventory with each FR Y-14A line items (Income, Balance Sheet & Capital, Retail, Wholesale, AFS/HTM Securities, Trading, Counterparty Credit Risk (CCR), Operational Risk, Pre‐Provision Net Revenue (PPNR)) March 2015 Somanshu JEND www.linkedin.com/ini/sjend 14
  15. 15. Common Themes in the Required Model Documentations  How do you determine the Regulatory Capital  What are the main assumptions of the Capital calculation: categorization and weighting formula  Loss Calculations and Credit Loss Projections: Adverse Events (future levels of bankruptcy filings, consumer spending activity, refinancing rates, interest rate curves, and relevant macroeconomic trends, historical Loss relationships)  Scenario Design & Application to FRB Scenario March 2015 Somanshu JEND www.linkedin.com/ini/sjend 15
  16. 16. Common Themes in the Required Model Documentations:  Pricing Sources Consistency & Internal Pricing Model Validation  Vendor/Proprietary Valuation & Cash Flow Model Consistency with FRB scenarios  Aggregation Methods adopted by LOB or Portfolio/Sub-Portfolio type  Model Consistency across Business Lines for time horizons, valuation logic, data sources & quality  Assumptions in CCR IDR, Trading IDR, CVA Valuations and Sensitivities, Probability of Default (PDs), Loss-Given Default (LGD)  Operational Risk Events, Data Losses, Business/System Disruptions March 2015 Somanshu JEND www.linkedin.com/ini/sjend 16
  17. 17. Other Important Exposures  Risk-identification program documentation,  Additional documentations for Credit Value Adjustments (CVA) Losses estimations for Counterparty Credit Risk (CCR)  Trading Incremental Default Risk (IDR) Losses for each CCR: Default risk for trading losses beyond Mark-To-Market (MTM) losses  Pre-Provision Net Revenue (PPNR) projections assumptions consistency with all broad/Specific Macro-Economic Factors  Risk-Weighted Assets Calculation Logic for  Credit Risk: CVA calculations require a weighting factor to some assets. OTC derivatives assets accounted three times  Market Risk: Specific Risks and Correlations Trading get charged n full capital  Leverage Exposure: On-Balance Sheet and Potential Future Exposure as per Basel III guidelines  Any Planned Actions impacting the Tier 1 Capital, RWAs and Leverage Exposures March 2015 Somanshu JEND www.linkedin.com/ini/sjend 17

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