United States: Financial Sector Assessment Program-Stress Testing-Technical Notes

EXECUTIVE SUMMARY1 1. A range of stress tests was used to quantify the potential impacts of risks and vulnerabilities in bank and nonbank sectors. The stress testing exercise reflected a broader evaluation of potential risks, embodied in the Risk Assessment Matrix (Appendix I). To provide a more comprehensive assessment than possible with any single approach, the stress testing exercise comprised several approaches. The FSAP team conducted top-down solvency tests for bank holding companies (BHCs) and insurance companies, liquidity risk analysis for BHCs and mutual funds, as well as market-price based stress tests. Moreover, the exercise was informed by the supervisory (top-down) stress tests performed by the U.S. authorities for the banking sector and the insurance sector, and by company-run (bottom-up) stress tests performed by BHCs. The exercise thus covered both banks and nonbanks (including insurance companies and mutual funds). It encompassed solvency and liquidity risks, as well as contagion risks. In the case of BHCs, the tests performed by IMF staff complement the Dodd-Frank Act stress test (DFAST) results. 2. The stress tests run by the authorities and by companies under the DFA suggest that most large BHCs are resilient to shocks similar to the last crisis. The DFA requires the FRB to conduct an annual supervisory stress test of BHCs with total consolidated assets of $50 billion or more. It also requires all financial institutions with total consolidated assets of more than $10 billion to conduct company-run stress tests at least once a year. The results of the 2015 supervisory and company run stress tests, released in March, suggest that the system is resilient to severe shocks. Even in the severely adverse scenario (resembling the 2008–09 crisis), all the 31 BHCs have sufficient capital to absorb losses, which is the first time since the start of annual stress tests in 2009 that no firm fell below any of the main capital thresholds. The tests do not cover insurance and other nonbank financial institutions and do not capture network effects or analyze liquidity risks. 3. The staff’s analysis benefitted from the relatively wide range of publicly available data, but was nonetheless subject to data constraints. Due to constraints on the authorities’ ability to share confidential supervisory information with the team, the analysis relied largely on publicly available data. The public data gathered was very extensive, but had notable gaps in so ...