The Federal Reserve Board, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corp. on Monday issued final supervisory guidance regarding stress-testing practices at banking organizations with total assets of more than $10 billion.
This guidance, which is separate from the stress testing requirements in the Dodd-Frank Act and the Federal Reserve’s capital plan rule, will become effective on July 23. Requirements in the Dodd-Frank Act are being implemented through separate notices of proposed rulemaking by the respective agencies.
In addition to its four key principles for banking organizations’ stress testing framework, the agencies added a fifth “specifying that an organization’s stress testing framework should include strong governance and effective internal controls.”
The other four principles mandate that stress testing frameworks: Include exercises tailored the banking organization’s activities and risks; employ conceptually sound stress-testing approaches; are forward-looking and flexible; and clear, well supported and inform decision-making.
In June 2011, the agencies requested public comment on joint proposed guidance on the use of stress testing as an ongoing risk management practice. They received 17 comment letters on the proposed guidance from financial trade associations, bank holding companies, financial advisory firms and individuals.
The agencies said commenters were supportive of the principles-based approach and the notion that a banking organization’s stress testing framework be implemented in a manner commensurate with the complexity and size of the organization.
The comments did not lead to the agencies modifying their guidance, which, among other things, provides organizations flexibility on how they design their individual stress testing frameworks.
“Each banking organization should design a specific stress testing framework to capture risks relevant to the organization,” the agencies said in a report. “Prescribing standardized stress tests in this guidance would have its own inherent limitations and may not appropriately cover a banking organization’s material risks and activities.”
Commenters suggested that agencies mandate public release of stress testing results through the guidance. The agencies considered these comments, but said they “do not believe the final guidance is the appropriate place for such a requirement given its broader focus on banking organizations’ overall stress testing frameworks.”
The agencies note, however, that banking organizations may be required to disclose information about their stress tests pursuant to other statutory, regulatory, or supervisory requirements.
When told that banking organizations should explain and justify the stress testing methodologies they utilize to its primary federal supervisor, the agencies noted that supervisors will indeed examine firms’ stress testing methodologies through the supervisory process.
Three commenters suggested that operational risk be specifically referenced in the guidance. In response, the agencies clarified in the final guidance that operational risk be among the risks considered by an organization’s stress testing framework.