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Daily Rules, Proposed Rules, and Notices of the Federal Government

FEDERAL RESERVE SYSTEM

12 CFR Part 252

[Regulation YY; Docket No. 1438]

RIN 7100-AD-86

Supervisory and Company-Run Stress Test Requirements for Covered Companies

AGENCY: Board of Governors of the Federal Reserve System (Board).
ACTION: Final rule.
SUMMARY: The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act or Act) requires the Board to conduct annual stress tests of bank holding companies with total consolidated assets of $50 billion or more and nonbank financial companies the Financial Stability Oversight Council (Council) designates for supervision by the Board (nonbank covered companies, and together, with bank holding companies with total consolidated assets of $50 billion or more, covered companies) and also requires the Board to issue regulations that require covered companies to conduct stress tests semi-annually. The Board is adopting this final rule to implement the stress test requirements for covered companies established in the Dodd-Frank Act. This final rule does not apply to any banking organization with total consolidated assets of less than $50 billion. Furthermore, implementation of the stress testing requirements for bank holding companies that did not participate in the Supervisory Capital Assessment Program is delayed until September 2013.
DATES: The rule is effective on November 15, 2012.
FOR FURTHER INFORMATION CONTACT: Tim Clark, Senior Associate Director, (202) 452-5264, Lisa Ryu, Assistant Director, (202) 263-4833, Constance Horsley, Manager, (202) 452-5239, or David Palmer, Senior Supervisory Financial Analyst, (202) 452-2904, Division of Banking Supervision and Regulation; Laurie Schaffer, Associate General Counsel, (202) 452-2272, Benjamin W. McDonough, Senior Counsel, (202) 452-2036, or Christine E. Graham, Senior Attorney, (202) 452-3005, Legal Division.
SUPPLEMENTARY INFORMATION: Table of Contents I. Background II. Overview of Comments III. Description of Final Rule A. Scope of Application B. Effective Date C. Overview of Stress Test Requirements D. Annual Supervisory Stress Tests Conducted by the Board E. Annual and Mid-Cycle Stress Tests Conducted by the Covered Companies IV. Administrative Law Matters A. Use of Plain Language B. Paperwork Reduction Act Analysis C. Regulatory Flexibility Act Analysis I. Background

The Board has long held the view that a banking organization, such as a bank holding company or insured depository institution, should operate with capital levels well above its minimum regulatory capital ratios and commensurate with its risk profile.1 A banking organization should also have internal processes for assessing its capital adequacy that reflect a full understanding of its risks and ensure that it holds capital commensurate with those risks.2 Moreover, a banking organization that is subject to the Board's advanced approaches risk-based capital requirements must satisfy specific requirements relating to their internal capital adequacy processes in order to use the advanced approaches to calculate its minimum risk-based capital requirements.3 Stress testing is one tool that helps both bank supervisors and a banking organization measure the sufficiency of capital available to support the banking organization's operations throughout periods of stress.4 The Board and the other federal banking agencies previously have highlighted the use of stress testing as a means to better understand the range of a banking organization's potential risk exposures.5

1 See12 CFR part 225, Appendix A;see alsoSupervision and Regulation Letter SR 99-18, Assessing Capital Adequacy in Relation to Risk at Large Banking Organizations and Others with Complex Risk Profiles (July 1, 1999),available at http://www.federalreserve.gov/boarddocs/srletters/1999/SR9918.HTM(hereinafter SR 99-18).

2 SeeSupervision and Regulation Letter SR 09-4, Applying Supervisory Guidance and Regulations on the Payment of Dividends, Stock Redemptions, and Stock Repurchases at Bank Holding Companies (Mar. 27, 2009),available at http://www.federalreserve.gov/boarddocs/srletters/2009/SR0904.htm(hereinafter SR 09-4).

3 See12 CFR part 225, Appendix G, section 22(a);see also,Supervisory Guidance: Supervisory Review Process of Capital Adequacy (Pillar 2) Related to the Implementation of the Basel II Advanced Capital Framework, 73 FR 44620 (July 31, 2008).

4A full assessment of a company's capital adequacy must take into account a range of risk factors, including those that are specific to a particular industry or company.

5 See, e.g.,Supervisory Guidance on Stress Testing for Banking Organizations With More Than $10 Billion in Total Consolidated Assets, 77 FR 29458 (May 17, 2012); Supervision and Regulation Letter SR 10-6, Interagency Policy Statement on Funding and Liquidity Risk Management (March 17, 2010), available athttp://www.federalreserve.gov/boarddocs/srletters/2010/sr1006.htm;Supervision and Regulation Letter SR 10-1, Interagency Advisory on Interest Rate Risk (January 11, 2010), available athttp://www.federalreserve.gov/boarddocs/srletters/2010/sr1001.htm;SR 09-4, supra note 2; Supervision and Regulation Letter SR 07-1, Interagency Guidance on Concentrations in Commercial Real Estate (Jan. 4, 2007),available at http://www.federalreserve.gov/boarddocs/srletters/2007/SR0701.htm;Supervision and Regulation Letter SR 12-7, Supervisory Guidance on Stress Testing for Banking Organizations With More Than $10 Billion in Total Consolidated Assets (May 14, 2012), available athttp://www.federalreserve.gov/bankinforeg/srletters/sr1207.htm;SR 99-18, supra note1; Supervisory Guidance: Supervisory Review Process of Capital Adequacy (Pillar 2) Related to the Implementation of the Basel II Advanced Capital Framework, 73 FR 44620 (July 31, 2008);The Supervisory Capital Assessment Program: SCAP Overview of Results(May 7, 2009),available at http://www.federalreserve.gov/newsevents/press/bcreg/bcreg20090507a1.pdf;andComprehensive Capital Analysis and Review: Objectives and Overview(Mar. 18, 2011), available athttp://www.federalreserve.gov/newsevents/press/bcreg/bcreg20110318a1.pdf.

In particular, as part of its effort to stabilize the U.S. financial system during the recent financial crisis, the Board, along with other federal financial regulatory agencies and the Federal Reserve system, conducted stress tests of large, complex bank holding companies through the Supervisory Capital Assessment Program (SCAP). The SCAP was a forward-looking exercise designed to estimate revenue, losses, and capital needs under an adverse economic and financial market scenario. By looking at the broad capital needs of the financial system and the specific needs of individual companies, these stress tests provided valuable information to market participants, reduced uncertainty about the financial condition of the participating bank holding companies under a scenario that was more adverse than that which was anticipated to occur at the time, and had an overall stabilizing effect.

Building on the SCAP and other supervisory work coming out of the crisis, the Board initiated the annual Comprehensive Capital Analysis and Review (CCAR) in late 2010 to assess the capital adequacy and the internal capital planning processes of large, complex bank holding companies and to incorporate stress testing as part of the Board's regular supervisory program for assessing capital adequacy and capital planning practices at large bank holding companies. The CCAR represents a substantial strengthening of previous approaches to assessing capital adequacy and promotes thorough and robust processes at large banking organizations for measuring capital needs and for managing and allocating capital resources. The CCAR focuses on the risk measurement and managementpractices supporting organizations' capital adequacy assessments, including their ability to deliver credible inputs to their loss estimation techniques, as well as the governance processes around capital planning practices. On November 22, 2011, the Board issued an amendment (capital plan rule) to its Regulation Y to require all U.S. bank holding companies with total consolidated assets of $50 billion or more to submit annual capital plans to the Board to allow the Board to assess whether they have robust, forward-looking capital planning processes and have sufficient capital to continue operations throughout times of economic and financial stress.6

6 SeeCapital Plans, 76 FR 74631 (Dec. 1, 2011) (codified at 12 CFR 225.8).

In the wake of the financial crisis, Congress enacted the Dodd-Frank Act, which requires the Board to implement enhanced prudential supervisory standards, including requirements for stress tests, for covered companies to mitigate the threat to financial stability posed by these institutions.7 Section 165(i)(1) of the Dodd-Frank Act requires the Board to conduct an annual stress test of each covered company to evaluate whether the covered company has sufficient capital, on a total consolidated basis, to absorb losses as a result of adverse economic conditions (supervisory stress tests). The Act requires that the supervisory stress test provide for at least three different sets of conditions—baseline, adverse, and severely adverse conditions—under which the Board would conduct its evaluation. The Act also requires the Board to publish a summary of the supervisory stress test results.8

7 See12 U.S.C. 5365(a). As defined above, a “covered company” includes any bank holding company with total consolidated assets of $50 billion or more and each nonbank financial company that the Council has designated for supervision by the Board.

8 See12 U.S.C. 5365(i)(1).

In addition, section 165(i)(2) of the Dodd-Frank Act requires the Board to issue regulations that require covered companies to conduct stress tests semi-annually and require financial companies with total consolidated assets of more than $10 billion that are not covered companies and for which the Board is the primary federal financial regulatory agency to conduct stress tests on an annual basis (collectively, company-run stress tests).9 The Act requires that the Board issue regulations that: (i) Define the term “stress test”; (ii) establish methodologies for the conduct of the company-run stress tests that provide for at least three different sets of conditions, including baseline, adverse, and severely adverse conditions; (iii) establish the form and content of the report that companies subject to the regulation must submit to the Board; and (iv) require companies to publish a summary of the results of the required stress tests.10

912 U.S.C. 5365(i)(2). In this final rule, the Board is implementing the requirements for covered companies only. The requirements applicable to other banking organizations with total consolidated assets of more than $10 billion and for which the Board is the primary federal financial regulatory agency are contained in a concurrently issued final rule being published in this issue of theFederal Register.

10 See12 U.S.C. 5365(i)(2)(C).

On January 5, 2012, the Board invited public comment on a notice of proposed rulemaking (proposal or NPR) that would implement the enhanced prudential standards required to be established under section 165 of the Dodd-Frank Act and the early remediation requirements established under Section 166 of the Act, including proposed rules regarding supervisory and company-run stress tests.11 Under the proposed rules, the Board would conduct an annual supervisory stress test of covered companies under three sets of scenarios, using data as of September 30 of each year as reported by covered companies, and publish a summary of the results of the supervisory stress tests in early April of the following year. In addition, the proposed rule required each covered company to conduct two company-run stress tests each year: An “annual” company-run stress test using data as of September 30 of each year and the three scenarios provided by the Board, and an additional company-run stress test using data as of March 31 of each year and three scenarios developed by the company. The proposed rule required each covered company to publish the summary of the results of its company-run stress tests within 90 days of submitting the results to the Board.

11Enhanced Prudential Standards and Early Remediation Requirements for Covered Companies, 77 FR 594 (Jan. 5, 2012).

Together, the supervisory stress tests and the company-run stress tests are intended to provide supervisors with forward-looking information to help identify downside risks and the potential effect of adverse conditions on capital adequacy at covered companies. The stress tests will estimate the covered company's net income and other factors affecting capital and how each covered company's capital resources would be affected under the scenarios and will produce pro forma projections of capital levels and regulatory capital ratios in each quarter of the planning horizon, under each scenario. The publication of summary results from these stress tests will enhance public information about covered companies' financial condition and the ability of those companies to absorb losses as a result of adverse economic and financial conditions. The Board will use the results of the supervisory stress tests and company-run stress tests in its supervisory evaluation of a covered company's capital adequacy and capital planning practices. In addition, the stress tests will also provide a means to assess capital adequacy across companies more fully and support the Board's financial stability efforts.

The Dodd-Frank Act mandates that the OCC and the FDIC adopt rules implementing stress testing requirements for the depository institutions that they supervise, and the OCC and FDIC invited public comment on proposed rules in January of 2012.12

12Annual Stress Test, 77 FR 3408 (Jan. 24, 2012) (OCC); Annual Stress Test, 77 FR 3166 (Jan. 17, 2012) (FDIC).

The Board is finalizing the stress testing frameworks in two separate rules. First, the Board is issuing this final rule, which implements the supervisory and company-run stress testing requirements for covered companies (final rule).

Second, the Board is concurrently issuing a final rule implementing annual company-run stress test requirements for bank holding companies, savings and loan holding companies, and state member banks with consolidated assets greater than $10 billion that are not otherwise covered by this rule.

The Board is issuing this final rule implementing the stress testing requirements in advance of the other enhanced prudential standards and early remediation requirements in order to address the timing of when the stress testing requirements will apply to various banking organizations and to require large bank holding companies to publicly disclose the results of their company-run stress tests conducted in the fall of 2012.

II. Overview of Comments

The Board received approximately 100 comments on its NPR on enhanced prudential standards and early remediation requirements. Approximately 40 of these comments pertained to the proposed stress testing requirements. Commenters ranged from individual banking organizations to trade and industry groups and public interest groups. In general, commentersexpressed support for stress testing as a valuable tool for identifying and managing both micro- and macro-prudential risk. However, several commenters recommended changes to, or clarification of, certain provisions of the proposed rule, including its timeline for implementation, reporting requirements, and disclosure requirements. Commenters also urged greater interagency coordination regarding stress tests and requested more information on the scenario design process and the models and methodologies that the Board intends to use in the supervisory stress tests.

A. Delayed Compliance Date

Commenters suggested that covered companies that have not previously been subject to stress testing requirements need more time to develop systems and procedures to be able to conduct the stress tests and collect the information that the Board may require in connection with these tests. In response to these comments and to reduce burden on these institutions, the final rule provides that firms that have not previously participated in SCAP will begin conducting stress tests in the fall of 2013, and non-bank covered companies will begin conducting stress tests in the calendar year after the year in which the company first becomes subject to the Board's minimum regulatory capital requirements. Similarly, the rule requires any bank holding company that becomes a covered company after the effective date of this rule to comply with the requirements beginning in the fall of the calendar year that follows the year the company becomes a covered company, unless that time is extended by the Board in writing.13

13In extending a time period under the final rule, the Board will consider the activities, level of complexity, risk profile, scope of operations, and the regulatory capital of the covered company, and any other relevant factors.

B. Tailoring

The proposed rule would have applied consistent annual company-run stress test requirements, including the compliance date and the disclosure requirements, to all banking organizations with total consolidated assets of more than $10 billion and nonbank financial companies.14 The Board sought public comment on whether the stress testing requirements should be tailored, particularly for financial companies that are not large bank holding companies.

14Under the proposal, savings and loan holding companies would not have been subject to the proposed requirements, including timing of required submissions to the Board, until savings and loan holding companies were subject to minimum risk-based capital and leverage requirements.

Several commenters expressed concern that the NPR would have applied stress testing requirements previously applicable only to large bank holding companies, such as those conducted under the CCAR, to smaller, less complex banking organizations with smaller systemic footprints and to nonbank financial companies. Furthermore, commenters indicated that there are substantial differences between bank holding companies and nonbank financial companies, and that the Board should tailor the proposed prudential standards to account for these differences.

The Board recognizes that the population of covered companies is diverse and that certain covered companies may pose more material risk to U.S. financial stability than others. Furthermore, section 165 of the Dodd-Frank Act directs the Board to implement enhanced prudential standards that increase in stringency with the systemic footprint of each company.15 As a result, the Board expects to use a tailored approach in implementing the stress test requirements for covered companies, using their systemic footprint as the basis for tailoring. For example, the Board is delaying the compliance date for covered companies that did not participate in SCAP. In addition, the Board expects to require a subset of large, complex covered companies to include additional components in their adverse and severely adverse scenarios or to apply additional scenarios beyond the macroeconomic scenarios applied to all covered companies.

15 See12 U.S.C. 5365(a)(1).

With respect to nonbank financial companies, several commenters requested that the Board either further tailor the requirements for nonbank covered companies in the final rule or issue a separate rule for these companies. For example, some commenters requested that the Board develop standards that were “insurance-centric” rather than “bank-centric,” noting that stress test scenarios relevant for bank holding companies would ignore salient risks to insurers, such as the possibility of a natural disaster.16 The Board may, by order or regulation, tailor the application of the enhanced standards to nonbank covered companies on an individual basis or by category, as appropriate. As noted in the proposal, the Board expects to take into account differences among bank holding companies and nonbank covered companies supervised by the Board when applying enhanced supervisory standards, including stress testing requirements. Following designation by the Council, the Board will assess the business model, capital structure, and risk profile of a designated nonbank financial company to determine how the enhanced prudential standards, including the stress test requirements in this final rule, and the early remediation requirements should apply.

16A number of commenters on the NPR expressed concerns about the application of the proposed standards to nonbank covered companies. Several of these commenters raised a concern that the NPR does not afford nonbank financial companies a meaningful opportunity to comment on how the Board should tailor the standards to nonbank financial companies. Commenters indicated that there are substantial differences between bank holding companies and nonbank financial companies, and that the Board should tailor the proposed prudential standards to account for these differences on a case-by-case basis following the rulemaking process.

Finally, the Board plans to issue supervisory guidance to provide more detail describing supervisory expectations for company-run stress tests. This guidance will be tailored based on the size and complexity of a covered company.

C. Coordination

Many commenters emphasized the need for the federal banking agencies to coordinate stress testing requirements for parent holding companies and depository institution subsidiaries and more generally in regard to stress testing frameworks. Commenters recommended that the Board, the Office of the Comptroller of the Currency (OCC), and the Federal Deposit Insurance Corporation (FDIC) coordinate in implementing the Dodd-Frank Act stress testing requirements in order to minimize regulatory burden. Commenters asked that the agencies eliminate duplicative requirements and use an interagency forum, like the Federal Financial Institutions Examination Council, to develop common forms, policies, procedures, assumptions, methodologies, and application of results.

The Board has coordinated closely with the FDIC and the OCC to help to ensure that the company-run stress testing regulations are consistent and comparable across depository institutions and depository institution holding companies and to address any burden that may be associated with having multiple entities within one organizational structure having to meet stress testing requirements. The Board anticipates that it will continue to consult with the FDIC and OCC in theimplementation of the final rule, and in particular, in the development of stress scenarios. The Board plans to develop scenarios each year in close consultation with the FDIC and the OCC, so that, to the greatest extent possible, a common set of scenarios can be used for the supervisory stress tests and the annual company-run stress tests across various banking entities within the same organizational structure.

D. Consolidated Publication and Group-Wide Systems and Models

In addition to requesting better coordination, commenters inquired as to whether a company-run stress test conducted by a parent holding company would satisfy the stress testing requirements applicable to that holding company's subsidiary depository institutions. Commenters recommended that in order to reduce burden the Board develop and require the use of a single set of scenarios for a bank holding company and any depository institution subsidiary of the bank holding company, if the Board imposed separate stress testing requirements on both the bank holding company and bank.

In order to reduce burden on banking organizations, the final rule provides that a subsidiary depository institution will disclose its stress testing results as part of the results disclosed by its bank holding company parent. Disclosure by the bank holding company of its stress test results and those of any subsidiary state member bank will generally satisfy any disclosure requirements applicable to the state member bank subsidiary.

Moreover, a state member bank that is controlled by a bank holding company may rely on the systems and models of its parent bank holding company if its systems and models fully capture the state member bank's risks. For example, under those circumstances, the bank holding company and state member bank may use the same data collection processes and methods and models for projecting and calculating potential losses, pre-provision net revenues, provision for loan and lease losses, and pro forma capital positions over the stress testing planning horizon.

III. Description of the Final Rule A. Scope of Application

This final rule applies to any bank holding company (other than a foreign banking organization) that has $50 billion or more in average total consolidated assets17 and to any nonbank financial company that the Council has determined under section 113 of the Dodd-Frank Act must be supervised by the Board and for which such determination is in effect.

17The final rule applies only to U.S.-domiciled bank holding companies that are covered companies, including, for example, the U.S.-domiciled bank holding company subsidiary of a foreign banking organization, but does not apply to any foreign banking organization.

Average total consolidated assets for bank holding companies is based on the average of the total consolidated assets as reported on the bank holding company's four most recent Consolidated Financial Statement for Bank Holding Companies (FR Y-9C). If the bank holding company has not filed the FR Y-9C for each of the four most recent consecutive quarters, average total consolidated assets will be based on the average of the company's total consolidated assets, as reported on the company's FR Y-9C, for the most recent quarter or consecutive quarters. In either case, average total consolidated assets are measured on the as-of date of the relevant regulatory report.

Once the average total consolidated assets of a bank holding company exceed $50 billion, the company will remain subject to the final rule's requirements unless and until the total consolidated assets of the company are less than $50 billion, as reported on four FR Y-9C reports consecutively filed. Average total consolidated assets are measured on the as-of date of the FR Y-9C.

The final rule does not apply to foreign banking organizations. The Board expects to issue for public comment a separate rulemaking on the application of enhanced prudential standards and early remediation requirements established under the Dodd-Frank Act, including enhanced capital and stress testing requirements, to foreign banking organizations at a later date. A U.S.-domiciled bank holding company subsidiary of a foreign banking organization that has total consolidated assets of $50 billion or more is subject to the requirements of this final rule.18

18A U.S.-domiciled bank holding company subsidiary of a foreign banking organization that is currently relying on Supervision and Regulation Letter SR 01-01 issued by the Board (as in effect on May 19, 2010) is not required to comply with the final rule's requirements until July 21, 2015.

B. Effective Date

Under the proposal, the stress testing requirements would have become effective upon adoption of a final rule. A bank holding company that was a covered company as of the effective date of the rule would have been required to immediately comply with its requirements. A bank holding company became a covered company after adoption of the rule but more than 90 days before September 30 of a given year would have been subject to the supervisory and company-run stress test requirements starting that year. With respect to the mid-cycle company-run stress test, bank holding companies that met the proposal's asset threshold more than 90 days before March 31 of a given year would need to satisfy the requirements of the mid-cycle stress tests that year (e.g., reporting and publication requirements). Nonbank financial companies designated for supervision by the Council more than 180 days before September 30 of a given year would have been required to comply with the stress test requirements starting that year.

Commenters indicated that the Board should give companies that have not participated in CCAR additional time before subjecting such companies to stress test requirements. Commenters argued that delaying implementation for these companies is necessary to allow sufficient time to develop the systems and procedures to collect the information requested by the Board in connection with these tests. In response to these comments, the Board is delaying the compliance date of stress test requirements under the final rule for certain bank holding companies that have not previously participated in stress testing through SCAP or CCAR. Under the final rule, a bank holding company that participated in SCAP, or successor to such bank holding company, is required to comply with the supervisory and company-run stress test requirements beginning on November 15, 2012, unless that time is extended by the Board in writing.19 All other bank holding companies that are covered companies will be required to comply with the supervisory and company-run stress test requirements beginning in the fall of 2013, unless that time is extended by the Board in writing.20

19The bank holding companies that participated in SCAP were: American Express Company, Bank of America Corporation, BB&T Corporation, Bank of New York Mellon Corporation, Capital One Financial Corp., Citigroup, Inc., Fifth Third Bancorp, GMAC LLC (now Ally Financial Inc.), Goldman Sachs Group Inc., JPMorgan Chase & Co., KeyCorp, MetLife Inc., Morgan Stanley, PNC Financial Services Group, Regions Financial Corporation, State Street Corp., SunTrust Banks, Inc., US Bancorp, and Wells Fargo & Company.

20Covered companies are required to submit FR Y-14 data as of September 30, 2012. In addition, all bank holding companies with total consolidated assets of $50 billion or more remain subject to the requirements of the Board's capital plan rule (12 CFR 225.8).

Commenters similarly expressed concern that bank holding companies and nonbank financial companies thatbecome covered companies after the effective date of the final rule would not have sufficient time to build the systems, contract with outside vendors, recruit experienced personnel, and develop stress testing models that are unique to their organization under the proposed compliance date. In addition, the Federal Advisory Council recommended that the Board phase in disclosure requirements to minimize risk, build precedent, and allow banks and supervisors to gain experience, expertise, and mutual understanding of stress testing models.

In response to these comments, the Board extended the compliance date applicable to bank holding companies that become covered companies after the effective date of the rule. Under the final rule, such a bank holding company will be required to conduct its first stress tests beginning in the fall of the calendar year after the company becomes a covered company, unless that time is extended by the Board in writing.

The Board also is extending the compliance date applicable to nonbank covered companies to provide that all nonbank covered companies will be required to conduct their first stress test in the calendar year after the year in which the nonbank covered company becomes subject to the Board's minimum regulatory capital requirements, unless the Board accelerates or extends the compliance date. The extended timeline for nonbank financial companies supervised by the Board will allow those companies and the Board to build and adapt stress testing systems and processes for application to specific nonbank businesses.

C. Overview of Stress Test Requirements Applicable to Both Supervisory and Company-Run Stress Tests

The Board designed the final rule in a manner to integrate the supervisory stress tests and company-run stress tests with the Board's capital plan rule in order to achieve a streamlined regime that minimizes regulatory burden. The following discussion describes three of these integrated aspects: Timing, reporting, and scenario design.

1. Timing of the Stress Testing Requirements

Under the proposal, the Board would have required an as-of date of September 30 of information to be submitted to the Board, provided covered companies with scenarios for the supervisory and annual company-run stress tests by mid-November of each year, required the filing of regulatory reports by January 5, and provided for publication of summary results of the annual company-run stress test and supervisory stress tests in early April. For the mid-cycle company-run stress test, the Board proposed to require regulatory reports by July 5 and publication of summary results by early October.

Several commenters provided suggestions on the proposed timeline for the supervisory and company-run stress tests. Comments included those relating to the as-of date for data to be submitted by covered companies, the date for submitting results to the Board, and the dates when public disclosures of stress test results are to be made. For instance, some commenters suggested that the Board should use data collected at as-of dates other than September 30, such as June 30 or December 31, and make corresponding changes to the timing of public disclosure in order to reduce burden on companies during the year-end period. One commenter suggested having a floating submission date, allowing organizations to submit their results at the point in the year when it is most convenient. Some commenters also requested that the Board release the scenarios earlier to provide banking organizations more time to prepare the required reports for the stress tests.

In order to integrate the supervisory and company-run stress tests with the capital plan rule, the final rule generally maintains the timing for the supervisory and company-run stress tests set forth in the proposal. The capital plan rule requires bank holding companies to submit their capital plan to the Board by January 5 using a September 30 as-of date in order to provide the Board sufficient time to review the bank holding company's capital plan and to provide its assessment to the bank holding company within the first quarter, minimizing the potential to disrupt the bank holding company's ability to make capital distributions in subsequent quarters of that year. Accordingly, the final rule maintains a September 30 as-of date and the January 5th date for submission of the report to the Board in order to align the requirements and reduce any undue burden for covered companies.21 Correspondingly, the final rule maintains the March 31 as-of date for the mid-cycle company-run stress tests.

21As described below in section III.E.1 of thisSUPPLEMENTARY INFORMATION, the Board may require a covered company with significant trading activity, as determined by the Board and specified in the Capital Assessments and Stress Testing information collection (FR Y-14), to include a trading and counterparty scenario in its stress test. The data used in this scenario will be as of a date between October 1 and December 1 of that calendar year selected by the Board, and the Board will communicate the as-of date and a description of the component to the company no later than December 1 of the calendar year.

Commenters requested that the Board release the scenarios earlier in the annual stress test cycle to provide covered companies more time to prepare the reports for supervisory stress tests and company-run stress tests. Under the final rule, the Board will provide descriptions of the baseline, adverse, and severely adverse scenarios generally applicable to covered companies no later than November 15 of each year, and provide any additional components or scenarios by December 1. The Board believes that providing scenarios earlier than November could result in the scenarios being stale, particularly in a rapidly changing economic environment, and that it is important to incorporate economic or financial market data that are as current as possible while providing sufficient time for covered companies to incorporate the scenarios in their annual company-run stress tests.

Commenters also noted that the proposed public disclosure deadlines (early April for annual supervisory and company-run stress tests and early October for mid-cycle company-run stress tests) would interfere with so-called “quiet periods” that some publicly-traded banking organizations enforce in the lead up to earnings announcements. These quiet periods are designed to limit communications that could disseminate proprietary company information prior to earnings announcements.

In light of these comments, the Board adjusted the disclosure date to avoid interfering with firms' quiet periods. Under the final rule, covered companies are required to disclose the results of their annual company-run stress tests between March 15 and March 31 and to disclose the results of their mid-cycle company-run stress tests between September 15 and September 30.

Table 1 describes the annual supervisory and company-run stress test cycles, including the anticipated general timeframes for each step in 2013.

ER12OC12.009 2. Reporting

Tothe greatest extent possible, the final rule's reporting framework has been designed to minimize burden on the covered company and to avoid duplication, particularly in light of other reporting requirements that may be imposed by the Board. Accordingly, the final rule will require each covered company to file a single set of regulatory reports with the Board by January 5 that contains information that will support the Board's supervisory stress tests as well as report the results of the company-run stress tests.23 In a separateFederal Registernotice, the Board has invited comment on these reports, the Capital Assessments and Stress Testing information collection (FR Y-14Q, FR Y-14M, and FR Y-14A, together, FR Y-14). For purposes of the mid-cycle company-run stress test, a covered company will file a regulatory report with the Board by July 5. The Board expects that this report will be identical to or modeled on the FR Y-14A, and will seek public comment on it.

22Covered companies must disclose their results in the period between March 15 and March 31.

23The FR Y-14 contains information that the Board has determined is necessary in order for the Board to derive the relevant pro forma estimates of the covered company over the planning horizon for purposes of both this rule and the Board's capital plan rule. The Board expects to apply the FR Y-14 to a nonbank financial company supervised by the Board upon such a company's designation.

In addition, the Board may require a covered company to submit any other information on a consolidated basis that the Board deems necessary in order to ensure that the Board has sufficient information to conduct supervisory stress test; and project a company's losses, pre-provision net revenue, provision for loan and lease losses, pro forma capital levels, regulatory capital ratios, and tier 1 common ratio under the scenarios it provides. In addition, the Board may obtain supplemental information from covered companies, as needed, through the supervisory process.

The confidentiality of any information submitted to the Board for the supervisory and company-run stress tests will be determined in accordance with the Board's rules regarding availability of information.24

24 See generally12 CFR part 261;see also5 U.S.C. 552(b).

3. Scenarios

The proposal provided that the Board would publish a minimum of three different sets of economic and financial conditions, including baseline, adverse, and severely adverse scenarios, under which the Board would conduct its annual analyses and companies would conduct their annual company-run stress tests. The Board would update, make additions to, or otherwise revisethese scenarios as appropriate, and would publish any such changes to the scenarios in advance of conducting each year's stress test.

Commenters suggested that significant changes in scenarios from year to year could cause a banking organization's stress testing results to dramatically change. To ameliorate this volatility, commenters suggest that the federal banking agencies have a uniform approach for identifying stress scenarios or establish a “quantitative severity limit” in the final rule to ensure that scenarios do not drastically change from year to year. Commenters pointed out that consistency in annual scenario development will make comparability of stress test results between institutions and across time periods more accurate, increase market confidence in the results of stress tests, and make for more dependable capital planning by banking organizations. Commenters also requested the opportunity to provide input on the scenarios.

The Board believes that it is important to have a consistent and transparent framework to support scenario design. To further this goal, the final rule clarifies the definition of “scenarios” and includes definitions of baseline, adverse, and severely adverse scenarios. Scenarios are defined as those sets of conditions that affect the U.S. economy or the financial condition of a covered company that the Board, or with respect to the mid-cycle stress test, the covered company, annually determines are appropriate for use in the company-run stress tests, including, but not limited to, baseline, adverse, and severely adverse scenarios.

The baseline scenario is defined as a set of conditions that affect the U.S. economy or the financial condition of a covered company and that reflect the consensus views of the economic and financial outlook. The adverse scenario is defined as a set of conditions that affect the U.S. economy or the financial condition of a covered company that are more adverse than those associated with the baseline scenario and may include trading or other additional components. The severely adverse scenario is defined as a set of conditions that affect the U.S. economy or the financial condition of a covered company and that overall are more severe than those associated with the adverse scenario and may include trading or other additional components.

In general, the baseline scenario will reflect the consensus views of the macroeconomic outlook expressed by professional forecasters, government agencies, and other public-sector organizations as of the beginning of the annual stress-test cycle. The Board expects that the severely adverse scenario will, at a minimum, include the paths of economic variables that are generally consistent with the paths observed during severe post-war U.S. recessions. Each year the Board expects to take into account of salient risks that affect the U.S. economy or the financial condition of a covered company that may not be observed in a typical severe recession. The Board expects that the adverse scenario will, at a minimum, include the paths of economic variables that are generally consistent with mild to moderate recessions. The Board may vary the approach it uses for the adverse scenario each year so that the results of the scenario provide the most value to supervisors, given the current conditions of the economy and the banking industry. Some of the approaches the Board may consider using include, but are not limited to, a less severe version of the severely adverse scenario or specifically capturing, in the adverse scenario, risks that the Board believes should be understood better or should be monitored.

The scenarios will consist of a set of conditions that affect the U.S. economy or the financial condition of a covered company over the stress test planning horizon. These conditions will include projections for a range of macroeconomic and financial indicators, such as real Gross Domestic Product (GDP), the unemployment rate, equity and property prices, and various other key financial variables, and will be updated each year to reflect changes in the outlook for economic and financial conditions. The paths of these economic variables could reflect risks to the economic and financial outlook that are especially salient but were not prevalent in recessions of the past.

Depending on the systemic footprint and scope of operations and activities of a company, the Board may use, and require that company to use, additional components in the adverse and severely adverse scenarios or additional or more complex scenarios that are designed to capture salient risks to specific lines of business. For example, the Board recognizes that certain trading positions and trading-related exposures are highly sensitive to adverse market events, potentially leading to large short-term volatility in covered companies' earnings. To address this risk, the Board may require covered companies with significant trading activities to include market price and rate “shocks” in their adverse and severely adverse scenarios as specified by the Board, that are consistent with historical or other adverse market events. In addition, the scenarios, in some cases, may also include stress factors that may not be directly correlated to macroeconomic or financial assumptions but nevertheless can materially affect covered companies' risks, such as factors that affect operational risks. The process by which the Board may require a covered company to include additional components in its adverse and severely adverse scenarios or to use additional scenarios is described under section III.E.2 of thisSUPPLEMENTARY INFORMATION. The Board plans to publish for comment a policy statement that describes its framework for developing scenarios.

Some commenters suggested that the Board adopt a tailored approach to scenarios to better capture idiosyncratic characteristics of each company. For example, commenters representing the insurance industry suggested that any stress testing regime applicable to insurance companies incorporate shocks relating to the exogenous factors that actually impact a particular company, such as a shock to the insurance company's insurance policy portfolio arising from a natural disaster, and de-emphasize shocks arising from traditional banking activities.

In the Board's view, a generally uniform set of scenarios is necessary to provide a basis for comparison across companies. However, the Board expects that each company's stress testing practices will be tailored to its business model and lines of business, and that the company may not use all of the variables provided in the scenario, if those variables are not appropriate to the firm's line of business, or may add additional variables, as appropriate.25 In addition, the Board expects banking organizations to consider other scenarios that are more idiosyncratic to their operations and associated risks as part of their ongoing internal analyses of capital adequacy and include company-specific vulnerabilities in their scenarios when complying with the Board's requirements for mid-cycle company-run stress test as described in section 252.145.

25The Board expects banking organizations will ensure that the paths of such additional variables are consistent with the scenarios the Board provided. For example, the path of any local economic variable should be consistent with the path of a national economic variable that the Board provides.

D. Annual Supervisory Stress Tests Conducted by the Board

The following discussion describes the Board's methodologies for the conduct of the stress tests, the process the Board intends to use tocommunicate the results to the company, the post-assessment actions that a company is expected to take in response to the supervisory stress tests, and the Board's publication of the stress test results.

1. Methodology for Estimating Losses and Revenues

In the NPR, the Board proposed that it would use the analytical techniques it determines to be appropriate to identify, measure, and monitor risks of covered companies that may affect the financial stability of the United States. The Board also outlined in the proposal the general framework it would use to analyze the projected losses, pre-provision net revenue, provision for loan and lease losses, and pro forma, post-stress capital levels and regulatory capital ratios in conducting a stress test for covered companies.

The Board received numerous comments requesting greater clarity with respect to the application of the supervisory stress test models. For example, commenters requested that the Board increase the transparency of the Board's analysis, modeling techniques, and assumptions used to analyze the banks by stress tests in the final rule. Commenters further recommended that these models and applications should be subject to a final public consultative process prior to implementation and that the Board should provide a detailed description of models in the form of consultative “white papers.”

The Board is currently considering how to provide more transparency with respect to its models while not reducing incentives on the part of covered companies to develop better internal stress test models that factor in their idiosyncratic risks and to consider the results of such models in their capital planning process. At a minimum, the Board plans to publish an overview of its stress testing methodologies each year. In addition, the Board expects to communicate the extent and timing of disclosure of information about supervisory models at a later date.

The Board has established an independent, internal model validation group to review supervisory models and their implementation, which is intended to foster continuing improvements in supervisory modeling practices. In addition, the Board formed the Model Validation Council earlier this year, composed of independent, external experts who provide input to the Board's internal model validation process used to assess the effectiveness of the models used in the supervisory stress tests.26 The Model Validation Council is intended to improve the quality of the Board's model validation process, and, thereby, strengthen confidence in the Board's stress tests.

26The Board published a press release on the Model Validation Council on April 20, 2012.SeePress Release, Board of Governors of the Federal Reserve System, Federal Reserve Board announces the formation of the Model Validation Council (Apr. 20, 2012)available at http://www.federalreserve.gov/newsevents/press/bcreg/20120420a.htm.

As described in the proposal, the anticipated framework to be used in supervisory stress tests has a number of elements. The Board will calculate each covered company's projected losses, pre-provision net revenue, provision for loan and lease losses and other factors affecting capital using a series of models and estimation techniques that relate the economic and financial variables in the baseline, adverse, and severely adverse scenarios to the company's losses and revenues. The Board has developed a series of models to estimate losses on various types of loans and securities held by the covered company, using data submitted by that company. These models may be adjusted over time. The Board will use a separate methodology or a combination of methodologies—potentially including covered companies' internal models, if appropriate—to estimate projected losses related to covered companies' trading portfolio or counterparty credit-risk exposures in the event of an adverse market shock, taking into account the complexity and idiosyncrasies of each covered company's positions. The methodology may also incorporate an approach to estimate potential losses from stress factors specifically affecting the covered companies' other risks. Finally, the framework will include a set of methodologies to assess the effect of losses, pre-provision net revenue, provision for loan and lease losses, and other factors on pro forma capital levels and ratios.

In response to commenters' requests for more clarity regarding the Board's assumptions used to calculate a covered company's stress test results, the Board is providing additional detail on the assumptions it intends to use to describe how a company's capital positions would change over time. To help ensure that the publicly disclosed results of supervisory stress tests are comparable across institutions and reflect the effect of common macroeconomic scenarios on net income and capital but not company-specific assumptions about capital distributions, the Board is applying a consistent approach to assumptions across companies.

For the first quarter of the planning horizon, the Board will take into account the company's actual capital actions as of the end of the calendar quarter. For each of the second through ninth quarters of the planning horizon, the Board will include the following items in the projections of capital: (i) Common stock dividends equal to the quarterly average dollar amount of common stock dividends that the company paid in the previous year (that is, the first quarter of the planning horizon and the preceding three calendar quarters); (ii) payments on any other instrument that is eligible for inclusion in the numerator of a regulatory capital ratio equal to the stated dividend, interest, or principal due on such instrument during the quarter; and (iii) an assumption of no redemption or repurchase of any capital instrument that is eligible for inclusion in the numerator of a regulatory capital ratio.

These assumptions are the same assumptions that covered companies are required to use in conducting their company-run stress tests, as described below in section III.E.3 of thisSUPPLEMENTARY INFORMATION. Adopting a consistent, standardized approach across covered companies and across the supervisory and company-run stress tests will provide for improved comparability across companies and between the supervisory and company-run stress tests.

Another element of the supervisory-stress test framework is a set of assumptions or models to describe how a covered company's balance sheet would change over time.27 Information about planned future acquisitions and divestitures by the companies will also be incorporated. These projections will then be analyzed to assess their combined effect on the covered company's capital position, including projected capital levels and capital ratios, at the end of each quarter in the planning horizon. The framework will incorporate all regulatory capital measures and the tier 1 common ratio. These projections used in the supervisory stress tests also will incorporate, as appropriate, any significant changes in or the significant effects of accounting requirements during the planning period.

27At times, the Board may assume in its supervisory stress tests that the covered company's balance sheet would change over time, following the paths projected by the company.

2. Description of Supervisory Assessment

The Board, through its annual analyses, will evaluate each covered company as to whether the covered company has the capital, on a total consolidated basis, necessary to continue operating under economic and financial market conditions as contained in the designated scenarios. This evaluation will include, but will not be limited to, a review of the covered company's estimated losses, pre-provision net revenue, provision for loan and lease losses, and the extent of their effect on the company's capital levels and ratios, including pro forma regulatory capital ratios and the tier 1 common ratio.

3. Communication of Results to Covered Companies

Under the Dodd-Frank Act, the Board is required to disclose a summary of the results of its annual analyses.28 In the NPR, the Board proposed that, prior to publishing a summary of the results of its annual analyses, the Board would convey to each covered company the results of the Board's analyses of that company and explain to the company any information that the Board expected to make public.

2812 U.S.C. 5365(i)(1)(B)(v).

Numerous commenters requested that the final rule include a formal appeals process to dispute the Board's findings prior to public release of stress test results. According to these commenters, banking organizations should have the opportunity to defend the results of their internal models against the results of supervisory stress tests, and explain any major differences in assumptions or potential drivers of divergent results between the two to the Board in a confidential manner prior to publication.

The final rule does not provide for a process whereby a company would be able to appeal the results of its supervisory stress test. The Board's supervisory stress tests reflect the Board's independent estimates of revenue, losses, and capital under various scenarios, using consistent models and assumptions across all companies. Covered companies are separately required to disclose the results of their own stress tests, which will provide the company's own assessment of its capital adequacy under stress conditions that are consistent with those included in the Board's supervisory stress test.

The Board expects to communicate the results of its supervisory stress tests to a company before it publicly discloses a summary of such results.

4. Post-Assessment Actions by Covered Companies

Under the final rule, subsequent to receiving the results of the Board's annual analyses, each covered company must take the results of such analysis conducted by the Board into account in making changes, as appropriate, to the company's capital plan and capital structure (including the level and composition of capital) and its exposures, concentrations, and risk positions; and any plans of the company for recovery or resolution. In addition, each covered company must make such updates to its resolution plan (required to be submitted annually to the Board and FDIC pursuant to the Board's Regulation QQ (12 CFR part 243) and the FDIC's Part 381 (12 CFR part 381)) as the Board, based on the results of its analyses of the company, determines appropriate.

5. Publication of Results by the Board

In the NPR, the Board proposed that, within a reasonable period of time after completing the annual analyses of covered companies (but no later than by mid-April of each calendar year), the Board would disclose a summary of the results of such analyses. The Board also said that it expected to disclose quarter-end results over the specified planning horizon that included estimated losses on a variety of lines of business, estimated allowance for loan and lease losses, and estimated pro forma regulatory and other capital ratios.

In response, nearly all commenters advocated that the Board use more limited disclosures requirements for the supervisory and company-run stress tests, suggesting that the disclosures proposed in the NPR go beyond what is mandated in the Act. In particular, nearly all commenters strongly recommended against the disclosure of the results under the baseline scenario. Commenters indicated the baseline scenario results would be perceived as earnings guidance, which may compel the banking organization to prioritize short-term results over more appropriate longer-term risk management and sustained long term results. Commenters also indicated that disclosure of baseline results may force the premature disclosure of future plans by the institution, create confusion among investors and the public, and give rise to liability under securities laws.

Several commenters also suggested that the Board disclose the results using the template used to disclose the CCAR results, which they likened to publication of only the severely adverse results. Commenters expressed the view that the CCAR disclosure regime was appropriately balanced by providing useful information to market participants while simultaneously ensuring that disclosure of stress tests results does not result in providing earnings guidance.

As noted above, the Board believes that public disclosure is a key component of stress test requirements mandated by the Act, and helps to provide valuable information to market participants, enhance transparency, and promote market discipline. However, the Board understands the concern that the disclosure of results (particularly baseline results) could be viewed as earnings guidance to the market. Thus, for the stress test conducted in 2012, the Board expects that, similar to the public disclosure following CCAR in early 2012, the Board will disclose results under the severely adverse scenario for each company that will include estimates of the following info