Thursday Recap: Fdic Decision Boosts Bank Shares
Stocks ended a volatile session on Thursday with solid gains as investors cheered regulation rollbacks for the big banks. The Federal Deposit Insurance Commission said it would allow banks to more easily make large investments into funds such as venture capital funds. Also banks will not have to set aside cash for derivatives traders between different affiliates of the same firm, potentially freeing up more capital.
When we think about a recession of the magnitude that we have, theres going to be some credit write-offs by banks, said Art Hogan, chief market strategist at National Securities. The fact that theyre going to have more working capital makes markets breathe a sigh of relief.
Bank of America, JP Morgan Chase, Citigroup and Wells Fargo all rose more than 3%. Goldman Sachs also gained 4.6% while Morgan Stanley advanced 3.9%. Shares of major banks jumped to their highs of the day in the final hour of trading as investors looked ahead to the Federal Reserve releasing stress-test results for the major banks. Those results were released after the close.
What Assumptions Will The Fed Use
Stress testing has certainly seen its fair share of changes over the years, but this year’s testing will be unlike any other because of the coronavirus pandemic. I probably don’t need to tell you that the virus has shocked the economy in a way that regulators, bankers, economists, and other experts never saw coming.
DFAST and CCAR project how a bank’s balance sheet would hold up under certain scenarios. This year, the Fed had planned to examine two scenarios: baseline and severely adverse. A baseline scenario assumes a moderate economic expansion, while a severely adverse scenario assumes a severe global recession categorized by stress in the commercial real estate and corporate debt markets. Essentially, the Fed is making projections about what would happen to a bank’s profits and capital levels if unemployment grows by a determined amount and GDP contracts by a determined amount, among many other macroeconomic indicators.
The problem is that the severely adverse scenario is supposed to be an unlikely situation. Let’s go back to February when the Fed initially released its assumptions under its hypothetical severely adverse scenario. In that situation, the Fed said U.S. unemployment would rise to a peak of 10% by the third quarter of 2021, while GDP would fall about 8.5% from its pre-recession peak, reaching a low point in the third quarter of 2021. The Fed’s stress tests forecast out over a nine-quarter period.
The June 2021 Stress Scenario Was Severe
Similar to last years stress scenario, the 2021 stress scenario includes a severe global recession accompanied by vulnerabilities in commercial real estate and corporate debt markets. The heightened risks were intended to capture lingering risks associated with the COVID event that led to increased vulnerabilities in retail, office and hotel properties and a sharp rise in corporate borrowings. More broadly, this years stress tests include on a start-to-stress basis:
- A 4 pp increase in the unemployment rate.
- A 3.9 percent fall in real GDP.
- A 4.3 pp increase in BBB spreads.
- A 24 percent decline in house prices.
- A 40 percent drop in commercial real estate prices.
- A 55 percent drop in the stock market.
The left panel in Exhibit 2 compares the evolution of CRE prices across the 2020 and 2021 stress tests. The commercial real estate price index follows a considerably more severe course in the June 2021 stress tests relative to that of both stress tests last year. The peak YoY decline is -31 percent, compared with -26 percent in June 2020 and -21.6 percent last December. Another important macroeconomic variable that drives projected pre-provision net revenue is the term spread, shown in the right panel of Exhibit 2. The lower term spread in the June 2021 scenario relative to both of last years severely adverse scenarios creates more headwinds for bank profitability through lower net interest income projections.
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Pandemic Restrictions After Fed Calculates 23 Biggest Banks Could Survive Another Major Blow
All 23 of the nation’s biggest banks are healthy enough to withstand a sudden economic catastrophe, the Federal Reserve said Thursday as it released the results from its latest “stress tests,” giving the banks the green light to resume paying out dividends to investors and buying back stock.
The Fed also said it would remove all of the coronavirus pandemic restrictions they put on the industry last year, following the results of the tests.
The Dodd-Frank Act passed after the 2008 financial crisis requires the nation’s biggest, most complicated banks to undergo a set of tests to see how well their balance sheets would hold up against a severe economic meltdown like that seen in the Great Recession. The tests vary from year to year, but generally involve the Fed testing to see how much in losses the banking industry would take if unemployment were to skyrocket and economic activity were to severely contract.
Fed Issues Report On Results Of 2021 Stress Tests For Banks
FED published the results of the stress tests for banks for 2021. The aggregate results of Dodd-Frank Act Stress Test 2021 suggest the 23 firms that participated in the supervisory stress test would experience substantial losses under the severely adverse scenario however, these firms would remain well above the minimum risk-based requirements and could continue lending to businesses and households. Thus, all additional, temporary capital distribution restrictions imposed following the outbreak of COVID-19 will expire on June 30, 201. FED also corrected error with the results for BNP Paribas USA from the June and December 2020 stress tests, making corrections to the projected pre-provision net revenue, projected pre-tax net income, and projected capital ratios.
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What Is A Bank Stress Test
A bank stress test is an analysis conducted under hypothetical scenarios designed to determine whether a bank has enough capital to withstand a negative economic shock. These scenarios include unfavorable situations, such as a deep recession or a financial market crash. In the United States, banks with $50 billion or more in assets are required to undergo internal stress tests conducted by their own risk management teams and the Federal Reserve.
Bank stress tests were widely put in place after the 2008 financial crisis. Many banks and financial institutions were left severely undercapitalized. The crisis revealed their vulnerability to market crashes and economic downturns. As a result, federal and financial authorities greatly expanded regulatory reporting requirements to focus on the adequacy of capital reserves and internal strategies for managing capital. Banks must regularly determine their solvency and document it.
Trading Losses Also Remained Flat
Aggregate losses associated with the global market shocks rose slightly from $83.2 billion in June 2020 to $86.6 billion in this years test. The increase in trading losses was expected given the higher shocks for some of the most important risk factors like the widening of corporate bond spreads, sharp falls in CMBS prices and sizable decline in private equity asset valuations. This years trading and counterparty losses were nearly $10 billion lower than losses reported in the December stress tests.
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Eba Publishes The Results Of Its 2021 Eu
30 July 2021
- Under a very severe scenario, the EU banking sector would stay above a CET1 ratio of 10%, with a capital depletion of EUR 265bn against a starting CET1 ratio of 15%.
The European Banking Authority published today the results of its 2021 EU-wide stress test, which involved 50 banks from 15 EU and EEA countries, covering 70% of the EU banking sector assets. This exercise allows to assess, in a consistent way, the resilience of EU banks over a three-year horizon under both a baseline and an adverse scenario, which is characterised by severe shocks taking into account the impact of the pandemic. The individual bank results promote market discipline and are an input into the supervisory decision-making process. The adverse scenario has an impact of 485 bps on banks CET1 fully loaded capital ratio , leading to a 10.2% CET1 capital ratio at the end of 2023 .
Summary of key results
Since the previous EBA EU-wide stress test in 2018, banks have continued building up their capital base, and at the beginning of the exercise , had a CET1 ratio of 15% on a fully loaded basis , the highest since the EBA has been performing stress tests. This was achieved despite an unprecedented decline of the EUs GDP and the first effects of the Covid-19 pandemic in 2020.
- operational risk losses, including conduct risk, of EUR 49bn .
Special focus on the Covid-19 support measures
Transparency and input to the SREP
Notes to the editors
The Fed Is Restricting Dividends
Perhaps the biggest result of the stress testing was the Fed’s decision to restrict capital distributions, including dividends. Seeing that the capital levels at banks may take a significant hit as the coronavirus persists, the Fed capped dividends “to the amount paid in the second quarter,” meaning increasing the dividend is not allowed in the third quarter. Furthermore, the Fed said it would limit dividend payouts to “an amount equal to the average of the firm’s net income for the four preceding calendar quarters.”
That means some banks may have to cut their dividends because the last two quarters have been characterized in general by low profits, or maybe even losses, potentially limiting the amount that can be paid out to shareholders. This does not bode well for a bank like Wells Fargo, which reported only $0.01 in earnings per share in the first quarter and is not expected to do much better in the second quarter.
The Fed also suspended stock buybacks, although that wasn’t exactly a huge surprise considering banks already suspended them earlier this year and were not expected to resume them in 2020.
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Scenario For Banks And Building Societies Not Part Of Concurrent Stress Testing
We published the Solvency Stress Test 2021 scenario for banks and building societies not part of concurrent stress testing on 15 February 2021. This scenario is available for firms to use as a template and severity benchmark to support their own ICAAP stress testing scenario design processes.
In line with Supervisory Statement 31/15 The Internal Capital Adequacy Assessment Process and the Supervisory Review and Evaluation Process , ICAAPs should be updated and stress testing undertaken at least annually.
The scenario is calibrated to robustly test and challenge business models and support firms in identifying key sensitivities and vulnerabilities within their balance sheets in the context of a severe downside outcome with an intensification of the macroeconomic shocks seen in 2020.
This scenario has been derived from the 2021 Solvency Stress Test scenario which was published on 20 January 2021 to support stress testing of the largest UK banks and building societies. The 2021 Solvency Stress Test exercise aims to explore how the banking system can continue to support the UK economy through the on-going stress and will be used as an input into the PRAs transition back to its standard approach to capital-setting and shareholder distributions through 2021.
Given the current economic climate, stress testing remains an important supervisory tool to inform our understanding of the resilience of the sector.
Fed Puts Restrictions On Bank Dividends After Stress Test Results Reveal Pandemic
Heightened volatility could be the theme in Fridays U.S. stock market session if the after-market activity is an indication. Stocks being pressured during the after-market trade are Nike, , American Airlines, Wells Fargo and MGM Resorts. However, the entire market remains at risk due to a major announcement by the Federal Reserve that may erase most of Thursdays banking sector gains.
In the cash market on Thursday, the benchmark S& P 500 Index settled at 3083.76, up 33.43 or +1.11%. The blue chip Dow Jones Industrial Average rose 25745.60, up 299.66 or +1.19% and the technology-driven NASDAQ Composite ended at 10017.00, up 107.83 or +1.19%.
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Federal Reserve To Issue Bank Stress Test Results
Federal Reserve Board officials said its bank stress tests results will be released on June 24.
The process ensures banks have the capital to absorb losses amid a recession to lend to households and businesses.
Per the Federal Reserve Board, this years bank stress test involves the resilience of bankswith more than $100 billion in total consolidated assets being tested against a hypothetical recession featuring a global downturn with commercial real estate and corporate debt markets stress.
Smaller banks are only required to participate in the testing initiative every other year. This year, four firms opted in voluntarily: BMO Financial Corp., MUFG Americas Holdings Corporation, RBC US Group Holdings LLC, and Regions Financial Corporation.
The banking sector has provided critical support to the economic recovery over the past year,Vice Chair for Supervision Randal K. Quarles said. Although uncertainty remains, this stress test will give the public additional information on its resilience.
The hypothetical situations are not forecasts, the Federal Reserve Board said, and the scenario is more severe than most current baseline projections for the path of the domestic economy under the stress testing period.
The goal is to assess the strength of large banks during the recession scenario, with each scenario including 28 variables covering domestic and international economic activity.
All Big Banks Pass Latest Federal Reserve Stress Tests
NEW YORK All 23 of the nations biggest banks are healthy enough to withstand a sudden economic catastrophe, the Federal Reserve said Thursday as it released the results from its latest stress tests, giving the banks the green light to resume paying out dividends to investors and buying back stock.
The Fed also said it would remove all of the coronavirus pandemic restrictions they put on the industry last year, following the results of the tests.
The Dodd-Frank Act passed after the 2008 financial crisis requires the nations biggest, most complicated banks to undergo a set of tests to see how well their balance sheets would hold up against a severe economic meltdown like that seen in the Great Recession. The tests vary from year to year, but generally involve the Fed testing to see how much in losses the banking industry would take if unemployment were to skyrocket and economic activity were to severely contract.
Due to the economic damage caused by the pandemic, the Fed did two stress tests of the banking system last year, trying to simulate the impact a long-lasting economic downturn and pandemic would have on the nations banking system. The Feds worst case scenario last year, a double-dip recession, would have caused roughly a quarter of all the biggest banks to breach their minimum capital requirements.
As a safety measure during the pandemic, the Fed put in place restrictions on the banks to pay out dividends and buy back shares.
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Federal Reserve Board Announces That Results From Its Bank Stress Tests Will Be Released On Thursday June 24 At : 30 Pm Edt
For release at 4:30 p.m. EDT
The Federal Reserve Board announced on Monday that results from its bank stress tests will be released on Thursday, June 24, at 4:30 p.m. EDT.
Stress tests help ensure that banks have adequate capital to absorb losses so that they can lend to households and businesses even in a severe recession. For the 2021 stress tests, the resilience of large banks is being tested against a hypothetical recession featuring a severe global downturn with substantial stress in commercial real estate and corporate debt markets.
Banks with more than $100 billion in total consolidated assets are subject to the Board’s stress tests. The smaller banks among those subject to the Board’s stress test are only required to participate every other year with all firms participating last year. For this year’s test, four firms voluntarily opted-in: BMO Financial Corp., MUFG Americas Holdings Corporation, RBC US Group Holdings LLC, and Regions Financial Corporation.
Additional information can be found here.
For media inquiries, call 202-452-2955.
Board of Governorsof theFederal Reserve System
Fed Sets Date For Release Of 2020 Stress Tests Covid
WASHINGTON The Federal Reserve announced Tuesday it will publish the results from both of its annual stress tests June 25, as well as supplemental analyses to assess bank capital under different coronavirus-related scenarios.
Thirty-four banks each with more than $100 billion of assets are subject to the Feds Dodd-Frank Act stress tests and Comprehensive Capital Analysis and Review examinations this year. Unlike in previous years, the Fed will publish the results from both tests simultaneously.
Banks subject to the stress tests are required to submit data from their balance sheets as of yearend 2019. The Fed tests those balance sheets against baseline and severely adverse scenarios.
However, many have already discounted this years stress tests, noting that the current economic shock that has accompanied the COVID-19 pandemic is in many cases worse than the Feds hypothetical severely adverse scenario. Banks balance sheets are likely to have changed substantially since the end of 2019, before the onset of the coronavirus.
But the Fed had said previously it would conduct sensitivity analyses to examine banks’ responses to the pandemic. That addendum will consist of alternative scenarios and certain adjustments to portfolios to credibly reflect current economic and banking conditions.
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Results Will Show Whether Fed Objected To Banks Capital
WASHINGTONThe Federal Reserve will disclose how large U.S. banks performed on their individual stress tests on March 11 at 4:30 p.m.
The release will follow the Feds disclosure of the results of a separate set of tests required by the Dodd-Frank law on March 5. The Dodd-Frank tests measure banks ability to weather a severe recession, but arent tied to dividend payments.
The March 11 results, on the other hand, will let investors know whether the Fed has objected to each banks plan for returning capital to shareholders. To pass those tests, banks must show they have enough capital to weather a severe recession as well as a risk-management system that can comprehensively measure and assess risks across all of their business lines.
The Fed disclosed the dates on Thursday.
Write to Ryan Tracy at