General Information & Client Service
  • Americas: +1.212.553.1653
  • Asia: +852.3551.3077
  • China: +86.10.6319.6580
  • EMEA: +44.20.7772.5454
  • Japan: +81.3.5408.4100
Media Relations
  • New York: +1.212.553.0376
  • London: +44.20.7772.5456
  • Hong Kong: +852.3758.1350
  • Tokyo: +813.5408.4110
  • Sydney: +61.2.9270.8141
  • Mexico City: +001.888.779.5833
  • Buenos Aires: +0800.666.3506
  • São Paulo: +0800.891.2518
October 11, 2018

During a speech at the 2018 Stress Testing Research Conference in Boston, Beverly Hirtle of NY FED discussed the evolution of design of the supervisory stress testing. She briefly reviewed how stress testing emerged as a key supervisory policy tool and how the original goals of the Supervisory Capital Assessment Program (SCAP), Comprehensive Capital Analysis and Review (CCAR), and Dodd-Frank Act Stress Testing (DFAST) affected modeling and design choices. She then highlights the gaps left by the current approach, before finally suggesting the areas where new research could help push forward the frontier of stress test modeling, both of specific elements that go into the stress test calculation and of the broader impact of the stress testing programs implemented in the United States and elsewhere.

She detailed the design choices made for stress testing and highlighted three important tactical issues in supervisory stress test modeling that research can help address:

  • Additional ways of projecting revenues and non-credit expenses in stressed environments is a particularly ripe area for additional work.
  • Concerns about measuring model risk. How to assess errors from models intended to capture performance under stressed conditions when those conditions have not yet been realized and might not be in the historical data?  How to assess the uncertainty or margin of error around loss and revenue projections derived from models that can be quite complex, often involving multiple estimation steps?  How to assess the error around the ultimate calculation of stressed capital ratios? Howto measure correlation in model errors in a tractable and practical way? How much model risk owes to the decision to develop complex models for many individual pieces of the net income and regulatory capital ratio calculations, instead of using simpler, "top down" estimation approaches?
  • Role of simpler, easier to estimate models of net income and its key components. Federal Reserve modeling teams have already developed a set of these "benchmark" models that produce loss and revenue estimates as a comparison to the projections from the more sophisticated and complex production models. Increasing deviations between benchmark and production projections could highlight emerging (or declining) areas of risk. A related area of research could address optimal ways for supervisors to assess the signal when benchmark and production model results deviate significantly from one another. Also, these simpler models could potentially form the basis of a more dynamic, system-focused stress test analysis that builds in the linkages and feedback not currently captured in CCAR and DFAST stress testing programs. 

Next, she highlighted issues where additional research could help guide the evolution of the supervisory stress testing regime. A related set of questions concerns how stress testing affects the cyclicality of capital requirements and what degree of cyclicality is appropriate. How does cyclicality of stress testing interact with other cyclical elements, such as the countercyclical capital buffer and the incoming current expected credit loss (CECL) approach to loan-loss provisioning? Finally, one concern that has been raised about the FED approach to stress testing and integration into the CCAR program is that of "model monoculture," which is the idea that banks will be "incented" to develop models that mimic the FED models rather than developing their own independent approaches: "Significant commonality in modeling approaches in the banking system could result in banks adopting similar risk exposures and hedging techniques, exposing the sector to additional systemic risk and potential future instability. How do we measure this risk? What should we think about differences (and similarities) between bank-generated and supervisory stress test results, both for a particular stress test cycle and over time? What disclosure and transparency policies about supervisory models can address these concerns, while still supporting insight and credibility into the DFAST and CCAR stress testing programs?"

She concluded by saying that these are the questions that challenge policymakers as the regulatory and supervisory regime that was put in place following the crisis is re-examined and evolves in the wake of that re-examination. "A disciplined analytical approach to these topics is critical in weighing future design choices, such as those made during the initial implementation of SCAP, CCAR and DFAST stress testing. Research on these topics could make substantial and meaningful contributions."

 

Related Link: Speech

Keywords: Americas, US, Banking, Stress Testing, DFAST, SCAP, CCAR, NY FED, BIS

Related Articles
News

ECB Updates Validation Checks and List of Identifiers Under AnaCredit

ECB updated the AnaCredit validation checks (Version 1.4) and the list of national identifiers (version 2.4) for AnaCredit reporting.

March 21, 2019 WebPage Regulatory News
News

BCBS Publishes Results of the Basel III Monitoring Exercise

BCBS published results of the Basel III monitoring exercise based on data as of June 30, 2018.

March 20, 2019 WebPage Regulatory News
News

EBA, FCA, and PRA Agree on MoU Template for Supervisory Cooperation

EBA, FCA, and PRA announced that they have agreed on a template for the Memorandum of Understanding (MoU) that sets out the expectations for supervisory cooperation and information-sharing arrangements between UK and EU/European Economic Area national authorities.

March 20, 2019 WebPage Regulatory News
News

HKMA Publishes CoP on Loss-Absorbing Capacity Requirements of Banks

HKMA issued, in relation to the Financial Institutions Resolution (Loss-Absorbing Capacity Requirements—Banking Sector) Rules (LAC Rules) a chapter of a code of practice (LAC CoP) under section 196 of the Financial Institutions Resolution Ordinance (FIRO).

March 20, 2019 WebPage Regulatory News
News

EBA Publishes Reports Monitoring the Implementation of Basel III in EU

EBA published two reports measuring the impact of implementing the final Basel III reforms and monitoring the implementation of liquidity measures in EU.

March 20, 2019 WebPage Regulatory News
News

BCBS Publishes Results of Survey on Proportionality in Bank Regulation

BCBS published a report presenting the results of a survey conducted on proportionality practices in bank regulation and supervision.

March 19, 2019 WebPage Regulatory News
News

US Agencies Adopt Interim Rule to Facilitate Transfers of Legacy Swaps

US Agencies (FCA, FDIC, FED, FHFA, and OCC) are adopting and inviting comments on an interim final rule.

March 19, 2019 WebPage Regulatory News
News

HKMA Expects Banks to Manage Risks Related to Crypto-Asset Exposures

HKMA issued a statement announcing that it expects authorized institutions to take note of the BCBS statement on crypto-assets and its prudential expectations.

March 18, 2019 WebPage Regulatory News
News

SNB Issues Form on Solvency Risk of Counterparties in Interbank Sector

SNB released form (Version 5.00) and related documentation for reporting solvency risk of counterparties in the interbank sector.

March 18, 2019 WebPage Regulatory News
News

EIOPA Requests Data on LTG Measures from Insurers Under Solvency II

EIOPA has requested the European Economic Area insurance undertakings, which are subject to Solvency II, to provide information on the long-term guarantee (LTG) measures.

March 18, 2019 WebPage Regulatory News
RESULTS 1 - 10 OF 2769