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Top US banks withstand annual ritual of Federal Reserve ‘stress tests’

🌈 Abstract

The article discusses the results of the Federal Reserve's annual stress tests on the 31 largest US banks. The tests assess the banks' ability to withstand a severe economic downturn, and the results show that all 31 banks passed the tests, though they would suffer significant losses in the hypothetical scenario.

🙋 Q&A

[01] Stress Test Results

1. What were the key findings of the Federal Reserve's stress tests on the 31 largest US banks?

  • All 31 of the largest US banks passed the Federal Reserve's yearly stress tests, indicating they could withstand a theoretical scenario of high unemployment and severe economic recession.
  • Under the Fed's baseline scenario, the banks would lose nearly $685 billion and suffer their biggest hit to capital in six years, but would still meet regulatory minimum standards.
  • The scenario involved a 40% decline in commercial real estate prices, a substantial rise in office vacancies, and a 36% fall in house prices.
  • The Fed's vice-chair for supervision said the tests show the large banks have sufficient capital to absorb losses in a highly stressful scenario.

2. How did the stress test results impact the banks' stock prices?

  • Goldman Sachs shares were down 1.7% in after-hours trading, while Bank of America's shares had slipped 0.3%.
  • This was likely due to estimates that several large banks, including Goldman and BofA, are set to see their capital requirements rise by more than analysts had anticipated, potentially leaving less capital for potential dividends and buybacks.

[02] Usefulness and Purpose of Stress Tests

1. What concerns were raised about the usefulness and purpose of the stress tests?

  • In recent years, the nation's largest banks have generally passed the tests by wide margins, raising questions about their usefulness and purpose.
  • A partner at a law firm said the tests' reliance on capital buffers "focuses people on the wrong things", noting that three banks were "obliterated in one month" last March, despite all 31 banks surviving the 9-quarter stress scenario.
  • The partner argued this "reinforces how unrealistic the stress test is."

2. How do the stress test results relate to the ongoing debate around capital requirements for large US banks?

  • The results come during a renewed focus around capital levels at large US banks, with regulators weighing changes to the proposed implementation of the Basel III Endgame capital rules.
  • The Fed's initial proposal, which called for a significant increase in capital requirements, provoked an aggressive lobbying effort from large US banks. The Fed chair has since said the agency would likely make material changes to the proposed new rules.
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