Mandatory Elements of a Capital Plan

The capital plan rule defines a capital plan as "a written presentation of a company's capital planning strategies and CAP that includes certain mandatory elements." These mandatory elements are organized into five main components:

1. an assessment of the expected uses and sources of capital over the planning horizon
2. a description of all planned capital actions over the planning horizon
3. a discussion of any baseline changes to the BHC's business plan that are likely to have a material impact on the BHC's capital adequacy or liquidity
4. a detailed description of the BHC's process for assessing capital adequacy
5. a BHC's capital policy ²⁷

A BHC is required to conduct an assessment of the expected uses and sources of capital over the planning horizon assuming both expected and stressful conditions. This assessment must contain the following elements:

• estimates of projected revenues, losses, reserves, and pro forma capital levels, including any regulatory capital ratios (for example, tier 1 leverage, common equity tier 1 capital, tier 1 risk-based capital, and total risk-based capital ratios) and any additional capital measures deemed relevant by the BHC, over the planning horizon under baseline conditions and under a range of stressed scenarios; these must include any scenarios provided by the Federal Reserve and at least one stress scenario developed by the BHC appropriate to its business model and portfolios
• a calculation of the pro forma tier 1 common ratio over the planning horizon under baseline conditions and under a range of stressed scenarios inclusive of a discussion of how the company will maintain all minimum regulatory capital ratios and a pro forma tier 1 common ratio above 5 percent under expected conditions and the stressed scenarios required
• a discussion of the results of the stress tests required by law or regulation, and an explanation of how the capital plan takes these results into account
• a description of all planned capital actions over the planning horizon

The remainder of this section provides additional detail on these elements.

Estimates of Projected Revenues, Losses, Reserves, and Pro Forma Capital Levels

As noted earlier, for the purposes of CCAR, BHCs are to submit capital plans supported by their internal capital adequacy assessment and capital planning processes and include pro forma analyses in each of the five scenarios. The Federal Reserve will be assessing the processes and practices the BHCs have in place to carry out this analysis, including the risk-identification, risk-measurement, and risk-management practices supporting their analyses, as well as the governance and controls around these practices.

Importantly, the format the Federal Reserve uses to collect the FR Y-14 data does not imply that BHCs should use any specific methodology to project their losses and revenues for their stress tests or for any other internal analysis used to support their capital plans; rather, a BHC's submissions for each scenario should be based on its own processes and analyses.

The Federal Reserve's qualitative assessment of the capital plans will focus on the robustness of a BHC's internal CAP, with a particular focus on the BHC stress scenario and the translation of the BHC stress scenario into projected losses, revenues, and pro forma post-stress capital ratios.

BHCs should demonstrate that their results are consistent with the environments specified in the scenarios being used, and that the various components of their results are internally consistent. For example, it might be inconsistent to project a shrinking balance sheet while also projecting large increases in net income in a stress or baseline environment. BHCs should submit background information on the methodologies supporting their estimates. This material should include discussion of key approaches and assumptions used to measure BHC-wide exposures and to arrive at stress loss estimates, along with relevant background on positions or business lines that could have a material influence on outcomes.

A BHC should clearly identify and document in its capital plan any aspects of its portfolios and exposures (e.g., a contractual loss-mitigation arrangement, exposures not well captured in the reporting framework, etc.) that are not adequately captured in the FR Y-14Q or FR Y-14M and that it believes are material to loss estimates for its portfolios, as well as the BHC's estimate of the potential impact of such items on loss estimates under the baseline and stress scenarios.

In general, BHCs should incorporate the following into their pro forma estimates:

Definition of losses for loans: The losses to be estimated for loans held in accrual portfolios in this exercise are generally credit losses due to failure to pay obligations (cash flow losses), rather than discounts related to mark-to-market (MTM) values. In some cases, BHCs may have loans that are being held for sale or which are subject to purchase-accounting adjustments. In these cases, the analysis should anticipate the change in value of the underlying asset, apply the appropriate accounting treatment, and determine the incremental losses.

Loan-loss estimates: BHCs should describe the underlying models and methods used to project loan losses, and provide background on the derivation of estimated losses. Factors that could be cited to support the reasonableness of estimated losses include (but are not limited to) composition of the loan portfolios within a broad category (e.g., distribution among prime, Alt-A, and subprime loans within first-lien residential mortgages) and specific characteristics of the portfolio within categories or subcategories (e.g., vintage, credit score, loan-to-value ratio, regional distribution, industry mix, ratings distribution, or collateral type). Hypothetical behavioral responses by BHC management should not be considered as mitigating factors for the purposes of this analysis. For example, hedges already in place should be accounted for as potential mitigating factors, but not assumptions about potential future hedging activities.

Commitments and contingent and potential obligations: The analysis should reflect expectations of customer drawdowns on unused credit commitments under each scenario, as well as any assets and exposures that might be taken back on the balance sheet or otherwise generate losses under stressful economic conditions (e.g., assets held in asset-backed commercial paper conduits and other off-balance sheet funding vehicles to which the BHC provides support).

Unconsolidated entities to which the BHC has potential exposure are also within the scope of this exercise and should be considered. If it is envisioned that non-contractual support may be provided during a stressful environment for certain obligations or exposures of sponsored or third-party entities, these should be included in a BHC's analysis of contingent or potential obligations, and all associated impacts should be captured.

Losses on available-for-sale (AFS) and held-to-maturity (HTM) securities: BHCs should provide projected other-than-temporary impairments (OTTI) for AFS and HTM securities. OTTI projections should be based on September 30, 2013, positions and should be consistent with specified macroeconomic assumptions and standard accounting treatment. If the BHC bifurcates credit losses from other losses, the method for deriving the bifurcation should be provided in supporting documentation.

Other comprehensive income: Advanced approaches BHCs should project other comprehensive income (OCI), including unrealized gains and losses on their AFS securities, and the effect of changes in accumulated OCI on capital under each scenario in a manner consistent with the phasing-in of the revised capital requirements over the nine-quarter planning horizon.

Allowance for loan losses: BHCs should estimate the portion of the current allowance for loan losses available to absorb credit losses on the loan portfolio for each quarter under each scenario, while maintaining an adequate allowance along the scenario path and at the end of the planning horizon. Loan-loss reserve adequacy should be assessed against the likely size, composition, and risk characteristics of the loan portfolio throughout the planning horizon in a manner that is consistent with the BHC's projections of losses over that scenario.

Non-U.S. exposures: Loss, revenue, and loan-loss reserve projections should cover positions and businesses for the BHC on a global consolidated basis. To the extent that loss experience on foreign positions is projected to differ from that on U.S. positions, BHCs should provide supporting information to explain those differences. For example, if the BHC is using different loss rates for foreign positions, those foreign positions should be explicitly identified and reported separately, by position or loan type, in the BHC's supporting documentation.

Fair-value loans: BHCs may have loans that are held for sale or held for investment, for which they have adopted fair-value accounting (collectively, fair-value loans). For company-run stress tests conducted under the supervisory scenarios, BHCs should project losses on fair-value loans for each quarter throughout the nine-quarter planning horizon, using the macroeconomic scenarios, and report such losses in the relevant items on the PPNR projections worksheet of the FR Y-14A Summary schedule in accordance with the BHC's normal accounting procedures. For all company-run stress tests, including those conducted under BHC scenarios, BHCs should clearly document the method and key assumptions used to compute losses on fair-value loans.

Risk-weighted asset (RWA) projections: BHCs should provide detailed support for all assumptions used to derive projections of RWAs, including assumptions related to components of balance sheet projections (on- and off-balance sheet balances and composition), income statement projections, underlying risk attributes of exposures, and any known weakness in the translation of assumptions into RWA estimates for each scenario. For example, BHCs should demonstrate how credit RWAs over the planning horizon are related to projected loan growth under the macroeconomic scenario, increased credit provisions or charge-offs for loan portfolios, and changing economic assumptions as well as how market RWAs are related to market factors (e.g., volatility levels, equity index levels, bond spreads, etc.) and projected trading revenue.

Each BHC should demonstrate that these assumptions are clearly conditioned on a given scenario and are consistent with stated internal and external business strategies. If BHC-specific assumptions (other than broad macroeconomic assumptions) are used, the BHC should also describe these assumptions and how they relate to reported RWA projections. If the BHC's models for projecting RWAs rely upon historical relationships, the BHC should provide the historical data and clearly describe why these relationships are expected to be maintained in each scenario.

Treatment of trading and counterparty RWAs: Any BHC subject to the market risk rule must use standard specific risk charges for any position(s) or portfolio(s) for which the BHC has not received specific risk-model approval, incremental risk-model approval, or comprehensive risk-model approval as of January 6, 2014.²⁸ In addition, if a BHC does not have an approved Stressed Value at Risk (SVaR) model as of January 6, 2014, the BHC must specify this in writing.

Balance sheet projections: Balance projections are a critical input to loss and revenue estimates. BHCs are expected to demonstrate that the approach used to generate those projections is internally consistent and conditioned appropriately on the implications of the macroeconomic scenario. Ultimately, balances are driven by the dynamic interaction of various flows through the planning horizon. The models and business processes used to make balance projections should be sufficiently documented so as to allow for supervisory assessment.

Balance projections should reconcile to projections for originations, pay-downs, drawdowns, and losses under each scenario. In stressed macroeconomic scenarios, care should be taken to justify major changes in portfolio composition based, for example, on assumptions about a BHC's strategic direction, including events such as material sales or purchases. Loan balance projections should be consistent with internally generated paths of originations, pay-downs, drawdowns, losses, purchases, and sales under any scenario. The losses used in producing balances should be the same as those produced in internal loss-estimate modeling for the stress test. Prepayment behavior should link to the relevant economic scenario and the maturity profile of the asset portfolio. Any assumed reallocation of assets into securities or cash should recognize the limits of portfolio transformation under stress due to market pressures and current portfolio characteristics, including the likely state of interbank lending markets and deposit levels.

External consistency is also an important consideration for balance projections. To the extent that changes in the balance sheet are driven by a BHC's strategic direction, care should be taken to document and explain in detail that underlying assumptions are reasonable in a stressed economic environment. Specifically, BHCs should evaluate the consequences of other market participants possibly taking actions similar to their own in a stressed environment--for example, the possible positive outcomes that might be obtained if a BHC were the only market participant taking such actions in a particular market environment are likely to be mitigated if others are also attempting to take similar actions.

Global market shock in supervisory scenarios for the six largest trading BHCs: For company-run stress tests conducted under the supervisory scenarios, the six BHCs with substantial trading and counterparty exposures (trading BHCs) are required to apply a global market shock to their trading book and private equity positions (including their CVAs) as of a particular market close date and estimate trading and counterparty mark-to-market losses and incremental default risk (IDR) on their trading exposures.²⁹ The six trading BHCs are not required to estimate IDR losses on their counterparty exposures. The Federal Reserve will provide to these trading BHCs a set of hypothetical shocks to the risk factors most relevant to trading, private equity, and CVA positions. The global market shock should be applied to trading BHCs' trading book and private equity positions (including their CVAs) as of October 16, 2013.³⁰

Trading BHCs must use the set of hypothetical risk factor shocks the Federal Reserve provides to produce the profit and loss (P/L) estimates for their trading, private equity, and counterparty credit losses from the global market shock. All estimated losses associated with the global market shock the Federal Reserve provides as part of the supervisory scenarios should be reported in the initial quarter of the planning horizon.

In cases in which the specified shocks provided are not directly compatible with the BHC's internal systems, the BHC is expected to interpolate or extrapolate around the given points to determine the appropriate shock. Supporting documentation should include a description of the methods used to interpolate or extrapolate.

The result of the global market shock is to be taken as an instantaneous loss and reduction of capital calibrated on applicable trading book and private equity positions, as of a point in time. For CCAR 2014, this as-of-date is October 16, 2013. BHCs should not assume a related decline in portfolio positions or RWAs as a result of these market shock losses. The global market shock should be treated as an add-on that is exogenous to the macroeconomic and financial market environment specified in the supervisory stress scenarios.

These instantaneous losses are to be measured as an additional shock beyond the estimates of pre-provision net revenue (PPNR) and losses under the macroeconomic scenario. It is assumed that the global market shock could occur at any time over the nine-quarter planning horizon, though for the purposes of the post-stress capital analysis, these losses are run through net income in the first quarter of the planning horizon. By assuming no recoveries of the losses generated by the global market shock over the nine quarters, the capital impact is carried over throughout the planning horizon, with the effect of measuring post-stress capital ratios inclusive of the global market shock and the macro scenario in every quarter.

In projecting losses and PPNR under the supervisory stress scenarios related to its trading and counterparty positions, including private equity, if a BHC can demonstrate that its loss-estimation methodology stresses identical positions under both the global market shock and the macro scenario, the BHC may assume that the combined losses from such positions do not exceed losses resulting from the higher of either the losses stemming from the global market shock or those estimated under the macro scenario. However, the full effect of the global market shock must be taken through net income in the first quarter of the planning horizon.

If a BHC makes any adjustment to account for the identical positions, the BHC must provide documentation demonstrating that the losses generated under the macro scenario are on identical positions to those subject to the global market shock, break out each of the adjustments as a separate component of PPNR, and describe the rationale behind any such adjustments.

Counterparty default scenario component of supervisory scenarios for the eight global systemically important banks:Engagement in substantial trading or custodial operations makes the eight BHCs subject to the counterparty default scenario component particularly vulnerable to the default of their major counterparty or their clients' counterparty (in transactions for which the companies act as agents).³¹ To assess the effect of such a default on their capital, these BHCs are required to apply a counterparty default scenario component to their SFT and derivatives-related counterparty exposures.³² SFT activities subject to the counterparty default scenario component include all activities, excluding intraday transactions, that meet the definition of a repo-style transaction under section 2 of appendix G to 12 CFR part 225.³³ Similar to the global market shock, the counterparty default scenario component should be treated as an add-on to the macroeconomic and financial market scenarios specified in the Federal Reserve's supervisory adverse and severely adverse scenarios.

The counterparty default scenario component involves an instantaneous and unexpected default of a BHC's largest counterparty, and the potential losses and effects on capital associated with such a default.³⁴ A BHC should select its largest counterparty by identifying the counterparty that represents the largest total net stressed loss if the counterparty defaulted on its obligations related to derivatives and SFT activities as of October 16, 2013.³⁵ For the purposes of selecting their largest counterparty, BHCs should exclude the sovereign entities that are members of the G-7--Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States--and designated clearing counterparties.³⁶ The total net stressed loss amount associated with the largest counterparty defaulting is to be reported as the loss associated with the counterparty default scenario component.

While all eight BHCs must calculate net stressed losses on their derivative contracts, there are some differences in the way losses should be calculated for the six trading BHCs and the two non-trading BHCs so that the same losses are not counted under the global market shock and the counterparty default scenario component of the supervisory scenarios. Since the six trading BHCs calculate mark-to-market losses on their derivative-related counterparty exposures as part of the global market shock, they should calculate the net stressed loss for derivatives contracts as follows:

1. Calculate stressed net current exposure (Stressed Net CE), by applying the global market shock to current exposure and collateral values on the as-of date, as defined in the instructions for the FR Y-14A Counterparty Credit Risk schedule.
2. Subtract the notional amount of any single-name CDS hedges.³⁷
3. Multiply the result by one minus the recovery rate.
4. Subtract the stressed CVA loss attributed to the counterparty. This value is already included in the aggregate CVA losses reported on the FR Y-14A Summary template.
5. Exclude from the trading book stress results the mark-to-market gain related to single- name CDS realized in step (2) above.

Since the two non-trading BHCs are not subject to the global market shock, they should calculate the net stressed loss for derivatives contracts as follows:

1. Calculate Stressed Net CE, by applying the global market shock to current exposure and collateral values on the as-of date, as defined in the instructions for the FR Y-14A Counterparty Credit Risk schedule.
2. Subtract the notional amount of any single-name CDS hedges.
3. Multiply the result by one minus the recovery rate.

In addition, the two non-trading BHCs will need to complete parts of the FR Y-14A Counterparty Schedule.³⁸

All eight BHCs should compute the net stressed loss for SFTs as follows:

1. Compute Stressed Net CE, as defined in the instructions for the Securities Finance Transaction Profile by Counterparty worksheet of the FR Y-14A Counterparty Credit Risk schedule, by applying the global market shock to any SFT assets (securities/collateral) exchanged under repo-style transactions as defined in section 2 of appendix G to 12 CFR part 225.
2. Multiply Stressed Net CE by one minus the recovery rate.

To support supervisory estimates of losses arising from the counterparty default scenario component, companies will be required to report supplemental information on their SFT activities.

For all eight BHCs, the total net stressed loss amount for a counterparty is the sum of the net stressed losses for derivatives contracts and SFT activities, taking into account legal netting agreements in place for transactions with that counterparty.³⁹

In calculating the losses associated with the counterparty default scenario component of the supervisory scenarios, BHCs must apply the global market shock to stress the current exposure, any collateral posted or received, and, for derivatives-related exposures, the value of the transaction. BHCs must assume a recovery rate of 10 percent, reflecting significant uncertainty at the time of an unexpected counterparty default given highly distressed market conditions. BHCs should not assume any additional recovery in subsequent quarters of the planning horizon. All estimated losses from the counterparty default scenario component should be assumed to occur instantaneously and should be reported in the initial quarter of the planning horizon.

For SFT activities, BHCs must include potential losses associated with acting as principal for repurchase/reverse repurchase activities as well as potential losses that could arise from transactions in which the company is acting as an agent and provides default indemnification to a client. A BHC may account for netting agreements where applicable. Reinvestment of collateral should be included to the extent that the reinvested collateral is part of another SFT agreement.

Pre-provision net revenue (PPNR): PPNR estimates should be consistent with the economic and financial environment specified in the relevant scenario. BHCs must ensure that PPNR projections are explicitly based on, and directly tied to, balance sheet and other exposure assumptions used for related loss estimates. In addition, BHCs should apply assumptions consistent with the scenario and resulting business strategy when projecting PPNR for fee-based lines of business (e.g., asset management), while ensuring that expenses are appropriately taking into account both the direct effects of the economic environment (e.g., foreclosure costs) and projected revenues.

Residential mortgage representations and warranties: As part of PPNR, BHCs must estimate losses associated with requests by mortgage investors, including both government-sponsored enterprises and private-label securities holders, to repurchase loans deemed to have breached representations and warranties, or with investor litigation that broadly seeks compensation from BHCs for losses. BHCs should consider not only how the macro scenarios could affect losses from repurchased loans, but also a range of legal process outcomes, including worse-than-expected resolutions of the various contract claims or threatened or pending litigation against the BHC and against various industry participants. BHCs should provide appropriate support of the adverse litigation expense-related outcomes considered in their analysis.

Mortgage-servicing rights (MSR): All revenue and expenses related to MSRs and the associated non-interest income and non-interest expense line items must be reported on the PPNR schedules. Trading BHCs should not report changes in value of the MSR asset or hedges as trading losses resulting from the global market shock. Therefore, if derivative or other MSR hedges are placed in the trading book for FR Y-9C purposes and in alignment with Generally Accepted Accounting Principles, these hedges should not be stressed with the global market shock for CCAR purposes. Also, any BHCs that have adopted fair-value accounting for all or part of the MSR must not subject the MSR to the global market shock of the supervisory scenarios.

Operational-risk losses: Projections of losses arising from inadequate or failed internal processes, people and systems, or from external events must be reported by the BHC as operational-risk losses, a component of PPNR. BHCs should carefully evaluate the best way to capture operational-risk events, including the possibility of support for BHC-sponsored entities and potential charges related to legal reserves and provisions, in their loss projections. For cases in which BHCs cannot identify statistically significant correlations between macroeconomic factors and operational-risk losses, they are not required to use such an approach for estimating operational-risk losses under stress. In such cases, BHCs may use an alternative approach to generate losses for the BHC stress scenario and both supervisory stress scenarios.

Trading revenues in PPNR: All BHCs are expected to project PPNR, including trading-related revenues, conditional on the specifications of the assumed macroeconomic scenario (supervisory baseline, adverse, and severely adverse and BHC baseline and stress). In this regard, all BHCs with trading activities and private equity investments, including those BHCs that are not required to apply the global market shock or the counterparty default scenario component, must estimate any potential profit and loss impact that these positions might experience under the macroeconomic scenario. Estimated impacts should include those stemming from potential defaults on credit-sensitive positions held in the trading account and from counterparty credit exposures, and valuation declines (and recoveries specific to those declines) on loans, securities and other trading or MTM positions, and private equity investments (regardless of the portfolio in which a private equity position is booked). Private equity-related loss estimates should be broken out from other trading or MTM loss and should include consideration of drawdowns against commitments.

In making these projections, BHCs should demonstrate that their historical data selection and general approach is credible and applicable for the assumed macroeconomic scenario. BHCs should not assume that trading-related PPNR could never fall below historical levels.

Under the supervisory scenarios, the six trading BHCs should make these projections without consideration of any MTM losses on trading BHCs' portfolios that result from the global market shock. The MTM losses resulting from the global market shock should be treated as separate, one-time losses that occur in the initial quarter of the planning horizon (e.g., the fourth quarter of 2013 for CCAR 2014). Therefore, BHCs subject to the global market shock should not assume any interaction between the global market shock and projections of PPNR in the form of management actions (such as expense cuts) that would be taken in light of the global market shock to the trading portfolio or recoveries of the losses resulting from the global market shock over the planning horizon.

Similarly, the eight BHCs that are subject to the counterparty default scenario component should treat any losses from the component as separate, one-time losses that occur in the initial quarter of the planning horizon and assume no interaction between the counterparty default scenario component and projection of PPNR.

Regulatory capital transitions: In the transition plans, BHCs must include estimates of the composition and levels of regulatory capital, RWAs (based on the standardized approach and advanced approaches, where applicable), and leverage ratio exposures used to calculate regulatory capital ratios under the supervisory baseline scenario. The estimates must address the capital conservation buffer and any systemically important financial institution--or SIFI--surcharge that may be required under the revised regulatory capital rule on a fully phased-in basis. Each BHC's submission should include supporting documentation on all material planned actions that the BHC intends to pursue in order to meet the minimum regulatory capital ratios per the revised regulatory capital rule, including, but not limited to, the run-off or sale of existing portfolio(s), the issuance of regulatory capital instruments, and other strategic corporate actions. Where applicable, each BHC should include in its capital plan its best estimate of the SIFI surcharge to which the BHC expects to be subject, along with an explanation for its estimate, as set forth by guidance in the Basel Committee's SIFI surcharge framework.

Regulatory capital: BHCs are to provide data on the balances of regulatory capital instruments under current U.S. capital adequacy guidelines (and the revised regulatory capital rule, for quarters in which they are subject to the revised regulatory capital rule), aggregated by instrument type based on actual balances as of September 30 of the current calendar year and projected balances as of each quarter end through the remaining planning horizon.⁴⁰ BHCs are to report information both on a notional basis and on the basis of the dollar amount included in regulatory capital.

Back to section top

Supporting Documentation for Analyses Used in Capital Plans

Documentation of risk-identification practices: Each capital plan submission must include documentation outlining the risk-identification process the BHC uses to support the BHC-wide stress testing required in the capital plans. As previously noted, the capital planning process should consider all potential firm-wide risks. An assessment of the comprehensiveness of risk identification is a critical aspect of the supervisory assessment of CAP. An evaluation of the adequacy of a BHC's process for identifying the full range of relevant risks, given the BHC's exposures and business mix, will be a particular area of supervisory focus.

Documentation of internal stress testing methodologies: BHCs must include in their capital plan submissions thorough documentation that describes key methodologies and assumptions for performing stress testing on their portfolios, business, and performance drivers. Documentation should clearly describe the model-development process, the derivation of outcomes, and validation procedures, as well as assumptions concerning the evolution of balance sheet and RWAs under the scenarios, changing business strategies, and other impacts to a BHC's risk profile. Supporting documentation should clearly describe any known model weaknesses and how such information is factored into the capital plan. Senior management should provide its board of directors with sufficient information to facilitate the board's full understanding of the stress testing analytics used by the BHC for capital planning purposes, including any identified weaknesses that increase uncertainty in the estimation process.

Assumptions and approaches: BHCs must provide credible support for BHC-specific assumptions, including any known weaknesses in the translation of assumptions into loss and resource estimates. For example, an overreliance on past patterns of credit migration (the basis for roll rate and ratings transition models) may be a weakness when considering stress scenarios. BHCs should demonstrate that their approaches are clearly conditioned on the scenarios being used. While judgment is an essential part of risk measurement and risk management, including for loss-estimation purposes, BHCs should not be overly reliant on judgment to prepare their loss estimates and should provide documentation or evidence of transparency and discipline around the process. Any management judgment applied should be adequately supported and in line with scenario conditions and should be consistently conservative in the assumptions made to arrive at loss rates. There also should be appropriate challenge of assumptions by senior management and the board of directors.

Documentation related to the BHC scenario assumptions: BHCs should include appropriate documentation related to their individual approach to the BHC baseline and BHC stress scenarios in their capital plan submission. As outlined in the FR Y-14A Scenario schedule instructions, BHCs are required to provide detailed supporting documentation and a listing of all key variables assumed for each scenario. The Scenario schedule must be completed, and the variables listed should be comprehensive and appropriate for each BHC. In addition, BHCs should provide detailed documentation describing all methodologies and key assumptions impacting the BHCs' loss and PPNR estimates. The supporting documentation should describe how the BHC stress scenarios address the BHC's particular vulnerabilities. Supervisors will focus particular attention on a BHC's ability to adequately support the approach and methodologies used for its BHC scenarios.

Validation and independent review: In addition to being properly documented, models employed by BHCs should be independently validated or otherwise reviewed in line with model risk-management expectations presented in existing supervisory guidance. While use of existing risk-measurement models and processes provides a useful reference point for considering stress scenario potential loss estimates, BHCs should consider whether these processes generate outputs that are relevant in a stressful scenario. Use of such models may need to be supplemented with other data elements and alternative methodologies. It is critical that BHCs assess the vulnerability of their models to error, understand any other limitations, and consider the risk to the BHC should estimates based on those models prove materially inaccurate.⁴¹

Back to section top

Description of All Capital Actions Assumed over the Planning Horizon

A BHC's capital plan must describe all capital actions assumed over the planning horizon. As detailed in the capital plan rule, a capital action is any issuance of a debt or equity capital instrument, any capital distribution, and any similar action that the Federal Reserve determines could impact a BHC's consolidated capital. A capital distribution is a redemption or repurchase of any debt or equity capital instrument, a payment of common or preferred stock dividends, a payment that may be temporarily or permanently suspended by the issuer on any instrument that is eligible for inclusion in the numerator of any minimum regulatory capital ratio, and any similar transaction that the Federal Reserve determines to be in substance a distribution of capital.

To meet the requirements of the DFA stress test rule, a BHC must calculate its pro forma capital ratios using the following assumptions regarding its capital actions over the planning horizon for each of the supervisory baseline scenario, the supervisory adverse scenario, and the supervisory severely adverse scenario:

• For the initial quarter of the planning horizon, the BHC must take into account its actual capital actions taken throughout the quarter.
• For each of the second through ninth quarters of the planning horizon, the BHC must include in the projections of capital
  • 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 initial quarter of the planning horizon and the preceding three calendar quarters);
  • 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
  • an assumption of no redemption or repurchase of any capital instrument that is eligible for inclusion in the numerator of a regulatory capital ratio.⁴²

As part of the CCAR capital plan submission, BHCs should calculate pro forma capital ratios using their planned capital actions over the planning horizon under the BHC baseline scenario and the alternative capital actions projected to be taken under the BHC stress scenario. With respect to the planned capital actions under the BHC baseline scenario,

1. for the initial quarter of the planning horizon, the BHC must take into account the actual capital actions taken during that quarter; and
2. for each of the second through ninth quarters of the planning horizon, the BHC must include any capital actions proposed in its capital plan.

In the second quarter of the planning horizon (i.e., the first quarter of 2014), a BHC should include, for purposes of CCAR, capital actions in an amount that is no greater than the amount in its most recently approved capital plan. For net repurchases in the second quarter of the planning horizon, the BHC should submit an amount not greater than the unused portion of cumulative net repurchases under its most recently approved capital plan, where cumulative for CCAR 2014 is defined as the period beginning in the second quarter of 2013 and ending in the first quarter of 2014.

With respect to a BHC's projections under the supervisory baseline, adverse, and severely adverse scenarios, the BHC must calculate two sets of pro forma capital ratios on the two capital worksheets within the FR Y-14A Summary schedule using (1) the prescribed capital actions under the DFA stress test rule, and (2) the BHC's planned capital actions in the BHC baseline scenario. As described below, the planned capital actions under consideration by the Federal Reserve in its supervisory stress test under the capital plan rule will be those proposed in the BHC baseline scenario.

Back to section top

Expected Changes to Business Plans Affecting Capital Adequacy or Funding

Each BHC should include in its capital plan a discussion of any expected changes to the BHC's business plan that are likely to have a material impact on the BHC's capital adequacy and funding profile.⁴³ Examples of changes to a business plan that may have a material impact could include a proposed merger or divestiture, changes in key business strategies, or significant investments. In this discussion, the company should consider not just the impacts of these expected changes, but also the potential adverse consequences should the actions not result in the planned changes--e.g., a merger plan falls through, a change in business strategy is not achieved, or there is a loss on the planned significant investment.

Back to section top

Supervisory Expectations for a BHC's Capital Adequacy Process

An important component of a BHC's capital plan is a description of the BHC's process for assessing capital adequacy.⁴⁴ As discussed in supervisory guidance, a BHC's CAP should have as its foundation a full understanding of the risks emanating from its exposures and business activities, as well as stress testing analytics to ensure that it holds capital corresponding to those risks to maintain sufficient capital to maintain operations across the planning horizon. The detailed description of a company's CAP should include a discussion of how, under stressful conditions, the BHC will maintain capital commensurate with its risks--above the minimum regulatory capital ratios--and serve as a source of strength to its depository institution subsidiaries. The full range of supervisory expectations, including governance and oversight expectations to complement the CAP aspects mentioned above, are summarized in figure 1, "Seven principles of an effective capital adequacy process."

Figure 1. Seven principles of an effective capital adequacy process
Principle 1: Sound foundational risk management	The BHC has a sound risk-measurement and risk-management infrastructure that supports the identication, measurement, assessment, and control of all material risks arising from its exposures and business activities.
Principle 2: Effective loss-estimation methodologies	The BHC has effective processes for translating risk measures into estimates of potential losses over a range of stressful scenarios and environments and for aggregating those estimated losses across the BHC.
Principle 3: Solid resource-estimation methodologies	The BHC has a clear denition of available capital resources and an effective process for estimating available capital resources (including any projected revenues) over the same range of stressful scenarios and environments used for estimating losses.
Principle 4: Sufcient capital adequacy impact assessment	The BHC has processes for bringing together estimates of losses and capital resources to assess the combined impact on capital adequacy in relation to the BHC’s stated goals for the level and composition of capital.
Principle 5: Comprehensive capital policy and capital planning	The BHC has a comprehensive capital policy and robust capital planning practices for establishing capital goals, determining appropriate capital levels and composition of capital, making decisions about capital actions, and maintaining capital contingency plans.
Principle 6: Robust internal controls	The BHC has robust internal controls governing capital adequacy process components, including policies and procedures; change control; model validation and independent review; comprehensive documentation; and review by internal audit.
Principle 7: Effective governance	The BHC has effective board and senior management oversight of the CAP, including periodic review of the BHC’s risk infrastructure and loss- and resource-estimation methodologies; evaluation of capital goals; assessment of the appropriateness of stressful scenarios considered; regular review of any limitations and uncertainties in all aspects of the CAP; and approval of capital decisions.

Back to section top

References

• Other Formats

• Full report (PDF)

• Stay Connected

• Twitter
• YouTube
• Flickr
• RSS Feeds
• Subscribe