Supervisory Scenarios

Preface Executive Summary Supervisory Scenarios Supervisory Stress Test Framework and Model Methodology Supervisory Stress Test Results Appendix A: Supervisory Scenarios Appendix B: Firm-Specific Results Appendix C: Additional Aggregate Results

Supervisory Scenarios

On September 17, 2020, the Federal Reserve published the three supervisory scenarios for its December stress test: baseline, severely adverse, and alternative severe.⁷ This section describes the severely adverse and alternative severe scenarios that were used for the projections contained in this report. These scenarios were developed using the approach described in the Board's Policy Statement on the Scenario Design Framework for Stress Testing ("Scenario Design Framework").⁸ The severely adverse and alternative severe scenarios are not forecasts but rather hypothetical scenarios designed to assess the strength of banking organizations and their resilience to an unfavorable economic environment.

The December supervisory scenarios include trajectories for 28 variables. These include 16 variables that capture economic activity, asset prices, and interest rates in the U.S. economy and financial markets, and an additional three variables (real GDP growth, inflation, and the U.S./foreign currency exchange rate) for each of four foreign country blocs.

Similar to the June stress test, the Federal Reserve applied a global market shock to the trading portfolio of 11 firms with large trading and private equity exposures and a largest counterparty default (LCPD) scenario component to 13 firms with substantial trading, processing, or custodial operations (see "Global Market Shock and Counterparty Default Components").

Severely Adverse Scenario

Figures 3 through 8 illustrate the trajectories for some of the key variables describing U.S. economic activity and asset prices under the severely adverse scenario.

Figure 3. Unemployment
rate, 2014:Q1–2023:Q3 — Accessible Version | Return to text
Source: Bureau of Labor Statistics for historical data and Federal Reserve assumptions for the supervisory scenarios.

Figure 4. Real GDP growth
rate in the severely adverse and alternate severe scenarios, 2014:Q1–2023:Q3 — Accessible Version | Return to text
Source: Bureau of Economic Analysis for historical data and Federal Reserve assumptions for the supervisory scenarios.

Figure 5. Dow Jones
total Stock Market Index, 2014:Q1–2023:Q3 — Accessible Version | Return to text
Source: Dow Jones for historical data and Federal Reserve assumptions for the supervisory scenarios.

Figure 6. National House
Price Index in the severely adverse and alternate severe scenarios,
2014:Q1–2023:Q3 — Accessible Version | Return to text
Source: CoreLogic for historical data (seasonally adjusted by Federal Reserve) and Federal Reserve assumptions for the supervisory scenarios.

Figure 7. U.S. BBB corporate
yield, 2014:Q1–2023:Q3 — Accessible Version | Return to text
Source: ICE Data Indices, LLC, used with permission for historical data and Federal Reserve assumptions for the supervisory scenarios.

Figure 8. U.S. Market
Volatility Index (VIX) in the severely adverse and alternate severe
scenarios, 2014:Q1–2023:Q3 — Accessible Version | Return to text
Source: Chicago Board Options Exchange for historical data (converted to quarterly by Federal Reserve using the maximum quarterly close-of-day value) and Federal Reserve assumptions for the supervisory scenarios.

The severely adverse scenario is characterized by a severe decline in global economic activity accompanied by financial market distress. Consistent with the Scenario Design Framework, under the severely adverse scenario, the U.S. unemployment rate climbs to a peak of 12-1/2 percent in the fourth quarter of 2021 (see table A.5), a 3 percentage point increase relative to the initial level, the level in the third quarter of 2020.⁹ In line with the increase in the unemployment rate, real GDP falls 3-1/4 percent from the end of the third quarter of 2020 to its trough in the fourth quarter of 2021. The decline in activity is accompanied by a lower headline consumer price index (CPI) inflation rate, which quickly falls to an annual rate of about 1-1/4 percent in the fourth quarter of 2020, and then ranges from 1-1/4 percent to about 2-1/4 percent in the remaining quarters.

In the later quarters of the scenario, the unemployment rate declines at a pace comparable with the paths of severely adverse scenarios used in previous stress testing cycles. Over the scenario period, despite the reduction in the unemployment rate, the level of real GDP does not rise above the level in the baseline scenario.

Consistent with the severe decline in real activity, the interest rate for 3-month Treasury bills remains near zero throughout the scenario period. The 10-year Treasury yield rises gradually from about 1/4 percent during the fourth quarter of 2020 to about 1-1/2 percent by the end of the scenario period. The result is a steepening of the yield curve over the scenario period.

Asset prices drop sharply in this scenario. Equity prices decline more than 30 percent from the third to the fourth quarter of 2020, as the economy contracts sharply, and the U.S. Market Volatility Index (VIX) rises to a peak level of 70. Equity prices continue to fall in the first half of 2021 before gradually recovering, leaving them down about 23 percent for the year. They continue to recover but close the scenario period down about 4-3/4 percent from their value in the initial quarter. House prices and commercial real estate (CRE) prices also experience large declines. House prices fall about 26-3/4 percent from the third quarter of 2020 to the third quarter of 2022; from that trough, they rise about 4-1/2 percent during the rest of the scenario period. CRE prices decline 30 percent from the third quarter of 2020 to the fourth quarter of 2022 and stay close to that level for the remainder of the scenario period.

The international component of this scenario features sharp slowdowns in all developed country blocs, leading to recessions in the euro area, the United Kingdom, and Japan. Developing Asia has only a mild slowdown in economic activity in the scenario. With the continued weakness in economic activity, all of the foreign economies included in the scenario experience sizable declines in their inflation rates during the scenario period. The U.S. dollar appreciates against the euro, the pound sterling, and the currencies of developing Asia, but depreciates slightly against the yen, reflecting flight-to-safety capital flows.

Additional Key Features of the Severely Adverse Scenario

Stresses in the corporate loan market were assumed to be more intense for lower-rated firms. Declines in aggregate U.S. residential and CRE prices were assumed to be concentrated in regions that have experienced rapid price gains over the past two years. Declines in prices of U.S. housing and CRE were also assumed to be representative of risks to house prices and CRE prices in foreign regions and economies that have experienced rapid price gains over the past two years. Moreover, conditions across Latin American economies were assumed to be comparable to the sharp slowdown in the United States.

Comparison of the Current Severely Adverse Scenario and the June 2020 Severely Adverse Scenario

The severely adverse scenario features a smaller increase in the unemployment rate in the United States compared with the June severely adverse scenario. However, the current severely adverse scenario starts from a significantly higher unemployment rate, reflecting current economic conditions. The smaller increase in the unemployment rate reflects the Scenario Design Framework, which calls for a smaller increase in the unemployment rate when the unemployment rate is already elevated.

As of September 10, 2020, the consensus forecast from Blue Chip Economic Indicators had an unemployment rate of 9-1/2 percent in the third quarter of 2020.¹⁰ Given the weak initial economic conditions, the Scenario Design Framework calls for a 3 percentage point increase in the unemployment rate. Accordingly, the unemployment rate in the current severely adverse scenario reaches a peak of 12-1/2 percent. Interest rates rise in the current scenario, given their low starting values, whereas they fell in the June scenario. Asset price declines are comparable with the declines in the June scenario.

Alternative Severe Scenario

This alternative scenario is consistent with a number of potential adverse events, including a series of second waves of the COVID event that are not synchronized across different regions of the United States and the rest of the world, and related structural changes in labor markets. Accordingly, the alternative severe scenario is characterized by a less-severe initial drop in global economic activity relative to the severely adverse scenario, and a subsequent recovery that is more sluggish. Financial market stress is comparable with the stress assumed in the severely adverse scenario. The alternative severe scenario is designed to assess the strength and resilience of banking organizations to an alternative set of unfavorable economic conditions and is not a Federal Reserve forecast.

Under the alternative severe scenario, the U.S. unemployment rate climbs to a peak of about 11 percent in the fourth quarter of 2020 (see table A.7). This 1-1/2 percentage point increase in the unemployment rate departs from the Scenario Design Framework, which would call for the unemployment rate to rise at least 3 percentage points and to peak between the sixth and the eighth quarter of the scenario.¹¹ The unemployment rate stays at its 11 percent peak through the fourth quarter of 2021. By that quarter, the unemployment rate is about 4-1/2 percentage points higher than in the baseline scenario, but 1-1/2 percentage points lower than in the severely adverse scenario. However, by the end of the scenario period, the relationship with the severely adverse scenario is reversed: the unemployment rate in the alternative severe scenario is 9 percent in the third quarter of 2023, about 1-1/2 percentage points higher than in the severely adverse scenario.

Consistent with the increase in the unemployment rate, real GDP falls at an annualized rate of 9 percent in the fourth quarter of 2020 and then rises about 2 percent in 2021. Real GDP growth picks up over the remainder of the scenario period. The decline in activity is accompanied by a lower headline CPI inflation rate, which quickly falls to an annual rate of about 1 percent in the fourth quarter of 2020, and then is relatively steady over the rest of the 13-quarter period, ranging from 1-3/4 to 2-1/4 percent.

In line with the prolonged weakness in real activity, the interest rate for 3-month Treasury bills remains near zero throughout the scenario, which is identical to the path assumed in the severely adverse scenario. The 10-year Treasury yield rises gradually from 1/4 percent during the third quarter of 2020 to 1-3/4 percent by the end of the scenario period. The result is a slightly greater steepening of the yield curve over the scenario period than in the severely adverse scenario.

Financial conditions in corporate and real estate lending markets are stressed significantly. The spread between yields on investment-grade corporate bonds and yields on long-term Treasury securities widens gradually to about 5-3/4 percentage points in the third quarter of 2021 before falling to 2-3/4 percentage points at the end of the scenario period, an increase of 1 percentage point relative to the third quarter of 2020 and 3/4 percentage point higher than assumed in the severely adverse scenario. The spread between mortgage rates and 10-year Treasury yields widens to about 3-1/4 percentage points in the fourth quarter of 2020; it remains near this level through the fourth quarter of 2021 before gradually declining, and reaches 2 percentage points at the end of the scenario period. This end point is 1/4 percentage point higher than in the severely adverse scenario, reflecting the persistently weaker level of activity assumed in this alternative scenario.

Asset prices drop sharply in this scenario. Equity prices remain depressed longer than in the severely adverse scenario, bottoming out at the end, rather than the middle, of 2021. They fall about 16-1/4 percent from the third to the fourth quarter of 2020 as the economy contracts; this decline in equity prices is accompanied by a rise in the VIX, which reaches a peak of 70. Equity prices continue to fall through 2021, and at the end of 2021 are almost 50 percent lower than in the third quarter of 2020. They recover through the rest of the scenario period and end the scenario down about 13-1/2 percent from the third quarter of 2020. The VIX gradually decreases to 28 by the end of the scenario period. House prices and CRE prices also experience large overall declines. House prices fall 27 percent through the fourth quarter of 2022 and recover 3-3/4 percent through the rest of the scenario period, a path of house prices similar to the path in the severely adverse scenario. CRE prices decline 30 percent through the end of 2022 and stay close to that level for the remainder of the scenario, a path that matches the one in the severely adverse scenario.

In line with domestic developments, the international component of this scenario features a less-severe initial contraction in global economic activity than in the severely adverse scenario, but a less-robust recovery thereafter. With the continued weakness in economic activity, all of the foreign economies included in the scenario experience sizable declines in their inflation rates during the scenario period. As in the severely adverse scenario, the U.S. dollar initially appreciates against the euro, the pound sterling, and the currencies of developing Asia, but depreciates slightly against the yen, consistent with flight-to-safety capital flows.

Additional Key Features of the Alternative Severe Scenario

Comparison of the Alternative Severe Scenario and the Sensitivity Analysis Alternative Downside Scenarios

In June 2020, the Federal Reserve used several scenarios for additional sensitivity analysis to explore vulnerabilities of firms related to the COVID event.¹² The sources of stress considered in the alternative severe scenario are comparable to those for the W- and U-shaped scenarios for the sensitivity analysis released in June, albeit the rise in the unemployment rate envisaged in the new scenario is smaller but more persistent. These changes in the peak of the unemployment rate in the alternative severe scenario are in line with revisions to the forecasts of professional forecasters since June. Data released for the end of the second quarter and the first part of the third quarter of 2020 have generally led professional forecasters to revise downward the level of the unemployment rate expected to prevail during the remainder of 2020 and have significantly compressed the range of forecasts.

Comparison of the Alternative Severe Scenario and the June 2020 Severely Adverse Scenario

The June severely adverse scenario was designed and published before the onset of the COVID event. The alternative severe scenario features a smaller increase in the unemployment rate in the United States compared with the June severely adverse scenario. However, the alternative severe scenario starts from a significantly higher unemployment rate, reflecting current economic conditions. The relatively smaller increase in the unemployment rate departs from the Scenario Design Framework, which would call for the unemployment rate to rise at least 3 percentage points and to peak between the sixth and the eighth quarter of the scenario. Moreover, the unemployment rate remains near its peak for a greater number of periods. On the financial side, asset price declines are broadly consistent with those in the June scenario.

Global Market Shock and Counterparty Default Components

The global market shock is a set of hypothetical shocks to a large set of risk factors reflecting general market distress and heightened uncertainty. Firms with significant trading activity must consider the global market shock and recognize associated losses in the first quarter of the projection period. In addition, certain large and highly interconnected firms must apply the same global market shock when projecting losses under the LCPD scenario component.¹³ The global market shock is applied to asset positions held by the firms on a given as-of date. The as-of date for the December stress test global market shock is June 30, 2020. These shocks do not represent a forecast of the Federal Reserve.

The design and specification of the global market shock differ from those for the macroeconomic scenarios for several reasons. First, profits and losses from trading and counterparty credit are measured in mark-to-market terms, while revenues and losses from traditional banking are generally measured using the accrual method. Another key difference is the timing of loss recognition: the global market shock affects the mark-to-market value of trading positions and counterparty credit losses in the first quarter of the projection horizon; this timing is based on an observation that market dislocations can happen rapidly and unpredictably under stress conditions. Applying the global market shock in the first quarter of the projection horizon ensures that potential losses from trading and counterparty exposures are incorporated into trading firms' capital ratios at all points over the projection period.

The global market shock component is specified by a large set of risk factors that include, but are not limited to,

equity prices of key developed markets and developing and emerging market nations to which trading companies may have exposure, along with selected points along term structures of implied volatilities;
foreign exchange rates of most major and some minor currencies, along with selected points along term structures of implied volatilities;
selected-maturity sovereign debt yields (e.g., Treasury yields), swap rates, and other key rates for key developed markets and for developing and emerging market nations to which trading companies may have exposure;
selected maturities and expiries of implied volatilities that are key inputs to the pricing of interest rate derivatives;
selected expiries of futures prices for energy products, including crude oil (differentiated by country of origin), natural gas, and power;
selected expiries of futures prices for metals and agricultural commodities; and
credit spreads or prices for selected credit-sensitive products, including corporate bonds, credit default swaps, and loans by risk; non-agency residential mortgage-backed securities and commercial mortgage-backed securities by risk and vintage; sovereign debt; and municipal bonds.

The Federal Reserve considers emerging and ongoing areas of financial market vulnerability in the development of the global market shock. This assessment of potential vulnerabilities is informed by financial stability reports; supervisory information; and internal and external assessments of potential sources of distress such as geopolitical, economic, and financial market events.

The global market shock includes a standardized set of risk-factor shocks to financial market variables that apply to all firms with significant trading activity. Depending on the type of financial market vulnerabilities that the global market shock assesses, the market shocks could be based on a single historical episode, multiple historical periods, hypothetical (but plausible) events that are based on salient risks, or a hybrid approach comprising some combination of historical episodes and hypothetical events. A market shock based on hypothetical events may result in changes in risk factors that were not previously observed.

Risk-factor shocks are calibrated based on assumed time horizons. The calibration horizons reflect a number of considerations related to the scenario being modeled. One important consideration is the liquidity characteristics of different risk factors, which vary based on the specified market shock narrative. More specifically, calibration horizons reflect the variation in the speed at which trading companies could reasonably close out, or effectively hedge, risk exposures in the event of market stress. The calibration horizons are generally longer than the typical time needed to liquidate assets under normal conditions because they are designed to capture the unpredictable liquidity conditions that prevail in times of stress, among other factors.¹⁴ For example, more-liquid asset classes, such as interest rates, foreign exchange, or public equities, are calibrated to shorter horizons, such as three months, while less-liquid assets, such as non-agency securitized products or private equities, have longer calibration horizons, such as 12 months.

Severely Adverse and Alternative Severe Scenarios

Both the severely adverse and alternative severe scenarios include the same global market shock component, which incorporates widespread corporate defaults, ratings downgrades, severe declines in equity values, and increases in equity-implied volatility resulting from a worsening recession.

Spreads widen sharply for non-investment grade and lower-rated investment grade bonds as ratings-sensitive investors anticipate further downgrades and sell assets. Similarly, the leveraged loan market comes under considerable pressure from decreased demand. Open-ended mutual funds and exchange-traded funds (ETFs) that hold leveraged loans and high-yield bonds face heavy redemptions. Due to liquidity mismatches, mutual fund and ETF managers sell their most liquid holdings, leading to more extensive declines in the prices of fixed-income securities and other related assets. Price declines on leveraged loans flow through to the prices for collateralized loan obligations (CLOs). CLO prices suffer severe corrections associated with the devaluation of the underlying collateral and selling by concentrated holders desiring to reduce risk.

The broad selloff of corporate bonds and leveraged loans spills over to prices for other risky credit and private equity instruments. Credit spreads for emerging market corporate credit and sovereign bonds widen due to a fall in risk appetite and flight-to-safety considerations. Asset values for private equity experience sizable declines as leveraged firms face lower earnings and a weak economic outlook. Municipal bond spreads widen in line with lower municipal tax revenues associated with the severe weakening of the U.S. economy.

Given the current low level of short-term interest rates, short-term Treasury rates fall only slightly in this scenario. Longer-term Treasury rates fall as a result of flight-to-safety flows, but by a modest amount given the already-low interest rate environment. Short-term U.S. interbank lending rates rise as firms face increased funding pressure from a pullback in overnight lending, while longer-term swap rates fall in line with the declines in long-term Treasury rates.

Flight-to-safety considerations cause the U.S. dollar to appreciate somewhat against the currencies of most advanced economies, with the Japanese yen as a notable exception. The yen appreciates against the U.S. dollar as investors view the yen as a safe-haven currency. Flight-to-safety considerations cause precious metals to experience an increase in value while non-precious metals prices fall as a result of lower demand that in turn results from global economic weakness.

Comparison to the June 2020 Severely Adverse Scenario

The global market shock component is broadly consistent with the June severely adverse scenario as both emphasize a heightened stress to highly leveraged markets that causes CLOs and private equity investments to experience large market value declines. Moreover, there is a general rise in short-term interbank lending rates, highlighting a severe increase in funding pressures. A key difference is a milder decline in Treasury rates, which reflects that policy rates are now closer to zero. Shocks to equity values and short-term equity implied volatility are substantially larger. Energy price declines and related volatility increases are more pronounced, in general. The Swiss franc depreciates instead of appreciates against the U.S. dollar. Finally, stresses in the municipal bond market are more severe.

Comparison to the Sensitivity Analysis Alternative Downside Scenarios

The global market shock component reflects themes similar to those highlighted in the sensitivity analysis alternative downside scenarios. Key differences include a milder decline in Treasury rates, which reflects that policy rates are now closer to zero. Sovereign credit spreads widen less severely, particularly in the European periphery. In addition, changes to agency option-adjusted spreads are more modest given the increase in spread levels since the as-of date of the sensitivity analysis alternative downside scenarios.

Counterparty Default Component for the Supervisory Severely Adverse and Alternative Severe Scenarios

Firms with substantial trading or custodial operations are required to incorporate a LCPD scenario component for the resubmission of capital plans in the fourth quarter of 2020. The LCPD scenario component involves the instantaneous and unexpected default of the firm's largest counterparty.¹⁵

In connection with the LCPD scenario component, these firms are required to estimate and report the potential losses and related effects on capital associated with the instantaneous and unexpected default of the counterparty that would generate the largest losses across their derivatives and securities financing activities, including securities lending and repurchase or reverse repurchase agreement activities. The LCPD scenario component is an add-on to the macroeconomic conditions and financial market environments specified in the supervisory severely adverse and alternative severe scenarios.

The largest counterparty of each firm is determined by net stressed losses. Net stressed losses are estimated by applying the global market shock to revalue non-cash securities financing transactions (SFTs) (securities or collateral posted or received); and, for derivatives, the trade position and non-cash collateral exchanged. The as-of date for the December stress test LCPD scenario component is June 30, 2020—the same date as for the global market shock.¹⁶

Box 1. Macroeconomic and Financial Conditions

Since the Federal Reserve published the June stress test and sensitivity analysis results in the second quarter, macroeconomic and financial conditions have generally improved. Domestic and global policymakers responded to the deterioration in economic conditions with extraordinary measures to stabilize markets; to bolster the flow of credit to households, businesses, and communities; and to ensure that firms would remain resilient. The unemployment rate in the United States, which had been at a 50-year low at the start of 2020, soared to a post-war high of 14.7 percent in April before declining to 6.7 percent in November.¹ However, future economic conditions remain unusually uncertain as prospects for many businesses and unemployed workers largely depend on the course of the COVID event.

Banking Sector

The COVID event continues to affect the banking sector through its effects on business and household borrowing, leverage, earnings, and liquidity. Corporate borrowing rose sharply in the first half of the year along with a corresponding decline in business revenues to service those liabilities. Within CRE, vacancy rates increased over the same period as retail, office, and hotel properties exhibited the highest vulnerability. Household debt was moderate relative to income at the beginning of the year, but a further increase in unemployment may negatively affect households' abilities to repay that debt. In some cases, certain severely affected sectors are particularly vulnerable to additional outbreaks or lockdowns.²

Market functioning has improved and asset valuations have generally increased since the second quarter, partly due to policy actions, including asset repurchases and facilities set up under section 13(3) of the Federal Reserve Act. Nominal Treasury yields are at historically low levels, reflecting cautious expectations for economic growth and the Federal Reserve's monetary policy stance. During the most severe periods of stress in March and April, spreads on corporate bonds over comparable-maturity Treasury securities widened to their highest daily levels since the financial crisis. Leveraged loan spreads also widened in March and April, particularly for lower-rated loans. Since then, spreads declined substantially but remain quite elevated in heavily affected industries, such as in energy, airline, and leisure.

Firm earnings severely contracted in the first half of the year due to an increase in loan loss provisions, current expected credit loss methodology (CECL) implementation, and decreased net interest margins. These downward pressures on earnings were partly offset by an increase in trading revenues for the largest firms as market-making and investment banking fee income increased. The second and third quarter surge in deposit inflows and the large buildup of reserve balances associated with the Federal Reserve's large-scale asset purchases helped firms manage liquidity pressures and reduce funding risk.

Firms started the year with strong levels of capital and have maintained them throughout 2020, despite a slight dip in the first quarter. Firms have also shored up their capital substantially since the 2007–09 financial crisis, supported by post-crisis regulatory reforms including stress testing.

Uncertainty Remains

Despite the rebound in economic activity and improving investor sentiment, uncertainty around the course of the COVID event remains high. This uncertainty reflects the possibility of continued virus outbreaks, future lockdown measures, and delays in vaccine production or distribution. While fiscal stimulus and loss mitigation programs provided to date have been a stabilizing factor for households and businesses, ³ many households and businesses could face significant pressures if the COVID event worsens.

1. See U.S. Bureau of Labor Statistics (BLS), Unemployment Rate, https://fred.stlouisfed.org/series/UNRATE. Return to text

2. The unemployment rate in leisure and hospitality increased to 15.0 percent in November from 4.9 percent a year earlier. Overall nonagricultural private employment saw a smaller increase from 3.2 to 6.5 percent over the same period. See BLS, The Employment Situation - November 2020, https://www.bls.gov/news.release/archives/empsit_12042020.htm. Return to text

3. Scott R. Baker, R. A. Farrokhnia, Steffen Meyer, Michaela Pagel, and Constantine Yannelis, " Income, Liquidity, and the Consumption Response to the 2020 Economic Stimulus Payments," NBER Working Paper No. 27097 (Cambridge: National Bureau of Economic Research, May 2020), https://www.nber.org/papers/w27097. Return to text

References

7. See Board of Governors of the Federal Reserve System, Supervisory Scenarios for the Resubmission of Capital Plans in the Fourth Quarter of 2020 (Washington: Board of Governors, September 2020), https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20200917a1.pdf, for additional information and for the details of the supervisory scenarios. Return to text

8. See 12 C.F.R. pt. 252, appendix A. Return to text

9. The Scenario Design Framework suggests an increase in the unemployment rate in the range between 3 and 5 percentage points from its initial level, with the expectation that the Federal Reserve will select an increase from the lower end of the range when the unemployment rate is already elevated. Given the release of the scenarios late in the third quarter of 2020, the initial level from which the peak unemployment rate in the scenario was computed was based on the forecast from Blue Chip Economic Indicators for the third quarter of 2020. See Wolters Kluwer Legal and Regulatory Solutions, Blue Chip Economic Indicators. Return to text

10. See Wolters Kluwer Legal and Regulatory Solutions, Blue Chip Economic Indicators. Return to text

11. The approach described in the Scenario Design Framework includes the ability to incorporate salient risks, as might be required by unusual economic circumstances. Accordingly, the alternative severe scenario is characterized by a less-severe initial increase in the U.S. unemployment rate than called for by the Scenario Design Framework, but this increase is also more persistent. Return to text

12. The scenarios in that sensitivity analysis had a more rapid and more pronounced increase in the unemployment rate than what is suggested by the Scenario Design Framework. Return to text

13. All firms that were subject to the global market shock and LCPD components for the June stress test are also subject to the same components for the December stress test. Return to text

14. Markets that are well-functioning and that appear to be very liquid can undergo abrupt changes in times of financial stress, and the timing and severity of changes in market liquidity may diverge from historical experience. For example, prior to the 2007–09 financial crisis, AAA-rated private-label residential mortgage-backed securities would likely have been considered highly liquid, but their liquidity deteriorated drastically during the crisis period. Return to text

15. In selecting its largest counterparty, a firm subject to the LCPD component will not consider certain sovereign entities (Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States) or qualifying central counterparties (QCCP). See definition of QCCP at 12 C.F.R. § 217.2.
IHCs are not required to include any affiliate of the U.S. IHC as a counterparty. As in the U.S. final rule pursuant to the Dodd–Frank Act for Single Counterparty Credit Limits, an affiliate of the company includes a parent company of the counterparty, as well as any other firm that is consolidated with the counterparty under applicable accounting standards, including U.S. generally accepted accounting principles (GAAP) or International Financial Reporting Standards. Return to text

16. As with the global market shock, losses will be assumed to occur in the first quarter of the projection horizon. Return to text

Last Update: August 29, 2022

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