Alert October 16, 2012

FDIC Approves Final Rule Regarding Large Bank Stress Tests; OCC, FRB Issue Consistent and Similar Rules

The FDIC announced the publication of its final rule (the “Final Rule”) requiring state nonmember banks and state savings associations with total consolidated assets of more than $10 billion (“Covered Banks”) to perform annual stress tests, report the results of the stress tests to the FDIC and the FRB and publish a summary of the results of such stress tests.  The OCC and the FRB issued consistent and similar final rules.

The Final Rule implements Section 165(i)(2) of the Dodd-Frank Act.  The FDIC issued a proposed version (the “Proposed Rule”) of the Final Rule on January 23, 2012, which was discussed in the January 24, 2012 Financial Services Alert.  The Final Rule adopts the requirements for stress tests provided in the Proposed Rule, but with certain modifications.

The Final Rule requires Covered Banks to perform annual stress tests and defines a stress test as an assessment of the potential effect of scenarios, including adverse scenario, baseline scenario and severely adverse scenario, on the consolidated earnings, losses and capital of a Covered Bank and a Covered Bank’s risks, exposures, strategies and activities.  The Final Rule points out that, for a Covered Bank, the required stress tests should be only one component of the Covered Bank’s broader stress testing activities as part of its risk management efforts.

The Final Rule, unlike the Proposed Rule, separates Covered Banks into two categories:  (1) Covered Banks with $50 billion or more in consolidated assets; and (2) Covered Banks with greater than $10 billion, but less than $50 billion in total assets.  Covered Banks with consolidated assets of $50 billion or more are required to conduct their first annual stress tests using financial data as of September 30, 2012 (but the FDIC may permit, on-a-case-by-case basis, a Covered Bank with $50 billion or more in consolidated assets to delay the performance of its stress test).  The stress test results from the larger category of Covered Banks will be due to the FDIC and the FRB in January 2013.

In a modification from the Proposed Rule, the Final Rule delays implementation to October 2013 of the stress testing requirement for Covered Banks with greater than $10 billion, but less than $50 billion in assets.  These smaller Covered Banks will use financial statement data as of September 30, 2013.

Under the Final Rule, the FDIC will provide annually to Covered Banks, no later than November 15th of the applicable year, at least three scenarios, including baseline, adverse and severely adverse scenarios, that a Covered Bank must use in performing its annual stress test.  The Final Rule also provides that the FDIC may require a Covered Bank “to include one or more additional scenarios in its stress test based on the [Covered  Bank’s] activities, level of complexity, risk profile, scope of operations and regulatory capital,” or other relevant factors.  The Final Rule also contemplates that the FDIC will require Covered Banks with significant trading activities to conduct an additional stress test using a trading and counterparty risk scenario.

Furthermore, the Final Rule requires a Covered Bank to establish and maintain a system of controls, oversight and documentation, including policies and procedures, designed to implement the stress testing requirements.  The Covered Bank’s Board of Directors and senior management must also review and approve the controls and stress testing program no less frequently than annually.

The Final Rule allows a Covered Bank owned by a holding company to conform to the stress testing and reporting timeline used by its parent holding company.  The Final Rule became effective on October 15, 2012.