Banking

Banks hit cruise control for the 2022 stress tests

WASHINGTON — Large banks remain well capitalized to handle an economic shock, according to findings from the Federal Reserve’s latest stress test.

The Fed said in a statement that the 2022 stress test results “showed that banks continue to have strong capital levels, allowing them to continue lending to households and businesses during a severe recession.”

Collectively, the 33 banks included in the assessment had a stress minimum capital ratio of 9.7%, more than double the minimum required by the central bank. Overall, tier one capital ratios declined by 2.7%, a slightly steeper fall than the 2.5% measured in last year’s stress test.

This year’s scenario was far more severe than the 2021 version, owing to the economic improvement seen last year. The Fed’s stress tests are designed countercyclically, meaning they are more demanding in prosperous times and less so during times of distress. The 2022 scenario called for a 5.8 percentage point increase in unemployment and an aggregate loss of more than $600 billion across all the banks examined.

Under the scenario, which also included a nearly 40% decline in commercial real estate prices and a 55% drop in stock values, the banks were projected to lose more than $460 billion on their loan portfolios and $100 billion on trading and counterparty activity. 

Only 23 institutions were subject to stress testing last year because of a 2019 rule change requiring banks with between $100 billion and $250 billion of assets to be evaluated every other year. Among banks that were tested in both years, aggregate losses under the 2022 scenario were only $50 billion greater than the year prior.

Fed officials attributed the resilience exhibited this year to banks having more capital reserves than normal on their balance sheets. The banks entered the scenario with an aggregate tier one capital ratio of 12.4%.

All 33 banks emerged with aggregate capital ratios well above the 4.5% minimum. Even the most adversely impacted institution, Huntington Bancshares Incorporated, registered a 6.8% ratio. For the second year in a row, Deutsche Bank US was the best capitalized institution coming out of the stress scenario, with a ratio of 22.8%. The Charles Schwab Corporation and Credit Suisse Holdings USA were not far behind at 20.2% and 20.1%, respectively.

The findings from the stress test will be used to set the stress capital buffer for each bank next year. Part of a simplified regulatory framework envisioned by former Fed supervision committee chair Dan Tarullo and fleshed out under former vice chair for supervision Randal Quarles, the stress capital buffer is a figure that dictates how much capital each bank must retain to meet obligations in a crisis environment. It includes the projected decline in tier one capital under the stress test scenario with the banks forecasted dividends for the next four quarters. 

Banks are expected to begin announcing their dividend plans next week and sometime after that, the Fed will roll out stress capital buffers for 2023.

Rob Nichols, President and CEO of the American Bankers Association, praised the results as firm evidence that the national banking system is well-capitalized and ready to withstand any number of economic headwinds.

“Today’s stress test results from the Federal Reserve show that the nation’s largest banks remain well positioned to absorb a range of potential economic shocks while continuing to support their customers, clients and communities,” The industry’s strong balance sheets and high capital levels ensure banks can make the loans that drive our economy even if they face substantial headwinds.”

Not everyone was pleased with the results. Senate Banking Committee chair Sherrod Brown, D-Ohio, urged the Fed to make the stress testing program more rigorous to encourage bank to retain still higher capital levels to ensure no federal bailouts would be necessary in the event of a real-world economic downturn.

“It is past time for the Fed to implement rigorous stress tests and strong capital requirements,” Brown said in a statement. “Wall Street bank CEOs have raised the alarm bells that an economic hurricane is coming, but the reality is that the largest banks aren’t doing what they need to do to protect the economy from the next crisis.”

John Heltman and Victoria Zhuang contributed to this report.

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