Capital Planning Under Basel III

Transcription

1 Capital Planning Under Basel III Thomas A. Farin Chairman of the Board 1 FMS Capital Planning Workshop Charting your way through troubling waters 2

2 Capital Planning 3 Part Series Session 1 High Points of the Basel III Capital Regulations Gathering Data Running a Static Analysis Adding Plan Assumptions Running a Dynamic Plan Session 2 Modeling Base Plan Assumptions Designing a Stress Test Running a Simple Stress Test Setting Capital Goals Based on the Stress Test Results Developing a Contingency Capital Plan Session 3 Advanced Stress Testing Integrating Your Capital Plan into Your Strategic/Business Plan 3 Capital Definitions Common Equity Tier 1 Capital (1 new standard) + Other Tier 1 Capital = Total Tier 1 Capital (2 standards) + Tier 2 Capital = Total Risk Based Capital (1 standard) Note: Tangible Equity to Total Assets is barrier point for the Severely Undercapitalized to Critically Undercapitalized designation. Basel III 558-9, 567, 934 4

3 Capital Ratio Definitions Common Equity Tier 1 Capital Ratio Common Equity Tier 1 Capital to Standardized Risk Weighted Assets (New Requirement) Tier 1 Capital Ratio Tier 1 Capital to Standardized Risk Weighted Assets (Increased Requirement) Total Capital Ratio Total Capital to Standardized Risk Weighted Assets Leverage Ratio Tier 1 Capital to Total Consolidated Assets Tangible Equity Ratio Tangible Equity to Total Consolidated Assets Basel III 47-62, 86-94, 558-9, 934, Table 6 PCA Basel I & Basel III Requirements Basel III 47-62, , Farin 558-9, & Associates 567, (old vs. new) 6

4 Capital Conservation Buffer Consists of Common Equity Capital Is measured as a percentage of risk assets Phases up to 2.5% over adequately capitalized minimums beginning 1/1/2016 through 1/1/2019 Institutions failing to maintain buffer have: Restrictions on dividends Restrictions on ability to retire capital Restrictions on discretionary management bonuses Basel III 63-78, Buffer phase in Requirement increases Buffer raises effective well capitalized requirement. 8

5 What Happens If You Fail to Cover? Restricts payment of discretionary bonuses, dividends, and retirement of capital instruments to applicable percentage of income. Basel III 63-78, 560-4, Changes to Risk Weights Takes effect Jan 1, 2015 Major change from proposal was in risk weighting of mortgage assets reverted back in the direction of Basel I for Standardized Approach banks. Credit conversion factors for off balance sheet positions are roughly the same as under Basel I although one of the category shifts will be significant for many community banks. 10

6 How Risk Weights Work Leverage Requirements Denominator Tier 1 Leverage Ratio Tangible Capital Ratio 11 Risk Based Requirements Denominator Common Equity RBC Tier 1 RBC Total RBC Unsettled Transactions Primary deal with situations where bank is exposed when transaction takes longer than normal to settle. Transactions relate to securities, foreign exchange, and commodities. Risk weights Days after contracted settlement date 5 to15 100% 16 to % 31 to % 46 or more 1250% Basel III ,

7 Securitization Exposures Most common situation is credit risk retained under MPF programs when mortgages are sold to FHLBs. Of course there are other potential situations where an institution carries credit risk on a transaction that took a financial instrument off its balance sheet. Defines: Definition of a securitization exposure Due diligence requirements Operational requirements for traditional securitizations Operational requirements for synthetic securitizations Clean-up calls Risk Weighted amounts for securitization exposures Exposure amounts for securitization exposures Gains on sale of credit-enhancing interest-only strips Exceptions under securitization framework Overlapping exposures Servicer cash advances Implicit support Calculation formulas, etc. Basel III , Securitization Exposures - SSFA RW = (((K A A) / (D-A) * 1250%) + ((D - K A ) / (D-A) * 1250% * K SSFA ) Generally considers: Weighted average capital requirement of underlying exposures Portion of the underlying exposure that has significant credit risk 90 days past due, bankruptcy, in foreclosure, held as REO, has contractually deferred payments. Threshold at which credit losses will be allocated to the exposure Threshold at which all principal is lost This is the Simple Supervisory Formula Approach (SSFA) there are more complex methods available. Basel III ,

8 These are Minimums How will you do this? Basel III 50, 94-95, OCC Stress Testing Guidance Issued issuances/bulletins/2012/bulletin html Lays out process for top down Credit Risk Stress Testing and lays out general stress testing approach. Stress Testing and Capital Planning Implies stress testing is required The OCC expects every bank, regardless of size or risk profile, to have an effective internal process to (1) assess its capital adequacy in relation to its overall risks, and (2) to plan for maintaining appropriate capital levels. 7 Stress testing can be a prudent way for a community bank to identify its key vulnerabilities to market forces and assess how to effectively manage those risks should they emerge. If the results of a stress test indicate that capital ratios could fall below the level needed to adequately support the bank s overall risk profile, the bank s board and management should take appropriate steps to protect the bank from such an occurrence. This may include establishing a plan that requires closer monitoring of market information, adjusting strategic and capital plans to mitigate risk, changing risk appetite and risk tolerance levels, limiting or stopping loan growth or adjusting the portfolio mix, adjusting underwriting standards, raising more capital, and selling or hedging loans to reduce the potential impact from such stress events. Implies you need contingency capital Plan. OCC Subject: Community Bank Stress Testing 16

9 Capital Planning Steps 1. Assess Your Static Position 2. Assess Your Dynamic Position 3. Design Stress Scenarios 4. Run A Stress Test 5. What is Your Definition of Failure 6. Modify Your Base Plan 7. Develop Contingency Capital Plan 8. Set Your Capital Goals Develop the Written Portion of the Plan Loop 1. Assess Your Position - Static met Curr RC R Adjustments Adjust RC R Capital Based on schedule RC R 3/31/2015 Common Equity Tier 1 Capital Total Tier 1 Capital Total Risk Based Capital Common Equity Tier 1 Capital b. Qualifying CET1 Items 1. Common Stock plus surplus less treas stock & Unearned ESOP Retained earnings AOCI CET1 Minority interests includable in CET CET1 before adjustments Common Equity Tier 1 Adjustments 6. LESS: Goodwill net of associated DTLs LESS: Intang assets (less goodwill and MSA) net of assoc DTL LESS: DTAs arriving from LCF net of DTLs and val allow AOCI Adjustments (Opt Out) 1 Yes, 0 No 1 a. LESS: Net unrealized G/L on AFS securities b. LESS: Net unrealized loss on AFS preferred stock c. LESS: Net accumulated G/L on cash flow hedges d. LESS:Attributable to defined postretirement plans e. LESS: Net unrealized G/L on HTM sec recorded in AOCI AOCI Adjustments (Opt in) f. LESS: Accum G/L on Credit Risk Affected Fair Val of liab not MTM

10 1. Assess Your Position - Static Met Curr RC R Adjustments Adjust RC R Capital Based on schedule RC R 3/31/2015 Common Equity Tier 1 Capital Total Tier 1 Capital Total Risk Based Capital Common Equity Tier 1 Other Adjustments 10.a. LESS: Unrealized net G/L on FV of Liab Due to Chgs in Cred Risk b. Other ded(addns) to CET1 before threshold deductions LESS: Non Sig Inv in Capital of Uncon Fin Inst that Exceed Thresh Subtotal on which 10% and 15% threshold calcs are based Deductions for Items Subject To the Indiv 10% Thresh Limit 13. LESS: Sig invest in capital of fin institutions in common stock LESS: MSAs net of associated DTLs LESS: DTAs resulting from temporary differences LESS: Addl deductions for exceeding 15% threshold limit LESS: Deductions from CET1 because insuff capital in AT1 and T Total adjustments and deductions Net common equity tier Additonal Tier 1 Capital 20. Additional Tier 1 instruments plus related surplus Nonqual capital inst subject to phase out from AT Tier 1 minority interest not includable in CET Additional Tier 1 Capital before deductions LESS: Additionl Tier 1 Capital Deductions Total additional Tier Total Tier 1 Capital Assess Your Position - Static Met Curr RC R Adjustments Adjust RC R Capital Based on schedule RC R 3/31/2015 Common Equity Tier 1 Capital Total Tier 1 Capital Total Risk Based Capital Tier 2 Capital 27. Tier 2 capital instruments plus related surplus Non Qual capital inst subject to phase out from Tier Total capital minority interest not qualifying for Tier a. ALLL includable in Tier Unrealized gains on AFS pref stock classified as equity a. Tier 2 Capital before deductions LESS: Tier 2 capital deductions Total Tier 2 capital a. Total Capital Total Assets for the Leverage Ratio 36. Average Total Consolidated Assets LESS: Deductions from CET1 and Additional Tier : LESS: Other Deductions from (additions to) assets for lvg Ratio : Total Assets for Leverage Ratio Total Risk Weighted Assets 40.a. Total Risk Weighted Assets Risk Based Capital Ratios 41. Common Equity Tier 1 Capital Ratio 0.00% 0.00% 0.00% 42. Tier 1 Capital Ratio 0.00% 0.00% 0.00% 43. Total Capital Ratio 0.00% 0.00% 0.00% Leverage Capital Ratio 44. Tier 1 Leverage Ratio 0.00% 0.00% 0.00% Capital Buffer 46.a. Capital Conservation Buffer 0.00% 0.00% 0.00% 20

11 1. Assess Your Position - Static met RC Risk Weight Allocation (RCR) Asset Allocation by Risk Weight 3/31/2015 Adjustments 0.0% 20.0% 50.0% 100.0% 150.0% Total Assets Non Earning Assets Entered % of Total Assets Entered 1. Cash & Balances Due From Dep Inst (RC A) a. Non Int bear Balances and currency and coin 0 b. Interest bearing balances 0 2. Securities 0 0 Securities are broken out in detail on Call Inv a. Held to Maturity Securities (RC B col A) b. Available for Sale Securities (RC B col D) Fed Funds sold and sec purch under repo a. Federal Funds sold b. Securities purchased under agrmt to resell Loans and Leases Held for Sale Loans are broken out in detail on Call Loans a. Residential Mortgage Exposures b. High Volatility Commercial Real Estate c. Exposures Past Due 90 days or on Non Accrual d. All other exposures Loans and Leases net of unearned income Loans are broken out in detail on Call Loans a. Residential Mortgage Exposures b. High Volatility Commercial Real Estate c. Exposures Past Due 90 days or on Non Accrual d. All other exposures LESS: Allowance for Loan & Lease Loss 0 0 Total Lns & Leases Net of Unearn Income and ALLL (RC) 0 200% Assess Your Position - Static met RC Risk Weight Allocation (RCR) Asset Allocation by Risk Weight 3/31/2015 Adjustments 0.0% 20.0% 50.0% 100.0% 150.0% 7. Trading Assets (RC D) All Other Assets Premises & Fixed Assets (RC) 0 Other Real Estate Owned (RC M) 0 Invest in Unconsolidated Subs and assoc comp (RC) 0 Direct and Indirect inv in R/E ventures (RC) 0 Intangible Assets: Goodwill 0 Other Intangible Assets (RC M) 0 Other Assets (RC F) 0 a. Separate Bank Owned Life Insurance b. Default fund contributions to central parties Securitization Exposures: On and Off Balance Sheet 9. On Balance Sheet Securitization Exposures a. Held to Maturity Securities 0 0 b. Available for Sale Securities 0 0 c. Trading Assets 0 0 d. All other on balance sheet securitization exposures Off Balance sheet securitization exposures Total balance sheet assets % 22

12 1. Assess Your Position - Static met RC C RC N 90+ PD RC N Non Acc Asset Allocation by Risk Weight 3/31/2015 Total Loans Total Loans Entered % of Total Loans Entered 1. Loans Secured by Real Estate a. Construction, land dev & other land lns family residential construction lns. 2. Other const, land dev, and other land lns b. Loans secured by farmland c. Secured by 1 4 family residential prop 1. Revolving open end loans secured by Closed end loans secured by 1 4 fam res a. Secured by first liens b. Secured by junior liens d. Secured by multi fam (5+) nonfarm res e. Secured by nonfarm nonres prop 1. Secured by owner occ nonfarm nonres 2. Secured by other nonfarm nonres prop f. In foreign offices 2. Loans to depository inst and bank accept a. To commercial banks in the U.S. 1. To U.S. brnch and agencies or forgn banks 2. To other banks in foreign countries b. To other depository institutions in U.S. c. To banks in foreign countries 1. To Foreign branches of other U.S. banks 2. To other banks in foreign countries 3. Loans to finance agrcltr prod and lns to fmrs Assess Your Position - Static met RC C RC N 90+ PD RC N Non Acc Asset Allocation by Risk Weight 3/31/ Commercial and Industrial Loans a. To U.S addressees (domicile) b. To non U.S. adressees (domicile) 6. Loans to individuals for households & family a. Credit cards b. Other revolving credit plans c. Automobile loans d. Other consumer loans 7. Loans to foreign govts and official inst 8. Obligations of states and pol subdivisions 9. Loans to nondepository financial inst & other a. Loans to nondepository financial inst b. Other Loans 1. Loans for purchasing or carrying securities 2. All other loans (except consumer) 10. Lease financing receivables a. Leases to individuals for household, family b. All other leases 11. Less: any unearned income on loans Total 24

13 1. Assess Your Position - Static met RC B HTM Fair Value RC B AFS Fair Value Asset Allocation by Risk Weight 3/31/2015 Total Securities Total Securities Entered % of Total Securities Entered 1. U.S. Treasury Securities U.S. Agency and Corp Obligations (less MBS) a. Issued by U.S. Government Agencies b. Issued by U.S. Govt Sponsored Agencies Securities issued by States & Pol. Subdiv. In U.S Mortgage backed Securities (MBS) a. Residential mortgage pass through securities: 1. Guaranteed by GNMA Issued by FNMA and FHLMC Other pass through securities b. Other residential MBS 1. Issued or guaranteed by U.S. Govt agencies Collateralized by MBS issued by US Govt Agen all other residential MBS c. Commercial MBS 1. Commercial mortgage pass through securities a. Guaranteed by FNMA, FHLMC, or GNMA b. Other pass through securities Other commercial MBS a. Issued or guaranteed by U.S. Govt agencies b. All other commercial MBS Asset backed sec and structured fin. Prod. a. Asset backed securities (ABS) b. Structured financial products. 1. Cash Synthetic Hybrid Other debt securities a. Other domestic debt securities b. Foreign debt securities Inv in mutual funds and other equity sec Total Assess Your Position - Static met Curr RC Liabilities Based on schedule RC 3/31/2015 Total Liabilities 13. Deposits 13.a. In domestic offices 0 13.a.1 Non Interest Bearing 0 13.a.2 Interest Bearing 0 13.b In foreign offices 0 13.b.1 Non Interest Bearing 0 13.b.2 Interest bearing Fed Funds Purchased and Securities Sold under REPO 0 14.a Federal Funds Purchased Trading liabilities Other Borrowed money Subordinated notes and Debentures Other Liabilities Total Liabilities 0 26

14 1. Assess Your Position - Static 27 Capital Planning Steps 1. Assess Your Static Position 2. Assess Your Dynamic Position 3. Design Stress Scenarios 4. Run A Stress Test 5. What is Your Definition of Failure 6. Modify Your Base Plan 7. Develop Contingency Capital Plan 8. Set Your Capital Goals 9. Develop the Written Portion of the Plan Loop 28

15 2. Business Plan Assumptions Note that ROA and growth assumptions are from the 2 year plan. 2 nd Year results were continued through following years. Loan growth exceeds asset growth causing a shift from 20% risk weight Category to 100% risk weight category. Continues at second year Level until 20% RW assets drop below 10% of assets. 1. Assess Your Position - Dynamic 30

16 Capital Planning Steps 1. Assess Your Position 2. Determine Your Buffer Needs 3. Set Your Capital Goals After Running Stress Test 4. Develop & Test Your Base Plan 5. Design Stress Scenarios 6. Rerun Stress Tests 7. Develop Contingency Capital Plan 8. Evaluate Effect of Plan Goals - Credit Stress Testing Transaction level applies stress tests at loan level. Rolls up to overall results. Often referred to as bottom up stress testing. Top down stress testing Loan portfolio disaggregated call report, GL, A/L model, NAS Code, etc. Uses estimated loss experience at the disaggregated level. Rolls up to overall results Recommendation Get started now! OCC Subject: Community Bank Stress Testing 32

17 Top Down Test Step 1 Disaggregated at call report level Two Year Stressed Losses OCC Subject: Community Bank Stress Testing 33 Top Down Test Step 2 Losses from Step 1 Additional PLL Income Impact OCC Subject: Community Bank Stress Testing 34

18 Top Down Test Step 3 Income Effect from Step 2 Drop in Tier 1 Leverage Ratio is 2.8% Minimum Capital Buffer on Tier 1 Leverage Requirement is 2.8% OCC Subject: Community Bank Stress Testing 35 Session 2 Stress Testing Setting Capital Goals Developing Contingency Capital Plan 36

19 Session 2 Modeling Base Plan Assumptions Designing a Stress Test Running a Simple Stress Test Setting Capital Goals Based on the StressTest Results Developing a Contingency Capital Plan 37