Stress-testing
How do you ensure compliance in a fast changing environment?
Data, technological, and operational challenges involved in implementing a counterparty credit risk management process can be overwhelming. The regulatory workload will consume an ever greater proportion of resources as we expect regulators will require clients to perform more calculations, submit more data, metrics, exposure aggregation and concentration management, stress testing results, etc.
The federal bank regulatory agencies (Office of the Comptroller of the Currency, Federal Deposit Insurance Corporation, Board of Governors of the Federal Reserve System, Office of Thrift Supervision) issued guidance to help ensure banking organizations practice effective counterparty credit risk (CCR) management.
The guidance emphasizes that banking organizations should use appropriate reporting metrics and exposure limits systems, have well-developed and comprehensive stress testing, and maintain systems that facilitate measurement and aggregation of CCR across the organization.
In order to facilitate our clients needs to adapt to the regulatory environment without sacrificing efficiency and performance we have built specific functionality which is listed by each PrevioRisk module.
A sound stress-testing framework should include:
- Measurement of the largest counterparty-level impacts across portfolios, material concentrations within segments of a portfolio (such as industries or regions), and relevant portfolio- and counterparty-specific trends.
- Complete trade capture and exposure aggregation across all forms of trading (not just OTC derivatives) at the counterparty-specific level, including transactions that fall outside of the main credit system. The time frame selected for trade capture should be commensurate with the frequency with which stress tests are conducted.
- Stress tests, at least quarterly, of principal market risk factors on an individual basis (for example, interest rates, foreign exchange, equities, credit spreads, and commodity prices) for all material counterparties. Banking organizations should be aware that some counterparties may be material on a consolidated basis, even though they may not be material on an individual legal entity basis.
- Assessment of non-directional risks (for example, yield curve exposures and basis risks) from multi-factor stress testing scenarios. Multi-factor stress tests should, at a minimum, aim to address separate scenarios: severe economic or market events; significant decrease in broad market liquidity; and the liquidation of a large financial intermediary of the banking organization, factoring in direct and indirect consequences.
-
Consideration, at least quarterly, of stressed exposures resulting from the joint movement of exposures and related counterparty creditworthiness. This should be done at the counterparty specific and counterparty-group (for example, industry and region) level, and in aggregate for the banking organization. When CVA methodologies are used, banking organizations should ensure that stress testing sufficiently captures additional losses from
potential defaults. -
Identification and assessment of exposure levels for certain counterparties (for example, sovereigns and municipalities), above which the banking
organization may be concerned about willingness to pay. - Integration of CCR stress tests into firm-wide stress tests.