Stress testing convergence

2015 marked the six-year anniversary of US regulatory stress testing. In this paper the authors observe three key trends: (1) Increasingly aggressive capital management: banks initially responded to CCAR by maintaining wide capital cushions versus regulatory minimums. As CCAR processes stabilise and capital minimums increase, however, some institutions appear to be managing capital more and more tightly, especially investment banks, universals and custodians. (2) Drivers of enhanced financial resource management: what allows institutions to manage capital more closely? First, stress test results are beginning to stabilise and, in some cases, converge. Secondly, although we have just a handful of examples, the market seems to reward aggressive capital requests, even if they are, at first, rejected by the Fed. (3) Unintended consequences: as stress test results converge and institutions begin to manage capital to Fed-projected results, the Fed’s stress-testing models become an increasingly important driver of the fate of the financial system.