How Deep Is Your Loss?

By Regitze Ladekarl, FRM

Banks should hold enough capital.

That is hard to argue with no matter if you are on Team Regulator or Team Bank. Where it gets a little more contentious is how much is enough. ?

Burned by the Global Financial Crisis in 2008, regulators far and wide tend to equate enough with more.

And in that can of worms lies the robber* because the Fed just released the results of this year’s bank physical, also known as DFAST, and it was a mixed bed of nails to say the least:

• The aggregate decline (2.8 percentage points) in CET1 capital ratio under the severely adverse scenario is the largest since 2018
• There are no winners in stress test, only losses
• The biggest losers were credit card, commercial real estate, and corporate loan portfolios
• This was mostly expected

The banks would be able to lend to households and businesses in times of stress and still stay well above the minimum capital requirements.

Fast DFAST Facts

The way the Federal Reserve’s annual stress test, DFAST, works is that the banks hand over their financials and then the Fed run their own scenarios and models to get a gauge on how Team Bank is doing as a whole and compare the individual results apples to apples.

So, the banks are adequately capitalized…we guess?!?

We do understand that it must be a sour haystack for the Fed to swallow and still propose an, albeit smaller, increase in required capital ratio in the second round of the Basel III Endgame.?

Anyway, what the banks heard was a clear go-ahead on further dividends and buybacks.

“Our capital cup runneth over,” as Dimon of JPM said, and that vibe is expected to carry through to the earnings reporting over the coming weeks. It’s gonna be a smooth sight to fall on duff ears. ????

*Did you know a blended idiom is called a malaphor? How’s that for a fruit punch in the old canoe!????

Regitze Ladekarl, FRM, is FRG’s Director of Company Intelligence. She has 25-plus years of experience where finance meets technology.

This article is part of the FRG Risk Report, published weekly on the FRG blog. To read other entries of the Risk Report, visit frgrisk.com/category/risk-report/.