Five Big Banks Failed Federal Reserve's Annual Stress Tests

Five of the nation's biggest banks flunked their annual Federal Reserve stress tests for 2013. Citibank, the largest on the list, also came up short in 2012, and its back-to-back failures will prevent it from increasing shareholder dividends and moving ahead with share repurchases.

The failures are not quite so simple as failing to tuck reserves into the big bank equivalent of a mattress or rainy day fund. They illustrate that the Fed also holds bank management responsible for risk management and controls failures. For one bank, Utah-based Zions Bancorp, the Volcker rule, a Dodd-Frank Act requirement that places restrictions on proprietary trading, likely played a role. 

Based on “qualitative concerns,” the Federal Reserve also objected to the capital plans of Citigroup, HSBC North America Holdings, RBS Citizens Financial Group, and Santander Holdings. The Fed also rejected the capital plan from Zions because it did not meet minimum post-stress capital requirements.

The Dodd-Frank Act requires national banks with consolidated assets of more than $10 billion to conduct annual stress tests that assess their ability to withstand adverse economic conditions, such as spiking interest rates and high unemployment. The overall strength of the bank's capital planning process is also considered. The Fed examines banks with more than $50 billion in assets through its Comprehensive Capital Analysis and Review. After the Fed objects to a capital plan, the bank may only make capital distributions with written approval. It must also resubmit its capital plan following “a substantial remediation of the issues that led to the objections.”

Each of the admonished banks either failed to meet the CCAR minimum post-stress capital requirements or had deficiencies in their capital planning process.

The objection to Citigroup's plan reflects “significantly heightened supervisory expectations for the largest and most complex bank holding companies in all aspects of capital planning,” the Fed wrote in its assessment. While Citigroup has made “considerable progress in improving its general risk-management and control practices over the past several years,” its 2014 capital plan reflected numerous deficiencies in its capital planning practices, including areas previously identified as requiring attention that still lacked improvement.

Cited deficiencies included Citigroup's ability to project revenue and losses for material parts of its global operations and its internal stress testing that failed to adequately reflect its full range of business activities and exposures. “Taken in isolation, each of the deficiencies would not have been deemed critical enough to warrant an objection, but, when viewed together, they raise sufficient concerns regarding the overall reliability of Citigroup's capital planning process,” the Fed wrote. The bank has not yet made a decision as to when it will resubmit its plan.

HSBC, RBS Citizens, and Santander were new to the CCAR test and had weaknesses were significant enough to warrant an objection. HSBC and RBS Citizens were singled out for inadequate governance and weak internal controls around their capital planning processes. Deficiencies were found in RBS Citizens' practices for estimating revenue and losses under a stress scenario across all business lines. HSBC had deficiencies in its practices for estimating revenue and losses for material aspects of its operations.

Santander was cited for “widespread and significant deficiencies” across its capital planning processes including governance, internal controls, risk identification and risk-management, and its management information system. In a statement, the bank countered that after submitting its capital plan it executed an additional $1.75 billion capital increase, further solidifying its quality asset holdings. It will re-submit a revised capital plan.

The Fed objected to Zions' capital plan because its post-stress ratio high-quality, liquid assets measured against debt and riskier assets fell below the 5 percent minimum, to 3.6 percent. In a statement,  the bank said it will submit a new capital plan by April 30 that incorporates revised capital actions, effects of the Volcker rule, and actions taken to reduce risk in its securities portfolio.

The bank's capital plan suffered from a $387 million charge it took in late 2013 to slice away holdings in trust preferred securities that fell under the Volcker rule's prohibitions. Regulatory guidance, after the Zions sell-off, grandfathered pre-Volcker holdings.

The Fed approved capital plans from Ally Financial, American Express, Bank of America, Bank of New York Mellon, BB&T, BBVA Compass Bancshares, BMO, Capital One, Comerica, Discover, Fifth Third Bancorp, Goldman Sachs, Huntington Bancshares, JP Morgan Chase, Keycorp, M&T Bank, Morgan Stanley, Northern Trust, PNC Financial Services, Regions Financial, State Street, SunTrust, U.S. Bancorp, UnionBanCal, and Wells Fargo.The 30 institutions in CCAR this year have a combined $13.5 trillion in assets, approximately 80 percent of all U.S. bank holding company assets.