Liquidity Stress Testing and Liquidity Buffer Requirements: What Large U.S. Bank Holding Companies Must do on an at Least Monthly Basis
Starting January 1, 2015, U.S. Bank Holding Companies with at least $50 billion or more in total consolidated assets as of June 30, 2014 (“Large BHCs”) are required to conduct liquidity stress testing at least monthly using several planning horizons, and they must maintain a liquidity buffer sufficient to meet their projected net stressed cash-flow need over a thirty (30) day planning horizon. The requirements are detailed in the final rules (the “Final Rules”) implementing enhanced prudential standards required by Section 165 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”). The enhanced prudential standards are intended to mitigate risks to U.S. financial stability arising from the financial distress of large interconnected financial institutions. This Client Alert summarizes the liquidity stress test components and liquidity buffer requirements set forth in the Final Rules. Large BHCs have at least eight more months to update their internal management information and data processes, practices and procedures in order to comply with the enhanced prudential standards.
Liquidity Stress Test Scenarios, Horizons and Frequency:
Stress testing is to be conducted on at least a monthly basis, but the Federal Reserve Board may require a Large BHC to conduct stress testing more frequently. Each liquidity stress test must assess the potential impact of three different liquidity stress scenarios on the Large BHC’s cash-flow, liquidity position, and solvency, while taking into account its current liquidity condition, risks, exposures, strategies and activities, as follows:
- an adverse market condition,
- an idiosyncratic stress event for the Large BHC, and
- a combined market and idiosyncratic stress scenario.
Each test and its component scenarios must include four planning horizons (meaning a period over which the relevant stressed projections extend) consisting of an overnight planning horizon, a thirty (30) day planning horizon, a ninety (90) day planning horizon and a one (1) year planning horizon. Note that a line of credit does not qualify as a cash-flow source for purposes of a stress test with a planning horizon of thirty (30) days or less, but may qualify as a cash-flow source for longer planning horizons.
Test Results and the Liquidity Buffer:
The results of the stress test over the thirty (30) day planning horizon will be used to calculate the size of a Large BHC’s required liquidity buffer. Large BHCs must maintain a liquidity buffer sufficient to meet the projected net stressed cash-flow need over the thirty (30) day planning horizon under each of the above-scenarios. The net cash-flow need is the difference between the amount of a Large BHC’s cash-flow need and the amount of its cash-flow sources over the thirty (30) day planning horizon. The liquidity buffer must consist of highly liquid unencumbered assets, such as cash, securities issued or guaranteed by the U.S., a U.S. government agency, or a U.S. government sponsored enterprise, or any other asset that the Large BHC demonstrates to the satisfaction of the Federal Reserve Board.
Risk Management and Risk Committee Requirements:
Next month’s Client Alert will summarize the responsibilities imposed by the Final Rules on risk committees and chief risk officers of Large BHCs.
 Standards for Bank Holding Companies and Foreign Banking Organizations, 12 C.F.R. § 252.31(c) (2014)
 “Bank holding company” is defined in accordance with Section 2(a) of the Bank Holding Company Act, 12 U.S.C. § 1841(a). 12 C.F.R. § 252.1(c).
 12 C.F.R. §§ 252.35(a)-(b) (2014). The Final Rule is adopted as amendments to Federal Reserve Regulation YY. The Federal Reserve Board may require stress testing more frequently. § 252.35(a)(2).
 § 252 et seq.; Dodd-Frank, Pub. L. No. 111-203, § 165, 124 Stat. 1376 (2010) (codified at 12 U.S.C. § 5301).
 12 C.F.R. § 252 (Supp. I.A.).
 § 252.35(a)(2).
 §§ 252.35(a)(1)(i), (a)(3)(i) – (ii).
 § 252.35(a)(4).
 § 252.35(a)(5)(iii).
 § 252.35(a)(4).
 § 252.35(b).
 § 252.35(b)(2).
 § 252.35(b)(3).