BSP readies bank stress test guidelines

THE BANGKO SENTRAL ng Pilipinas (BSP) will soon prescribe standards on the conduct of stress tests by banks, as part of efforts to improve risk management protocols and recovery plans, especially for “too-big-tofail” lenders.

As a rule, banks must conduct stress tests regularly to check how their balance sheets would hold up amid a funding crunch, in the process exposing potential weaknesses.

“Stress testing allows banks to prepare for events with severe financial impact,” the BSP’s policysetting Monetary Board said in a statement yesterday, noting that the new guidelines are aimed at further strengthening risk governance and boosting the safety and soundness of the banking system.

Routine stress testing assumes “severe but plausible” scenarios — such as assuming a 50% default rate in outstanding loans — which would then show the potential effects and risks posed by these episodes to a bank’s financial position.

“[ B] ased on the results of stress testing, banks may adopt proactive measures such as the implementation of capital buildup initiatives or enhancement of risk management practices all aimed at improving their resilience in times of actual crisis,” the central bank explained.

A bank’s board of directors is also expected to consider the results of regular stress tests in capital and liquidity planning, setting of risk appetite levels and planning business continuity measures in order to mitigate potential risks.

In the case of domestic systemically important banks — or the biggest players in the local financial system — the outcome of these stress exercises should also be factored in crafting recovery plans, the BSP added.

Banks have two years from the date the circular takes effect to streamline internal mechanisms and comply with the new standards.

Banks should employ multiple approaches for stress testing from a range of a simple sensitivity analysis to scenario-based exercises, depending on the scale of operations and the complexity of products and services offered.

Simpler requirements are set for thrift, rural and cooperative banks, the BSP said.

Those forming part of conglomerates need to conduct stress tests on a consolidated basis — or at the level of the parent bank, including all banking subsidiaries.

As regulator, the central bank conducts its own stress tests among entities it supervises in order to ensure that the country’s financial system remains sound.

Levels of capital buffers, money supply and real estate exposure are among the key metrics monitored and tested by the central bank in regularly overseeing the financial system. —