The Federal Reserve Board has directed its examiners to check whether banks that sell and manage mutual funds are prepared to cope with a sudden market downturn.
Echoing a concern raised by another banking agency, the Fed said a market drop could trigger "a heavy volume of customer inquiries, complaints, and redemptions."
The Fed aired the issue in a lengthy document describing broad new examination procedures for retail sales of nondeposit investment products.
Questions about whether banks are equipped to deal with a flood of redemptions have been mounting since this winter, when the stock and bond markets took a tumble.
As reported earlier this week, examiners from the Office of the Comptroller of the Currency have begun asking banks that manage mutual funds to make sure they have prepared for a possible wave of losses or redemptions.
The OCC is said to be concerned because of reports that a large bank had to cover losses on a money market mutual fund it manages. The bank, whose identity could not be learned, is expected to report the losses next month.
The Fed document, dated May 31, was sent to supervision chiefs in the central bank's 12 districts.
It is intended to guide Fed examiners on how to police banks' compliance with investment sales guidelines that were issued Feb.15 by the Fed and three other federal financial regulatory agencies.
The emphasis on contingency planning is one of the few new wrinkles in the exam guidelines, which cover such topics as program management, disclosures and advertising, the setting and circumstances of sales, training and supervision of sales personnel, and investment suitability.
"A major element of any contingency plan should be the provision of customer access to information pertaining to their investments," the Fed said.
"Other factors to consider in contingency planning include public relations and the ability of operations staff to handle increased volumes of transactions," it added.
Fed examiners also will call on trust departments to make disclosures about the uninsured nature of investment products to retail customers who are referred to trust units.
In a cover letter explaining the new exam procedures, Richard A. Spillenkothen, director of the Fed's division of banking supervision and regulation, said they should help "minimize duplication of examination efforts" by the Federal Reserve and the National Association of Securities Dealers.
The examination procedures were developed by a task force of reserve bank and board staff members. The guidelines will be updated as additional information about industry practices is obtained from examiners and as the federal banking agencies issue further guidance, Mr. Spilenkothen said.
The producers outlined by the Fed will be used in exams of state-chartered banks that belong to the Federal Reserve System and state-licensed U.S. branches and agencies of foreign banks.
They also may be used in inspections of bank holding companies and their nonbank subsidiaries that sell investment products on bank premises.
For the most part, Fed examiners will focus on whether deposit-taking activities are adequately separated from investment sales. But examiners who spot banks that haven't had NASD exams within the past two years are expected to alert their supervisors, who will consult with the Fed staff in Washington to decide how to proceed.
To get exam supervisors up to speed on the procedures, the Fed is planning to conduct a system-wide conference call and a one-and-a-half day seminar, Mr. Spillenkothen said in his letter.
