Stress tests are not officially required for banks with less than $10 billion in assets, but try telling that to bank examiners.
Stress testing has become part of annual regulatory exams even for banks small enough to be officially exempted from the process, according to a new survey by the consultancy Sageworks. The firm queried 180 banks and credit unions, 99% of which fall below the threshold of $10 billion in assets that the 2010 Dodd-Frank Act set for stress testing.
Nearly a third of the survey's respondents said that in their most recent bank exams they were pressured to begin stress testing or expand the practice. Another 3% said the examiners flat-out required them to start stress testing by the next exam.
That was in addition to the 43% of banks that said they already stress tested. Only a quarter of respondents said they do not stress test and that their examiners did not mention it.
"You're seeing it pick up a lot more this year," said Rob Ashbaugh, a senior risk management consultant at Sageworks. "Bigger banks are doing it, and it only makes sense that they ask the smaller banks to do it, too."
Ashbaugh emphasized that the stress testing done by community banks is usually narrow in scope and rarely involves macroeconomic modeling making it a very different beast from what the large banks do.
Banks with $50 billion or more in assets have to undergo the Federal Reserve's Comprehensive Capital Analysis and Review, a stringent exam that encompasses all of a bank's internal controls and requires a massive, companywide effort. Banks with $10 billion to $50 billion in assets have to undergo a simplified stress-testing process that they run themselves.
The three federal banking agencies the Federal Reserve Board, the Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency declined to comment Monday on the survey results. However, they have in the past tried to address community banks' perception that they are expected to do stress testing, issuing a joint statement three years ago acknowledging that the rules for large banks "are raising some questions on the part of community bankers regarding supervisory expectations for stress testing."
The statement emphasized that community banks are not expected to do the type of stress testing that bigger banks do. But it said that all banks, regardless of size, "should have the capacity to analyze the potential impact of adverse outcomes on their financial condition."
Ashbaugh said that more and more community banks are taking this to mean that they should do some form of stress testing, even if it is as relatively straightforward as estimating the losses on a portfolio of riskier loans using standard models for losses.
"Regulators are generally pretty appreciative when community banks have been doing it, especially if they have not been asked," Ashbaugh said.
The Sageworks survey comes with a few asterisks that suggest it may not be representative of all community banks' experience. Sageworks consults with community banks on their stress-testing processes, and the respondents were drawn fromits client base and social media networks. The banks, about half of which have less than $500 million in assets, took the survey online between April and June.
Caveats aside, though, stress testing may prove to be like a lot of trends in banking: starting among the biggest banks, slowly trickling down to the smallest ones.
The study showed that overwhelmingly, community banks said examiners' main concern is asset quality, and the pressure to stress test may be a by-product of that concern. In addition, community banks have to run stress tests if they have high commercial real estate concentrations, and CRE lending has been on the rise over the past year.
Ashbaugh emphasized that for community banks, stress testing is more a matter of expectations than formal rules. Examiners are in most cases not requiring community banks to stress test, just informally asking them, he said.
However, when it comes to the examination process, "even if you're just being asked or recommended to do something, you're going to do something," he said.