Evaluating the Information in the Federal Reserve Stress Tests

Abstract

Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in AbstractWe find evidence that the Federal Reserve stress tests (CCAR and DFAST) produce information about the stress-tested firms as well as other, non-stress-tested banking companies. Although standard event studies do not always show abnormal returns for the stress-tested sample on average, we argue that such tests are ill-suited for this sort of information event. Using a different empirical approach, we show that around stress test announcement dates, the absolute value of the cumulative abnormal returns (|CAR|) of stress-tested bank holding companies averages almost 3 percent. Cumulative abnormal trading volumes are more than 1 percentage point higher than a market model would predict. Absolute value abnormal returns and volumes are higher for more levered and riskier firms. We explore several theoretical hypotheses outlined in Goldstein and Sapra (2014) but find no evidence of negative welfare costs associated with the disclosure of stress test results.

Prudential Policies and Their Impact on Credit in the United States

“…Most studies in the stress testing literature have focused on the market reaction to stress tests announcements (Morgan et al, 2014;Candelon and Sy, 2015), but only a few have analyzed banks' balance sheet adjustments as a result of the these exercises. One of those studies, Flannery, Hirtle, and Kovner (2015), tests whether aggregate loan growth at Bank…”

“…In particular, the purpose of the 2011 CCAR was to assess whether institutions proposing to resume or increase dividend payments or other capital distributions had adequate capital and sufficiently robust capital planning processes to support the proposed actions (Flannery, Hirtle, and Kovner, 2015;Hirtle and Lehnert, 2014). Subsequently, the CCAR became the primary tool to evaluate the capital positions and capital planning processes of these institutions.…”

Stress Tests and Information Disclosure

“…Case 3. k 2 and G i ( ) is increasing in for every < 1 and every i 2 f1; :::; kg: 23 Using similar logic as in Section 4, one can show that the low- 22 Formally, G 1 ( ) is increasing when < 1 if, and only if, F 0 (1 )( 1 ) + F (1 ) 0. This reduces to 1 max f 2 : <1g f + F (1 ) F 0 (1 ) g. 23 A su¢ cient condition for this to happen is that 1 < max f 2 : <1g f + F (1 )…”

“…Otherwise, G 1 ( ) is decreasing when < 1, even if Condition 1 is satis…ed, and so, a simple cuto¤ rule is not optimal. 22 Intuitively, when 1 is very high, the cost 1 of giving the high score to type < 1 is very high, no matter how high is, and so, the dominant factor in deciding which types should be included in risk sharing is that the gain Pr(" < 1 ) is decreasing in . So, when 1 is su¢ ciently high, the low types and the only type above 1 obtain the high score, while the types in the middle obtain the low score.…”

March Madness in Wall Street: (What) Does the Market Learn from Stress Tests?

“…Ong and Pazarbasioglu (2013) also emphasize the importance of credibility, as established through independent governance of tests, the requisite technical expertise, and clearly communicated plans for any backstop needs. Flannery et al (2015) take a step further and look at the information revealed by stress tests as well as their possible welfare implications. Looking at the absolute value of cumulative abnormal returns and trading volumes around CCAR and DFAST exercises, they report that stress-tested bank holding companies experience significant price and activity reaction and that the reaction is more prominent for more levered and riskier firms.…”