The Fed Fires Not-Too-Subtle Warning Shot at Wall Street

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Bernanke's caveat on QE

Wall Street breathed a collective sigh of relief back in March when most every big bank passed the Federal Reserve’s stress test, indicating they were prepared to withstand a “severely adverse” economic scenario without needing assistance from Uncle Sam and all who fill his pockets. A follow-up study released on Monday wasn’t nearly as optimistic.

While admitting banks had “considerably improved” their regulatory capital planning, the Fed fired a warning shot across the bow of Wall Street: it’s still not good enough. The biggest headliner of the report is that many of the 18 largest banks are still lacking in at least one of five areas critical to capital planning and risk management. The Fed didn’t specify which banks were falling short.

Several banks have inadequate capital planning policies and “less-than-robust” controls, according to the report.  But the main issue the Fed has appears to revolve around the way big banks are applying the stress tests. It seems their assumptions just aren’t realistic.

Banks assessed their risks too broadly, failing to recognize their own “idiosyncratic vulnerabilities.” But while doing so, they assumed unique advantages over other banks that they believed would suffer more in difficult economic conditions.

Some banks “assumed that they would be viewed as strong compared to their competitors in a stress scenario and would therefore experience increased market share.” Assuming market gains in a rancid economy does sound a bit unrealistic.

The end result of the study: the Fed believes banks should hold capital that goes well beyond regulatory minimums and their own internal targets. The Fed didn’t share any specifics, so this acts as more of a warning – a heads up for future policy.

Strict capital requirements are aimed to safeguard the economy, but they also hamstring banks. Tough news for Wall Street.

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  1. Revisit your failure with objective eyes.
  2. Learn from those who survived theirs.
  3. Accept yours and move on.

(Source: The Daily Muse)

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