Liquidity Stress Testing

Client: A Major European Bank

Background

A major European bank became subject to Section 165 of the Dodd-Frank Wall Street Reform and Consumer Protection Act. As a result, the Federal Reserve Bank (FRB) required the bank to conduct stress testing separately for their U.S. operations to assess the potential impact of liquidity stress scenarios on cash flows, liquidity position, profitability and solvency.

A liquidity stress testing methodology and control framework needed to be established with liquidity stress tests based on three types of risk: Systemic, Idiosyncratic and Combined. Stress testing models were developed using Microsoft Excel but these needed to be automated using a robust technical infrastructure supported by automated controls.

Our Role

Reverse engineer the liquidity spreadsheet models to develop functional requirements for the Wholesale, Retail and US Branch businesses across the U.S.

Partner with Technology to develop an automated solution which would harmonize the stress test models by business line and also facilitate consolidated liquidity stress testing.

Act as product owner and provide subject matter expertise with reference to the stress testing methodology.

Functionally test and ensure production roll out of stress automation.

Outcome

2+ year implementation project.

Development of comprehensive set of business rules which identifies the balance sheet items required for stress testing.

Detailed functional requirements with data models, business flows, mathematical formulas and computation of stress coefficients.

Input data was sourced from transaction systems and the general ledger for none traded related transactions. Liquidity balance sheet requirements included Assets and Liabilities broken down by product and liquidity segmentation with maturing flows corresponding to their contractual maturity.

Stress calculations were formulated for each stress scenario, time horizon and stress factor.

The liquidity stress calculation included the calculation of net cash inflows and outflows from the renewal or non-renewal of secured transactions, derivatives, Loans, Deposits and the monetization of unencumbered securities.