[Federal Register Volume 83, Number 225 (Wednesday, November 21, 2018)]
[Rules and Regulations]
[Pages 58724-58739]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-25350]
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FEDERAL RESERVE SYSTEM
12 CFR Parts 211 and 238
[Docket No. R-1569]
RIN 7100-AE82
Large Financial Institution Rating System; Regulations K and LL
AGENCY: Board of Governors of the Federal Reserve System (Board).
ACTION: Final rule.
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SUMMARY: The Board is adopting a new rating system for large financial
institutions in order to align with the Federal Reserve's current
supervisory programs and practices for these firms. The final rating
system applies to bank holding companies and non-insurance, non-
commercial savings and loan holding companies with total consolidated
assets of $100 billion or more, and U.S. intermediate holding companies
of foreign banking organizations established under Regulation YY with
total consolidated assets of $50 billion or more. The rating system
will assign component ratings for capital planning and positions,
liquidity risk management and positions, and governance and controls,
and introduces a new rating scale. The Federal Reserve will assign
initial ratings under the new rating system in 2019 for bank holding
companies and U.S. intermediate holding companies subject to the Large
Institution Supervision Coordinating Committee framework and in 2020
for all other large financial institutions. The Board is revising
provisions in Regulations K and LL so they will remain consistent with
certain features of the new rating system.
DATES: The final rule is effective on February 1, 2019.
FOR FURTHER INFORMATION CONTACT: Richard Naylor, Associate Director,
(202) 728-5854, Molly Mahar, Associate Director, (202) 973-7360,
Vaishali Sack, Assistant Director, (202) 452-5221, Christine Graham,
Manager, (202) 452-3005, Division of Supervision and Regulation; Laurie
Schaffer, Associate General Counsel, (202) 452-2272, Benjamin W.
McDonough, Assistant General Counsel, (202) 452-2036, Scott Tkacz,
Senior Counsel, (202) 452-2744, Keisha Patrick, Senior Counsel, (202)
452-3559, or Christopher Callanan, Counsel, (202) 452-3594, Legal
Division, Board of Governors of the Federal Reserve System, 20th and C
Streets NW, Washington, DC 20551. Telecommunications Device for the
Deaf (TDD) users may contact (202) 263-4869.
SUPPLEMENTARY INFORMATION:
Table of Contents
I. Background
II. Notice of Proposed Rulemaking and Overview of Comments
III. Overview of Final Rule and Modifications From the Proposal
IV. Final LFI Rating System
A. Applicability
B. Timing and Implementation
C. LFI Rating Components
D. LFI Rating Scale
E. General Comments
V. Changes to Existing Regulations
VI. Comparison of the RFI and LFI Rating Systems
VII. Regulatory Analysis
A. Paperwork Reduction Act
B. Regulatory Flexibility Analysis
C. Solicitation of Comments on Use of Plain Language
List of Subjects
Appendix A--Text of Large Financial Institution Rating System
I. Background
The Board is adopting a new supervisory ratings framework for
certain large financial institutions that is designed to:
Align with the Federal Reserve's current supervisory
programs and practices;
Enhance the clarity and consistency of supervisory
assessments and communications of supervisory findings and
implications; and
Provide transparency related to the supervisory
consequences of a given rating.
The final ratings framework applies to bank holding companies and
non-insurance, non-commercial savings and loan holding companies with
total consolidated assets of $100 billion or more, and U.S.
intermediate holding companies of foreign banking organizations
established under Regulation YY with total consolidated assets of $50
billion or more.
In the years following the 2007-2009 financial crisis, the Federal
Reserve developed a supervisory program specifically designed to
enhance resiliency and address the risks posed by large financial
institutions to U.S. financial stability (LFI supervisory program). As
set forth in SR letter 12-17/CA letter 12-14, the LFI supervisory
program focuses supervisory attention on the core areas that are most
likely to threaten the firm's financial and operational strength and
resilience (capital, liquidity, and governance and controls).\1\ This
orientation is intended to reduce the likelihood of the failure or
material distress of a large financial institution, and reduce the risk
to U.S. financial stability in the event of failure.
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\1\ ``Financial strength and resilience'' is defined as
maintaining effective capital and liquidity governance and planning
processes, and sufficiency of related positions, to provide for
continuity of the consolidated organization (including its critical
operations and banking offices) through a range of conditions.
``Operational strength and resilience'' is defined as
maintaining effective governance and controls to provide for
continuity of the consolidated organization (including its critical
operations and banking offices) and to promote compliance with laws
and regulations, including those related to consumer protection,
through a range of conditions.
Under SR letter 12-17/CA letter 12-14, ``banking offices'' are
defined as U.S. depository institution subsidiaries and the U.S.
branches and agencies of foreign banking organizations.
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The Federal Reserve coordinates its supervision of firms that pose
the greatest risk to U.S. financial stability through the Large
Institution Supervision Coordinating Committee (LISCC). The LISCC
supervisory program conducts annual horizontal reviews of LISCC firms
and firm-specific examination work focused on evaluating those firms'
(i) capital adequacy under normal and stressed conditions; (ii)
liquidity positions and risk management practices; (iii) recovery and
resolution preparedness; and (iv) governance and controls.\2\ For large
financial institutions that are not LISCC firms, the Federal
[[Page 58725]]
Reserve performs horizontal reviews and firm-specific supervisory work
focused on capital, liquidity, and governance and control practices,
which are tailored to reflect the risk characteristics of these
institutions.
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\2\ See the list of firms included in the LISCC supervisory
program at https://www.federalreserve.gov/bankinforeg/large-institution-supervision.htm.
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Since 2004, the Federal Reserve has used the ``RFI/C(D)'' rating
system (referred to as the ``RFI rating system'') to communicate its
supervisory assessment of every bank holding company regardless of its
asset size, complexity, or systemic importance.\3\ The RFI rating
system is focused on the risk management practices (R component) and
financial condition (F component) of the consolidated organization, and
includes an assessment of the potential impact (I component) of a bank
holding company's nondepository entities on its subsidiary depository
institution(s).
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\3\ See SR letter 04-18, ``Bank Holding Company Rating System,''
69 FR 70444 (December 6, 2004), at https://www.federalreserve.gov/boarddocs/srletters/2004/sr0418.htm.
The Federal Reserve adopted to apply the RFI rating system on a
fully implemented basis to all savings and loan holding companies
(SLHCs) with total consolidated assets of less than $100 billion,
excluding SLHCs engaged in significant insurance or commercial
activities. See 83 FR 56081 (November 9, 2018). The Federal Reserve
had applied the RFI rating system to SLHCs on an indicative basis
since assuming supervisory responsibility for those firms from the
Office of Thrift Supervision in 2011.
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The Federal Reserve has not modified the RFI rating system to
reflect the substantial changes to the statutory and regulatory
framework relating to large financial institutions, or the Federal
Reserve's implementation of the LFI supervisory program in recent
years. In light of these changes, the Board is adopting a new rating
system applicable to these firms that is more closely aligned with the
LFI supervisory program, so that the ratings more directly communicate
the results of the Federal Reserve's supervisory assessment.
Because the statutory, regulatory, and supervisory framework for
community and regional bank holding companies has not undergone
material changes since the financial crisis, the RFI rating system
remains a relevant and effective tool for developing and communicating
supervisory assessments for those firms. Therefore, the RFI rating
system will continue to be used in the supervision of these
organizations.
II. Notice of Proposed Rulemaking and Overview of Comments
On August 17, 2017, the Board invited public comment on a notice of
proposed rulemaking to adopt a new rating system for large financial
institutions (proposed LFI rating system).\4\ The proposed LFI rating
system would have applied to bank holding companies and non-insurance,
non-commercial savings and loan holding companies with total
consolidated assets of $50 billion or more, and U.S. intermediate
holding companies (U.S. IHCs) of foreign banking organizations
established under Regulation YY.\5\
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\4\ 82 FR 39049 (August 17, 2017).
\5\ 12 CFR 252.153.
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Under the proposed LFI rating system, each banking organization
would have been assigned ratings for three separate components: Capital
Planning and Positions; Liquidity Risk Management and Positions; and
Governance and Controls. The ratings would have been assigned using a
four-point non-numeric scale (Satisfactory/Satisfactory Watch,
Deficient-1, and Deficient-2).\6\ A firm would need a ``Satisfactory''
or ``Satisfactory Watch'' rating for each of the three component
ratings to be considered ``well managed'' for various purposes under
the Board's rules and federal law. The proposal would not have included
the assignment of a standalone composite rating or any subcomponent
ratings. In addition, the proposal would have amended certain
provisions of the Board's existing regulations (Regulation K and
Regulation LL) to make them compatible with the proposed rating scale.
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\6\ In the proposed LFI rating system, Satisfactory Watch was a
subcategory of ``Satisfactory.''
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The Board received 16 comments on the proposal from supervised
firms, trade associations, industry consultants, and individuals. In
addition, Federal Reserve staff held several meetings on the proposal
with members of the public and obtained supplementary information from
certain commenters. Summaries of these meetings are available on the
Board's public website.
Most commenters generally supported the proposal to develop a new
rating system that would be aligned with the Federal Reserve's LFI
supervisory program. However, many commenters also expressed concerns
regarding specific aspects of the proposal, including the applicability
and implementation of the proposed LFI rating system and its underlying
components, the lack of a standalone composite rating, the ratings
scale, and the consequences of ratings assigned under the rating
system.
Separately, the Board invited comment on two other proposals
closely related to the proposed LFI rating system. The first proposal
addressed proposed guidance on supervisory expectations for boards of
directors, which set forth attributes of an effective board of
directors of LFIs,\7\ and the second proposal addressed an LFI's
management of business lines and independent risk management and
controls.\8\ The Board continues to consider comments on these
proposals, and thus, is not adopting either proposal at this time.
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\7\ 82 FR 37219 (August 9, 2017).
\8\ 83 FR 1351 (January 11, 2018).
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III. Overview of Final Rule and Modifications From the Proposal
The final rating system adopts the core elements of the proposed
LFI rating system, with certain modifications to address commenter
concerns. Consistent with the proposal, a banking organization will be
assigned three component ratings: Capital Planning and Positions;
Liquidity Risk Management and Positions; and Governance and Controls.
In addition, although the final LFI rating system retains a four-
category, non-numeric rating scale, it identifies the top two
categories as ``Broadly Meets Expectations'' and Conditionally Meets
Expectations'' to align with the definitions of those categories.
IV. Final LFI Rating System
A. Applicability
In the proposal, the LFI rating system would have applied to bank
holding companies, non-insurance, non-commercial savings and loan
holding companies, and U.S. IHCs of foreign banking organizations with
$50 billion or more in total consolidated assets. The Board received
several comments regarding the applicability of the LFI rating system.
For example, one commenter suggested that the Board should use risk-
based factors instead of asset size to determine which firms are
subject to the LFI rating system. Another commenter suggested that the
$50 billion threshold should be raised.
In addition to the comments received, the Board has taken into
consideration that since the proposal, section 401 of the Economic
Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA)
amended section 165 of the Dodd-Frank Wall Street Reform and Consumer
Protection Act (Dodd-Frank Act) to modify the $50 billion minimum asset
threshold for general application of enhanced prudential standards.\9\
Effective immediately on the date of its enactment, bank holding
companies with total consolidated assets equal to or greater than $50
billion and less than
[[Page 58726]]
$100 billion were no longer subject to these standards.\10\
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\9\ Public Law 115-174, section 401, 132 Stat. 1296 (2018).
\10\ Section 401(f) of EGRRCPA also provides that any bank
holding company, regardless of asset size, that has been identified
as a Global Systemically Important Bank (GSIB) under the Board's
GSIB capital surcharge rule shall be considered a bank holding
company with $250 billion or more in total consolidated assets for
purposes of applying the standards under section 165 and certain
other provisions. EGRRCPA section 401.
The Board issued two statements--one individually, and the other
jointly with the FDIC and OCC--that provided information on Board-
administered regulations and associated reporting requirements that
EGRRCPA immediately affected. See Board and Interagency statements
regarding the impact of the Economic Growth, Regulatory Relief, and
Consumer Protection Act (EGRRCPA), July 6, 2018, available at
https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20180706a1.pdf; https://www.federalreserve.gov/newsevents/pressreleases/files/bcreg20180706b1.pdf. The statements describe
interim positions that the Board and other agencies have taken until
the agencies finalize amendments to their regulations to implement
EGRRCPA.
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In consideration of the comments received and the statutory changes
under EGRRCPA, the final LFI rating system is being adopted for bank
holding companies and, non-insurance and non-commercial savings and
loan holding companies with total consolidated assets of $100 billion
or more, and for U.S. IHCs of foreign banking organizations established
under Regulation YY with total consolidated assets of $50 billion or
more.\11\ The decision to increase the asset threshold to $100 billion
for bank holding companies and non-insurance, non-commercial SLHCs is
consistent with the minimum threshold for enhanced prudential standards
established by EGRRCPA as well as the Board's intention to tailor
certain of its regulations for domestic firms to implement EGRRCPA.\12\
The Board has retained the asset threshold of $50 billion for U.S. IHCs
of foreign banking organizations as it continues to consider
appropriate tailoring of its regulations for FBOs in light of EGRRCPA;
however, the Board may adjust this asset threshold in the future if
necessary.
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\11\ For a bank holding company and savings and loan holding
company, total consolidated assets of $100 billion or more will be
calculated based on the average of the firm's total consolidated
assets in the four most recent quarters as reported on the firm's
quarterly financial reports filed with the Federal Reserve. A firm
will continue to be rated under the final LFI rating system until it
has less than $95 billion in total consolidated assets, based on the
average total consolidated assets as reported on the firm's four
most recent quarterly financial reports filed with the Federal
Reserve. As noted in the proposal, the Federal Reserve may determine
to apply the RFI rating system or another applicable rating system
in certain limited circumstances.
SLHCs are considered to be engaged in significant commercial
activities if they derive 50 percent or more of their total
consolidated assets or total revenues from activities that are not
financial in nature under section 4(k) of the Bank Holding Company
Act of 1956, as amended (12 U.S.C. 1843(k)). SLHCs are considered to
be engaged in significant insurance underwriting activities if they
are either insurance companies or hold 25 percent or more of their
total consolidated assets in subsidiaries that are insurance
companies. SLHCs that meet these criteria are excluded from the
definition of ``covered savings and loan holding company'' in Sec.
217.2 of the Board's Regulation Q. See 12 CFR 217.2.
\12\ See 83 FR 56081 (November 9, 2018).
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Bank holding companies with total consolidated assets of at least
$50 billion but less than $100 billion will continue to be evaluated
subject to the RFI rating system. The Board is currently reviewing
existing supervisory guidance with respect to these firms to determine
whether it is appropriate to make revisions to further distinguish
supervisory expectations for firms with total consolidated assets of
less than $100 billion.
The proposed LFI rating system would not have applied to SLHCs that
are predominantly engaged in insurance or commercial activities. The
Board continues to consider the appropriate regulatory regime for these
firms. As such, the Board will continue to rate these SLHCs on an
indicative basis under the RFI rating system as it considers further
the appropriate manner to assign supervisory ratings to such firms on a
permanent basis.\13\
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\13\ Concurrent with the issuance of this final LFI rating
system, the Board adopted the RFI rating system for SLHCs that are
depository in nature. See supra fn. 3. The RFI rating system will
cease to apply to SLHCs with $100 billion or more in total
consolidated assets upon the effective date of LFI rating system for
such firms. The Board also continues to consider the appropriate
regulatory regime for systemically important nonbank financial
companies designated by the Financial Stability Oversight Council
(FSOC) for supervision by the Federal Reserve.
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B. Timing and Implementation
Under the proposal, the initial set of LFI ratings would have been
assigned starting in 2018. Several commenters provided views regarding
the timing and implementation of the final LFI rating system. For
instance, commenters suggested that Federal Reserve delay
implementation of the LFI rating system for firms with assets of less
than $250 billion until the completion of regulatory reforms. Other
commenters requested that the Board coordinate the implementation of
the final LFI rating system with the related guidance setting forth
attributes of effective boards and expectations for the management of
business lines and independent risk management and controls, and the
Federal Reserve provide more clarity regarding the implementation of
the guidance.\14\ Another commenter requested that the Federal Reserve
run a pilot program before implementing the final LFI rating system.
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\14\ Comments related to implementation of the LFI rating system
for FBOs are discussed below.
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In light of the changes to the application of enhanced prudential
standards under EGRRCPA, the Board is currently considering ways to
tailor the regulatory and supervisory framework for firms that are not
in the LISCC portfolio. Accordingly, in order to conduct that review
and seek public comment on any proposed revisions to the Board's
regulations, the Federal Reserve will continue to use the RFI rating
system for ratings in 2019 for holding companies with assets of $100
billion or more and U.S. intermediate holding companies of foreign
banking organizations that are not subject to the LISCC framework. The
Federal Reserve will assign ratings using the final LFI rating system
beginning in early 2020.\15\
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\15\ In early 2020, banking organizations that are not LISCC
firms will receive all three component ratings under the LFI rating
system; following the initial rating assignment, updates to
individual rating components may be assigned and communicated to the
firm on a rolling basis, but at least annually.
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For bank holding companies and U.S. IHCs of foreign banking
organizations subject to the LISCC framework, the Federal Reserve will
begin assigning ratings using the final LFI rating system in early
2019. In early 2019, LISCC firms will receive all three component
ratings under the LFI rating system; following the initial rating
assignment, updates to individual rating components may be assigned and
communicated to the firm on a rolling basis, but at least annually.
The Board believes that it is important to have the LFI rating
system become effective soon in order to align the supervisory rating
system with the Board's current consolidated supervisory framework for
large financial institutions. This alignment will enhance the clarity
of the Board's supervisory program, as both the Board's supervisory
assessment of a firm and its related assignment of the firm's ratings
will directly relate with the three core areas of focus in the
consolidated supervisory framework: Capital, liquidity, and governance
and controls. For example, supervisory assessments of a firm's capital
and liquidity can be prominently reflected in the ratings assigned
under the LFI rating system, whereas such assessments are less easily
communicated within the structure of the RFI rating system. To ensure
that ratings are assigned in a consistent and fair manner, the Federal
Reserve is implementing staff training and will undertake a multi-level
review and vetting before ratings are assigned.
As noted above, the Board invited comment on two sets of guidance
that
[[Page 58727]]
related to the governance and controls component rating--the first
established principles regarding effective boards of directors focused
on the performance of a board's core responsibilities, and the second
set forth core principles of effective senior management, the
management of business lines, and independent risk management and
controls for large financial institutions. The Board continues to
consider comments on both proposals, and thus, is not adopting either
set of guidance at this time. Given that the guidance establishing
principles regarding effective boards of directors is not finalized,
the Federal Reserve intends to rely primarily on principles set forth
in SR letter 12-17/CA letter 12-14 and safety and soundness to assess
the effectiveness of a firm's board of directors. Given that the
management of business lines and independent risk management and
controls guidance is not finalized, the Federal Reserve will rely on
existing risk management guidance to assess the effectiveness of a
firm's management of business lines and independent risk management and
controls.\16\
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\16\ Existing risk management guidance includes, but is not
limited to, SR letter 95-51, ``Rating the Adequacy of Risk
Management Processes and Internal Controls at State Member Banks and
Bank Holding Companies;'' SR letter 03-5, ``Amended Interagency
Guidance on the Internal Audit Function and its Outsourcing;'' SR
letter 12-17/CA letter 12-14, ``Consolidated Supervision Framework
for Large Financial Institutions;'' SR letter 10-6, ``Interagency
Policy Statement on Funding and Liquidity Risk Management,'' SR
letter 13-1/CA letter 13-1, ``Supplemental Policy Statement on the
Internal Audit Function and Its Outsourcing;'' SR letter 13-19/CA
letter 13-21, ``Guidance on Managing Outsourcing Risk;'' SR letter
15-18, ``Supervisory Assessment of Capital Planning and Positions
for LISCC Firms and Large and Complex Firms;'' and SR letter 15-19,
``Supervisory Assessment of Capital Planning and Positions for Large
and Noncomplex Firms.'' In addition, Regulation YY sets forth risk
management requirements, including liquidity risk management
requirements.
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Reliance on other regulators
Commenters requested that the Federal Reserve rely to a greater
extent on the supervisory evaluations conducted by other regulators,
including both domestic and foreign supervisors. Coordination with
other domestic regulators and foreign supervisory authorities is a
critical component of the LFI supervisory program. Federal Reserve
staff meets regularly with counterparts at domestic and foreign
regulatory agencies that have primary supervisory responsibility with
respect to a banking organization or its subsidiaries, or its foreign
bank parent, in order to leverage work and ensure effective
coordination. In assigning LFI component ratings under the final LFI
rating system, the Federal Reserve will continue to rely to the fullest
extent possible on applicable information and assessments developed by
other relevant supervisors and functional regulators.
Application to U.S. IHCs
The proposed LFI rating system would have applied to U.S. IHCs of
foreign banking organizations. Some commenters requested that the Board
delay application of the LFI rating system to U.S. IHCs until the Board
sought comment on governance and controls guidance designed
specifically for U.S. IHCs. Commenters requested clarification on how
the assignment of LFI ratings to U.S. IHCs would interact with other
ratings assigned to the U.S. operations of foreign banking
organizations (the combined U.S. operations assessment) and the ROCA
rating for U.S. branches and agencies.
Under the principle of national treatment, the Federal Reserve
generally applies standards to the U.S. operations of a foreign banking
organization consistent with those that apply to similarly situated
U.S. banking organizations. The U.S. operations of a foreign banking
organization are subject to regulatory standards set forth in
Regulation YY, and expectations related to capital planning and
positions, liquidity risk management and positions, and governance and
controls, that are parallel to those that apply to a U.S. bank holding
company. Applying the final LFI rating system to U.S. IHCs of foreign
banking organizations would be consistent with national treatment and
the Board's approach to regulating and supervising foreign banking
organizations.
As commenters note, the Board did not apply the guidance setting
forth attributes of effective boards to U.S. IHCs, in recognition of
the fact that a U.S. IHC is a subsidiary of a foreign banking
organization. U.S. IHCs will not be subject to examinations solely
focused on effectiveness of the U.S. IHC's board of directors.\17\
Rather, the Federal Reserve will indirectly assess the effectiveness of
a U.S. IHC's board by considering whether weaknesses or deficiencies
that are identified within the organization while conducting other
supervisory work may be evidence of, or resulting from, governance-
related oversight deficiencies. For example, governance-related
oversight deficiencies could be noted in the context of a significant
risk management or control weakness that is identified during an
examination of capital planning or business line management.
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\17\ However, the Federal Reserve may consider the effectiveness
of the IHC's board of directors in connection with other
examinations. For example, the Federal Reserve may consider
governance-related oversight deficiencies in the context of a
significant risk management or control weakness that is identified
during an examination of capital planning or business line
management.
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The Board will continue to evaluate the U.S. branches of foreign
banks under the ROCA system, and assign a single component rating to
the foreign banking organization's U.S. operations. As noted in the
preamble to the proposal, the Board is considering adjustments to the
ratings for U.S. branches and the U.S. operations to better align with
the LFI framework.
Commenters also requested clarity in how the LFI rating would
impact the ``well managed'' status of a foreign banking organization
that is a financial holding company. Under current law, a foreign
banking organization that is a financial holding company must be well
capitalized and must have a satisfactory composite rating of its U.S.
branch and agency operations and a satisfactory rating of its U.S.
combined operations, if one is given. As with the rating currently
assigned to a U.S. IHC under the RFI system, the LFI rating assigned to
the U.S. IHC would be an input into the rating of the combined U.S.
operations of a foreign bank.
C. LFI Rating Components
Under the proposed LFI rating system, the Federal Reserve would
have evaluated and assigned ratings for the following three components:
Capital Planning and Positions; Liquidity Risk Management and
Positions; and Governance and Controls. The final LFI rating system
adopts these component categories as proposed.
Capital Planning and Positions
As proposed, the Capital Planning and Positions rating would have
encompassed assessments of (i) the effectiveness of the governance and
planning processes used by a firm to determine the amount of capital
necessary to cover risks and exposures, and to support activities
through a range of conditions; and (ii) the sufficiency of a firm's
capital positions to comply with applicable regulatory requirements and
to support the firm's ability to continue to serve as a financial
intermediary through a range of conditions.
Several commenters sought clarification regarding the relationship
between a firm's compliance with regulatory capital requirements and a
firm's Capital Planning and Positions rating. In addition, some
commenters asserted that receipt of a non-objection
[[Page 58728]]
to a capital plan should result in (or create the presumption of) a
firm receiving a ``Satisfactory'' rating for the Capital Planning and
Positions component under the LFI rating system.
The final LFI rating system adopts the description of the Capital
Planning and Positions component rating used in the proposal. A firm's
capital rating under the LFI rating system will reflect a broad
assessment of the firm's capital planning and positions, based on
horizontal reviews and firm-specific supervisory work focused on
capital planning and positions. In consolidating supervisory findings
into a comprehensive assessment of a firm's capital planning and
positions, the Federal Reserve will take into account the materiality
of a firm's outstanding and newly identified supervisory issues.
A firm's compliance with minimum regulatory capital requirements
will be considered in assigning the firm's Capital Planning and
Positions component rating; however, the Federal Reserve may determine
that a firm does not meet expectations regarding its capital position
in light of its idiosyncratic activities and risks, even if the firm
meets minimum regulatory capital requirements. Any findings from
supervisory stress testing, such as CCAR or similar activities, will
represent inputs into the Capital Planning and Positions component
rating. However, with respect to any firm that may be subject to a
qualitative review of its capital planning practices, there is no
automatic link between the results of that review and the firm's
capital rating.
Some commenters argued that the Board should discontinue its
practice of publicly objecting or not-objecting to a firm's capital
plan. Last year, the Board exempted firms with less than $250 billion
in assets and less than $75 billion in nonbank assets from the CCAR
qualitative assessment, and in the recent stress capital buffer
proposal, the Board sought comments on potential changes to the CCAR
qualitative assessment.\18\ The Board is currently in the process of
evaluating these comments.
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\18\ 83 FR 9308 (February 3, 2017); 83 FR 18160 (April 25,
2018).
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In addition, commenters noted that the Board should clarify that
the final LFI rating system does not create any new qualitative
standards for capital planning, and others requested that the Board
separately seek comment on the capital planning expectations included
in SR letters 15-18 and 15-19. Consistent with the commenters' request,
the Board confirms that the final LFI rating system does not create any
new capital planning expectations applicable to LFIs. When the Board
adopted SR letters 15-18 and 15-19, it did not seek comment on those
letters, as they largely consolidated the Federal Reserve's existing
capital planning guidance in one place. To the extent the Board
considers adjustments to those letters in the future, the Board will
take commenters' views into account.
Liquidity Risk Management and Positions
As proposed, the Liquidity Risk Management and Positions component
rating would have encompassed assessments of (i) the effectiveness of a
firm's governance and risk management processes used to determine the
amount of liquidity necessary to cover risks and exposures, and to
support activities through a range of conditions; and (ii) the
sufficiency of a firm's liquidity positions to comply with applicable
regulatory requirements and to support the firm's ongoing obligations
through a range of conditions.
Several commenters requested that the Board clarify how the
liquidity rating would be assigned and clarify the linkage between a
firm's rating and its compliance with the minimum liquidity
requirements. The final ratings system adopts the description of the
Liquidity Risk Management and Positions component rating used in the
proposal without change. In assessing the liquidity risk management and
position of a banking organization, the Federal Reserve evaluates each
firm's risk management practices by reviewing the processes that firms
use to identify, measure, monitor, and manage liquidity risk and make
funding decisions, and evaluating the firm's compliance with the
liquidity risk management requirements of Regulation YY. The Federal
Reserve evaluates a firm's liquidity positions against applicable
regulatory requirements, and assesses the firm's ability to support its
obligations through other means, such as its funding concentrations. A
firm's liquidity rating will reflect the materiality of issues
identified through the supervisory process.
In addition, commenters requested additional detail on the
relationship between the Liquidity Risk Management and Positions rating
of a LISCC firm and its performance in the Comprehensive Liquidity
Assessment Review (CLAR). As for all component ratings, horizontal and
firm-specific examination work conducted under the LISCC liquidity
program, which is inclusive of the horizontal work covered under the
CLAR, will represent a material input into a firm's liquidity rating.
Unlike CCAR, the LISCC liquidity program's assessment does not result
in an objection or non-objection ; rather, it results in supervisory
findings communicated to the firm, which may include ``matters
requiring attention'' and ``matters requiring immediate attention,'' as
applicable.
Governance and Controls
The proposed Governance and Controls component rating would have
evaluated the effectiveness of a firm's (i) board of directors,\19\
(ii) management of business lines and independent risk management and
controls,\20\ and (iii) recovery planning (for domestic LISCC firms
only).\21\
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\19\ ``Board'' or ``board of directors'' also refers to the
equivalent to a board of directors, as appropriate, as well as
committees of the board of directors or the equivalent thereof, as
appropriate.
\20\ The final LFI rating system uses the term ``management of
business lines'' instead of ``management of core business lines,''
in order to align with the proposed guidance on the management of
business lines and independent risk management and controls.
\21\ At this time, recovery planning expectations only apply to
domestic bank holding companies subject to the Federal Reserve's
LISCC supervisory framework. See SR letter 14-8, ``Consolidated
Recovery Planning for Certain Large Domestic Bank Holding
Companies.'' Should the Federal Reserve expand the scope of recovery
planning expectations to encompass additional firms, this rating
will reflect such expectations for the broader set of firms.
There are eight domestic firms in the LISCC portfolio: (1) Bank
of America Corporation; (2) Bank of New York Mellon Corporation; (3)
Citigroup, Inc.; (4) Goldman Sachs Group, Inc.; (5) JP Morgan Chase
& Co.; (6) Morgan Stanley; (7) State Street Corporation; and (8)
Wells Fargo & Company.
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This component rating would have included consideration of a firm's
compliance practices. One commenter suggested that the rating take into
account only compliance matters that would have a material impact on a
firm's financial and operational strength and resiliency. The Board
expects all firms to comply fully with applicable laws and regulations,
including those related to consumer protection. In assigning a
supervisory rating, the Board will take into account the materiality of
outstanding and identified supervisory issues, including the extent to
which a matter would have a material impact on a firm's financial and
operational strength and resiliency.
The proposed Governance and Controls component rating would have
included a consideration of recovery planning for domestic LISCC firms,
given the heightened risks that LISCC firms present to financial
stability. One commenter suggested that the governance and controls
rating not include recovery planning for domestic LISCC firms, because
related supervisory expectations are already
[[Page 58729]]
reflected in other aspects of the LFI rating system. The final LFI
rating system maintains consideration of recovery planning in assessing
the governance and controls of a LISCC firm, as effective recovery
planning practices are central to ensuring that a LISCC firm has
sufficient financial and operational strength to continue operations
through a range of conditions.
The Board requested comment on whether resolution planning should
also be a component of, or otherwise factored into, the LFI rating
system. Several commenters argued against inclusion of resolution
planning, stating, for example, that adding a separate component rating
for resolution planning would be duplicative in light the current
public deficiency findings under the resolution plan rule. One
commenter supported the inclusion of resolution planning in the LFI
rating system.
The Board has determined not to include a separate component rating
for a firm's resolution planning as part of the final LFI rating
system. The Board will continue to consider whether the LFI rating
system should be modified in the future to include an assessment of the
sufficiency of a firm's resolution planning efforts.
D. LFI Rating Scale
Under the proposed LFI rating system, ratings would have been
assigned based on a four-point scale, with the following categories:
Satisfactory/Satisfactory Watch, Deficient-1, and Deficient-2. One
commenter expressed concern that the reduction in the number of ratings
categories from five, as in the current RFI framework, to four, would
result in the new rating framework being less flexible and nuanced, and
lead to inadvertent rating downgrades.
A four-category rating scale is intended to increase the usability
of the scale--under the RFI rating system, the highest rating of ``1''
and the lowest rating of ``5'' were rarely used when rating LFIs.
Further, the ``Conditionally Meets Expectations'' rating category
enables the Federal Reserve to identify certain material issues at a
firm and provide a firm with notice and the ability to fix those issues
before the firm experiences regulatory consequences as a result of the
ratings downgrade.
The final LFI rating system adopts a similar four-category scale,
but uses different terminology to improve the descriptiveness of the
rating categories. Specifically, the final rating categories are:
Broadly Meets Expectations, Conditionally Meets Expectations,
Deficient-1, and Deficient-2. The final LFI rating system also
clarifies the definitions within each category to provide additional
guidance to examiners and provide transparency to firms about the
calibration of each category.
Several commenters also expressed the need for the use of
additional quantitative measures improve transparency and consistency
in how ratings are derived. The Federal Reserve will continue to use
quantitative measures, together with supervisory judgment, to inform a
comprehensive assessment of a firm's Capital, Liquidity, and Governance
and Controls.
Broadly Meets Expectations
In the proposal, the highest rating category was ``Satisfactory.''
A ``Satisfactory'' rating would have indicated that a firm is
considered safe and sound and broadly meets supervisory expectations.
The final LFI rating system renames the rating category as
``Broadly Meets Expectations,'' to align more closely with the
underlying definition of the rating category.\22\ As with the proposal,
the final ratings definition for ``Broadly Meets Expectations''
provides that a firm may have supervisory issues requiring corrective
action; however, these issues are unlikely to present a threat to the
firm's ability to maintain safe-and-sound operations through a range of
conditions.
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\22\ References to ``safe and sound'' or ``safety and
soundness'' in the LFI rating system apply to a firm's consolidated
organization as well as to its critical operations and banking
offices.
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Two commenters suggested that the rating scale should include a
higher rating above the ``Satisfactory'' designation, similar to the
``Strong'' rating utilized with the RFI, CAMELS, and other supervisory
rating systems. The final LFI rating system does not include a
``Strong'' rating, which may suggest that the Federal Reserve expects
firms to exceed, not simply meet, supervisory expectations. In
addition, a ``Strong'' rating would not enhance or clarify supervisory
communications, as a ``Strong'' rating would have no supervisory
consequences.\23\
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\23\ One comment requested removal of the term ``strong,'' which
was used to describe practices related to controls. To provide the
clarity requested by the commenter, the final terminology has been
changed to use the term ``effective.''
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One commenter stated that the rule should clarify the circumstances
under which MRAs or MRIAs would trigger a downgrade from the
``Satisfactory'' rating. As noted above, in consolidating supervisory
findings into a comprehensive assessment in each category, the Board
will take into account the materiality of a firm's outstanding and
newly identified supervisory issues. While a given ratings assessment
will depend on the circumstances, the LFI rating scale is designed to
clarify the relationship between supervisory issues and deficiencies,
and a firm's progress in remediation and mitigation efforts.
Conditionally Meets Expectations
In the proposed LFI rating system, the second highest rating
category was ``Satisfactory Watch.'' This rating would have indicated
that a firm was generally considered safe and sound; however, certain
issues were sufficiently material that, if not resolved in a timely
manner in the normal course of business, they would put the firm's
prospects for remaining safe and sound through a range of conditions at
risk. As noted in the proposal, the ``Satisfactory Watch'' rating was
intended to be consistent with the Federal Reserve's practice of
providing notice to firms that they are likely to be downgraded if
identified weaknesses are not resolved in a timely manner.
The preamble to the proposal noted that the ``Satisfactory Watch''
rating was not intended to be used for a prolonged period; rather,
firms would have had a specified timeframe to fully resolve issues
leading to that rating (as is the case with all supervisory issues),
but generally no longer than 18 months. Several commenters noted that
many supervisory issues take longer than 18 months to resolve, and that
resolution of certain issues requires substantial infrastructure
investment and changes in processes and controls. As such, these
commenters argued that the specified remediation timeframes in the
``Satisfactory Watch'' rating should be based on the specific facts and
circumstances of the supervisory issue(s) in question, rather than
limited to an 18-month period. These commenters also argued that a firm
should not be downgraded provided the firm makes good faith efforts to
remediate the issues and progress is made.
As in the proposal, the final ratings framework states that the
Federal Reserve does not intend for a firm to be rated ``Conditionally
Meets Expectations'' for a prolonged period. However, unlike the
proposal, the final ratings framework does not establish a fixed
timeline for how long a firm can be rated ``Conditionally Meets
Expectations.'' Instead, the final ratings framework reflects an
understanding that timelines will be issues-specific, noting that the
Federal Reserve will work with the firm to develop an
[[Page 58730]]
appropriate timeframe during which the firm would be expected to
resolve each supervisory issue leading to the ``Conditionally Meets
Expectations'' rating. Further, the final ratings framework reflects an
understanding that completion and validation of remediation activities
for selected supervisory issues--such as those involving information
technology modifications--will require an extended time horizon. In all
instances, appropriate and effective risk mitigation techniques must be
utilized in the interim to maintain safe-and-sound operations under a
range of conditions until remediation activities are completed,
validated, and fully operational.
One commenter recommended that the ``Satisfactory Watch'' rating
should be permanent, rather than temporary, while another argued that
the ``Satisfactory Watch'' rating should be used infrequently. The
final LFI rating system acknowledges there are circumstances when a
firm may be rated ``Conditionally Meets Expectations'' for a longer
period of time if, for instance, the firm is close to completing
resolution of the supervisory issues leading to the ``Conditionally
Meets Expectations'' rating, but new issues may be identified that,
taken alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be rated
``Conditionally Meets Expectations,'' provided the new issues do not
reflect a pattern of deeper or prolonged capital planning or position
weaknesses consistent with a ``Deficient'' rating.
The proposal would have provided that ``Satisfactory Watch'' would
be appropriate when a firm could resolve the issue in a timely manner
in the normal course of business. Commenters requested clarification on
expectations regarding ``normal course of business.'' The final LFI
rating system clarifies that ``normal course of business'' means that a
firm has the ability to resolve these issues through measures that do
not require a material change to the firm's business model or financial
profile, or its governance, risk management, or internal control
structures or practices.
Several commenters also argued that a firm rated ``Deficient''
should be upgraded to the ``Satisfactory Watch'' rating if the firm has
remediated identified deficiencies but a validation process had not yet
been completed. As indicated in the Deficient-1 section below, the
final LFI framework indicates that a firm previously rated
``Deficient'' may be upgraded to ``Conditionally Meets Expectations''
if the firm's remediation and mitigation activities are sufficiently
advanced so that its prospects for remaining safe and sound are no
longer at significant risk, even if the firm has outstanding
supervisory issues or is subject to an active enforcement action.
Deficient-1
In the proposal, the third rating category was ``Deficient-1,''
which would have indicated that, although the firm's current condition
is not considered to be materially threatened, there were financial
and/or operational deficiencies that put its prospects for remaining
safe and sound through a range of conditions at significant risk. The
final ratings framework maintains the name of the third rating
category.
Under the proposed LFI rating system, a firm that received a rating
of ``Deficient-1'' or ``Deficient-2'' in any component rating would not
be considered ``well managed'' for purposes of the Bank Holding Company
Act (BHC Act).\24\ Several commenters suggested that the ``well
managed'' determination should be made on the basis of an assessment of
the firm as a whole, rather than the automatic consequence of any one
component rating. One commenter argued that the separate, standalone
composite rating should form the sole basis for determining a firm's
``well managed'' status.
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\24\ For purposes of determining whether a firm is considered to
be ``well managed'' under section 2(o)(9) of the BHC Act, the
Federal Reserve considers the three component ratings, taken
together, to be equivalent to assigning a standalone composite
rating. In addition, the RFI rating system designates the ``Risk
Management'' rating as the ``management'' rating when making ``well
managed'' determinations under section 2(o)(9)(A)(ii) of the BHC
Act. See SR letter 04-8. In contrast, the LFI rating system would
not designate any of the three component ratings as a ``management''
rating, because each component evaluates different areas of the
firm's management.
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Conditioning a firm's ``well managed'' status on all three rating
categories reflects the judgment that a banking organization is not in
satisfactory condition overall unless it is considered sound in each of
the key areas of capital, liquidity, and governance and controls. Each
rating category includes assessments of key aspects of a firm's
practices and capabilities, including management, that are necessary to
operate in a safe-and-sound manner. A ``Deficient'' rating in any of
the components reflects the supervisory conclusion that financial or
operational deficiencies have placed the firm's safety and soundness at
significant risk, which would not warrant a firm being deemed ``well
managed.'' Accordingly, the final LFI rating system maintains the
proposed approach to determining whether a firm is ``well managed.''
Under current law, a firm must receive a ``Satisfactory'' risk
management and composite rating in order to qualify as ``well
managed.'' Several commenters argued that the proposed rating scale
would introduce a more rigid standard compared with the RFI rating
system, potentially making LFIs less likely to be considered ``well
managed.'' In the Board's view, any rigidity is balanced by the
introduction of the ``Conditionally Meets Expectations'' rating, which
provides notice to firms that they are likely to be downgraded if
identified weaknesses are not resolved in a timely manner.
The proposal noted that a ``Deficient-1'' component rating would
often be an indication that the firm should be subject to either an
informal or formal enforcement action, and may also result in the
designation of the firm as being in ``troubled condition.'' \25\
Several commenters requested clarity under what circumstances a
``Deficient-1'' rating would result in ``troubled condition'' status or
a formal enforcement action.
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\25\ See 12 CFR 225.71(d).
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Consistent with commenters' views, the final LFI rating system
reflects that there is no presumption that a firm rated ``Deficient-1''
would be deemed to be in ``troubled condition.'' Whether a firm rated
``Deficient-1'' receives a ``troubled condition'' designation will be
determined by the facts and circumstances at that firm. However, firms
rated ``Deficient-1'' due to financial weaknesses in either capital or
liquidity would be more likely to be deemed in ``troubled condition''
than firms rated ``Deficient-1'' due solely to issues of governance or
controls.
While a commenter asked that a ``Deficient-1'' rating be an
automatic bar to new or expansionary activity, others suggested that
firms rated ``Deficient-1'' not be subject to any restrictions on
growth. Consistent with the proposal, receiving a ``Deficient-1''
rating under the final LFI rating system would result in automatic
consequences for a firm's ``well managed'' status, which would limit
the firm's ability to engage in new or expansionary nonbanking
activities. Further, as with the proposal, a ``Deficient-1'' rating in
the final LFI rating system could be a barrier for a firm seeking the
Federal Reserve's approval of a proposal to engage in new or
expansionary activities, unless the firm can demonstrate that (i) it is
making meaningful, sustained progress in resolving identified
deficiencies and
[[Page 58731]]
issues; (ii) the proposed new or expansionary activities would not
present a risk of exacerbating current deficiencies or issues or lead
to new concerns; and (iii) the proposed activities would not distract
the firm from remediating current deficiencies or issues.
Deficient-2
A ``Deficient-2'' rating indicates that financial and/or
operational deficiencies materially threaten the firm's safety and
soundness, or have already put the firm in an unsafe and unsound
condition. The proposal noted that a firm with a ``Deficient-2''
component rating would be required to immediately (i) implement
comprehensive corrective measures sufficient to restore and maintain
appropriate capital planning capabilities and adequate capital
positions; and (ii) demonstrate the sufficiency, credibility and
readiness of contingency planning in the event of further deterioration
of the firm's financial or operational strength or resiliency. It also
noted that there is a strong presumption that a firm rated ``Deficient-
2'' will be subject to a formal enforcement action by the Federal
Reserve, and that the Federal Reserve would be unlikely to approve a
proposal from a firm to engage in new or expansionary activities.
The final LFI rating system adopts the ``Deficient-2'' ratings
category without change.
E. General Comments
Eliminating Subcomponent Ratings
The proposed LFI rating system described the areas of assessment
under each component rating, but would not have assigned separate
subcomponents for each area of assessment. A few commenters recommended
that each of the three component ratings include subcomponent ratings,
as used in the RFI rating system. These commenters argued that
subcomponent ratings aid supervisory staff to consistently apply the
component rating across institutions, and allow firms to more easily
identify, communicate, and correct deficiencies across the
organization.
Communicating a single rating in each component is intended to
reinforce the Board's view that the strength of a firm's capital and
liquidity position is integrated with the effectiveness the firm's
capital planning and liquidity risk management, respectively, and the
strength of a firm's risk management depends on the effectiveness of
the board oversight. In developing the rating, the Federal Reserve will
rely on firm-specific and horizontal examination work. Throughout the
year, and in connection with its rating, firms will receive feedback
relating to the supervisory activities that inform the ratings, which
will provide firms with specific feedback relating to the elements of
the rating.
Composite Rating
Several commenters asserted that the LFI rating system should
include a separate, standalone composite rating in addition to the
three component ratings. These commenters asserted that a composite
rating would provide a fuller view of the health of each institution.
Unlike other supervisory rating systems, including the RFI rating
system, the Federal Reserve will not assign a standalone composite
rating under the LFI rating system. As noted in the proposal, assigning
a standalone composite rating is not necessary because the three
component ratings are designed to clearly communicate supervisory
assessments and associated consequences for each of the core areas
(capital, liquidity, and governance and controls). Further, the
components identify those core areas that are necessary and critical to
a firm's strength and resilience. It is unlikely that the assignment of
a standalone composite rating would convey new or additional
information regarding these supervisory assessments not already
communicated by the three component ratings, and a standalone composite
rating could dilute the clarity and impact of the component ratings. As
such, the final LFI rating system does not include a separate
standalone composite rating.
Disclosure and Challenge to Ratings
In accordance with the Federal Reserve's regulations governing
confidential supervisory information,\26\ ratings assigned under the
proposed LFI rating system would have been communicated by the Federal
Reserve to the firm but not disclosed publicly. One commenter requested
that LFI rating components be publicly disclosed, as the public would
benefit from additional supervisory disclosure regarding individual
firms. The Board has traditionally maintained the confidentiality of
supervisory ratings in order to preserve candor in communication
between supervised institutions and the Board. For this reason, in
accordance with the Federal Reserve's regulations governing
confidential supervisory information, ratings assigned under the LFI
rating system will be communicated by the Federal Reserve to the firm,
but individual ratings will not be disclosed publicly. The Federal
Reserve will continue to think broadly in considering ways to enhance
transparency across its processes and communications in support of
improved supervisory approaches and outcomes.
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\26\ See 12 CFR 261.20.
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In addition, some commenters indicated that there should be a more
effective process for firms to challenge and seek review of supervisory
findings, such as additional opportunities to respond to adverse
findings by examiners, and meetings with the Federal Reserve. The
Federal Reserve is committed to engaging in ongoing dialogue with
banking organizations regarding supervisory findings to ensure that
firms understand supervisory expectations and that the Federal Reserve
understands the way that firms think about their business and risks.
The Board also is committed to maintaining an effective independent
appellate process to allow institutions to seek review of material
supervisory determinations. The Board recently issued a proposal that
is out for comment and is currently considering comments on that
proposal.\27\
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\27\ See 83 FR 8391 (February 27, 2018).
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V. Changes to Existing Regulations
References to holding company ratings are included in a number of
the Federal Reserve's existing regulations. In certain cases, the
regulations are narrowly constructed such that they contemplate only
the assignment of a standalone composite rating using a numerical
rating scale. This is consistent with the current RFI rating system but
is not compatible with the LFI rating system. Three provisions in the
Federal Reserve's existing regulations are written in this manner,
including two in Regulation K and one in Regulation LL.
In Regulation K, Sec. 211.2(z) includes a definition of ``well
managed'' which, in part, requires a bank holding company to have
received a composite rating of 1 or 2 at its most recent examination or
review; and Sec. 211.9(a)(2) requires an investor (which by definition
can be a bank holding company) to have received a composite rating of
at least 2 at its most recent examination in order to make investments
under the general consent or limited general consent procedures
contained in Sec. 211.9(b) and (c).
In Regulation LL, Sec. 238.54(a)(1) restricts savings and loan
holding companies from commencing certain activities without the
Federal Reserve's
[[Page 58732]]
prior approval unless the company received a composite rating of 1 or 2
at its most recent examination.
To ensure that the Federal Reserve's regulations are consistent and
compatible with all aspects of both the RFI rating system as well as
the LFI rating system, the Federal Reserve is amending those three
regulatory provisions so that they will apply to entities which receive
numerical composite ratings as well as to entities which do not receive
numerical composite ratings (including firms subject to the LFI rating
system).\28\ To satisfy the requirements of those provisions, firms
that do not receive numerical composite ratings will have to be
considered satisfactory under the LFI rating system. To be considered
satisfactory, a firm would have to be rated ``Broadly Meets
Expectations'' or ``Conditionally Meets Expectations'' for each
component of the LFI rating system; a firm which is rated ``Deficient-
1'' or lower for any component would not be considered satisfactory.
This standard applies to any provision contained in the Federal
Reserve's regulations, which requires or refers to a firm having a
satisfactory composite rating.
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\28\ The Board may propose additional necessary revisions to its
regulations resulting from the adoption of a final LFI rating
system.
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VI. Comparison of the RFI and LFI Rating Systems
As compared to the RFI rating system, the proposed LFI rating
system did not include an explicit assessment of a banking
organization's ability to protect depository institutions from the
activities of non-depository or capital market subsidiaries. The
commenter suggested the Board revise the proposal to recognize the
importance of this concept.
In response to the commenter, the final LFI rating system
acknowledges that a banking organization is expected to ensure that the
consolidated organization, including its critical operations and
banking offices, remains safe and sound through a range of potentially
stressful conditions.
The final LFI rating system includes several structural changes
from the RFI rating system. The following table provides a broad
comparison between the two rating systems.
------------------------------------------------------------------------
RFI rating system LFI rating system
------------------------------------------------------------------------
R--Risk Management
An evaluation of the ability of the Assessment of the effectiveness
bank holding company's board of of a firm's governance and
directors and senior management to risk management practices is
identify, measure, monitor, and central to the Governance and
control risk. Controls component rating. The
Governance and Controls
component rating evaluates a
firm's effectiveness in
aligning strategic business
objectives with risk
management capabilities;
maintaining effective and
independent risk management
and control functions,
including internal audit;
promoting compliance with laws
and regulations, including
those related to consumer
protection; and otherwise
providing for the ongoing
resiliency of the firm.
The rating is supported by four Governance and risk management
subcomponent ratings. practices specifically related
Board and Senior Management to maintaining financial
Oversight. strength and resilience are
Policies, Procedures, and also incorporated into the
Limits. Capital Planning and Positions
Risk Monitoring and Management and Liquidity Risk Management
Information Systems. and Positions component
Internal Controls............. ratings.
F--Financial Condition
An evaluation of the consolidated Assessment of a firm's
organization's financial strength. financial strength and
resilience is specifically
evaluated through the Capital
Planning and Positions and
Liquidity Risk Management and
Positions component ratings.
The rating is supported by four These component ratings also
subcomponent ratings. assess the effectiveness of
Capital Adequacy.............. associated planning and risk
Asset Quality................. management processes, and the
Earnings...................... sufficiency of related
Liquidity..................... positions.
Although asset quality and
earnings are not rated
separately, they continue to
be important elements in
assessing a firm's safety and
soundness and resiliency, and
are important considerations
within each of the LFI
component ratings.
I--Impact
An assessment of the potential impact Although a separate ``Impact''
of the firm's nondepository entities rating will not be assigned,
on its subsidiary depository the LFI rating system will
institution(s). assess a firm's ability to
protect the safety and
soundness of its subsidiary
depository institutions,
including whether the firm can
provide financial and
operational strength to its
subsidiary depository
institutions.\29\
D--Depository Institutions
Generally reflects the composite CAMELS The LFI rating system would not
rating assigned by the primary assign a separate rating for a
supervisor of the subsidiary firm's depository institution
depository institution(s).\30\ subsidiaries. The Federal
Reserve will continue to rely
to the fullest extent possible
on supervisory assessments
developed by the primary
supervisor of the subsidiary
depository institution(s).
[[Page 58733]]
C--Composite Rating
The overall composite assessment of the A standalone composite rating
bank holding company as reflected by will not be assigned. The
the R, F, and I ratings, and supported three LFI component ratings
by examiner judgment with respect to are designed to clearly
the relative importance of each communicate supervisory
component to the safe and sound assessments and associated
operation of the bank holding company.. consequences for each of the
core areas (capital,
liquidity, and governance and
controls) that are considered
critical to an LFI's strength
and resilience.
For purposes of determining
whether a firm is ``well
managed,'' each component must
be rated either ``Broadly
Meets Expectations'' or
``Conditionally Meets
Expectations'' in order for a
firm to be deemed ``well
managed.''
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VII. Regulatory Analysis
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\29\ See Sections 616 of Dodd-Frank Act (financial strength), 12
CFR 225.4 of the Board's Regulation Y, and 12 CFR 238.8 of the
Board's Regulation LL.
\30\ See SR letter 96-38, ``Uniform Financial Institutions
Rating System,'' at http://www.federalreserve.gov/boarddocs/srletters/1996/sr9638.htm.
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A. Paperwork Reduction Act
There is no collection of information required by this proposal
that would be subject to the Paperwork Reduction Act of 1995, 44 U.S.C.
3501 et seq.
B. Regulatory Flexibility Analysis
The Regulatory Flexibility Act (RFA), 5 U.S.C. 601 et seq.,
generally requires that, in connection with a proposed rulemaking, an
agency prepare and make available for public comment an initial
regulatory flexibility analysis (IRFA). The Board solicited public
comment on the LFI rating system in a notice of proposed rulemaking and
has since considered the potential impact of this final rule on small
entities in accordance with section 604 of the RFA. Based on the
Board's analysis, and for the reasons stated below, the Board believes
the final rule will not have a significant economic impact on a
substantial number of small entities.
The RFA requires an agency to prepare a final regulatory
flexibility analysis (FRFA) unless the agency certifies that the rule
will not, if promulgated, have a significant economic impact on a
substantial number of small entities. The FRFA must contain: (1) A
statement of the need for, and objectives of, the rule; (2) a statement
of the significant issues raised by the public comments in response to
the IRFA, a statement of the agency's assessment of such issues, and a
statement of any changes made in the proposed rule as a result of such
comments; (3) the response of the agency to any comments filed by the
Chief Counsel for Advocacy of the Small Business Administration in
response to the proposed rule, and a detailed statement of any changes
made to the proposed rule in the final rule as a result of the
comments; (4) a description of an estimate of the number of small
entities to which the rule will apply or an explanation of why no such
estimate is available; (5) a description of the projected reporting,
recordkeeping and other compliance requirements of the rule, including
an estimate of the classes of small entities which will be subject to
the requirement and type of professional skills necessary for
preparation of the report or record; and (6) a description of the steps
the agency has taken to minimize the economic impact on small entities,
including a statement for selecting or rejecting the other significant
alternatives to the rule considered by the agency.
The final rule adopts a new holding company rating system for large
financial institutions, and amend the Board's Regulations K and LL to
ensure the Board's regulations are compatible with all aspects of the
LFI rating system, but will not change the operation of those
regulations for any entity that is not subject to the LFI rating
system. Commenters did not raise any issues in response to the IRFA. In
addition, the Chief Counsel for Advocacy of the Small Business
Administration did not file any comments in response to the proposed
rule.
Under regulations issued by the Small Business Administration
(SBA), a ``small entity'' includes a depository institution, bank
holding company, or savings and loan holding company with assets of
$550 million or less (small banking organizations). As discussed in the
SUPPLEMENTARY INFORMATION, the final rule will apply to all bank
holding companies with total consolidated assets of $100 billion or
more; all non-insurance, non-commercial savings and loan holding
companies with total consolidated assets of $100 billion or more; and
U.S. intermediate holding companies of foreign banking organizations
with total consolidated assets of $50 billion or more.
Companies that are subject to the final rule therefore
substantially exceed the $550 million asset threshold at which a
banking entity is considered a ``small entity'' under SBA regulations.
Because the final rule does not apply to any company with assets of
$550 million or less, the final rule would not apply to any ``small
entity'' for purposes of the RFA.
There are no projected reporting, recordkeeping, or other
compliance requirements associated with the final rule. As discussed
above, the final rule does not apply to small entities.
The Board does not believe that the final rule duplicates,
overlaps, or conflicts with any other Federal Rules. In addition, the
Board does not believe there are significant alternatives to the final
rule that have less economic impact on small entities. In light of the
foregoing, the Board does not believe the final rule will have a
significant economic impact on a substantial number of small entities.
C. Solicitation of Comments on Use of Plain Language
Section 722 of the Gramm-Leach-Bliley Act requires the Board to use
plain language in all proposed and final rules published after January
1, 2000. The Board received no comments on these matters and believes
that the final rule is written plainly and clearly.
List of Subjects
12 CFR Part 211
Exports, Federal Reserve System, Foreign banking, Holding
companies, Investments, Reporting and recordkeeping requirements.
12 CFR Part 238
Administrative practice and procedure, Banks, Banking, Federal
Reserve System, Holding companies, Reporting and recordkeeping
requirements.
Authority and Issuance
For the reasons stated in the preamble, the Board amends 12 CFR
parts 211 and 238 as follows:
[[Page 58734]]
PART 211--INTERNATIONAL BANKING OPERATIONS (REGULATION K)
0
1. The authority citations for part 211 continues to read as follows:
Authority: 12 U.S.C. 221 et seq., 1818, 1835a, 1841 et seq.,
3101 et seq., 3901 et seq., and 5101 et seq.; 15 U.S.C. 1681s,
1681w, 6801 and 6805.
0
2. Section 211.2 is amended by revising paragraph (z) to read as
follows:
Sec. 211.2 Definitions.
* * * * *
(z) Well managed means that the Edge or agreement corporation, any
parent insured bank, and the bank holding company either received a
composite rating of 1 or 2 or is considered satisfactory under the
applicable rating system, and has at least a satisfactory rating for
management if such a rating is given, at their most recent examination
or review.
0
3. Section 211.9 is amended by revising paragraph (a)(2) to read as
follows:
Sec. 211.9 Investment procedures.
(a) * * *
(2) Composite rating. Except as the Board may otherwise determine,
in order for an investor to make investments under the general consent
or limited general consent procedures of paragraphs (b) and (c) of this
section, at the most recent examination the investor and any parent
insured bank must have either received a composite rating of at least 2
or be considered satisfactory under the applicable rating system.
* * * * *
PART 238--SAVINGS AND LOAN HOLDING COMPANIES (REGULATION LL)
0
4. The authority citations for part 238 continues to read as follows:
Authority: 5 U.S.C. 552, 559; 12 U.S.C. 1462, 1462a, 1463, 1464,
1467, 1467a, 1468, 1813, 1817, 1829e, 1831i, 1972; 15 U.S.C. 78l.
0
5. Section 238.54 is amended by revising paragraph (a)(1) to read as
follows:[FEDREG][VOL]*[/VOL][NO]*[/NO][DATE]*[/
DATE][RULES][RULE][PREAMB][AGENCY]*[/AGENCY][SUBJECT]*[/SUBJECT][/
PREAMB][SUPLINF][HED]*[/HED][REGTEXT][P]*[/P]
Sec. 238.54 Permissible bank holding company activities of savings
and loan holding companies.
(a) * * *
(1) The holding company received a rating of satisfactory or above
prior to January 1, 2008, or thereafter, either received a composite
rating of ``1'' or ``2'' or be considered satisfactory under the
applicable rating system in its most recent examination, and is not in
a troubled condition as defined in Sec. 238.72, and the holding
company does not propose to commence the activity by an acquisition (in
whole or in part) of a going concern; or
* * * * *
Note: The following appendix will not appear in the Code of
Federal Regulations.
Appendix A--Text of Large Financial Institution Rating System
A. Overview
Each large financial institution (LFI) is expected to ensure
that the consolidated organization (or the combined U.S. operations
in the case of foreign banking organizations), including its
critical operations and banking offices, remain safe and sound and
in compliance with laws and regulations, including those related to
consumer protection.\1\ The LFI rating system provides a supervisory
evaluation of whether a covered firm possesses sufficient financial
and operational strength and resilience to maintain safe-and-sound
operations through a range of conditions, including stressful
ones.\2\ The LFI rating system applies to bank holding companies
with total consolidated assets of $100 billion or more; all non-
insurance, non-commercial savings and loan holding companies with
total consolidated assets of $100 billion or more; and U.S.
intermediate holding companies of foreign banking organizations with
combined U.S. assets of $50 billion or more established pursuant to
the Federal Reserve's Regulation YY.\3\
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\1\ See SR letter 12-17/CA letter 12-14, ``Consolidated
Supervisory Framework for Large Financial Institutions,'' at http://www.federalreserve.gov/bankinforeg/srletters/sr1217.htm.
Hereinafter, when ``safe and sound'' or ``safety and soundness''
is used in this framework, related expectations apply to the
consolidated organization and the firm's critical operations and
banking offices.
``Critical operations'' are a firm's operations, including
associated services, functions and support, the failure or
discontinuance of which, in the view of the firm or the Federal
Reserve, would pose a threat to the financial stability of the
United States.
``Banking offices'' are defined as U.S. depository institution
subsidiaries, as well as the U.S. branches and agencies of foreign
banking organizations.
\2\ ``Financial strength and resilience'' is defined as
maintaining effective capital and liquidity governance and planning
processes, and sufficiency of related positions, to provide for the
continuity of the consolidated organization (including its critical
operations and banking offices) through a range of conditions.
``Operational strength and resilience'' is defined as
maintaining effective governance and controls to provide for the
continuity of the consolidated organization (including its critical
operations and banking offices) and to promote compliance with laws
and regulations, including those related to consumer protection,
through a range of conditions.
References to ``financial or operational'' weaknesses or
deficiencies implicate a firm's financial or operational strength
and resilience.
\3\ Total consolidated assets will be calculated based on the
average of the firm's total consolidated assets in the four most
recent quarters as reported on the firm's quarterly financial
reports filed with the Federal Reserve. A firm will continue to be
rated under the LFI rating system until it has less than $95 billion
in total consolidated assets, based on the average total
consolidated assets as reported on the firm's four most recent
quarterly financial reports filed with the Federal Reserve. As noted
in the proposal, the Federal Reserve may determine to apply the RFI
rating system or another applicable rating system in certain limited
circumstances.
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The LFI rating system is designed to:
Fully align with the Federal Reserve's current
supervisory programs and practices, which are based upon the LFI
supervision framework's core objectives of reducing the probability
of LFIs failing or experiencing material distress and reducing the
risk to U.S. financial stability;
Enhance the clarity and consistency of supervisory
assessments and communications of supervisory findings and
implications; and
Provide transparency related to the supervisory
consequences of a given rating.
The LFI rating system is comprised of three components:
Capital Planning and Positions: An evaluation of (i)
the effectiveness of a firm's governance and planning processes used
to determine the amount of capital necessary to cover risks and
exposures, and to support activities through a range of conditions
and events; and (ii) the sufficiency of a firm's capital positions
to comply with applicable regulatory requirements and to support the
firm's ability to continue to serve as a financial intermediary
through a range of conditions.
Liquidity Risk Management and Positions: An evaluation
of (i) the effectiveness of a firm's governance and risk management
processes used to determine the amount of liquidity necessary to
cover risks and exposures, and to support activities through a range
of conditions; and (ii) the sufficiency of a firm's liquidity
positions to comply with applicable regulatory requirements and to
support the firm's ongoing obligations through a range of
conditions.
Governance and Controls: An evaluation of the
effectiveness of a firm's (i) board of directors,\4\ (ii) management
of business lines and independent risk management and controls,\5\
and (iii) recovery planning (only for domestic firms that are
subject to the Board's Large Institution Supervision Coordinating
Committee (LISCC) Framework).\6\ This rating assesses a firm's
[[Page 58735]]
effectiveness in aligning strategic business objectives with the
firm's risk appetite and risk management capabilities; maintaining
effective and independent risk management and control functions,
including internal audit; promoting compliance with laws and
regulations, including those related to consumer protection; and
otherwise planning for the ongoing resiliency of the firm.\7\
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\4\ References to ``board'' or ``board of directors'' in this
framework includes the equivalent to a board of directors, as
appropriate, as well as committees of the board of directors or the
equivalent thereof, as appropriate.
At this time, recovery planning expectations only apply to
domestic bank holding companies subject to the Federal Reserve's
LISCC supervisory framework. Should the Federal Reserve expand the
scope of recovery planning expectations to encompass additional
firms, this rating will reflect such expectations for the broader
set of firms.
\5\ The evaluation of the effectiveness of management of
business lines would include management of critical operations.
\6\ There are eight domestic firms in the LISCC portfolio: (1)
Bank of America Corporation; (2) Bank of New York Mellon
Corporation; (3) Citigroup, Inc.; (4) Goldman Sachs Group, Inc.; (5)
JP Morgan Chase & Co.; (6) Morgan Stanley; (7) State Street
Corporation; and (8) Wells Fargo & Company. In this guidance, these
eight firms may collectively be referred to as ``domestic LISCC
firms.''
\7\ ``Risk appetite'' is defined as the aggregate level and
types of risk the board and senior management are willing to assume
to achieve the firm's strategic business objectives, consistent with
applicable capital, liquidity, and other requirements and
constraints.[FEDREG][VOL]*[/VOL][NO]*[/NO][DATE]*[/
DATE][RULES][RULE][PREAMB][AGENCY]*P[AGENCY][SUBJECT]*[/SUBJECT][/
PREAMB][SUPLINF][HED]*[/HED][REGTEXT]PAPPENDIX][HED]*P/HED]
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B. Assignment of the LFI Component Ratings
Each LFI component rating is assigned along a four-level scale:
Broadly Meets Expectations: A firm's practices and
capabilities broadly meet supervisory expectations, and the firm
possesses sufficient financial and operational strength and
resilience to maintain safe-and-sound operations through a range of
conditions. The firm may be subject to identified supervisory issues
requiring corrective action. These issues are unlikely to present a
threat to the firm's ability to maintain safe-and-sound operations
through a range of conditions.
Conditionally Meets Expectations: Certain, material
financial or operational weaknesses in a firm's practices or
capabilities may place the firm's prospects for remaining safe and
sound through a range of conditions at risk if not resolved in a
timely manner during the normal course of business.
The Federal Reserve does not intend for a firm to be assigned a
``Conditionally Meets Expectations'' rating for a prolonged period,
and will work with the firm to develop an appropriate timeframe to
fully resolve the issues leading to the rating assignment and merit
upgrade to a ``Broadly Meets Expectations'' rating.
A firm is assigned a ``Conditionally Meets Expectations''
rating--as opposed to a ``Deficient'' rating--when it has the
ability to resolve these issues through measures that do not require
a material change to the firm's business model or financial profile,
or its governance, risk management or internal control structures or
practices. Failure to resolve the issues in a timely manner would
most likely result in the firm's downgrade to a ``Deficient''
rating, since the inability to resolve the issues would indicate
that the firm does not possess sufficient financial or operational
capabilities to maintain its safety and soundness through a range of
conditions.
It is recognized that completion and validation of remediation
activities for select supervisory issues--such as those involving
information technology modifications--may require an extended time
horizon. In all instances, appropriate and effective risk mitigation
techniques must be utilized in the interim to maintain safe-and-
sound operations under a range of conditions until remediation
activities are completed, validated, and fully operational.
Deficient-1: Financial or operational deficiencies in a
firm's practices or capabilities put the firm's prospects for
remaining safe and sound through a range of conditions at
significant risk. The firm is unable to remediate these deficiencies
in the normal course of business, and remediation would typically
require the firm to make a material change to its business model or
financial profile, or its practices or capabilities.
A firm's failure to resolve the issues in a timely manner that
gave rise to a ``Conditionally Meets Expectations'' rating would
most likely result in its downgrade to a ``Deficient'' rating.
A firm with a ``Deficient-1'' rating is required to take timely
corrective action to correct financial or operational deficiencies
and to restore and maintain its safety and soundness and compliance
with laws and regulations, including those related to consumer
protection. There is a strong presumption that a firm with a
``Deficient-1'' rating will be subject to an informal or formal
enforcement action, and this rating assignment could be a barrier
for a firm seeking Federal Reserve approval to engage in new or
expansionary activities.
Deficient-2: Financial or operational deficiencies in a
firm's practices or capabilities present a threat to the firm's
safety and soundness, or have already put the firm in an unsafe and
unsound condition.
A firm with a ``Deficient-2'' rating is required to immediately
implement comprehensive corrective measures, and demonstrate the
sufficiency of contingency planning in the event of further
deterioration. There is a strong presumption that a firm with a
``Deficient-2'' rating will be subject to a formal enforcement
action, and the Federal Reserve would be unlikely to approve any
proposal from a firm with this rating to engage in new or
expansionary activities.
The Federal Reserve will take into account a number of
individual elements of a firm's practices, capabilities and
performance when making each component rating assignment. The
weighting of an individual element in assigning a component rating
will depend on its impact on the firm's safety, soundness and
resilience as provided for in the LFI rating system definitions. For
example, for purposes of the Governance and Controls rating, a
limited number of significant deficiencies--or even just one
significant deficiency--noted for management of a single material
business line could be viewed as sufficiently important to warrant a
``Deficient-1'' for the Governance and Controls component rating,
even if the firm meets supervisory expectations under the Governance
and Controls component in all other respects.
Under the LFI rating system, a firm must be rated ``Broadly
Meets Expectations'' or ``Conditionally Meets Expectations'' for
each of the three component ratings (Capital, Liquidity, Governance
and Controls) to be considered ``well managed'' in accordance with
various statutes and regulations.\8\ A ``well managed'' firm has
sufficient financial and operational strength and resilience to
maintain safe-and-sound operations through a range of conditions,
including stressful ones.
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\8\ 12 U.S.C. 1841 et seq. and 12 U.S.C. 1461 et seq. See, e.g.,
12 CFR 225.4(b)(6), 225.14, 225.22(a), 225.23, 225.85, and 225.86;
12 CFR 211.9(b), 211.10(a)(14), and 211.34; and 12 CFR 223.41.
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C. LFI Rating Components
The LFI rating system is comprised of three component ratings:
\9\
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\9\ There may be instances where deficiencies or supervisory
issues may be relevant to the Federal Reserve's assessment of more
than one component area. As such, the LFI rating will reflect these
deficiencies or issues within multiple rating components when
necessary to provide a comprehensive supervisory assessment.
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1. Capital Planning and Positions Component Rating
The Capital Planning and Positions component rating evaluates
(i) the effectiveness of a firm's governance and planning processes
used to determine the amount of capital necessary to cover risks and
exposures, and to support activities through a range of conditions;
and (ii) the sufficiency of a firm's capital positions to comply
with applicable regulatory requirements and to support the firm's
ability to continue to serve as a financial intermediary through a
range of conditions.
In developing this rating, the Federal Reserve evaluates:
Capital Planning: The extent to which a firm maintains
sound capital planning practices through effective governance and
oversight; effective risk management and controls; maintenance of
updated capital policies and contingency plans for addressing
potential shortfalls; and incorporation of appropriately stressful
conditions into capital planning and projections of capital
positions; and
Capital Positions: The extent to which a firm's capital
is sufficient to comply with regulatory requirements, and to support
its ability to meet its obligations to depositors, creditors, and
other counterparties and continue to serve as a financial
intermediary through a range of conditions.
Definitions for the Capital Planning and Positions Component Rating
Broadly Meets Expectations
A firm's capital planning and positions broadly meet supervisory
expectations and support maintenance of safe-and-sound operations.
Specifically:
The firm is capable of producing sound assessments of
capital adequacy through a range of conditions; and
The firm's current and projected capital positions
comply with regulatory requirements, and support its ability to
absorb current and potential losses, to meet obligations, and to
continue to serve as a financial intermediary through a range of
conditions.
A firm rated ``Broadly Meets Expectations'' may be subject to
identified supervisory issues requiring corrective action. However,
these issues are unlikely to present a threat to the firm's ability
to maintain safe-and-sound operations through a range of potentially
stressful conditions. [FEDREG][VOL]*[/VOL][NO]*[/NO][DATE]*[/
DATE][RULES] [RULE][PREAMB][AGENCY]*P[AGENCY][SUBJECT]*[/SUBJECT][/
PREAMB] [SUPLINF][HED]*[/HED][REGTEXT]PAPPENDIX][HED]*P/HED]
[[Page 58736]]
A firm that does not meet the capital planning and position
expectations associated with a ``Broadly Meets Expectations'' rating
will be rated ``Conditionally Meets Expectations,'' ``Deficient-1,''
or ``Deficient-2,'' and subject to potential consequences as
outlined below.
Conditionally Meets Expectations
Certain, material financial or operational weaknesses in a
firm's capital planning or positions may place the firm's prospects
for remaining safe and sound through a range of conditions at risk
if not resolved in a timely manner during the normal course of
business.
Specifically, if left unresolved, these weaknesses:
May threaten the firm's ability to produce sound
assessments of capital adequacy through a range of conditions; and/
or
May result in the firm's projected capital positions
being insufficient to absorb potential losses, comply with
regulatory requirements, and support the firm's ability to meet
current and prospective obligations and to continue to serve as a
financial intermediary through a range of conditions.
The Federal Reserve does not intend for a firm to be rated
``Conditionally Meets Expectations'' for a prolonged period. The
firm has the ability to resolve these issues through measures that
do not require a material change to the firm's business model or
financial profile, or its governance, risk management, or internal
control structures or practices. The Federal Reserve will work with
the firm to develop an appropriate timeframe during which the firm
would be required to resolve each supervisory issue leading to the
``Conditionally Meets Expectations'' rating.
The Federal Reserve will closely monitor the firm's remediation
and mitigation activities; in most instances, the firm will either:
(i) Resolve the issues in a timely manner and, if no new
material supervisory issues arise, be upgraded to a ``Broadly Meets
Expectations'' rating because the firm's capital planning practices
and related positions would broadly meet supervisory expectations;
or
(ii) Fail to resolve the issues in a timely manner and be
downgraded to a ``Deficient-1'' rating, because the inability to
resolve the issues would indicate that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
It is possible that a firm may be close to completing resolution
of the supervisory issues leading to the ``Conditionally Meets
Expectations'' rating, but new issues are identified that, taken
alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be
rated ``Conditionally Meets Expectations,'' provided the new issues
do not reflect a pattern of deeper or prolonged capital planning or
position weaknesses consistent with a ``Deficient'' rating.
A ``Conditionally Meets Expectations'' rating may be assigned to
a firm that meets the above definition regardless of its prior
rating. A firm previously rated ``Deficient-1'' may be upgraded to
``Conditionally Meets Expectations'' if the firm's remediation and
mitigation activities are sufficiently advanced so that the firm's
prospects for remaining safe and sound are no longer at significant
risk, even if the firm has outstanding supervisory issues or is
subject to an active enforcement action.
Deficient-1
Financial or operational deficiencies in a firm's capital
planning or positions put the firm's prospects for remaining safe
and sound through a range of conditions at significant risk. The
firm is unable to remediate these deficiencies in the normal course
of business, and remediation would typically require a material
change to the firm's business model or financial profile, or its
capital planning practices.
Specifically, although the firm's current condition is not
considered to be materially threatened:
Deficiencies in the firm's capital planning processes
are not effectively mitigated. These deficiencies limit the firm's
ability to effectively assess capital adequacy through a range of
conditions; and/or
The firm's projected capital positions may be
insufficient to absorb potential losses and to support its ability
to meet current and prospective obligations and serve as a financial
intermediary through a range of conditions.
Supervisory issues that place the firm's safety and soundness at
significant risk, and where resolution is likely to require steps
that clearly go beyond the normal course of business--such as issues
requiring a material change to the firm's business model or
financial profile, or its governance, risk management or internal
control structures or practices--would generally warrant assignment
of a ``Deficient-1'' rating.
A ``Deficient-1'' rating may be assigned to a firm regardless of
its prior rating. A firm previously rated ``Broadly Meets
Expectations'' may be downgraded to ``Deficient-1'' when supervisory
issues are identified that place the firm's prospects for
maintaining safe-and-sound operations through a range of potentially
stressful conditions at significant risk. A firm previously rated
``Conditionally Meets Expectations'' may be downgraded to
``Deficient-1'' when the firm's inability to resolve supervisory
issues in a timely manner indicates that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
To address these financial or operational deficiencies, the firm
is required to take timely corrective action to restore and maintain
its capital planning and positions consistent with supervisory
expectations. There is a strong presumption that a firm rated
``Deficient-1'' will be subject to an informal or formal enforcement
action by the Federal Reserve.
A firm rated ``Deficient-1'' for any rating component would not
be considered ``well managed,'' which would subject the firm to
various consequences. A ``Deficient-1'' rating could be a barrier
for a firm seeking Federal Reserve approval of a proposal to engage
in new or expansionary activities, unless the firm can demonstrate
that (i) it is making meaningful, sustained progress in resolving
identified deficiencies and issues; (ii) the proposed new or
expansionary activities would not present a risk of exacerbating
current deficiencies or issues or lead to new concerns; and (iii)
the proposed activities would not distract the firm from remediating
current deficiencies or issues.
Deficient-2
Financial or operational deficiencies in a firm's capital
planning or positions present a threat to the firm's safety and
soundness, or have already put the firm in an unsafe and unsound
condition.
Specifically, as a result of these deficiencies:
The firm's capital planning processes are insufficient
to effectively assess the firm's capital adequacy through a range of
conditions; and/or
The firm's current or projected capital positions are
insufficient to absorb current or potential losses, and to support
the firm's ability to meet current and prospective obligations and
serve as a financial intermediary through a range of conditions.
To address these deficiencies, the firm is required to
immediately (i) implement comprehensive corrective measures
sufficient to restore and maintain appropriate capital planning
capabilities and adequate capital positions; and (ii) demonstrate
the sufficiency, credibility and readiness of contingency planning
in the event of further deterioration of the firm's financial or
operational strength or resiliency. There is a strong presumption
that a firm rated ``Deficient-2'' will be subject to a formal
enforcement action by the Federal Reserve.
A firm rated ``Deficient-2'' for any rating component would not
be considered ``well managed,'' which would subject the firm to
various consequences. The Federal Reserve would be unlikely to
approve any proposal from a firm rated ``Deficient-2'' to engage in
new or expansionary activities.
2. Liquidity Risk Management and Positions Component Rating
The Liquidity Risk Management and Positions component rating
evaluates (i) the effectiveness of a firm's governance and risk
management processes used to determine the amount of liquidity
necessary to cover risks and exposures, and to support activities
through a range of conditions; and (ii) the sufficiency of a firm's
liquidity positions to comply with applicable regulatory
requirements and to support the firm's ongoing obligations through a
range of conditions.
In developing this rating, the Federal Reserve evaluates:
Liquidity Risk Management: The extent to which a firm
maintains sound liquidity risk management practices through
effective governance and oversight; effective risk management and
controls; maintenance of updated liquidity policies and contingency
plans for addressing potential shortfalls; and incorporation of
appropriately stressful conditions into liquidity planning and
projections of liquidity positions; and
Liquidity Positions: The extent to which a firm's
liquidity is sufficient to comply with
[[Page 58737]]
regulatory requirements, and to support its ability to meet current
and prospective obligations to depositors, creditors and other
counterparties through a range of conditions.
Definitions for the Liquidity Risk Management and Positions Component
Rating
Broadly Meets Expectations
A firm's liquidity risk management and positions broadly meet
supervisory expectations and support maintenance of safe-and-sound
operations. Specifically:
The firm is capable of producing sound assessments of
liquidity adequacy through a range of conditions; and
The firm's current and projected liquidity positions
comply with regulatory requirements, and support its ability to meet
current and prospective obligations and to continue to serve as a
financial intermediary through a range of conditions.
A firm rated ``Broadly Meets Expectations'' may be subject to
identified supervisory issues requiring corrective action. However,
these issues are unlikely to present a threat to the firm's ability
to maintain safe-and-sound operations through a range of potentially
stressful conditions.
A firm that does not meet the liquidity risk management and
position expectations associated with a ``Broadly Meets
Expectations'' rating will be rated ``Conditionally Meets
Expectations,'' ``Deficient-1,'' or ``Deficient-2,'' and subject to
potential consequences as outlined below.
Conditionally Meets Expectations
Certain, material financial or operational weaknesses in a
firm's liquidity risk management or positions may place the firm's
prospects for remaining safe and sound through a range of conditions
at risk if not resolved in a timely manner during the normal course
of business.
Specifically, if left unresolved, these weaknesses:
May threaten the firm's ability to produce sound
assessments of liquidity adequacy through a range of conditions;
and/or
May result in the firm's projected liquidity positions
being insufficient to comply with regulatory requirements, and
support its ability to meet current and prospective obligations and
to continue to serve as a financial intermediary through a range of
conditions.
The Federal Reserve does not intend for a firm to be rated
``Conditionally Meets Expectations'' for a prolonged period. The
firm has the ability to resolve these issues through measures that
do not require a material change to the firm's business model or
financial profile, or its governance, risk management or internal
control structures or practices. The Federal Reserve will work with
the firm to develop an appropriate timeframe during which the firm
would be required to resolve each supervisory issue leading to the
``Conditionally Meets Expectations'' rating.
The Federal Reserve will closely monitor the firm's remediation
and mitigation activities; in most instances, the firm will either:
(i) Resolve the issues in a timely manner and, if no new
material supervisory issues arise, and be upgraded to a ``Broadly
Meets Expectations'' rating because the firm's liquidity risk
management practices and related positions would broadly meet
supervisory expectations; or
(ii) Fail to resolve the issues in a timely manner and be
downgraded to a ``Deficient-1'' rating, because the firm's inability
to resolve those issues would indicate that the firm does not
possess sufficient financial or operational capabilities to maintain
its safety and soundness through a range of conditions.
It is possible that a firm may be close to completing resolution
of the supervisory issues leading to the ``Conditionally Meets
Expectations'' rating, but new issues are identified that, taken
alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be
rated ``Conditionally Meets Expectations,'' provided the new issues
do not reflect a pattern of deeper or prolonged capital planning or
position weaknesses consistent with a ``Deficient'' rating.
A ``Conditionally Meets Expectations'' rating may be assigned to
a firm that meets the above definition regardless of its prior
rating. A firm previously rated ``Deficient-1'' may be upgraded to
``Conditionally Meets Expectations'' if the firm's remediation and
mitigation activities are sufficiently advanced so that the firm's
prospects for remaining safe and sound are no longer at significant
risk, even if the firm has outstanding supervisory issues or is
subject to an active enforcement action.
Deficient-1
Financial or operational deficiencies in a firm's liquidity risk
management or positions put the firm's prospects for remaining safe
and sound through a range of conditions at significant risk. The
firm is unable to remediate these deficiencies in the normal course
of business, and remediation would typically require a material
change to the firm's business model or financial profile, or its
liquidity risk management practices.
Specifically, although the firm's current condition is not
considered to be materially threatened:
Deficiencies in the firm's liquidity risk management
processes are not effectively mitigated. These deficiencies limit
the firm's ability to effectively assess liquidity adequacy through
a range of conditions; and/or
The firm's projected liquidity positions may be
insufficient to support its ability to meet prospective obligations
and serve as a financial intermediary through a range of conditions.
Supervisory issues that place the firm's safety and soundness at
significant risk, and where resolution is likely to require steps
that clearly go beyond the normal course of business--such as issues
requiring a material change to the firm's business model or
financial profile, or its governance, risk management or internal
control structures or practices--would generally warrant assignment
of a ``Deficient-1'' rating.
A ``Deficient-1'' rating may be assigned to a firm regardless of
its prior rating. A firm previously rated ``Broadly Meets
Expectations'' may be downgraded to ``Deficient-1'' when supervisory
issues are identified that place the firm's prospects for
maintaining safe-and-sound operations through a range of potentially
stressful conditions at significant risk. A firm previously rated
``Conditionally Meets Expectations'' may be downgraded to
``Deficient-1'' when the firm's inability to resolve supervisory
issues in a timely manner indicates that the firm does not possess
sufficient financial or operational capabilities to maintain its
safety and soundness through a range of conditions.
To address these financial or operational deficiencies, the firm
is required to take timely corrective action to restore and maintain
its liquidity risk management and positions consistent with
supervisory expectations. There is a strong presumption that a firm
rated ``Deficient-1'' will be subject to an informal or formal
enforcement action by the Federal Reserve.
A firm rated ``Deficient-1'' for any rating component would not
be considered ``well managed,'' which would subject the firm to
various consequences. A ``Deficient-1'' rating could be a barrier
for a firm seeking Federal Reserve approval of a proposal to engage
in new or expansionary activities, unless the firm can demonstrate
that (i) it is making meaningful, sustained progress in resolving
identified deficiencies and issues; (ii) the proposed new or
expansionary activities would not present a risk of exacerbating
current deficiencies or issues or lead to new concerns; and (iii)
the proposed activities would not distract the firm from remediating
current deficiencies or issues.
Deficient-2
Financial or operational deficiencies in a firm's liquidity risk
management or positions present a threat to the firm's safety and
soundness, or have already put the firm in an unsafe and unsound
condition.
Specifically, as a result of these deficiencies:
The firm's liquidity risk management processes are
insufficient to effectively assess the firm's liquidity adequacy
through a range of conditions; and/or
The firm's current or projected liquidity positions are
insufficient to support the firm's ability to meet current and
prospective obligations and serve as a financial intermediary
through a range of conditions.
To address these deficiencies, the firm is required to
immediately (i) implement comprehensive corrective measures
sufficient to restore and maintain appropriate liquidity risk
management capabilities and adequate liquidity positions; and (ii)
demonstrate the sufficiency, credibility and readiness of
contingency planning in the event of further deterioration of the
firm's financial or operational strength or resiliency. There is a
strong presumption that a firm rated ``Deficient-2'' will be subject
to a formal enforcement action by the Federal Reserve.
A firm rated ``Deficient-2'' for any rating component would not
be considered ``well managed,'' which would subject the firm to
various consequences. The Federal Reserve would be unlikely to
approve any proposal
[[Page 58738]]
from a firm rated ``Deficient-2'' to engage in new or expansionary
activities.
3. Governance and Controls Component Rating
The Governance and Controls component rating evaluates the
effectiveness of a firm's (i) board of directors, (ii) management of
business lines and independent risk management and controls, and
(iii) recovery planning (for domestic LISCC firms only). This rating
assesses a firm's effectiveness in aligning strategic business
objectives with the firm's risk appetite and risk management
capabilities; maintaining effective and independent risk management
and control functions, including internal audit; promoting
compliance with laws and regulations, including those related to
consumer protection; and otherwise providing for the ongoing
resiliency of the firm.
In developing this rating, the Federal Reserve evaluates:
Effectiveness of the Board of Directors: The extent to
which the board exhibits attributes that are consistent with those
of effective boards in carrying out its core roles and
responsibilities, including: (i) Setting a clear, aligned, and
consistent direction regarding the firm's strategy and risk
appetite; (ii) directing senior management regarding the board's
information; (iii) overseeing and holding senior management
accountable, (iv) supporting the independence and stature of
independent risk management and internal audit; and (v) maintaining
a capable board composition and governance structure.
Management of Business Lines and Independent Risk
Management and Controls
The extent to which:
[cir] Senior management effectively and prudently manages the
day-to-day operations of the firm and provides for ongoing
resiliency; implements the firm's strategy and risk appetite;
maintains an effective risk management framework and system of
internal controls; and promotes prudent risk taking behaviors and
business practices, including compliance with laws and regulations,
including those related to consumer protection.
[cir] Business line management executes business line activities
consistent with the firm's strategy and risk appetite; identifies
and manages risks; and ensures an effective system of internal
controls for its operations.
[cir] Independent risk management effectively evaluates whether
the firm's risk appetite appropriately captures material risks and
is consistent with the firm's risk management capacity; establishes
and monitors risk limits that are consistent with the firm's risk
appetite; identifies and measures the firm's risks; and aggregates,
assesses and reports on the firm's risk profile and positions.
Additionally, the firm demonstrates that its internal controls are
appropriate and tested for effectiveness. Finally, internal audit
effectively and independently assesses the firm's risk management
framework and internal control systems, and reports findings to
senior management and the firm's audit committee.
Recovery Planning (domestic LISCC firms only): The
extent to which recovery planning processes effectively identify
options that provide a reasonable chance of a firm being able to
remedy financial weakness and restore market confidence without
extraordinary official sector support.
Definitions for the Governance and Controls Component Rating
Broadly Meets Expectations
A firm's governance and controls broadly meet supervisory
expectations and support maintenance of safe-and-sound operations.
Specifically, the firm's practices and capabilities are
sufficient to align strategic business objectives with its risk
appetite and risk management capabilities,\10\ maintain effective
and independent risk management and control functions, including
internal audit; promote compliance with laws and regulations
(including those related to consumer protection); and otherwise
provide for the firm's ongoing financial and operational resiliency
through a range of conditions.
---------------------------------------------------------------------------
\10\ References to risk management capabilities includes risk
management of business lines and independent risk management and
control functions, including internal audit.
---------------------------------------------------------------------------
A firm rated ``Broadly Meets Expectations'' may be subject to
identified supervisory issues requiring corrective action. However,
these issues are unlikely to present a threat to the firm's ability
to maintain safe-and-sound operations through a range of potentially
stressful conditions.
A firm that does not meet supervisory expectations associated
with a ``Broadly Meets Expectations'' rating will be rated
``Conditionally Meets Expectations,'' ``Deficient-1,'' or
``Deficient-2,'' and subject to potential consequences, as outlined
below.
Conditionally Meets Expectations
Certain, material financial or operational weaknesses in a
firm's governance and controls practices may place the firm's
prospects for remaining safe and sound through a range of conditions
at risk if not resolved in a timely manner during the normal course
of business.
Specifically, if left unresolved, these weaknesses may threaten
the firm's ability to align strategic business objectives with the
firm's risk appetite and risk management capabilities; maintain
effective and independent risk management and control functions,
including internal audit; promote compliance with laws and
regulations (including those related to consumer protection); or
otherwise provide for the firm's ongoing resiliency through a range
of conditions.
The Federal Reserve does not intend for a firm to be rated
``Conditionally Meets Expectations'' for a prolonged period. The
firm has the ability to resolve these issues through measures that
do not require a material change to the firm's business model or
financial profile, or its governance, risk management or internal
control structures or practices. The Federal Reserve will work with
the firm to develop an appropriate timeframe during which the firm
would be required to resolve each supervisory issue leading to the
``Conditionally Meets Expectations'' rating.
The Federal Reserve will closely monitor the firm's remediation
and mitigation activities; in most instances, the firm will either:
(i) Resolve the issues in a timely manner and, if no new
material supervisory issues arise, and be upgraded to a ``Broadly
Meets Expectations'' rating because the firm's governance and
controls would broadly meet supervisory expectations; or
(ii) Fail to resolve the issues in a timely manner and be
downgraded to a ``Deficient-1'' rating, because the firm's inability
to resolve those issues would indicate that the firm does not
possess sufficient financial or operational capabilities to maintain
its safety and soundness through a range of conditions.
It is possible that a firm may be close to completing resolution
of the supervisory issues leading to the ``Conditionally Meets
Expectations'' rating, but new issues are identified that, taken
alone, would be consistent with a ``Conditionally Meets
Expectations'' rating. In this event, the firm may continue to be
rated ``Conditionally Meets Expectations,'' provided the new issues
do not reflect a pattern of deeper or prolonged capital planning or
position weaknesses consistent with a ``Deficient'' rating.
A ``Conditionally Meets Expectations'' rating may be assigned to
a firm that meets the above definition regardless of its prior
rating. A firm previously rated ``Deficient'' may be upgraded to
``Conditionally Meets Expectations'' if the firm's remediation and
mitigation activities are sufficiently advanced so that the firm's
prospects for remaining safe and sound are no longer at significant
risk, even if the firm has outstanding supervisory issues or is
subject to an active enforcement action.
Deficient-1
Financial or operational deficiencies in a firm's governance and
controls put the firm's prospects for remaining safe and sound
through a range of conditions at significant risk. The firm is
unable to remediate these deficiencies in the normal course of
business, and remediation would typically require a material change
to the firm's business model or financial profile, or its
governance, risk management or internal control structures or
practices.
Specifically, although the firm's current condition is not
considered to be materially threatened, these deficiencies limit the
firm's ability to align strategic business objectives with its risk
appetite and risk management capabilities; maintain effective and
independent risk management and control functions, including
internal audit; promote compliance with laws and regulations
(including those related to consumer protection); or otherwise
provide for the firm's ongoing resiliency through a range of
conditions.
A ``Deficient-1'' rating may be assigned to a firm regardless of
its prior rating. A firm previously rated ``Broadly Meets
Expectations'' may be downgraded to ``Deficient-1'' when supervisory
issues are identified that place the firm's prospects for
maintaining safe-and-sound operations through a range of potentially
stressful conditions at significant risk. A firm
[[Page 58739]]
previously rated ``Conditionally Meets Expectations'' may be
downgraded to ``Deficient-1'' when the firm's inability to resolve
supervisory issues in a timely manner indicates that the firm does
not possess sufficient financial or operational capabilities to
maintain its safety and soundness through a range of conditions.
To address these financial or operational deficiencies, the firm
is required to take timely corrective action to restore and maintain
its governance and controls consistent with supervisory
expectations. There is a strong presumption that a firm rated
``Deficient-1'' will be subject to an informal or formal enforcement
action by the Federal Reserve.
A firm rated ``Deficient-1'' for any rating component would not
be considered ``well managed,'' which would subject the firm to
various consequences. A ``Deficient-1'' rating could be a barrier
for a firm seeking Federal Reserve approval of a proposal to engage
in new or expansionary activities, unless the firm can demonstrate
that (i) it is making meaningful, sustained progress in resolving
identified deficiencies and issues; (ii) the proposed new or
expansionary activities would not present a risk of exacerbating
current deficiencies or issues or lead to new concerns; and (iii)
the proposed activities would not distract the firm from remediating
current deficiencies or issues.
Deficient-2
Financial or operational deficiencies in governance or controls
present a threat to the firm's safety and soundness, or have already
put the firm in an unsafe and unsound condition. Specifically, as a
result of these deficiencies, the firm is unable to align strategic
business objectives with its risk appetite and risk management
capabilities; maintain effective and independent risk management and
control functions, including internal audit; promote compliance with
laws and regulations (including those related to consumer
protection); or otherwise provide for the firm's ongoing resiliency.
To address these deficiencies, the firm is required to
immediately (i) implement comprehensive corrective measures
sufficient to restore and maintain appropriate governance and
control capabilities; and (ii) demonstrate the sufficiency,
credibility, and readiness of contingency planning in the event of
further deterioration of the firm's financial or operational
strength or resiliency. There is a strong presumption that a firm
rated ``Deficient-2'' will be subject to a formal enforcement action
by the Federal Reserve.
A firm rated ``Deficient-2'' for any rating component would not
be considered ``well managed,'' which would subject the firm to
various consequences. The Federal Reserve would be unlikely to
approve any proposal from a firm rated ``Deficient-2'' to engage in
new or expansionary activities.
By order of the Board of Governors of the Federal Reserve
System, November 2, 2018.
Ann Misback,
Secretary of the Board.
[FR Doc. 2018-25350 Filed 11-19-18; 11:15 am]
BILLING CODE P