OCC Office of the Comptroller of the Currency by alicejenny


									13656   Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices

                                                              DEPARTMENT OF THE TREASURY

                                                              Office of the Comptroller of the
                                                              [Docket ID OCC–2010–0004]

                                                              FEDERAL RESERVE SYSTEM
                                                              [Docket No. OP–1362]

                                                              FEDERAL DEPOSIT INSURANCE

                                                              DEPARTMENT OF THE TREASURY

                                                              Office of Thrift Supervision
                                                              [Docket ID OTS–2010–0005]

                                                              NATIONAL CREDIT UNION

                                                              Interagency Policy Statement on
                                                              Funding and Liquidity Risk
                                                              AGENCY:  Office of the Comptroller of the
                                                              Currency, Treasury (OCC); Board of
                                                              Governors of the Federal Reserve
                                                              System (FRB); Federal Deposit
                                                              Insurance Corporation (FDIC); Office of
                                                              Thrift Supervision, Treasury (OTS); and
                                                              National Credit Union Administration
                                                              ACTION: Final policy statement.

                                                              SUMMARY:   The OCC, FRB, FDIC, OTS,
                                                              and NCUA (the agencies) in conjunction
                                                              with the Conference of State Bank
                                                              Supervisors (CSBS), are adopting this
                                                              policy statement. The policy statement
                                                              summarizes the principles of sound
                                                              liquidity risk management that the
                                                              agencies have issued in the past and,
                                                              when appropriate, supplements them
                                                              with the ‘‘Principles for Sound Liquidity
                                                              Risk Management and Supervision’’
                                                              issued by the Basel Committee on
                                                              Banking Supervision (BCBS) in
                                                              September 2008.1 This policy statement
                                                              emphasizes supervisory expectations for
                                                              all depository institutions including
                                                              banks, thrifts, and credit unions.
                                                              DATES: This policy statement is effective
                                                              on May 21, 2010. Comments on the
                                                              Paperwork Reduction Act burden
                                                              estimates only may be submitted on or
                                                              before April 21, 2010.
                                                              FOR FURTHER INFORMATION CONTACT:
                                                                 OCC: Kerri Corn, Director for Market
                                                              Risk, Credit and Market Risk Division,
                                                              (202) 874–5670 or J. Ray Diggs, Group
                                                              Leader: Balance Sheet Management,
                                                              Credit and Market Risk Division, (202)
                                                                1 NCUA is not a member of the Basel Committee

                                                              on Banking Supervision and federally insured
                                                              credit unions are not directly referenced in the
                                                              principles issued by the Committee.
                             Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices                                      13657

  FRB: James Embersit, Deputy                     be expected to maintain liquidity            has been omitted from this final policy
Associate Director, Market and                    commensurate with their own profiles         statement.
Liquidity Risk, 202–452–5249 or Mary              on a stand-alone basis. These                   Many commenters expressed concern
Arnett, Supervisory Financial Analyst,            commenters indicated that the language       over whether the agencies were being
Market and Liquidity Risk, 202–721–               in the proposed statement suggested          too prescriptive in the policy statement
4534 or Brendan Burke, Supervisory                that each regulated entity affiliated with   regarding expectations for contingency
Financial Analyst, Supervisory Policy             a parent financial institution would be      funding plans (CFPs). These
and Guidance, 202–452–2987.                       required to maintain its own cushion of      commenters asserted that there needs to
  FDIC: Kyle Hadley, Chief Capital                liquid assets. This could result in          be flexibility in the design of CFPs such
Markets Examination Support, (202)                restrictions on the movement of              that institutions can respond quickly to
898–6532.                                         liquidity within an organization in a        rapidly moving events that may not
  OTS: Rich Gaffin, Financial Analyst,            time of stress. Such restrictions are        have been anticipated during the design
Risk Modeling and Analysis, (202) 906–            commonly referred to as ‘‘trapped pools      of the CFP. Other commenters asked
6181or Marvin Shaw, Senior Attorney,              of liquidity’’. These commenters assert      whether the policy statement requires
Regulations and Legislation Division,             that there are advantages to maintaining     institutions to use certain funding
(202) 906–6639.                                   liquidity on a centralized basis that        sources (e.g., FHLB advances or
  NCUA: Amy Stroud, Program Officer,              were evident during the current market       brokered deposits) in order to show
Office of Examination and Insurance,              disruption. Further, they assert that        diversification of funding within their
(703) 518–6372.                                   requiring separate pools of liquidity        CFP.
                                                  may discourage the use of operating             The agencies believe that the policy
                                                  subsidiaries.                                statement provides adequate flexibility
I. Background                                        The agencies recognize the need for       in supervisory expectations for the
   The recent turmoil in the financial            clarification of the principles              development and use of CFPs. In fact
markets clearly demonstrated the                  surrounding the management of                the policy statement provides a basic
importance of good liquidity risk                 liquidity with respect to the                framework that allows for compliance
management to the safety and                      circumstances and responsibilities of        across a broad range of business models
soundness of financial institutions. In           various types of legal entities and          whether financial institutions are large
light of this experience, supervisors             supervisory interests pertaining to them,    or small. While the policy statement
                                                  and, therefore, have clarified the scope     addresses the need to diversify an
worked on an international and national
                                                  of application of the policy statement       institution’s funding sources, there is no
level through various groups 2 to assess
                                                  with regard to the maintenance of            requirement to use a particular funding
the lessons learned on individual
                                                  liquidity on a legal entity basis.           source. The agencies believe that a
institutions’ management of liquidity
                                                  Specifically, the policy statement           diversification of funding sources
risk and inform future supervisory
                                                  indicates that the agencies expect           strengthens an institution’s ability to
efforts on this topic. As one result of
                                                  depository institutions to maintain          withstand idiosyncratic and market
these efforts, the Basel Committee on
                                                  adequate liquidity both at the               wide liquidity shocks.
Banking Supervision issued in
                                                  consolidated level and at significant           Many commenters representing
September 2008, Principles for Sound
                                                  legal entities. The agencies recognize       financial institution trade organizations
Liquidity Risk Management and
                                                  that a depository institution’s approach     (both domestic and international) and
Supervision, which contains 17                    to liquidity risk management will            special-purpose organizations such as
principles detailing international                depend on the scope of its business          banker’s banks and clearing house
supervisory guidance for sound                    operations, business mix, and other          organizations expressed concern over
liquidity risk management.                        legal or operational constraints. As an      the treatment of federal funds purchased
II. Comments on the Proposed Policy               overarching principle, depository            as a concentration of funding. As of this
Statement                                         institutions should maintain sufficient      writing, under a separate issuance, the
                                                  liquidity to ensure compliance during        agencies issued for public comment,
   On July 6, 2009, the agencies
                                                  economically stressed periods with           ‘‘Correspondent Concentrations Risks.’’ 4
requested public comment on all
                                                  applicable legal and regulatory              That guidance covers supervisory
aspects of a proposed interagency policy
                                                  restrictions on the transfer of liquidity    expectations for the risks that can occur
statement 3 on funding and liquidity risk         among regulated entities. The agencies
management. The comment period                                                                 in correspondent relationships. The
                                                  have modified the language in the            draft guidance can be found at http://
closed on September 4, 2009. The                  policy statement to reflect this view.
agencies received 22 letters from                                                              www.occ.treas.gov/fr/fedregister/
                                                     The principles of liquidity risk          74fr48956.pdf.
financial institutions, bank consultants,         management articulated in this policy           Some commenters expressed concern
industry trade groups, and individuals.           statement are broadly applicable to bank     over limiting the high-quality liquid
Overall, the commenters generally                 and thrift holding companies, and non-       assets used in the liquidity buffer to
supported the agencies’ efforts to                insured subsidiaries of holding              securities such as U.S. Treasuries. These
consolidate and supplement supervisory            companies. However, because such             commenters assert that limiting the
expectations for liquidity risk                   institutions may face unique liquidity       liquidity buffer to these instruments
management.                                       risk profiles and liquidity management       would limit diversification of funding
   Many commenters expressed concern              challenges, the Federal Reserve and          sources and potentially harm market
regarding the proposed policy                     Office of Thrift Supervision are             liquidity.
statement’s articulation of the principle         articulating the applicability of the           The agencies agree with some
that separately regulated entities would          policy statement’s principles to these       comments on the need for a liquidity
                                                  institutions in transmittal letters of the   buffer of unencumbered high-quality
  2 Significant international groups addressing
                                                  policy statement to their regulated          assets sized to cover an institution’s risk
these issues include the Basel Committee on
Banking Supervision (BCBS), Senior Supervisors    institutions. As a result, the guidance
Group, and the Financial Stability Board.         for holding companies contained in the         4 NCUA did not participate in this proposed
  3 74 FR 32035, (July 9, 2009).                  original proposal issued for comment         guidance.
13658                    Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices

given an appropriate stress test. The         the NCUA’s Examiner’s Guide but                     this information collection. The
agencies believe that such buffers form       provides a uniform set of sound                     comments are summarized below.
an essential part of an effective liquidity   business practices, with the expectation              Comments continue to be invited on:
risk management system. The question          that each institution will scale the                  (a) Whether the collection of
centers on the composition of assets that     guidance to its complexity and risk                 information is necessary for the proper
make up an institution’s liquidity            profile. The policy statement, when                 performance of the Federal banking
buffer. This is an issue that not only        issued by NCUA, will likely be an                   agencies’ functions, including whether
resonates with this domestic policy           attachment to an NCUA Letter to Credit              the information has practical utility;
statement but with the Basel Committee        Unions. The letter will provide                       (b) The accuracy of the estimates of
on Banking Supervision’s (BCBS)               additional guidance to federally insured            the burden of the information
‘‘Principles for Sound Liquidity Risk         credit unions on NCUA’s expectations.               collection, including the validity of the
Management and Supervision.’’ It is the       The two credit union commenters also                methodology and assumptions used;
intention of the agencies for institutions    characterized the policy statement as                 (c) Ways to enhance the quality,
to maintain a buffer of liquid assets that    imposing additional burden on federally             utility, and clarity of the information to
are of such high quality that they can be     insured credit unions, specifically as it           be collected;
easily and immediately converted into         relates to stress testing and overall                 (d) Ways to minimize the burden of
cash. Additionally, these assets should       liquidity management reporting.                     the information collection on
have little or no loss in value when          Depending on a credit union’s risk                  respondents, including through the use
converted into cash. In addition to the       profile, such testing and reporting is              of automated collection techniques or
example used in the policy statement,         already expected. NCUA ‘‘Letter to                  other forms of information technology;
other examples of high-quality liquid         Credit Unions 02–CU–05, Examination                 and
assets may include government                 Program Liquidity Questionnaire’’,                    (e) Estimates of capital or start up
guaranteed debt, excess reserves at the       issued in March of 2002, includes                   costs and costs of operation,
Federal Reserve, and securities issued        examiner review of stress testing                   maintenance, and purchase of services
by U.S. government sponsored agencies.        performed as well as an overall                     to provide information.
The policy statement was amended to           assessment of the adequacy of                         Comments on these questions should
include additional examples.                  management reporting.5 The policy                   be directed to:
   Some commenters expressed concern                                                                OCC: Communications Division,
                                              statement does not add to a credit
over supervisory expectations for CFP                                                             Office of the Comptroller of the
                                              union’s current burden in this regard
testing. These commenters assert that                                                             Currency, Mailstop 2–3, Attention
                                              but rather clarifies NCUA’s expectation
the agencies need to clarify their                                                                1557–NEW, 250 E Street, SW.,
                                              for those credit unions with risk profiles
expectations for testing of components                                                            Washington, DC 20219. In addition
                                              warranting a higher degree of liquidity
of the CFP.                                                                                       comments may be sent by fax to (202)
                                              risk management.
   The agencies agreed with the                  Lastly, the two credit union                     874–5274, or by electronic mail to
commenters and have amended the               commenters encouraged NCUA to not                   regs.comments@occ.treas.gov. You may
policy statement to include a                 include corporate credit unions within              personally inspect and photocopy
recognition that testing of certain           the scope of this policy statement as the           comments at the OCC, 250 E Street,
elements of the CFP may be impractical.       corporate credit union network may be               SW., Washington, DC. For security
For example, this may include the sale        restructured. NCUA’s intent is for the              reasons, the OCC requires that visitors
of assets in which the sale of such assets    policy statement to apply only to                   make an appointment to inspect
may have unintended market                    federally insured, natural person credit            comments. You may do so by calling
consequences. However, other                                                                      (202) 874–4700. Upon arrival, visitors
                                              unions, not corporate credit unions and
components of the CFP can and should                                                              will be required to present valid
                                              the policy statement has been modified
be tested (e.g., operational components                                                           government-issued photo identification
                                              to clarify that point.
such as ensuring that roles and                  Accordingly, for all the reasons                 and to submit to security screening in
responsibilities are up-to-date and           discussed above, the agencies have                  order to inspect and photocopy
appropriate; ensuring that legal and          determined that it is appropriate to                comments.
operational documents are current and         adopt as final the proposed policy                    FRB: You may submit comments,
appropriate; and ensuring that cash           statement as amended.                               identified by Docket No. OP–1362, by
collateral can be moved where and                                                                 any of the following methods:
when needed and back-up liquidity             III. Paperwork Reduction Act                          • Agency Web site: http://
lines can be drawn).                             In accordance with section 3512 of               www.federalreserve.gov. Follow the
   Two credit union commenters                the Paperwork Reduction Act of 1995,                instructions for submitting comments at
questioned the need for NCUA to adopt         44 U.S.C. 3501–3521 (PRA), the                      http://www.federalreserve.gov/
the proposed policy statement in light of     Agencies may not conduct or sponsor,                generalinfo/foia/ProposedRegs.cfm.
existing guidance in NCUA’s Examiner’s        and the respondent is not required to                 • Federal eRulemaking Portal: http://
Guide. The commenters questioned the          respond to, an information collection               www.regulations.gov. Follow the
appropriateness of imposing new               unless it displays a currently valid                instructions for submitting comments.
requirements on credit unions. The            Office of Management and Budget                       • E-mail:
purpose of the policy statement is to         (OMB) control number. The information               regs.comments@federalreserve.gov.
reiterate the process and liquidity risk      collection requirements contained in                Include the docket number in the
management measures that depository           this guidance have been submitted to                subject line of the message.
institutions, including federally insured     OMB for approval.                                     • FAX: 202/452–3819 or 202/452–
credit unions, should follow to                  On July 6, 2009,6 the agencies sought            3102.
appropriately manage related risks. The       comment on the burden estimates for                   • Mail: Jennifer J. Johnson, Secretary,
policy statement does not impose                                                                  Board of Governors of the Federal
requirements and contemplates                   5 The letter can be found at NCUA’s Web site at   Reserve System, 20th Street and
flexibility in its application. The policy    http://www.ncua.gov/letters/2002/02–CU–05.html.     Constitution Avenue, NW., Washington,
statement is also not intended to replace       6 74 FR 32035.                                    DC 20551.
                        Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices                              13659

   All public comments are available         ProposedRegulations.aspx Follow the             Section 20 would require that
from the FRB’s Web site at http://           instructions for submitting comments.        liquidity risk reports provide aggregate
www.federalreserve.gov/generalinfo/             • E-mail: Address to                      information with sufficient supporting
foia/ProposedRegs.cfm as submitted,          regcomments@ncua.gov. Include ‘‘[Your        detail to enable management to assess
unless modified for technical reasons.       name] Comments on Proposed                   the sensitivity of the institution to
Accordingly, your comments will not be       Interagency Guidance—Funding and             changes in market conditions, its own
edited to remove any identifying or          Liquidity Risk Management,’’ in the e-       financial performance, and other
contact information. Public comments         mail subject line.                           important risk factors. Institutions
may also be viewed in electronic or             • Fax: (703) 518–6319. Use the            should also report on the use of and
paper form in Room MP–500 of the             subject line described above for e-mail.     availability of government support, such
FRB’s Martin Building (20th and C               • Mail: Address to Mary F. Rupp,          as lending and guarantee programs, and
Streets, NW.) between 9 a.m. and 5 p.m.      Secretary of the Board, National Credit      implications on liquidity positions,
on weekdays.                                 Union Administration, 1775 Duke              particularly since these programs are
   FDIC: Interested parties are invited to   Street, Alexandria, Virginia 22314–          generally temporary or reserved as a
submit written comments. All                 3428.                                        source for contingent funding.
comments should refer to the name of            • Hand Delivery/Courier: Same as             Comment Summary: The OCC, FRB,
the collection, ‘‘Liquidity Risk             mail address.                                and OTS received one comment
Management.’’ Comments may be                   Public inspection: All public             regarding its burden estimates under the
submitted by any of the following            comments are available on the agency’s       Paperwork Reduction Act. The
methods:                                     Web site at http://www.ncua.gov/             comment, which was from a trade
   • http://www.FDIC.gov/regulations/        Resources/RegulationsOpinionsLaws/           association, stated that some community
laws/federal/propose.html.                   ProposedRegulations.aspx as submitted,       banks with less than $10 billion in
   • E-mail: comments@fdic.gov.              except as may not be possible for            assets reported to them that the estimate
   • Mail: Leneta G. Gregorie                technical reasons. Public comments will      of 80 burden hours for small
(202.898.3719), Counsel, Federal             not be edited to remove any identifying      respondents is accurate. Other
Deposit Insurance Corporation,               or contact information. Paper copies of      community banks estimated that it
PA1730–3000, 550 17th Street, NW.,           comments may be inspected in NCUA’s          would take significantly longer,
Washington, DC 20429.                        law library, at 1775 Duke Street,            especially in the first year of
   • Hand Delivery: Comments may be          Alexandria, Virginia 22314, by               implementation. The agencies have
hand-delivered to the guard station at       appointment weekdays between 9 a.m.          determined that, on average, the burden
the rear of the 550 17th Street Building     and 3 p.m. To make an appointment,           estimate is accurate and, therefore they
(located on F Street), on business days      call (703) 518–6546 or send an e-mail to     have not changed the burden estimates
between 7 a.m. and 5 p.m.                    _OGC Mail @ncua.gov.                         in the final policy statement.
   OTS: Send comments, referring to the         You should send a copy of your               The NCUA received two comments
collection by title of the proposal or by    comments to the OMB Desk Officer for         from trade organizations regarding the
OMB approval number, to OMB and              the agencies, by mail to U.S. Office of      Paperwork Reduction Act, section III,
OTS at these addresses: Office of            Management and Budget, 725 17th              items (a) through (e). One commenter
Information and Regulatory Affairs,          Street, NW., #10235, Washington, DC          stated that no additional information
Attention: Desk Officer for OTS, U.S.        20503, or by fax to (202) 395–6974.          should be required of credit unions if
Office of Management and Budget, 725–           Title of Information Collection:          they are following current procedures
17th Street, NW., Room 10235,                Funding and Liquidity Risk                   addressed in NCUA’s Examiner’s Guide.
Washington, DC 20503, or by fax to           Management.                                  Sections 14 and 20 of the proposed
(202) 395–6974; and Information                 OMB Control Numbers: New                  guidance include specific analysis and
Collection Comments, Chief Counsel’s         collection; to be assigned by OMB.           reporting expectations based on the
Office, Office of Thrift Supervision,           Abstract: Section 14 states that          complexity of the credit union and risk
1700 G Street, NW., Washington, DC           institutions should consider liquidity       profile. The time estimates provided by
20552, by fax to (202) 906–6518, or by       costs, benefits, and risks in strategic      NCUA reflect the estimated amount of
e-mail to                                    planning and budgeting processes.            time if credit unions complied with
infocollection.comments@ots.treas.gov.       Significant business activities should be    those expectations. The time burden
OTS will post comments and the related       evaluated for liquidity risk exposure as     estimate is not in addition to complying
index on the OTS Internet Site at http://    well as profitability. More complex and      with NCUA Examiner’s Guide and such
www.ots.treas.gov. In addition,              sophisticated institutions should            analysis and reporting are existing
interested persons may inspect               incorporate liquidity costs, benefits, and   expectations for complex, higher risk
comments at the Public Reading Room,         risks in the internal product pricing,       credit unions (refer to Letter to Credit
1700 G Street, NW., by appointment. To       performance measurement, and new             Unions 02–CU–05). It is difficult to
make an appointment, call (202) 906–         product approval process for all             accurately estimate how many credit
5922, send an e-mail to                      material business lines, products and        unions would have an implementation
public.info@ots.treas.gov, or send a         activities. Incorporating the cost of        burden for Sections 14 and 20 under the
facsimile transmission to (202) 906–         liquidity into these functions should        proposed guidance and the extent of
7755.                                        align the risk-taking incentives of          that additional burden. It is largely
   NCUA: You may submit comments by          individual business lines with the           dependent upon the structure of the
any of the following methods (Please         liquidity risk exposure their activities     credit union and the inherent risks
send comments by one method only):           create for the institution as a whole. The   present, which will fluctuate over time.
   • Federal eRulemaking Portal: http://     quantification and attribution of            The initial comment period for the
www.regulations.gov. Follow the              liquidity risks should be explicit and       guidance solicited comments on time
instructions for submitting comments.        transparent at the line management           burden estimates. No specific responses
   NCUA Web Site: http://                    level and should include consideration       were provided from credit unions to
www.ncua.gov/Resources/                      of how liquidity would be affected           support or challenge the time estimates
RegulationsOpinionsLaws/                     under stressed conditions.                   provided. The time estimates provided
13660                    Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices

are an average per credit union based on        Burden under Section 14: 720 hours                    these principles with the international
asset size alone and may not accurately       per large respondent, 240 hours per                     statement recently issued by the Basel
reflect the time necessary for a              mid-size respondent, and 80 hours per                   Committee on Banking Supervision
particular credit union to comply with        small respondent.                                       titled ‘‘Principles for Sound Liquidity
the expectations of Sections 14 and 20.         Burden under Section 20: 4 hours per                  Risk Management and Supervision.’’ 9
   Affected Public:                           month.                                                     2. Recent events illustrate that
   OCC: National banks, their                   Total estimated annual burden:                        liquidity risk management at many
subsidiaries, and federal branches or         128,128.                                                financial institutions is in need of
agencies of foreign banks.                      NCUA:                                                 improvement. Deficiencies include
   FRB: Bank holding companies, state           Number of respondents: 7,736 total                    insufficient holdings of liquid assets,
member banks, state-licensed branches         (153 large (over $1 billion in assets), 501             funding risky or illiquid asset portfolios
and agencies of foreign banks (other          mid-size ($250 million to $1 billion),                  with potentially volatile short-term
than insured branches), and                   and 7,082 small (less than $250                         liabilities, and a lack of meaningful cash
corporations organized or operating           million)).                                              flow projections and liquidity
under sections 25 or 25A of the Federal         Burden under Section 14: 240 hours                    contingency plans.
Reserve Act (Agreement corporations           per large respondent, 80 hours per mid-                    3. The following guidance reiterates
and Edge corporations).                       size respondent, and 20 hours per small                 the process that institutions should
   FDIC: Insured state nonmember              respondent.                                             follow to appropriately identify,
banks.                                          Burden under Section 20: 2 hours per                  measure, monitor, and control their
   OTS: Federal savings associations and      month.                                                  funding and liquidity risk. In particular,
                                                Total estimated annual burden:                        the guidance re-emphasizes the
their affiliated holding companies.
   NCUA: Federally-insured credit             404,104.                                                importance of cash flow projections,
unions.                                       IV. Guidance                                            diversified funding sources, stress
   Type of Review: Regular.                                                                           testing, a cushion of liquid assets, and
                                                The text of the Interagency Policy
   Estimated Burden:                                                                                  a formal well-developed contingency
                                              Statement on Funding and Liquidity
   OCC:                                                                                               funding plan (CFP) as primary tools for
                                              Risk Management is as follows:
   Number of respondents: 1,560 total                                                                 measuring and managing liquidity risk.
(13 large (over $100 billion in assets), 29   Interagency Policy Statement on                         The agencies expect every depository
mid-size ($10–$100 billion), 1,518 small      Funding and Liquidity Risk                              financial institution 10 to manage
(less than $10 billion)).                     Management                                              liquidity risk using processes and
   Burden Under Section 14: 720 hours           1. The Office of the Comptroller of the               systems that are commensurate with the
per large respondent, 240 hours per           Currency (OCC), Board of Governors of                   institution’s complexity, risk profile,
mid-size respondent, and 80 hours per         the Federal Reserve System (FRB),                       and scope of operations. Liquidity risk
small respondent.                             Federal Deposit Insurance Corporation                   management processes and plans
   Burden under Section 20: 4 hours per       (FDIC), the Office of Thrift Supervision                should be well documented and
month.                                        (OTS), and the National Credit Union                    available for supervisory review. Failure
   Total estimated annual burden:             Administration (NCUA) (collectively,                    to maintain an adequate liquidity risk
212,640 hours.                                                                                        management process will be considered
                                              the agencies) in conjunction with the
   FRB:                                                                                               an unsafe and unsound practice.
                                              Conference of State Bank Supervisors
   Number of respondents: 6,156 total         (CSBS) 7 are issuing this guidance to                   Liquidity and Liquidity Risk
(29 large (over $100 billion in assets);      provide consistent interagency
117 mid-size ($10–$100 billion); and                                                                     4. Liquidity is a financial institution’s
                                              expectations on sound practices for                     capacity to meet its cash and collateral
6,010 small (less than $10 billion).          managing funding and liquidity risk.
   Burden under Section 14: 720 hours                                                                 obligations at a reasonable cost.
                                              The guidance summarizes the principles                  Maintaining an adequate level of
per large respondent, 240 hours per
                                              of sound liquidity risk management that                 liquidity depends on the institution’s
mid-size respondent, and 80 hours per
                                              the agencies have issued in the past 8                  ability to efficiently meet both expected
small respondent.
                                              and, where appropriate, harmonizes                      and unexpected cash flows and
   Burden under Section 20: 4 hours per
month.                                                                                                collateral needs without adversely
                                                 7 The various state banking supervisors may
   Total estimated annual burden:                                                                     affecting either daily operations or the
                                              implement this policy statement through their
825,248 hours.                                individual supervisory process.                         financial condition of the institution.
   FDIC:                                         8 For national banks, see the Comptroller’s             5. Liquidity risk is the risk that an
   Number of respondents: 5,076 total         Handbook on Liquidity. For state member banks           institution’s financial condition or
(10 large (over $20 billion in assets), 309   and bank holding companies, see the Federal             overall safety and soundness is
                                              Reserve’s Commercial Bank Examination Manual            adversely affected by an inability (or
mid-size ($1–$20 billion), 4,757 small        (section 4020), Bank Holding Company Supervision
(less than $1 billion)).                      Manual (section 4010), and Trading and Capital          perceived inability) to meet its
   Burden under Section 14: 720 hours         Markets Activities Manual (section 2030). For state
per large respondent, 240 hours per           non-member banks, see the FDIC’s Revised                   9 Basel Committee on Banking Supervision,

                                              Examination Guidance for Liquidity and Funds            ‘‘Principles for Sound Liquidity Risk Management
mid-size respondent, and 80 hours per         Management (Trans. No. 2002–01) (Nov. 19, 2001)         and Supervision’’, September 2008. See http://
small respondent.                             as well as Financial Institution Letter 84–2008,        www.bis.org/publ/bcbs144.htm. Federally insured
   Burden under Section 20: 4 hours per       Liquidity Risk Management (August 2008). For            credit unions are not directly referenced in the
month.                                        savings associations, see the Office of Thrift          principles issued by the Basel Committee.
                                              Supervision’s Examination Handbook, section 530,           10 Unless otherwise indicated, this interagency
   Total estimated annual burden:             ‘‘Cash Flow and Liquidity Management’’; and the         guidance uses the term ‘‘depository financial
705,564.                                      Holding Companies Handbook, section 600. For            institutions’’ or ‘‘institutions’’ to include banks,
   OTS:                                       federally insured credit unions, see Letter to Credit   saving associations, and federally insured natural
   Number of respondents: 801 total (14       Unions No. 02–CU–05, Examination Program                person credit unions. Federally insured credit
                                              Liquidity Questionnaire (March 2002). Also see          unions (FICUs) do not have holding company
large (over $100 billion in assets), 104      Basel Committee on Banking Supervision,                 affiliations, and, therefore, references to holding
mid-size ($10–$100 billion), 683 small        ‘‘Principles for Sound Liquidity Risk Management        companies contained within this guidance are not
(less than $10 billion)).                     and Supervision,’’ (September 2008).                    applicable to FICUs.
                         Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices                                13661

obligations. An institution’s obligations,   events and emergency cash flow                   9. Senior management should
and the funding sources used to meet         requirements.                                 determine the structure, responsibilities,
them, depend significantly on its               • Internal controls and internal audit     and controls for managing liquidity risk
business mix, balance-sheet structure,       processes sufficient to determine the         and for overseeing the liquidity
and the cash flow profiles of its on- and    adequacy of the institution’s liquidity       positions of the institution. These
off-balance-sheet obligations. In            risk management process.                      elements should be clearly documented
managing their cash flows, institutions         Supervisors will assess these critical     in liquidity risk policies and
confront various situations that can give    elements in their reviews of an               procedures. For institutions comprised
rise to increased liquidity risk. These      institution’s liquidity risk management       of multiple entities, such elements
include funding mismatches, market           process in relation to its size,              should be fully specified and
constraints on the ability to convert        complexity, and scope of operations.          documented in policies for each
assets into cash or in accessing sources                                                   material legal entity and subsidiary.
of funds (i.e., market liquidity), and       Corporate Governance
                                                                                           Senior management should be able to
contingent liquidity events. Changes in          7. The board of directors is ultimately
                                                                                           monitor liquidity risks for each entity
economic conditions or exposure to           responsible for the liquidity risk
credit, market, operation, legal, and                                                      across the institution on an ongoing
                                             assumed by the institution. As a result,
reputation risks also can affect an          the board should ensure that the              basis. Processes should be in place to
institution’s liquidity risk profile and     institution’s liquidity risk tolerance is     ensure that the group’s senior
should be considered in the assessment       established and communicated in such          management is actively monitoring and
of liquidity and asset/liability             a manner that all levels of management        quickly responding to all material
management.                                  clearly understand the institution’s          developments and reporting to the
                                             approach to managing the trade-offs           boards of directors as appropriate.
Sound Practices of Liquidity Risk
                                             between liquidity risk and short-term            10. Institutions should clearly identify
                                             profits. The board of directors or its        the individuals or committees
   6. An institution’s liquidity             delegated committee of board members          responsible for implementing and
management process should be                 should oversee the establishment and          making liquidity risk decisions. When
sufficient to meet its daily funding         approval of liquidity management              an institution uses an asset/liability
needs and cover both expected and            strategies, policies and procedures, and      committee (ALCO) or other similar
unexpected deviations from normal            review them at least annually. In             senior management committee, the
operations. Accordingly, institutions        addition, the board should ensure that        committee should actively monitor the
should have a comprehensive                  it:                                           institution’s liquidity profile and should
management process for identifying,              • Understands the nature of the           have sufficiently broad representation
measuring, monitoring, and controlling       liquidity risks of its institution and
liquidity risk. Because of the critical                                                    across major institutional functions that
                                             periodically reviews information
importance to the viability of the                                                         can directly or indirectly influence the
                                             necessary to maintain this
institution, liquidity risk management       understanding.                                institution’s liquidity risk profile (e.g.,
should be fully integrated into the              • Establishes executive-level lines of    lending, investment securities,
institution’s risk management processes.     authority and responsibility for              wholesale and retail funding).
Critical elements of sound liquidity risk    managing the institution’s liquidity risk.    Committee members should include
management include:                              • Enforces management’s duties to         senior managers with authority over the
   • Effective corporate governance          identify, measure, monitor, and control       units responsible for executing
consisting of oversight by the board of      liquidity risk.                               liquidity-related transactions and other
directors and active involvement by              • Understands and periodically            activities within the liquidity risk
management in an institution’s control       reviews the institution’s CFPs for            management process. In addition, the
of liquidity risk.                           handling potential adverse liquidity          committee should ensure that the risk
   • Appropriate strategies, policies,       events.                                       measurement system adequately
procedures, and limits used to manage            • Understands the liquidity risk          identifies and quantifies risk exposure.
and mitigate liquidity risk.                 profiles of important subsidiaries and        The committee also should ensure that
   • Comprehensive liquidity risk            affiliates as appropriate.                    the reporting process communicates
measurement and monitoring systems               8. Senior management is responsible       accurate, timely, and relevant
(including assessments of the current        for ensuring that board-approved              information about the level and sources
and prospective cash flows or sources        strategies, policies, and procedures for      of risk exposure.
and uses of funds) that are                  managing liquidity (on both a long-term
commensurate with the complexity and         and day-to-day basis) are appropriately       Strategies, Policies, Procedures, and
business activities of the institution.      executed within the lines of authority        Risk Tolerances
   • Active management of intraday           and responsibility designated for                11. Institutions should have
liquidity and collateral.                    managing and controlling liquidity risk.      documented strategies for managing
   • An appropriately diverse mix of         This includes overseeing the
                                                                                           liquidity risk and clear policies and
existing and potential future funding        development and implementation of
sources.                                                                                   procedures for limiting and controlling
                                             appropriate risk measurement and
   • Adequate levels of highly liquid        reporting systems, liquid buffers (e.g.,      risk exposures that appropriately reflect
marketable securities free of legal,         cash, unencumbered marketable                 the institution’s risk tolerances.
regulatory, or operational impediments,      securities, and market instruments),          Strategies should identify primary
that can be used to meet liquidity needs     CFPs, and an adequate internal control        sources of funding for meeting daily
in stressful situations.                     infrastructure. Senior management is          operating cash outflows, as well as
   • Comprehensive contingency               also responsible for regularly reporting      seasonal and cyclical cash flow
funding plans (CFPs) that sufficiently       to the board of directors on the liquidity    fluctuations. Strategies should also
address potential adverse liquidity          risk profile of the institution.              address alternative responses to various
13662                           Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices

adverse business scenarios.11 Policies                    (corporate-owned) life insurance, and        risk exposure and profitability. More
and procedures should provide for the                     less marketable loan portfolios).            complex and sophisticated institutions
formulation of plans and courses of                          • Funding concentrations that             should incorporate liquidity costs,
actions for dealing with potential                        address diversification of funding           benefits, and risks in the internal
temporary, intermediate-term, and long-                   sources and types, such as large liability   product pricing, performance
term liquidity disruptions. Policies,                     and borrowed funds dependency,               measurement, and new product
procedures, and limits also should                        secured versus unsecured funding             approval process for all material
address liquidity separately for                          sources, exposures to single providers of    business lines, products, and activities.
individual currencies, legal entities, and                funds, exposures to funds providers by       Incorporating the cost of liquidity into
business lines, when appropriate and                      market segments, and different types of      these functions should align the risk-
material, and should allow for legal,                     brokered deposits or wholesale funding.      taking incentives of individual business
regulatory, and operational limits for the                   • Funding concentrations that             lines with the liquidity risk exposure
transferability of liquidity as well.                     address the term, re-pricing, and market     their activities create for the institution
Senior management should coordinate                       characteristics of funding sources with      as a whole. The quantification and
the institution’s liquidity risk                          consideration given to the nature of the     attribution of liquidity risks should be
management with disaster, contingency,                    assets they fund. This may include           explicit and transparent at the line
and strategic planning efforts, as well as                diversification targets for short-,          management level and should include
with business line and risk management                    medium-, and long-term funding;              consideration of how liquidity would be
objectives, strategies, and tactics.                      instrument type and securitization           affected under stressed conditions.
                                                          vehicles; and guidance on
   12. Policies should clearly articulate a               concentrations for currencies and            Liquidity Risk Measurement,
liquidity risk tolerance that is                          geographical markets.                        Monitoring, and Reporting
appropriate for the business strategy of                     • Contingent liability exposures such        15. The process of measuring liquidity
the institution considering its                           as unfunded loan commitments, lines of       risk should include robust methods for
complexity, business mix, liquidity risk                  credit supporting asset sales or             comprehensively projecting cash flows
profile, and its role in the financial                    securitizations, and collateral              arising from assets, liabilities, and off-
system. Policies should also contain                      requirements for derivatives                 balance-sheet items over an appropriate
provisions for documenting and                            transactions and various types of            set of time horizons. For example, time
periodically reviewing assumptions                        secured lending.                             buckets may be daily for very short
used in liquidity projections. Policy                        • Exposures of material activities,       timeframes out to weekly, monthly, and
guidelines should employ both                             such as securitization, derivatives,         quarterly for longer time frames. Pro
quantitative targets and qualitative                      trading, transaction processing, and         forma cash flow statements are a critical
guidelines. For example, these                            international activities, to broad           tool for adequately managing liquidity
measurements, limits, and guidelines                      systemic and adverse financial market        risk. Cash flow projections can range
may be specified in terms of the                          events. This is most applicable to           from simple spreadsheets to very
following measures and conditions, as                     institutions with complex and                detailed reports depending upon the
applicable:                                               sophisticated liquidity risk profiles.       complexity and sophistication of the
   • Cash flow projections that include                      • Alternative measures and                institution and its liquidity risk profile
discrete and cumulative cash flow                         conditions may be appropriate for            under alternative scenarios. Given the
mismatches or gaps over specified                         certain institutions.                        critical importance that assumptions
future time horizons under both                              13. Policies also should specify the      play in constructing measures of
expected and adverse business                             nature and frequency of management           liquidity risk and projections of cash
conditions.                                               reporting. In normal business                flows, institutions should ensure that
                                                          environments, senior managers should         the assumptions used are reasonable,
   • Target amounts of unencumbered                       receive liquidity risk reports at least      appropriate, and adequately
liquid asset reserves.                                    monthly, while the board of directors        documented. Institutions should
   • Measures used to identify unstable                   should receive liquidity risk reports at     periodically review and formally
liabilities and liquid asset coverage                     least quarterly. Depending upon the          approve these assumptions. Institutions
ratios. For example, these may include                    complexity of the institution’s business     should focus particular attention on the
ratios of wholesale funding to total                      mix and liquidity risk profile,              assumptions used in assessing the
liabilities, potentially volatile retail                  management reporting may need to be          liquidity risk of complex assets,
(e.g., high-cost or out-of-market)                        more frequent. Regardless of an              liabilities, and off-balance-sheet
deposits to total deposits, and other                     institution’s complexity, it should have     positions. Assumptions applied to
liability dependency measures, such as                    the ability to increase the frequency of     positions with uncertain cash flows,
short-term borrowings as a percent of                     reporting on short notice, if the need       including the stability of retail and
total funding.                                            arises. Liquidity risk reports should        brokered deposits and secondary market
   • Asset concentrations that could                      impart to senior management and the          issuances and borrowings, are especially
increase liquidity risk through a limited                 board a clear understanding of the           important when they are used to
ability to convert to cash (e.g., complex                 institution’s liquidity risk exposure,       evaluate the availability of alternative
financial instruments,12 bank-owned                       compliance with risk limits, consistency     sources of funds under adverse
                                                          between management’s strategies and          contingent liquidity scenarios. Such
  11 In formulating liquidity management strategies,
                                                          tactics, and consistency between these       scenarios include, but are not limited to,
members of complex banking groups should take             strategies and the board’s expressed risk    deterioration in the institution’s asset
into consideration their legal structures (e.g.,          tolerance.                                   quality or capital adequacy.
branches versus separate legal entities and                  14. Institutions should consider             16. Institutions should ensure that
operating subsidiaries), key business lines, markets,     liquidity costs, benefits, and risks in      assets are properly valued according to
products, and jurisdictions in which they operate.
  12 Financial instruments that are illiquid, difficult   strategic planning and budgeting             relevant financial reporting and
to value, or marked by the presence of cash flows         processes. Significant business activities   supervisory standards. An institution
that are irregular, uncertain, or difficult to model.     should be evaluated for both liquidity       should fully factor into its risk
                          Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices                                              13663

management practices the consideration         requirements associated with accessing                     consolidated level and at significant
that valuations may deteriorate under          the collateral given its physical location                 legal entities.
market stress and take this into account       (i.e., the custodian institution or                           22. Regardless of its organizational
in assessing the feasibility and impact of     securities settlement system with which                    structure, it is important that an
asset sales on its liquidity position          the collateral is held). Institutions                      institution actively monitor and control
during stress events.                          should also fully understand the                           liquidity risks at the level of individual
   17. Institutions should ensure that         potential demand on required and                           legal entities, and the group as a whole,
their vulnerabilities to changing              available collateral arising from various                  incorporating processes that aggregate
liquidity needs and liquidity capacities       types of contractual contingencies                         data across multiple systems in order to
are appropriately assessed within              during periods of both marketwide and                      develop a group-wide view of liquidity
meaningful time horizons, including            institution-specific stress.                               risk exposures. It is also important that
intraday, day-to-day, short-term weekly                                                                   the institution identify constraints on
and monthly horizons, medium-term              Management Reporting
                                                                                                          the transfer of liquidity within the
horizons of up to one year, and longer-          20. Liquidity risk reports should                        group.
term liquidity needs of one year or            provide aggregate information with                            23. Assumptions regarding the
more. These assessments should include         sufficient supporting detail to enable                     transferability of funds and collateral
vulnerabilities to events, activities, and     management to assess the sensitivity of                    should be described in liquidity risk
strategies that can significantly strain       the institution to changes in market                       management plans.
the capability to generate internal cash.      conditions, its own financial
                                                                                                          Intraday Liquidity Position Management
Stress Testing                                 performance, and other important risk
                                               factors. The types of reports or                              24. Intraday liquidity monitoring is an
   18. Institutions should conduct stress
                                               information and their timing will vary                     important component of the liquidity
tests regularly for a variety of
                                               according to the complexity of the                         risk management process for institutions
institution-specific and marketwide
                                               institution’s operations and risk profile.                 engaged in significant payment,
events across multiple time horizons.
                                               Reportable items may include but are                       settlement, and clearing activities. An
The magnitude and frequency of stress
                                               not limited to cash flow gaps, cash flow                   institution’s failure to manage intraday
testing should be commensurate with
                                               projections, asset and funding                             liquidity effectively, under normal and
the complexity of the financial
                                               concentrations, critical assumptions                       stressed conditions, could leave it
institution and the level of its risk
                                               used in cash flow projections, key early                   unable to meet payment and settlement
exposures. Stress test outcomes should
be used to identify and quantify sources       warning or risk indicators, funding                        obligations in a timely manner,
of potential liquidity strain and to           availability, status of contingent funding                 adversely affecting its own liquidity
analyze possible impacts on the                sources, or collateral usage. Institutions                 position and that of its counterparties.
institution’s cash flows, liquidity            should also report on the use of and                       Among large, complex organizations,
position, profitability, and solvency.         availability of government support, such                   the interdependencies that exist among
Stress tests should also be used to            as lending and guarantee programs, and                     payment systems and the inability to
ensure that current exposures are              implications on liquidity positions,                       meet certain critical payments has the
consistent with the financial                  particularly since these programs are                      potential to lead to systemic disruptions
institution’s established liquidity risk       generally temporary or reserved as a                       that can prevent the smooth functioning
tolerance. Management’s active                 source for contingent funding.                             of all payment systems and money
involvement and support is critical to                                                                    markets. Therefore, institutions with
                                               Liquidity Across Currencies, Legal
the effectiveness of the stress testing                                                                   material payment, settlement and
                                               Entities, and Business Lines
process. Management should discuss                                                                        clearing activities should actively
the results of stress tests and take              21. A depository institution should                     manage their intraday liquidity
remedial or mitigating actions to limit        actively monitor and control liquidity                     positions and risks to meet payment and
the institution’s exposures, build up a        risk exposures and funding needs                           settlement obligations on a timely basis
liquidity cushion, and adjust its              within and across currencies, legal                        under both normal and stressed
liquidity profile to fit its risk tolerance.   entities, and business lines. Also,                        conditions. Senior management should
The results of stress tests should also        depository institutions should take into                   develop and adopt an intraday liquidity
play a key role in shaping the                 account operational limitations to the                     strategy that allows the institution to:
institution’s contingency planning. As         transferability of liquidity, and should                      • Monitor and measure expected
such, stress testing and contingency           maintain sufficient liquidity to ensure                    daily gross liquidity inflows and
planning are closely intertwined.              compliance during economically                             outflows.
                                               stressed periods with applicable legal                        • Manage and mobilize collateral
Collateral Position Management                 and regulatory restrictions on the                         when necessary to obtain intraday
  19. An institution should have the           transfer of liquidity among regulated                      credit.
ability to calculate all of its collateral     entities. The degree of centralization in                     • Identify and prioritize time-specific
positions in a timely manner, including        managing liquidity should be                               and other critical obligations in order to
the value of assets currently pledged          appropriate for the depository                             meet them when expected.
relative to the amount of security             institution’s business mix and liquidity                      • Settle other less critical obligations
required and unencumbered assets               risk profile.13 The agencies expect                        as soon as possible.
available to be pledged. An institution’s      depository institutions to maintain                           • Control credit to customers when
level of available collateral should be        adequate liquidity both at the                             necessary.
monitored by legal entity, jurisdiction,                                                                     • Ensure that liquidity planners
and currency exposure, and systems               13 Institutions subject to multiple regulatory           understand the amounts of collateral
should be capable of monitoring shifts         jurisdictions should have management strategies            and liquidity needed to perform
                                               and processes that recognize the potential
between intraday and overnight or term         limitations of liquidity transferability, as well as the
                                                                                                          payment-system obligations when
collateral usage. An institution should        need to meet the liquidity requirements of foreign         assessing the organization’s overall
be aware of the operational and timing         jurisdictions.                                             liquidity needs.
13664                   Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices

Diversified Funding                          sources of wholesale funds are critical                30. Management should ensure that
                                             for smaller, less complex institutions.              unencumbered, highly liquid assets are
   25. An institution should establish a        28. An institution should identify                readily available and are not pledged to
funding strategy that provides effective     alternative sources of funding that                  payment systems or clearing houses.
diversification in the sources and tenor     strengthen its capacity to withstand a               The quality of unencumbered liquid
of funding. It should maintain an            variety of severe institution-specific and           assets is important as it will ensure
ongoing presence in its chosen funding       marketwide liquidity shocks. Depending               accessibility during the time of most
markets and strong relationships with        upon the nature, severity, and duration              need. An institution could use its
funds providers to promote effective         of the liquidity shock, potential sources            holdings of high-quality securities, for
diversification of funding sources. An       of funding include, but are not limited              example, U.S. Treasury securities,
institution should regularly gauge its       to, the following:                                   securities issued by U.S. government-
capacity to raise funds quickly from            • Deposit growth.                                 sponsored agencies, excess reserves at
each source. It should identify the main        • Lengthening maturities of                       the central bank or similar instruments,
factors that affect its ability to raise     liabilities.                                         and enter into repurchase agreements in
funds and monitor those factors closely         • Issuance of debt instruments.14                 response to the most severe stress
to ensure that estimates of fund raising        • Sale of subsidiaries or lines of                scenarios.
capacity remain valid.                       business.
   26. An institution should diversify          • Asset securitization.                           Contingency Funding Plan 15
                                                • Sale (either outright or through                   31. All financial institutions,
available funding sources in the short-
                                             repurchase agreements) or pledging of                regardless of size and complexity,
, medium-, and long-term.
                                             liquid assets.                                       should have a formal CFP that clearly
Diversification targets should be part of       • Drawing down committed facilities.
the medium- to long-term funding plans                                                            sets out the strategies for addressing
                                                • Borrowing.
and should be aligned with the                                                                    liquidity shortfalls in emergency
budgeting and business planning              Cushion of Liquid Assets                             situations. A CFP should delineate
process. Funding plans should take into         29. Liquid assets are an important                policies to manage a range of stress
account correlations between sources of      source of both primary (operating                    environments, establish clear lines of
funds and market conditions. Funding         liquidity) and secondary (contingent                 responsibility, and articulate clear
should also be diversified across a full     liquidity) funding at many institutions.             implementation and escalation
range of retail as well as secured and       Indeed, a critical component of an                   procedures. It should be regularly tested
unsecured wholesale sources of funds,        institution’s ability to effectively                 and updated to ensure that it is
consistent with the institution’s            respond to potential liquidity stress is             operationally sound. For certain
sophistication and complexity.               the availability of a cushion of highly              components of the CFP, affirmative
Management should also consider the          liquid assets without legal, regulatory,             testing (e.g., liquidation of assets) may
funding implications of any government       or operational impediments (i.e.,                    be impractical. In these instances,
programs or guarantees it uses. As with      unencumbered) that can be sold or                    institutions should be sure to test
wholesale funding, the potential             pledged to obtain funds in a range of                operational components of the CFP. For
unavailability of government programs        stress scenarios. These assets should be             example, ensuring that roles and
over the intermediate- and long-tem          held as insurance against a range of                 responsibilities are up-to-date and
should be fully considered in the            liquidity stress scenarios including                 appropriate; ensuring that legal and
development of liquidity risk                those that involve the loss or                       operational documents are up-to-date
management strategies, tactics, and risk     impairment of typically available                    and appropriate; and ensuring that cash
tolerances. Funding diversification          unsecured and/or secured funding                     and collateral can be moved where and
should be implemented using limits           sources. The size of the cushion of such             when needed, and ensuring that
addressing counterparties, secured           high-quality liquid assets should be                 contingent liquidity lines can be drawn
versus unsecured market funding,             supported by estimates of liquidity                  when needed.
instrument type, securitization vehicle,     needs performed under an institution’s                  32. Contingent liquidity events are
and geographic market. In general,           stress testing as well as aligned with the           unexpected situations or business
funding concentrations should be             risk tolerance and risk profile of the               conditions that may increase liquidity
avoided. Undue over-reliance on any          institution. Management estimates of                 risk. The events may be institution-
one source of funding is considered an       liquidity needs during periods of stress             specific or arise from external factors
unsafe and unsound practice.                 should incorporate both contractual and              and may include:
                                                                                                     • The institution’s inability to fund
   27. An essential component of             noncontractual cash flows, including
                                                                                                  asset growth.
ensuring funding diversity is                the possibility of funds being                          • The institution’s inability to renew
maintaining market access. Market            withdrawn. Such estimates should also                or replace maturing funding liabilities.
access is critical for effective liquidity   assume the inability to obtain unsecured                • Customers unexpectedly exercising
risk management as it affects both the       and uninsured funding as well as the                 options to withdraw deposits or exercise
ability to raise new funds and to            loss or impairment of access to funds                off-balance-sheet commitments.
liquidate assets. Senior management          secured by assets other than the safest,                • Changes in market value and price
should ensure that market access is          most liquid assets.                                  volatility of various asset types.
being actively managed, monitored, and                                                               • Changes in economic conditions,
                                               14 Federally insured credit unions can borrow
tested by the appropriate staff. Such                                                             market perception, or dislocations in the
                                             funds (which includes issuing debt) as given in
efforts should be consistent with the        section 106 of the Federal Credit Union Act          financial markets.
institution’s liquidity risk profile and     (FCUA). Section 106 of the FCUA as well as section
sources of funding. For example, access      741.2 of the NCUA Rules and Regulations establish       15 Financial institutions that have had their

to the capital markets is an important       specific limitations on the amount that can be       liquidity supported by temporary government
                                             borrowed. Federal Credit Unions can borrow from      programs administered by the Department of the
consideration for most large complex         natural persons in accordance with the               Treasury, Federal Reserve and/or FDIC should not
institutions, whereas the availability of    requirements of part 701.38 of the NCUA Rules and    base their liquidity strategies on the belief that such
correspondent lines of credit and other      Regulations.                                         programs will remain in place indefinitely.
                                Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices                                               13665

   • Disturbances in payment and                          events that, while relatively infrequent,               to measure the institution’s ability to
settlement systems due to operational or                  could significantly impact the                          fund operations. Common tools to
local disasters.                                          institution’s operations. A CFP should:                 assess funding mismatches include:
   33. Insured institutions should be                        • Identify Stress Events. Stress events                 Æ Liquidity gap analysis—A cash flow
prepared for the specific contingencies                   are those that may have a significant                   report that essentially represents a base
that will be applicable to them if they                   impact on the institution’s liquidity                   case estimate of where funding
become less than Well Capitalized                         given its specific balance-sheet                        surpluses and shortfalls will occur over
pursuant to Prompt Correction Action                      structure, business lines, organizational               various future time frames.
(PCA) provisions under the Federal                        structure, and other characteristics.                      Æ Stress tests—A pro forma cash flow
Deposit Insurance Corporation                             Possible stress events may include                      report with the ability to estimate future
Improvement Act.16 Contingencies may                      deterioration in asset quality, changes in              funding surpluses and shortfalls under
include restricted rates paid for                         agency credit ratings, PCA capital                      various liquidity stress scenarios and
deposits, the need to seek approval from                  categories and CAMELS 19 ratings                        the institution’s ability to fund expected
the FDIC/NCUA to accept brokered                          downgrades, widening of credit default                  asset growth projections or sustain an
deposits, and the inability to accept any                 spreads, operating losses, declining                    orderly liquidation of assets under
brokered deposits.17                                      financial institution equity prices,                    various stress events.
   34. A CFP provides a documented                        negative press coverage, or other events                   • Identify Potential Funding Sources.
framework for managing unexpected                         that may call into question an                          Because liquidity pressures may spread
liquidity situations. The objective of the                institution’s ability to meet its                       from one funding source to another
CFP is to ensure that the institution’s                   obligations.                                            during a significant liquidity event,
sources of liquidity are sufficient to                       • Assess Levels of Severity and                      institutions should identify alternative
fund normal operating requirements                        Timing. The CFP should delineate the                    sources of liquidity and ensure ready
under contingent events. A CFP also                       various levels of stress severity that can              access to contingent funding sources. In
identifies alternative contingent                         occur during a contingent liquidity                     some cases, these funding sources may
liquidity resources 18 that can be                        event and identify the different stages                 rarely be used in the normal course of
employed under adverse liquidity                          for each type of event. The events,                     business. Therefore, institutions should
circumstances. An institution’s CFP                       stages, and severity levels identified                  conduct advance planning and periodic
should be commensurate with its                           should include temporary disruptions,                   testing to ensure that contingent funding
complexity, risk profile, and scope of                    as well as those that might be more                     sources are readily available when
operations. As macroeconomic and                          intermediate term or longer-term.                       needed.
institution-specific conditions change,                   Institutions can use the different stages                  • Establish Liquidity Event
CFPs should be revised to reflect these                   or levels of severity identified to design              Management Processes. The CFP should
changes                                                   early-warning indicators, assess                        provide for a reliable crisis management
   35. Contingent liquidity events can                    potential funding needs at various                      team and administrative structure,
range from high-probability/low-impact                    points in a developing crisis, and                      including realistic action plans used to
events to low-probability/high-impact                     specify comprehensive action plans.                     execute the various elements of the plan
events. Institutions should incorporate                   The length of the scenario will be                      for given levels of stress. Frequent
planning for high-probability/low-                        determined by the type of stress event                  communication and reporting among
impact liquidity risks into the day-to-                   being modeled and should encompass                      team members, the board of directors,
day management of sources and uses of                     the duration of the event.                              and other affected managers optimize
funds. Institutions can generally                            • Assess Funding Sources and Needs.                  the effectiveness of a contingency plan
accomplish this by assessing possible                     A critical element of the CFP is the                    during an adverse liquidity event by
variations around expected cash flow                      quantitative projection and evaluation                  ensuring that business decisions are
projections and providing for adequate                    of expected funding needs and funding                   coordinated to minimize further
liquidity reserves and other means of                     capacity during the stress event. This                  disruptions to liquidity. Such events
raising funds in the normal course of                     entails an analysis of the potential                    may also require the daily computation
business. In contrast, all financial                      erosion in funding at alternative stages                of regular liquidity risk reports and
institution CFPs will typically focus on                  or severity levels of the stress event and              supplemental information. The CFP
                                                          the potential cash flow mismatches that                 should provide for more frequent and
   16 See 12 U.S.C. 1831o; 12 CFR 6 (OCC), 12 CFR         may occur during the various stress                     more detailed reporting as the stress
208.40 (FRB), 12 CFR 325.101 (FDIC), and 12 CFR           levels. Management should base such                     situation intensifies.
565 (OTS) and 12 U.S.C. 1790d; 12 CFR 702                 analysis on realistic assessments of the                   • Establish a Monitoring Framework
(NCUA).                                                                                                           for Contingent Events. Institution
   17 Section 38 of the FDI Act (12 U.S.C. 1831o)
                                                          behavior of funds providers during the
                                                          event and incorporate alternative                       management should monitor for
requires insured depository institutions that are not
well capitalized to receive approval prior to             contingency funding sources. The                        potential liquidity stress events by using
engaging in certain activities. Section 38 restricts or   analysis also should include all material               early-warning indicators and event
prohibits certain activities and requires an insured
                                                          on- and off-balance-sheet cash flows and                triggers. The institution should tailor
depository institution to submit a capital restoration                                                            these indicators to its specific liquidity
plan when it becomes undercapitalized. Section            their related effects. The result should
216 of the Federal Credit Union Act and part 702          be a realistic analysis of cash inflows,                risk profile. The early recognition of
of the NCUA Rules and Regulations establish the           outflows, and funds availability at                     potential events allows the institution to
requirements and restrictions for federally insured
                                                          different time intervals during the                     position itself into progressive states of
credit unions under Prompt Corrective Action. For                                                                 readiness as the event evolves, while
brokered, nonmember deposits, additional                  potential liquidity stress event in order
restrictions apply to federal credit unions as given                                                              providing a framework to report or
in parts 701.32 and 742 of the NCUA Rules and               19 Federally insured credit unions are evaluated      communicate within the institution and
Regulations.                                              using the ‘‘CAMEL’’ rating system, which is             to outside parties. Early-warning signals
   18 There may be time constraints, sometimes            substantially similar to the ‘‘CAMELS’’ system          may include, but are not limited to,
lasting weeks, encountered in initially establishing      without the ‘‘S’’ component for rating Sensitivity to
lines with FRB and/or FHLB. As a result, financial        market risk. Information on NCUA’s rating system
                                                                                                                  negative publicity concerning an asset
institutions should plan to have these lines set up       can be found in Letter to Credit Unions 07–CU–12,       class owned by the institution,
well in advance.                                          CAMEL Rating System.                                    increased potential for deterioration in
13666                   Federal Register / Vol. 75, No. 54 / Monday, March 22, 2010 / Notices

the institution’s financial condition,       be subject to stress tests since              and evaluates the various components
widening debt or credit default swap         devaluations or market uncertainty            of the institution’s liquidity risk
spreads, and increased concerns over         could reduce the amount of contingent         management process. These reviews
the funding of off-balance-sheet items.      funding that can be obtained from             should assess the extent to which the
   36. To mitigate the potential for         pledging a given asset. Additionally,         institution’s liquidity risk management
reputation contagion, effective              triggering events should be understood        complies with both supervisory
communication with counterparties,           and monitored by liquidity managers.          guidance and industry sound practices,
credit-rating agencies, and other               39. Institutions should test various       taking into account the level of
stakeholders when liquidity problems         elements of the CFP to assess their           sophistication and complexity of the
arise is of vital importance. Smaller        reliability under times of stress.            institution’s liquidity risk profile.20
institutions that rarely interact with the   Institutions that rarely use the type of      Smaller, less-complex institutions may
media should have plans in place for         funds they identify as standby sources        achieve independence by assigning this
how they will manage press inquiries         of liquidity in a stress situation, such as   responsibility to the audit function or
that may arise during a liquidity event.     the sale or securitization of loans,          other qualified individuals independent
In addition, groupwide contingency           securities repurchase agreements,             of the risk management process. The
funding plans, liquidity cushions, and       Federal Reserve discount window               independent review process should
multiple sources of funding are              borrowing, or other sources of funds,         report key issues requiring attention
mechanisms that may mitigate                 should periodically test the operational      including instances of noncompliance
reputation concerns.                         elements of these sources to ensure that      to the appropriate level of management
   37. In addition to early-warning          they work as anticipated. However,            for prompt corrective action consistent
indicators, institutions that issue public   institutions should be aware that during      with approved policy.
debt, use warehouse financing,               real stress events, prior market access
                                             testing does not guarantee that these           Dated: March 3, 2010.
securitize assets, or engage in material
                                             funding sources will remain available         John C. Dugan,
over-the-counter derivative transactions
typically have exposure to event triggers    within the same time frames and/or on         Comptroller of the Currency.
embedded in the legal documentation          the same terms.                                 By order of the Board of Governors of the
governing these transactions.                   40. Larger, more complex institutions      Federal Reserve System, March 15, 2010.
                                             can benefit by employing operational
Institutions that rely upon brokered                                                       Jennifer J. Johnson,
                                             simulations to test communications,
deposits should also incorporate PCA-                                                      Secretary of the Board.
                                             coordination, and decision making
related downgrade triggers into their
                                             involving managers with different               Dated at Washington, DC, the 4th day of
CFPs since a change in PCA status could
                                             responsibilities, in different geographic     March 2010.
have a material bearing on the
                                             locations, or at different operating            By order of the Federal Deposit Insurance
availability of this funding source.
                                             subsidiaries. Simulations or tests run        Corporation.
Contingent event triggers should be an
                                             late in the day can highlight specific        Valerie J. Best,
integral part of the liquidity risk
                                             problems such as difficulty in selling
monitoring system. Institutions that                                                       Assistant Executive Secretary.
                                             assets or borrowing new funds at a time
originate and/or purchase loans for asset    when business in the capital markets            Dated: March 16, 2010.
securitization programs pose heightened      may be less active.                             By the Office of Thrift Supervision.
liquidity risk concerns due to the
                                             Internal Controls                             John E. Bowman,
unexpected funding needs associated
with an early amortization event or                                                        Acting Director.
                                                41. An institution’s internal controls
disruption of warehouse funding.             consist of procedures, approval                 Dated: March 4, 2010.
Institutions that securitize assets should   processes, reconciliations, reviews, and        By the National Credit Union
have liquidity contingency plans that        other mechanisms designed to provide          Administration Board.
address these risks.                         assurance that the institution manages        Mary F. Rupp,
   38. Institutions that rely upon secured   liquidity risk consistent with board-         Secretary of the Board.
funding sources also are subject to          approved policy. Appropriate internal         [FR Doc. 2010–6137 Filed 3–19–10; 8:45 am]
potentially higher margin or collateral      controls should address relevant
                                                                                           BILLING CODE 6720–01–P; 4810–33–P; 6210–01–P;
requirements that may be triggered upon      elements of the risk management               6714–01–P; 7535–01–P
the deterioration of a specific portfolio    process, including adherence to policies
of exposures or the overall financial        and procedures, the adequacy of risk            20 This includes the standards established in this

condition of the institution. The ability    identification, risk measurement,             interagency guidance as well as the supporting
of a financially stressed institution to     reporting, and compliance with                material each agency provides in its examination
meet calls for additional collateral         applicable rules and regulations.             manuals and handbooks directed at their
should be considered in the CFP.                42. Management should ensure that          supervised institutions. Industry standards include
                                                                                           those advanced by recognized industry associations
Potential collateral values also should      an independent party regularly reviews
                                                                                           and groups.

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