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CEBS Stress Testing Consultation: NVB Reaction Summary

Core Content

The Netherlands Bankers' Association (NVB) has provided feedback on the CEBS Consultative Paper 32 on Stress Testing, highlighting both appreciation and concerns regarding the proposed guidelines. The NVB acknowledges the importance of stress testing as a critical tool for understanding and managing risks in banking, particularly in the context of low probability, high impact events. They also recognize the effort by CEBS to formulate best practices in this area, especially following the financial crisis. However, they raise several practical concerns and request further clarification on specific aspects of the guidelines.

Main Views and Key Points

1. Implementation Timeline

• The NVB is concerned about the short timeframe for implementing the guidelines, with a deadline set for June 30th.
• They suggest postponing the introduction of the guidelines to January 2011 to allow sufficient time for banks to adapt and comply.

2. Stress Testing vs. Sensitivity Analysis

• The NVB notes that the document covers both stress testing and sensitivity analysis, which are distinct processes with different objectives.
• They emphasize that sensitivity analysis should be used to identify material risk types, and stress testing should follow to assess potential losses.

3. Effectiveness of Stress Testing

• The NVB is uncertain about how to define and monitor the effectiveness of stress testing, especially since it can only be truly tested during a crisis.
• They question whether the 2008 crisis should be used as a benchmark for future stress testing scenarios.

4. Benchmarking and External Data

• The NVB raises concerns about the feasibility of benchmarking stress tests against external data, as there are no established databases for this purpose.
• They suggest that the added value of external benchmarking should be carefully considered in practice.

5. Reverse Stress Testing

• The NVB supports the concept of reverse stress testing but questions how it should be applied in practice.
• They are concerned that using extreme values for risk drivers may not lead to insolvency due to diversification benefits and request more guidance.

6. Second Order Effects

• The NVB notes that assessing second order effects is difficult in practice, especially in the context of macro-economic shocks.
• They suggest that further clarification is needed on how to incorporate these effects into stress testing.

7. Guideline 14: Outputs and Impacts

• The NVB is unclear on how to apply Guideline 14, which requires institutions to identify outputs related to regulatory capital and financial impacts.
• They request additional guidance on this point.

8. Guideline 15: Credible Management Actions

• The NVB fully agrees with Guideline 15, which emphasizes the need for credible management actions to ensure ongoing solvency during stress scenarios.
• They consider this the most important reason for conducting stress tests.

9. Guideline 17: Capital Planning

• The NVB supports Guideline 17, which links stress testing to an institution's risk appetite and strategy.
• They see it as a useful instrument for evaluating risk management frameworks.

10. Stressed LGD Rates

• The NVB raises a specific question regarding the treatment of Loss Given Default (LGD) rates in stress testing during a crisis.
• They are unsure whether institutions should apply an additional level of stress to LGD rates or use a different value altogether.

Conclusion

The NVB appreciates the effort by CEBS to establish best practices for stress testing but emphasizes the need for more practical guidance and clarification on several key aspects. Their feedback highlights the importance of aligning stress testing with real-world conditions and ensuring that the process remains a meaningful risk management tool rather than a mere exercise in calculation.