## Dodd-Frank Act Stress Test 2014: Supervisory Stress Test Methodology and Results

## Revised Capital Framework

On July 2, 2013, the Board approved a revised capital framework that implements the Basel III regulatory capital reforms and certain changes required by the Dodd-Frank Act (revised capital framework).^{34} The revised capital framework affects the calculation of the regulatory capital ratios in the Dodd-Frank Act stress test because in the supervisory stress test each BHC's regulatory capital ratios for each projection quarter of the planning horizon are calculated *in accordance with the regulatory capital requirements that will be in effect during that quarter*. ^{} ^{35} The remainder of this section describes the changes to the capital ratios associated with the phase-in of the revised capital framework.

As a result of the phase-in of the revised capital framework, the definition of regulatory capital (the numerators of the capital ratios) and the calculation of RWAs (the denominator of some of the regulatory capital ratios) vary over the nine-quarter stress test horizon. In addition, a new regulatory capital ratio--the common equity tier 1 ratio--was introduced during the course of the nine-quarter planning horizon.

Table 1 shows the applicability of the common equity tier 1 ratio and the rules used to calculate the numerators and denominators of the capital ratios for each BHC. For the first quarter of the planning horizon--the fourth quarter of 2013--three regulatory capital ratios are calculated for all BHCs: the tier 1 capital ratio, the total capital ratio, and the tier 1 leverage ratio.^{36} The tier 1 and total capital ratios are defined as tier 1 capital and total capital, respectively, divided by RWAs, while the tier 1 leverage ratio equals tier 1 capital divided by average total assets.

For Q4 2013, tier 1 and total capital are calculated based on the regulatory capital rules in place before adoption of the revised capital framework (Basel I-based capital rules), and RWAs are calculated using the "general risk-based capital approach" in those rules.

Beginning in the second quarter of the stress test horizon (the first quarter of 2014), the DFAST capital ratios for advanced approaches BHCs, other than the tier 1 common ratio, reflect the definitions of regulatory capital under the revised capital framework. For other BHCs, the revised definition of capital does not occur until the sixth quarter of the planning horizon (the first quarter of 2015). The new definitions of capital include changes to certain limitations on the instruments that can be included in regulatory capital and the items that must be deducted, such as intangible assets like goodwill.

The revised capital framework also introduces a new regulatory capital ratio beginning in 2014--the common equity tier 1 ratio.^{37} This ratio equals common equity tier 1 capital divided by RWAs, where common equity tier 1 equals the common stock instruments and related surplus, retained earnings, AOCI for advanced approaches BHCs, and limited amounts of common equity tier 1 minority interest, minus applicable regulatory adjustments and deductions. This ratio was calculated for advanced approaches BHCs starting in the second quarter of the stress test horizon (Q1 2014), and for all other BHCs participating in the Dodd-Frank Act stress tests starting in the last year of the stress test horizon (2015).

Starting in 2015, the revised capital framework introduces a new standardized approach for risk weighting assets, which will replace the calculation of risk weights using the general risk-based capital approach. For this stress test cycle, the denominator of each BHC's capital ratios, other than the tier 1 common ratio, was calculated using the general approach for the first five quarters of the planning horizon (for the fourth quarter of 2013 through the last quarter of 2014) and was calculated using the standardized approach for the last four quarters of the planning horizon (for all quarters in 2015). By comparison, the tier 1 common capital ratio is calculated using the general approach in place as of October 1, 2013, for all nine quarters of the planning horizon.

The results for DFAST 2014 continue to include the tier 1 common capital ratio.^{38} The tier 1 common capital ratio equals the common equity portion of tier 1 capital divided by RWAs. The tier 1 common ratio differs from the common equity tier 1 ratio because (1) for advanced approaches companies, most elements of AOCI flow through to common equity tier 1, but not to tier 1 common capital; (2) more assets are subject to deduction from common equity tier 1 capital than from tier 1 common capital, including investments in unconsolidated financial institutions and all deferred tax assets that arise from operating losses and tax credit carry forwards; and, (3) beginning in 2015, the denominators of the two ratios will use different approaches for calculating RWAs. Preserving the tier 1 common ratio maintains consistency with previous stress testing cycles during the phase-in of the new common equity tier 1 capital ratio.

Capital ratio | Aspect of ratio | Q4 2013 | 2014 | 2015 |
---|---|---|---|---|

Advanced approaches BHCs |
||||

Common equity tier 1 ratio | Capital in numerator | n.a. | Revised capital framework | Revised capital framework |

Denominator | n.a. | General approach RWAs | Standardized approach RWAs | |

Tier 1 ratio | Capital in numerator | Basel I-based capital | Revised capital framework | Revised capital framework |

Denominator | General approach RWAs | General approach RWAs | Standardized approach RWAs | |

Total capital ratio | Capital in numerator | Basel I-based capital | Revised capital framework | Revised capital framework |

Denominator | General approach RWAs | General approach RWAs | Standardized approach RWAs | |

Tier 1 leverage ratio | Capital in numerator | Basel I-based capital | Revised capital framework | Revised capital framework |

Denominator | Average assets | Average assets | Average assets | |

Tier 1 common ratio | Capital in numerator | Basel I-based capital | Basel I-based capital | Basel I-based capital |

Denominator | General approach RWAs | General approach RWAs | General approach RWAs | |

Other BHCs |
||||

Common equity tier 1 ratio | Capital in numerator | n.a. | n.a. | Revised capital framework |

Denominator | n.a. | n.a. | Standardized approach RWAs | |

Tier 1 ratio | Capital in numerator | Basel I-based capital | Basel I-based capital | Revised capital framework |

Denominator | General approach RWAs | General approach RWAs | Standardized Approach RWAs | |

Total capital ratio | Capital in numerator | Basel I-based capital | Basel I-based capital | Revised capital framework |

Denominator | General approach RWAs | General approach RWAs | Standardized approach RWAs | |

Tier 1 leverage ratio | Capital in numerator | Basel I-based capital | Basel I-based capital | Revised capital framework |

Denominator | Average assets | Average assets | Average assets | |

Tier 1 common ratio | Capital in numerator | Basel I-based capital | Basel I-based capital | Basel I-based capital |

Denominator | General approach RWA | General approach RWA | General approach RWA |

"Basel I-based capital" indicates that regulatory capital is calculated under the rules in place before the implementation of the revised capital framework (see 12 CFR part 225, appendix A). "Revised capital framework" indicates that regulatory capital is calculated under the revised capital framework. "General Approach RWAs" indicates that risk-weighted assets are calculated using the approach under the general risk-based capital rules (see 12 CFR part 225, appendix A) while "Standardized Approach RWAs" indicates that risk-weighted assets are calculated using the standardized approach under the revised capital framework. The "n.a." indicates that the capital ratio was not calculated for that time period. For purposes of DFAST 2014, an advanced approaches BHC includes any BHC that has consolidated assets greater than or equal to $250 billion or total consolidated on-balance-sheet foreign exposure of at least $10 billion as of December 31, 2013.

### References

34. See * Regulatory Capital Rules: Regulatory Capital, Implementation of Basel III, Capital Adequacy, Transition Provisions, Prompt Corrective Action, Standardized Approach for Risk-Weighted Assets, Market Discipline and Disclosure Requirements, Advanced Approaches Risk-Based Capital Rule, and Market Risk Capital Rule* (July 2, 2013), 78 FR 62018 (October 11, 2013). Return to text

35. See 79 FR 13498 (March 11, 2014). Return to text

36. Tier 1 capital consists of common equity tier 1 capital and additional tier 1 capital, which includes additional tier 1 capital instruments (including qualifying non-cumulative perpetual preferred stock instruments), related surplus, and limited amounts of tier 1 minority interest, minus applicable regulatory adjustments and deductions. See 12 CFR 217.2 and 12 CFR 217.20(c). Total capital consists of tier 1 and tier 2 capital, which includes tier 2 capital instruments (including qualifying subordinated debt instruments), related surplus, and limited amounts of total capital minority interest and the allowance for loan and lease losses. See 12 CFR part 217, sections 2 and 20(d). Return to text

37. Common equity tier 1 capital includes common stock instruments and related surplus, retained earnings, AOCI, and limited amounts of common equity tier 1 minority interest, minus applicable regulatory adjustments and deductions. Items that are fully deducted from common equity tier 1 capital include goodwill, other intangible assets (excluding mortgage servicing assets) and certain deferred tax assets; items that are subject to limits in common equity tier 1 capital include mortgage servicing assets, eligible deferred tax assets, and certain significant investments. See 12 CFR 217.20(b), 12 CFR 217.22(a), and 12 CFR 217.22(d). Return to text

38. See 79 FR 13498 (March 11, 2014). Return to text