Capital Planning at Large Bank Holding Companies: Supervisory Expectations and Range of Current Practice
BHCs should have strong board and senior management oversight of their capital planning processes.17 This includes ensuring periodic review of the BHC's risk infrastructure and loss- and resource-estimation methodologies; evaluation of capital goals and targets; assessment of the appropriateness of stress scenarios considered; regular review of any limitations in key processes supporting internal capital planning, such as uncertainty around estimates; and approval of capital decisions. Together, a BHC's board and senior management should establish a comprehensive capital planning process that fits into broader risk-management processes and that is consistent with the risk-appetite framework and the strategic direction of the BHC.
Board of Directors
A BHC's board of directors has ultimate oversight responsibility and accountability for capital planning and should be in a position to make informed decisions on capital adequacy and capital actions, including capital distributions.18 The board of directors should receive sufficient information to understand the BHC's material risks and exposures and to inform and support its decisions on capital adequacy and planning. The board should receive this information at least quarterly, or when there are material developments that affect capital adequacy or the manner in which it is assessed. Capital adequacy information provided to the board should include capital measures under current conditions as well as on a post-stress, pro forma basis and should be framed against the capital goals and targets established by the BHC.
The information provided to the board should include sufficient details on scenarios used for the BHC's internal capital planning so that the board can evaluate the appropriateness of the scenarios, given the current economic outlook and the BHC's current risk profile, business activities, and strategic direction. The information should also include a discussion of key limitations, assumptions, and uncertainties within the capital planning process, so that the board is fully informed of any weaknesses in the process and can effectively challenge reported results before making capital decisions. The board should also receive summary information about mitigation strategies to address key limitations and take action when weaknesses in internal capital planning are identified, applying additional caution and conservatism as needed.
BHCs with stronger practices had boards that were informed of and generally understood the risks, exposures, activities, and vulnerabilities that affected the BHC's capital adequacy. They also understood the major drivers of loss and revenue changes under the scenarios used. The boards of BHCs with stronger practices had sufficient expertise and level of engagement to understand and critically evaluate information provided by senior management. Importantly, they recognized that internal capital planning results are estimates and should be viewed as part of a range of possible results. In addition, the boards of BHCs with stronger practices discussed weaknesses identified in the capital planning process, whether they needed to take immediate action to address those weaknesses, and whether the weaknesses were material enough to alter their view of current capital planning results. They also discussed whether a sufficient range of potential stress events and conditions had been considered in assessing capital adequacy.
The board of directors is required to approve a BHC's capital plan under the Capital Plan Rule.19 In order for boards to carry out this requirement, management should provide adequate reporting on key areas of the analysis supporting capital plans. BHCs with stronger practices included information about the independent review and validation of models, information on issues identified by internal audit, as well as key assumptions underpinning stress test results and a discussion of the sensitivity of capital levels to those assumptions. BHCs with stronger practices also supplied their boards with information about past capital planning performance to provide a perspective on how the capital planning process has functioned over time.
BHCs with weaker practices provided insufficient information to the board of directors. For example, at some BHCs, capital distribution recommendations did not include all relevant supporting information and appeared to be based on optimistic expectations about how a given scenario may affect the BHC. In addition, the information did not specifically identify and address key assumptions that supported the capital planning process. In other cases, the board of directors did not receive information about governance and controls over internal capital planning, making it difficult to assess the strength of its capital planning processes and whether results were reliable and credible.
Senior management is responsible for ensuring that capital planning activities authorized by the board are implemented in a satisfactory manner and is accountable to the board for the effectiveness of those activities. Senior management should ensure that effective controls are in place around the capital planning process--including ensuring that the BHC's stress scenarios are sufficiently severe and cover the material risks and vulnerabilities facing the BHC.20
Senior management should make informed recommendations to the board of directors about the BHC's capital, including capital goals and distribution decisions. Senior management also should ensure that proposed capital goals have sufficient analytical support and fully reflect the expectations of important stakeholders, including creditors, counterparties, investors, and supervisors. Senior management should identify weaknesses and potential limitations in the capital planning process and evaluate them for materiality. In addition, it should develop remediation plans for any weaknesses affecting the reliability of internal capital planning results. Both the specific identified limitations and the remediation plans should be reported to the board.
Senior management with stronger practices recognized the imprecision and prevalence of uncertainty in predicting future outcomes when reviewing information and results from enterprise-wide scenario analysis. At BHCs with stronger practices, senior management maintained an ongoing assessment of all capital planning areas, identifying and clearly documenting any weaknesses, assumptions, limitations, and uncertainties, and did not consider a one-time assessment of the capital planning process to be sufficient. Furthermore, management developed clear remediation plans with specific timelines for resolving identified weaknesses. In some cases, based on its review of the full capital planning process, senior management made more cautious or conservative adjustments to the capital plan, such as recommending less aggressive capital actions. Management also included key assumptions and process weaknesses in reports and specifically pointed them out to the board, in some cases providing analysis showing the sensitivity of capital to alternative outcomes.
BHCs should document decisions about capital adequacy and capital actions taken by the board of directors and senior management, and describe the information used to reach those decisions.21 Final decisions regarding capital planning of the board or of a designated committee thereof should be recorded and retained in accordance with the company's policies and procedures.
BHCs with stronger documentation practices had board minutes that described how decisions were made and what information was used. Some documentation provided evidence that the board challenged results and recommendations, including reviewing and assessing how senior management challenged the same information. BHCs with weaker documentation practices had board minutes that were very brief and opaque, with little reference to information used by the board to make its decisions. Some BHCs did not formally document key decisions.