OSFI Stress Testing Flashcards

1
Q

List purposes of stress testing

A
  • Risk identification and control
  • Complementary other risk management tools
  • Supporting capital management
  • Improving liquidity management
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2
Q

List general considerations for stress testing programs

A
  • Consider different techniques and views from different experts in the org
  • Appropriately doc
  • Robust infrastructure, but flexible enough to accommodate evolving stress test
  • Assessed regularly and indep
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3
Q

Provide relevant risks that may be included in stress testing

A
Different risk:
• Contagion
• Insurance
• Inflation
• Liquidity
• Market
• New business
• Operational and legal
• Regulatory
• Securitization
• Credit risk 
• Concentration
• Risk to reputation
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4
Q

Provide typical measures used for the impact of stress tests

A
  • Asset and liability values
  • Accounting profit/loss
  • Economic profit/loss
  • Economic capital
  • Level of impaired assets and write-offs
  • Liquidity and funding gaps
  • Required and available regulatory capital
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5
Q

List features of methodolody and scenario selection for stress testing

A
  • Cover a range of risks and business areas (provide a complete picture of companywide risk)
  • Over a range of scenarios (incl. non historical scenarios, considering interactions and feedback effect)
  • Cover a range of severities (incl. events capable of generating the most damages)

A “failure of imagination” could lead to an underestimation of the likelihood and severity of extreme events and to a false sense of security about an institution’s resilience

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6
Q

What is the difference between stress test and reverse stress test?

A

Stress test would test outcome arising from changes in circumstances. Reverse stress test would start from an outcome challenging viability of the firm, and backwards, find a scenario that would bring this outcome.

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7
Q

Provide specific areas of focus where stress testing should be prominent if specific risks are material

A
  • Risk mitigation (Re): Stress testing should facilitate risk mitigation or contingency plans
  • Risk to reputation: Should have an approach to mitigate reputational risks and maintain market confidence
  • Risk concentration: By region, industry, risk factor, and off-balance or contingent exposures
  • Counterparty credit risk: Assess large exposures to leveraged counterparties (banks, funds, etc.) that may be particularly exposed to market movements
  • Securitization and Warehousing Risks: Consider complex and customized products along with warehousing risks
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8
Q

Define Stress testing

A

Risk management technique to evaluate potential effects of financial condition of a change in risk factor caused by an exceptional but plausible event

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9
Q

Define the purpose of stress testing:

Risk identification and control

A

Used to address institution-wide risks, and consider the concentrations and interactions between risks in stress envs that might otherwise be overlooked

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10
Q

Define the purpose of stress testing:

Complementary other risk management tools

A
  • Allows for the simulation of shocks which have not previously occurred
  • Assess the robustness of models to possible changes in the economic environment
  • Help detect vulnerabilities such as unidentified risk concentrations or potential interactions.
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11
Q

Define the purpose of stress testing:

Supporting capital management

A

Should be part of institution’s capital management: identify events that adversely affect the firm

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12
Q

Define the purpose of stress testing:

Improving liquidity management

A
  • Assessing the institution’s liquidity profile

* Assessing the adequacy of liquidity buffers

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13
Q

Describe roles of the board with stress testing

A
  • Ultimate responsibility for the overall stress testing program
  • Should be aware of the key findings from stress tests
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14
Q

Describe roles of senior management with stress testing

A
  • Program’s implementation, management and oversight
  • Ensuring that the institution has adequate plans to deal with remote but plausible adverse scenarios
  • Identify and clearly articulate the institution’s risk appetite and understand the impact of stress events on the risk profile of the institution
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15
Q

Contrast Scenario testing and Sensitivity testing

A

Scenario testing: Hypothetical future state of the world defines changes in risk factors. Longer time horizon, require more resource, more complex

Sensitivity testing: Incremental change in a risk factor (simpler technique, shorter period)

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16
Q

As part of the Supervisory Review Process, OSFI reviews institutions stress testing programs. Discuss what OSFI may want to assess in their review

A
  • Whether chosen scenarios are consistent with risk appetite
  • Whether frequency and timing of stress testing is sufficient to support timely management action
  • Assess future capital resources and capital requirements under adverse scenarios