Credit Suisse's "Poor Quality" U.S. Resolution Plan
Plus, observations on the latest resolution plan feedback to other foreign firms
Earlier this afternoon the Federal Reserve Board and FDIC provided resolution planning feedback to 71 U.S. and foreign banking organizations. The agencies gave passing grades to nearly all of these firms, but found two deficiencies in the plan submitted by Credit Suisse and identified a shortcoming in the plan submitted by BNP Paribas.1 This post looks at the feedback letters provided to these two firms, as well as certain other foreign banks.2
Agencies Deliver Stinging Resolution Plan Feedback to Credit Suisse
The agencies’ letter to Credit Suisse includes a number of criticisms that, although not necessarily surprising in light of the difficulties the firm has faced recently, are nonetheless striking.
A Poorly Governed Organization
The agencies note at the outset of their feedback letter that the resolution plan submitted to them by Credit Suisse claimed to reflect (1) a “thorough review by stakeholders and senior management,” (2) input from “many business, support, and control functions … in the development and vetting of the Plan prior to its submission” and, ultimately, (3) approval by the board of directors of the firm’s U.S. intermediate holding company.
Notwithstanding these statements by Credit Suisse, the agencies found that the plan “lacked necessary information and adequate detail” to such an extent that it “indicate[d] a lack of appropriate internal review and coordination.”
A sample of criticisms from the agencies:
The 2021 Targeted Plan contained insufficient information regarding the core elements of capital, liquidity, and the Covered Company’s plan for executing recapitalizations as required by the Resolution Plan Rule. The most significant omission was the failure to adequately describe the liquidity and capital capabilities that are necessary to execute the firm’s U.S. resolution strategy.
[T]he Resolution Plan Rule requires covered companies to describe changes to the firm’s resolution plan resulting from any guidance or feedback from the Agencies. … However, the 2021 Targeted Plan did not adequately describe whether and how the Covered Company modified the 2021 Targeted Plan from past submissions as a result of the 2020 Guidance.
The 2021 Targeted Plan lacked a description of key client identification methodology as part of the framework for continuity of [payment, clearing and settlement] services. The submission also lacked a description of the method to assess the impact on clients and counterparties of U.S. entities that conduct U.S. derivatives and trading activities in the period leading up to and during the execution of the Covered Company’s U.S. resolution strategy.
These examples are further indication that parts of the 2021 Targeted Plan did not receive appropriate review and oversight.
All this led the agencies to conclude that the resolution plan submitted by Credit Suisse was of “poor quality” and “lack[ed] content.” Further, according to the agencies, these failings “call into question the sufficiency of [Credit Suisse’s] governance for its U.S. planning process” and “raise[] concerns regarding the firm’s commitment to developing and maintaining the capabilities needed to effectively implement its resolution strategy.”
Backsliding on Previously Identified Liquidity Deficiency
In addition to the governance deficiency described above, the agencies also found a deficiency relating to Credit Suisse’s ability to conduct cash-flow forecasts. Notably, this was an issue previously identified by the agencies in a prior resolution plan review and one that, “[b]ased on information provided [by Credit Suisse] in the 2020 Plan,” the agencies believed that Credit Suisse had resolved.
As it turns out, however:
The Agencies subsequently became aware, through the supervisory process, that the 2018 Liquidity Shortcoming was not adequately addressed. Specifically, Credit Suisse’s internal audit process determined in 2021 that the cash flow forecasting target operating model has significant gaps in its design, development, and implementation. Supervisory analysis conducted in 2022 also identified significant weaknesses related to the lack of adequate cash-flow forecasting processes, indicating that significant aspects of the 2018 Liquidity Shortcoming remain unaddressed.
The agencies go on to describe as a matter of “serious concern” Credit Suisse’s “inability to adequately address the 2018 Liquidity Shortcoming prior to submission of the 2020 Plan, or in the subsequent period of more than an additional year.”
Consequences
To remediate these deficiencies, the agencies are requiring Credit Suisse to undertake a series of actions.
By February 28, 2023, Credit Suisse must submit a “detailed project plan" to strengthen its U.S. resolution planning oversight, including processes to ensure that future “assertions regarding shortcoming or deficiency remediation efforts are accurate and valid.”
Also by February 28, 2023, Credit Suisse must submit a separate “detailed project plan” for how it will improve the accuracy of its cash flow forecasting capabilities, including detailed and reasonable timelines for completion.
By May 31, 2023, Credit Suisse must submit a revised version of the resolution plan it submitted in 2021, this time taking care to include “a description of the liquidity and capital capabilities necessary to execute the firm’s U.S. resolution strategy, and a description of any analysis and changes made in response to the 2020 Guidance.”
The May 2023 submission must also include a separate report on Credit Suisse’s progress on its cash flow forecasting improvements since the February submission described above, including a discussion of any deadlines that have been missed or are now expected to be missed.
The agencies close this section of the letter with a warning (quoting from the resolution plan rule) about the further consequences Credit Suisse may face if its submissions do not adequately remedy the identified issues:
the Agencies may jointly determine … that Credit Suisse or any of its subsidiaries shall be subject to more stringent capital, leverage, or liquidity requirements, or restrictions on their growth, activities, or operations.
Feedback to Other Foreign Firms
BNP Paribas Feedback
The agencies’ feedback letter to BNP Paribas is not nearly as critical as the letter to Credit Suisse. Only one paragraph is devoted to the shortcoming identified:
The Agencies have identified a shortcoming in the 2021 Targeted Plan. In its 2021 Targeted Plan, the firm did not adequately address 2018 resolution plan feedback to analyze and describe how the repurchase agreement activity would remain uninterrupted in the event of the failure of the firm’s U.S. operations. The 2021 Targeted Plan does not explain how the repurchase agreement activity—including daily trading and settlement, oversight, and risk management—would continue in resolution in the event the U.S. broker-dealer fails
To fix this, BNP Paribas must, as part of its ordinary-course 2024 resolution plan submission, “analyze and describe how the repurchase agreement activity, which depends on operational interconnections between the U.S. broker-dealer affiliate and the Covered Company’s cross-border operations, will continue to operate following the failure and during the resolution of the firm’s U.S. operations.”
Barclays and Deutsche Bank Receive Passing Grades, but the Agencies “Encourage” Further Progress
Rather than receiving a form letter as did the other non-Credit Suisse, non-BNP Paribas firms that received feedback today, Barclays, Deutsche Bank and HSBC (discussed in the item below) all received individual letters.
The letters to Barclays and Deutsche Bank note the importance of further testing and enhancement of resolution planning capabilities that are “as complementary as practicable” to the firms’ respective group-wide resolution strategies (which typically envision the U.S. operations receiving support from their foreign parent and surviving). At the same time, the agencies also note their intention to continue to review future plan submissions by these firms in accordance with the U.S. resolution plan rule (which requires firms to assume their foreign parent will leave them to fend for themselves).
To that end, the agencies say that if the firms believe they are done improving their U.S. resolution planning capabilities, they will “encourage” them to think again.
In reviewing the 2021 Targeted Plan, the Agencies noted that [Deutsche Bank] anticipates conducting no significant new projects or future enhancements related to U.S. resolution planning. Resolution planning is an iterative process, and therefore, internal testing and simulation exercises could help substantiate or demonstrate the firm’s resolution capabilities, and the Agencies encourage DB to undertake such efforts on an ongoing basis. … DB should consider how testing efforts could help strengthen the firm’s resolution planning and consider documenting and incorporating lessons learned from any such exercises in its future resolution plans submissions.
Substantially the same paragraph was included in Credit Suisse’s feedback letter, with the agencies noting that Credit Suisse’s 2021 plan submission said it anticipated no significant new projects or future enhancement related to U.S. resolution planning.3
Barclays too received a similar encouragement from the agencies, even though Barclays did say it had at least some plans.
In reviewing the 2021 Targeted Plan, the Agencies noted that [Barclays] had plans to conduct certain internal operational testing exercises related to U.S. resolution preparedness in early 2022. Resolution planning is an iterative process, and therefore, internal testing and simulation exercises could help substantiate or demonstrate the firm’s resolution capabilities, and the Agencies encourage Barclays to undertake such efforts on an ongoing basis. ... Barclays should consider how additional testing efforts could help strengthen the firm’s resolution planning and consider documenting and incorporating lessons learned from any such exercises in its future resolution plans submissions.
Drawing the Line Between Deficiency, Shortcoming, and Other Areas for Improvement
According to the agencies’ feedback letter, HSBC’s U.S. resolution strategy assumes that HSBC will be able to continue the U.S. dollar clearing operations currently conducted by HSBC Bank USA within a bridge depository institution.4 Again according to the feedback letter, this strategy is dependent upon the assumption that U.S. dollar clearing “is profitable and maximizes value throughout the resolution period.”
The agencies, however, say that HSBC did not include in its resolution plan “data to support this assertion.”
The agencies therefore direct HSBC, if it continues to make this assumption regarding U.S. dollar clearing in its next resolution plan, to provide data supporting that assumption. HSBC must also in its next resolution plan explore the potential effects of a resolution in which such U.S. dollar clearing cannot be continued within the bridge bank.
If the 2024 Full Plan assumes that the activity continues in a bridge depository institution, the plan should demonstrate that U.S. dollar clearing remains profitable and maximizes value while the bridge depository institution is wound down, taking into consideration the expected effects of the material financial distress and failure of HBUS and operations of the bridge depository institution.
This analysis should include data for actual and projected volumes of U.S. dollar clearing, financial and operational resources needs as U.S. dollar clearing activity is wound down, and the amount and timing of client attrition differentiating between the U.S. clients of HBUS and the non-U.S. HSBC entities.
The 2024 Full Plan should also include a discussion of the effect on the firm’s resolution strategy (for example, impacts on liquidity and operations) if U.S. dollar clearing activities for non-U.S. HSBC entities were transitioned to other financial institutions, and any differences in the impact if the transition occurred prior to the failure of HBUS or after the creation of a bridge depository institution.
When I wrote about Citigroup’s resolution planning shortcomings last month I noted that, despite the agencies’ efforts, the line between deficiency and shortcoming was nonetheless not perfectly clear.
Today’s letters include, for separate firms, two deficiencies, a shortcoming, and criticism of an unsupported assumption that, though in need of addressing next time, does not rise to the level of either a shortcoming or a deficiency.
These letters provide additional data points, but still I am not sure I could ex ante tell you with certainty where the line will be drawn in a particular case. For instance:
What pushed Credit Suisse’s plan (which, among other things, lacked appropriate content relating to capital and liquidity) into deficiency territory while the plan submitted by Citigroup (a firm that according to the agencies’ feedback letter may have trouble “produc[ing] accurate financial information during stress conditions”) only received a shortcoming?
What made Citigroup’s shortcoming something that requires an off-cycle January 2023 submission to address, while BNP Paribas’s shortcoming can be addressed in its next ordinary-course submission?
What makes BNP Paribas’s inadequately supported analysis of the continuance of certain of its U.S. activities (which rose to the level of a shortcoming) different from HSBC’s inadequately supported analysis of the continuance of certain of its U.S. activities (which did not)?
This is not to say that any of the conclusions reached by the agencies are not justified. It is easily possible to come up with pretty reasonable answers drawing distinctions in response to the above questions. (Just to name a few, the degree of materiality of the activity, whether the failing is something new or something previously identified in resolution plan feedback, the degree to which the firm has previously been in supervisory trouble, the overall significance of the firm to the U.S. financial system, etc.). But whatever the reasons were, they are not explicit in the letters.
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Under the resolution plan rule, a deficiency is the most serious feedback that an agency can deliver, and represents “a weakness that individually or in conjunction with other aspects could undermine the feasibility of” a resolution plan.
A shortcoming is also bad, but not quite so bad as a deficiency. It is defined as “a weakness or gap that raises questions about the feasibility of a covered company's resolution plan, but does not rise to the level of a deficiency.”
All U.S.-based firms received passing grades, although the agencies again noted that they are working on guidance for 2024 resolution plan submissions. Similar to what they said in their letter to to Truist in September, the agencies in their December form letter say that aspects of this forthcoming guidance “may include: demonstrating that a resolution strategy which utilizes a bridge depository institution is the least costly to the Deposit Insurance Fund; providing one or more options for exit from a bridge depository institution, applying certain criteria; and calculating liquidity needs in resolution and analyzing how those needs would be met.”
This forthcoming guidance, combined with whatever develops out of the agencies’ ANPR from earlier this year on resolvability, means that 2023 is likely to be a key year for potential changes to expectations and requirements for large regional banks relating to their resolvability.
I suppose Credit Suisse now has at least three…
The public section of HSBC’s plan describes a “Bridge Bank resolution involving the transfer of HBUS’s operations and the majority of its assets and liabilities to a Bridge Bank operated by the FDIC that preserves continuity and maintains the value of HBUS’s business and assets, followed by either” a whole bank sale to one acquirer or a sale of various business lines to multiple acquirers.