Banks With One ‘Deficient’ Rating Could Still Be Considered ‘Well Managed’ Under New Federal Reserve Proposal

The U.S. Federal Reserve is mulling a rule change that would allow banks with one “deficient” rating to still be considered “well managed.”

The Fed’s current large financial institution (LFI) rating framework includes three components: capital, liquidity and governance/controls, each of which has four potential ratings: broadly meets expectations, conditionally meets expectations, deficient-1 and deficient-2.

Currently, a single deficient-1 or deficient-2 score in any of the three components means a bank is no longer considered “well managed.”

The Fed notes large banks must be “well managed” at each of their depository institutions to be treated as a financial holding company, which permits a firm to engage in a broader range of nonbanking activities like securities underwriting and dealing.

Michelle W. Bowman, the Fed’s vice chair for supervision, says nearly two-thirds of the large financial holding companies under the LFI rating framework aren’t considered “well managed” in the current system, despite having capital and liquidity levels “substantially above regulatory requirements.”

“This is because the LFI framework currently assigns a firm’s ‘well-managed’ status based on a single deficiency in any one rating component, rather than taking a complete look at the financial and managerial health of a firm. The proposal would generally require a deficiency in either a large bank holding company’s capital or liquidity ratings, in addition to a deficiency in its governance and controls, in order to be classified as not well-managed. In this way, the proposal would provide greater recognition of a firm’s overall condition in determining well-managed status.”

Banks with a single “deficient-2” score, the more severe deficiency, would still not be considered “well managed” in the proposed new system. The Fed is currently asking for public input on the proposal.

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