Appendix A to Part 1310 - Financial Stability Oversight Council Guidance for Nonbank Financial Company Determinations
12:10.0.3.6.3.3.1.5.8 : Appendix A
Appendix A to Part 1310 - Financial Stability Oversight Council
Guidance for Nonbank Financial Company Determinations I.
Introduction
Section 113 of the Dodd-Frank Wall Street Reform and Consumer
Protection Act (the “Dodd-Frank Act”) 1 authorizes the Financial
Stability Oversight Council (the “Council”) to determine that a
nonbank financial company will be supervised by the Board of
Governors of the Federal Reserve System (the “Federal Reserve”) and
be subject to prudential standards in accordance with Title I of
the Dodd-Frank Act if either of two standards is met. Under the
first standard, the Council may subject a nonbank financial company
to supervision by the Federal Reserve and prudential standards if
the Council determines that material financial distress at the
nonbank financial company could pose a threat to the financial
stability of the United States. Under the second standard, the
Council may determine that a nonbank financial company will be
supervised by the Federal Reserve and subject to prudential
standards if the nature, scope, size, scale, concentration,
interconnectedness, or mix of the activities of the nonbank
financial company could pose a threat to U.S. financial stability.
Section 113 of the Dodd-Frank Act also lists considerations that
the Council must take into account in making a determination.
1 See Dodd-Frank Act section 113, 12 U.S.C. 5323.
Section II of this document describes the approach the Council
intends to take in prioritizing its work to identify and address
potential risks to U.S. financial stability using an
activities-based approach. This approach reflects the Council's
priorities of identifying potential risks on a system-wide basis,
reducing the potential for competitive distortions that could arise
from entity-specific determinations, and allowing relevant
financial regulatory agencies 2 to address identified potential
risks. First, the Council will monitor markets to identify
potential risks to U.S. financial stability and to assess those
risks on a system-wide basis. Second, the Council will then work
with relevant financial regulatory agencies to seek the
implementation of actions intended to address identified potential
risks to financial stability.
2 References in this appendix to “relevant financial regulatory
agencies” may encompass a broader range of regulators than those
included in the statutory definition of “primary financial
regulatory agency,” which is defined in Dodd-Frank Act section
2(12), 12 U.S.C. 5301(12).
Section III of this appendix describes the manner in which the
Council intends to apply the statutory standards and considerations
in making determinations under section 113 of the Dodd-Frank Act,
if the Council determines that potential risks to U.S. financial
stability are not adequately addressed through the activities-based
approach. Section III defines key terms used in the statute,
including “threat to the financial stability of the United States.”
Section III also includes a detailed description of the analysis
that the Council intends to conduct during its reviews, including a
discussion of channels through which risks from a company may be
transmitted to other companies or markets, and the Council's
assessment of the likelihood of the company's material financial
distress and the benefits and costs of a determination.
Section IV of this appendix outlines a two-stage process that
the Council will follow in non-emergency situations when
determining whether to subject a nonbank financial company to
Federal Reserve supervision and prudential standards. In the first
stage of the process, the Council will notify the company and its
primary financial regulatory agency and conduct a preliminary
analysis to determine whether the company should be subject to
further evaluation by the Council. During the second stage of the
evaluation process, the Council will conduct an in-depth evaluation
if it determines in the first stage that the nonbank financial
company merits additional review.
The Council's practices set forth in this guidance to address
potential risks to U.S. financial stability are intended to comply
with its statutory purposes: (1) To identify risks to U.S.
financial stability that could arise from the material financial
distress or failure, or ongoing activities, of large,
interconnected bank holding companies or nonbank financial
companies, or that could arise outside the financial services
marketplace; (2) to promote market discipline, by eliminating
expectations on the part of shareholders, creditors, and
counterparties of such companies that the government will shield
them from losses in the event of failure; and (3) to respond to
emerging threats to the stability of the U.S. financial system. 3
Council actions seek to foster transparency and to avoid
competitive distortions in markets for financial services and
products. Further, nonbank financial companies should not benefit
from an implicit federal financial safety net. Therefore, the
Council emphasizes the importance of market discipline as a
mechanism for addressing potential risks to U.S. financial
stability posed by financial companies.
3 Dodd-Frank Act section 112(a)(1), 12 U.S.C. 5322(a)(1).
This interpretive guidance is not a binding rule, except to the
extent that it sets forth rules of agency organization, procedure,
or practice. This guidance is intended to assist financial
companies and other market participants in understanding how the
Council expects to exercise certain of its authorities under Title
I of the Dodd-Frank Act. The Council retains discretion, subject to
applicable statutory requirements, to consider factors relevant to
the assessment of a potential risk or threat to U.S. financial
stability on a case-by-case basis. If the Council were to depart
from the interpretative guidance, it would need to provide a
reasoned explanation for its action, which would ordinarily require
acknowledging the change in position. 4
4 See FCC v. Fox Television Stations, Inc., 556
U.S. 502, 515 (2009).
II. Activities-Based Approach
The Dodd-Frank Act gives the Council broad discretion in
determining how to respond to potential threats to U.S. financial
stability. A determination to subject a nonbank financial company
to Federal Reserve supervision and prudential standards under
section 113 of the Dodd-Frank Act is only one of several Council
authorities for responding to potential risks to U.S. financial
stability. 5 The Council will prioritize its efforts to identify,
assess, and address potential risks and threats to U.S. financial
stability through a process that begins with an activities-based
approach, and will pursue entity-specific determinations under
section 113 of the Dodd-Frank Act only if a potential risk or
threat cannot be adequately addressed through an activities-based
approach. The Council anticipates it would consider a nonbank
financial company for a potential determination under section 113
only in rare instances, such as if the products, activities, or
practices of a company that pose a potential threat to U.S.
financial stability are outside the jurisdiction or authority of
financial regulatory agencies. This approach reflects two
priorities: (1) Identifying and addressing, in consultation with
relevant financial regulatory agencies, potential risks and
emerging threats on a system-wide basis and to reduce the potential
for competitive distortions among financial companies and in
markets that could arise from entity-specific determinations, and
(2) allowing relevant financial regulatory agencies, which
generally possess greater information and expertise with respect to
company, product, and market risks, to address potential risks,
rather than subjecting the companies to new regulatory
authorities.
5 For example, the Council has authority to make recommendations
to the Federal Reserve concerning the establishment and refinement
of prudential standards and reporting and disclosure requirements
applicable to nonbank financial companies supervised by the Federal
Reserve; make recommendations to primary financial regulatory
agencies to apply new or heightened standards and safeguards for a
financial activity or practice conducted by certain financial
companies if the Council determines that such activity or practice
could create or increase certain risks; and designate financial
market utilities and payment, clearing, and settlement activities
that the Council determines are, or are likely to become,
systemically important. Dodd-Frank Act sections 115, 120, 804, 12
U.S.C. 5325, 5330, 5463.
As part of its activities-based approach, the Council will
examine a range of financial products, activities, or practices
that could pose risks to U.S. financial stability. These types of
activities are often identified in the Council's annual reports,
such as activities related to (1) the extension of credit, (2) the
use of leverage or short-term funding, (3) the provision of
guarantees of financial performance, and (4) other key functions
critical to support the functioning of financial markets. The
Council considers a risk to financial stability to mean a risk of
an event or development that could impair financial intermediation
or financial market functioning to a degree that would be
sufficient to inflict significant damage on the broader economy.
The Council's activities-based approach is intended to identify and
address risks to financial stability using a two-step approach,
described below.
a. Step One of Activities-Based Approach: Identifying Potential
Risks From Products, Activities, or Practices Monitoring Markets
The Council has a statutory duty to monitor the financial
services marketplace in order to identify potential threats to U.S.
financial stability. 6 In the first step of the activities-based
approach, to enable the Council to identify potential risks to U.S.
financial stability, the Council, in consultation with relevant
financial regulatory agencies, intends to monitor diverse financial
markets and market developments to identify products, activities,
or practices that could pose risks to U.S. financial stability.
When monitoring potential risks to financial stability, the Council
intends to consider the linkages across products, activities, and
practices, and their interconnectedness across firms and
markets.
6 Dodd-Frank Act section 112(a)(2), 12 U.S.C. 5322(a)(2).
For example, the Council's monitoring may include:
• Corporate and sovereign debt and loan markets;
• equity markets;
• markets for other financial products, including structured
products and derivatives;
• short-term funding markets;
• payment, clearing, and settlement functions;
• new or evolving financial products, activities, and practices;
and
• developments affecting the resiliency of financial market
participants.
To monitor markets and market developments, the Council will
review information such as historical data, research regarding the
behavior of financial market participants, and new developments
that arise in evolving marketplaces. The Council will regularly
rely on data, research, and analysis from Council member agencies,
the Office of Financial Research, industry participants, and other
public sources. Consistent with its statutory obligations, the
Council will, whenever possible, rely on information available from
primary financial regulatory agencies. 7
7 Dodd-Frank Act section 112(d)(3), 12 U.S.C. 5322(d)(3).
Evaluating Potential Risks
If the Council's monitoring of markets and market developments
identifies a product, activity, or practice that could pose a
potential risk to U.S. financial stability, the Council, in
consultation with relevant financial regulatory agencies, will
evaluate the potential risk to determine whether it merits further
review or action. The Council's work in this step may include
efforts such as sharing data, research, and analysis among Council
members and member agencies and their staffs; consultations with
regulators and other experts regarding the scope of potential risks
and factors that may mitigate those risks; and the collaborative
development of analyses for consideration by the Council. As part
of this work, the Council may also engage with industry
participants and other members of the public as it assesses
potential risks.
The Council will assess the extent to which characteristics such
as the following could amplify potential risks to U.S. financial
stability arising from products, activities, or practices:
• Asset valuation risk or credit risk;
• leverage, including leverage arising from debt, derivatives,
off-balance sheet obligations, and other arrangements;
• liquidity risk or maturity mismatch, such as reliance on
funding sources that could be susceptible to dislocations;
• counterparty risk and interconnectedness among financial
market participants;
• the transparency of financial markets, such as growth in
financial transactions occurring outside of regulated sectors;
• operational risks, such as cybersecurity and operational
resilience; or
• the risk of destabilizing markets for particular types of
financial instruments, such as trading practices that substantially
increase volatility in key markets.
Various factors may exacerbate or mitigate each of these types
of risks. For example, activities may pose greater risks if they
are complex or opaque, are conducted without effective
risk-management practices, are significantly correlated with other
financial products, and are either highly concentrated or
significant and widespread. In contrast, regulatory requirements or
market practices may mitigate risks by, for example, limiting
exposures or leverage, enhancing risk-management practices, or
restricting excessive risk-taking.
While the contours of the Council's initial evaluation of any
potential risk will depend on the type and scope of analysis
relevant to the particular risk, the Council's analyses will
generally focus on four framing questions:
1. How could the potential risk be triggered? For example, could
it be triggered by sharp reductions in the valuation of particular
classes of financial assets?
2. How could the adverse effects of the potential risk be
transmitted to financial markets or market participants? For
example, what are the direct or indirect exposures in financial
markets to the potential risk?
3. What impact could the potential risk have on the financial
system? For example, what could be the scale of its adverse effects
on other companies and markets, and would its effects be
concentrated or distributed broadly among market participants? This
analysis should take into account factors such as existing
regulatory requirements or market practices that mitigate potential
risks.
4. Could the adverse effects of the potential risk impair the
financial system in a manner that could harm the non-financial
sector of the U.S. economy?
In this evaluation, the Council will consult with relevant
financial regulatory agencies and will take into account existing
laws and regulations that may mitigate a potential risk to U.S.
financial stability. The Council will also take into account the
risk profiles and business models of market participants engaging
in the products, activities, or practices under evaluation, and
consider available evidence regarding the potential risk. Empirical
data may not be available regarding all potential risks, and the
type and scope of the Council's analysis will be tailored to the
potential risk under consideration.
If a product, activity, or practice creating a potential risk to
financial stability is identified, the Council will work with
relevant financial regulatory agencies to address the identified
risk, as described in section II.b of this appendix.
b. Step Two of Activities-Based Approach: Working With Regulators
To Address Identified Risks
If the Council identifies a potential risk to U.S. financial
stability in step one of the activities-based approach, the Council
will work with the relevant financial regulatory agencies at the
federal and state levels to seek the implementation of appropriate
actions to address the identified potential risk. The Council will
coordinate among its members and member agencies and will follow up
on supervisory or regulatory actions to ensure the potential risk
is adequately addressed. The goal of this step would be for
existing regulators to take appropriate action, such as modifying
their regulation or supervision of companies or markets under their
jurisdiction in order to mitigate potential risks to U.S. financial
stability identified by the Council. 8 If a potential risk
identified by the Council relates to a product, activity, or
practice arising at a limited number of individual financial
companies, the Council nonetheless will prioritize a remedy that
addresses the underlying risk across all companies that engage in
the relevant activity. If the Council finds that a particular type
of financial product could present risks to U.S. financial
stability, there may be different approaches existing regulators
could take, based on their authorities and the urgency of the risk,
such as restricting or prohibiting the offering of that product, or
requiring market participants to take additional risk-management
steps that address the risks.
8 The Dodd-Frank Act provides that the Council's duties include
to recommend to the member agencies general supervisory priorities
and principles reflecting the outcome of discussions among the
member agencies and to make recommendations to primary financial
regulatory agencies to apply new or heightened standards and
safeguards for financial activities or practices that could create
or increase risks of significant liquidity, credit, or other
problems spreading among bank holding companies, nonbank financial
companies, and United States financial markets. Dodd-Frank Act
sections 112(a)(2)(F), (K), 12 U.S.C. 5322(a)(2)(F), (K).
If, after engaging with relevant financial regulatory agencies,
the Council believes those regulators' actions are inadequate to
address the identified potential risk to U.S. financial stability,
the Council has authority to make formal public recommendations to
primary financial regulatory agencies under section 120 of the
Dodd-Frank Act. Under section 120, the Council may provide for more
stringent regulation of a financial activity by issuing nonbinding
recommendations, following consultation with the primary financial
regulatory agency and public notice inviting comments on proposed
recommendations, to the primary financial regulatory agency to
apply new or heightened standards or safeguards for a financial
activity or practice conducted by bank holding companies or nonbank
financial companies under their jurisdiction. 9 In addition, in any
case in which no primary financial regulatory agency exists for the
markets or companies conducting financial activities or practices
identified by the Council as posing risks, the Council can consider
reporting to Congress on recommendations for legislation that would
prevent such activities or practices from threatening U.S.
financial stability. The Council intends to make recommendations
under section 120 only to the extent that its recommendations are
consistent with the statutory mandate of the primary financial
regulatory agency to which the Council is making the
recommendation.
9 Dodd-Frank Act section 120(a), 12 U.S.C. 5330(a).
The authority to issue recommendations to primary financial
regulatory agencies under section 120 is one of the Council's most
formal tools for responding to potential risks to U.S. financial
stability. The Council will make these recommendations only if it
determines that the conduct, scope, nature, size, scale,
concentration, or interconnectedness of the activity or practice
could create or increase the risk of significant liquidity, credit,
or other problems spreading among bank holding companies and
nonbank financial companies, U.S. financial markets, or low-income,
minority, or underserved communities.
In its recommendations under section 120, the Council may
suggest broad approaches to address the risks it has identified.
When appropriate, the Council may make a more specific
recommendation. To promote analytical rigor and avoid duplication,
before making any recommendation under section 120, the Council
will ascertain whether the relevant primary financial regulatory
agency would be expected to perform a cost-benefit analysis of the
actions it would take in response to the Council's contemplated
recommendation. In cases where the primary financial regulatory
agency would not be expected to conduct such an analysis, the
Council itself will - prior to making a final recommendation -
conduct an analysis, using empirical data, to the extent available,
of the benefits and costs of the actions that the primary financial
regulatory agency would be expected to take in response to the
contemplated recommendation. Where the Council conducts its own
such analysis, the specificity of its assessment of benefits and
costs would be commensurate with the specificity of the
contemplated recommendation. Furthermore, where the Council
conducts its own analysis, the Council will make a recommendation
under section 120 only if it believes that the results of its
assessment of benefits and costs support the recommendation.
Primary financial regulatory agencies have significant
experience, knowledge, and expertise that can be useful in
determining the most efficient way to address a particular risk
within their regulatory jurisdiction. In every case, prior to
issuing a recommendation under section 120, the Council will
consult with the relevant primary financial regulatory agency and
provide notice to the public and opportunity for comment as
required by section 120.
III. Analytic Framework for Nonbank Financial Company
Determinations
If the Council's collaboration and engagement with the relevant
financial regulatory agencies during the activities-based approach
does not adequately address a potential threat identified by the
Council - or if a potential threat to U.S. financial stability is
outside the jurisdiction or authority of financial regulatory
agencies - and if the potential threat identified by the Council is
one that could be effectively addressed by a Council determination
regarding one or more nonbank financial companies, the Council may
evaluate one or more nonbank financial companies for an
entity-specific determination under section 113 of the Dodd-Frank
Act, applying the analytic framework described below. This section
describes the analysis the Council will conduct in general
regarding individual nonbank financial companies that are
considered for a potential determination, and section IV of this
appendix describes the Council's process for those reviews.
a. Statutory Standards and Considerations
The Council may determine, by a vote of not fewer than
two-thirds of the voting members of the Council then serving,
including an affirmative vote by the Chairperson of the Council,
that a nonbank financial company will be supervised by the Federal
Reserve and be subject to prudential standards if the Council
determines that (1) material financial distress at the nonbank
financial company could pose a threat to the financial stability of
the United States (the “First Determination Standard”) or (2) the
nature, scope, size, scale, concentration, interconnectedness, or
mix of the activities of the nonbank financial company could pose a
threat to the financial stability of the United States (the “Second
Determination Standard,” and, together with the First Determination
Standard, the “Determination Standards”). 10 The analytic framework
described below focuses primarily on the First Determination
Standard because threats to financial stability (such as asset fire
sales or financial market disruptions) are most commonly propagated
through a nonbank financial company when it is in distress.
10 If the Council is unable to determine whether the financial
activities of a U.S. nonbank financial company pose a threat to the
financial stability of the United States based on certain
information, the Council may request the Federal Reserve to conduct
an examination of the U.S. nonbank financial company for the sole
purpose of determining whether the company should be supervised by
the Federal Reserve for purposes of Title I of the Dodd-Frank Act.
Dodd-Frank Act section 112(d)(4), 12 U.S.C. 5322(d)(4).
Several relevant terms used in the Dodd-Frank Act are not
defined in the statute. The Council intends to interpret the term
“company” to include any corporation, limited liability company,
partnership, business trust, association, or similar organization.
11 In addition, the Council intends to interpret “nonbank financial
company supervised by the Board of Governors” as including any
nonbank financial company that acquires, directly or indirectly, a
majority of the assets or liabilities of a company that is subject
to a final determination of the Council. 12 The Council intends to
interpret the term “material financial distress” as a nonbank
financial company being in imminent danger of insolvency or
defaulting on its financial obligations. The Council intends to
interpret the term “threat to the financial stability of the United
States” as meaning the threat of an impairment of financial
intermediation or of financial market functioning that would be
sufficient to inflict severe damage on the broader economy. For
purposes of considering whether a nonbank financial company could
pose a threat to U.S. financial stability under either
Determination Standard, the Council intends to assess the company
in the context of a period of overall stress in the financial
services industry and in a weak macroeconomic environment, with
market developments such as increased counterparty defaults,
decreased funding availability, and decreased asset prices. The
Council believes this is appropriate because in such a context, the
risks posed by a nonbank financial company may have a greater
effect on U.S. financial stability.
11 The statutory definition of “nonbank financial company”
excludes bank holding companies and certain other types of
companies. Dodd-Frank Act section 102(a)(4), 12 U.S.C.
5311(a)(4).
12 As a result, if a nonbank financial company subject to a
final determination of the Council sells or otherwise transfers a
majority of its assets or liabilities, the acquirer will succeed
to, and become subject to, the Council's determination. As
discussed in section V below, a nonbank financial company that is
subject to a final determination of the Council may request a
reevaluation of the determination before the next required annual
reevaluation, in appropriate cases. Such an acquirer can use this
reevaluation process to seek a rescission of the determination upon
consummation of its transaction.
The Dodd-Frank Act requires the Council to consider 10 specific
considerations when determining whether a nonbank financial company
satisfies either of the Determination Standards. These statutory
considerations help the Council to evaluate whether one of the
Determination Standards has been met: 13
13 Dodd-Frank Act section 113(a)(2), 12 U.S.C. 5323(a)(2). This
list of considerations is applicable to U.S. nonbank financial
companies. With respect to foreign nonbank financial companies, the
Council is required to take into account a similar list of
considerations, in some cases limited to the companies' U.S.
business or activities. See Dodd-Frank Act section
113(b)(2), 12 U.S.C. 5323(b)(2).
• The extent of the leverage of the company;
• the extent and nature of the off-balance-sheet exposures of
the company;
• the extent and nature of the transactions and relationships of
the company with other significant nonbank financial companies and
significant bank holding companies;
• the importance of the company as a source of credit for
households, businesses, and state and local governments and as a
source of liquidity for the U.S. financial system;
• the importance of the company as a source of credit for
low-income, minority, or underserved communities, and the impact
that the failure of such company would have on the availability of
credit in such communities;
• the extent to which assets are managed rather than owned by
the company, and the extent to which ownership of assets under
management is diffuse;
• the nature, scope, size, scale, concentration,
interconnectedness, and mix of the activities of the company;
• the degree to which the company is already regulated by one or
more primary financial regulatory agencies;
• the amount and nature of the financial assets of the company;
and
• the amount and types of the liabilities of the company,
including the degree of reliance on short-term funding.
The statute also requires the Council to take into account any
other risk-related factors that the Council deems appropriate. Any
determination by the Council will be made based on a
company-specific evaluation and an application of the standards and
considerations set forth in section 113 of the Dodd-Frank Act, and
taking into account qualitative and quantitative information the
Council deems relevant to a particular nonbank financial company.
The Council anticipates that the information relevant to an
in-depth analysis of a nonbank financial company may vary based on
the nonbank financial company's characteristics.
The discussion below describes how the Council will apply the
Determination Standards in its evaluation of a nonbank financial
company, including how the Council will take into account the
statutory considerations, and other risk-related factors that the
Council will take into account. Due to the unique threat that each
nonbank financial company could pose to U.S. financial stability
and the nature of the inquiry required by the statutory
considerations, the Council expects that its evaluations of nonbank
financial companies will be firm-specific and may include
quantitative and qualitative information that the Council deems
relevant to a particular nonbank financial company. The
transmission channels, sample metrics, and other factors set forth
below are not exhaustive and may not apply to all nonbank financial
companies under evaluation.
b. Transmission Channels
The Council's evaluation of any nonbank financial company under
section 113 of the Dodd-Frank Act will seek to determine whether a
nonbank financial company meets one of the Determination Standards
described above. In its analysis of a nonbank financial company,
the Council will assess how the negative effects of the company's
material financial distress, or of the nature, scope, size, scale,
concentration, interconnectedness, or mix of the company's
activities, could be transmitted to or affect other firms or
markets, thereby causing a broader impairment of financial
intermediation or of financial market functioning. Such a
transmission of risk can occur through various mechanisms, or
channels. The Council has identified three transmission channels as
most likely to facilitate the transmission of the negative effects
of a nonbank financial company's material financial distress, or of
the nature, scope, size, scale, concentration, interconnectedness,
or mix of the company's activities, to other financial firms and
markets: Exposure; asset liquidation; and critical function or
service. These three transmission channels are described below. The
Council may also consider other relevant channels through which
risks could be transmitted from a particular nonbank financial
company and thereby pose a threat to U.S. financial stability. The
Council will take into account the 10 statutory considerations and
any other risk-related factors the Council deems appropriate as
part of its evaluation of a nonbank financial company under the
three transmission channels and the other factors described below.
Further, in its analyses under the transmission channels, the
Council will consider applicable factors that may limit the
transmission of risk, such as existing regulatory requirements,
collateralization, bankruptcy-remote structures, or guarantee funds
that reduce counterparties' exposures to the nonbank financial
company or mitigate incentives for customers or counterparties to
withdraw funding or assets.
Exposure Transmission Channel
Under this transmission channel, the Council will evaluate
whether a nonbank financial company's creditors, counterparties,
investors, or other market participants have direct or indirect
exposure to the nonbank financial company that is significant
enough to materially and adversely affect those or other creditors,
counterparties, investors, or other market participants and thereby
pose a threat to U.S. financial stability.
The Council expects that its analyses under the exposure
transmission channel will generally include the factors described
below. The potential threat to U.S. financial stability will
generally be greater if the amounts of the exposures are larger; if
the terms of the transactions provide less protection for the
counterparty; and if the largest counterparties include large
financial institutions.
The Council also will consider a company's leverage and size. A
company's leverage can amplify the risks posed by exposures,
including off-balance sheet exposures, by reducing the company's
ability to satisfy its obligations to creditors in the event of its
material financial distress. Size is relevant to this analysis, as
material financial distress at a larger nonbank financial company
would generally transmit risk on a larger scale than distress at a
smaller company. Size may be measured by the assets, liabilities,
and capital of the firm.
As required by statute, the Council will consider the extent to
which assets are managed rather than owned by the company and the
extent to which ownership of assets under management is diffuse.
The Council's analysis will recognize the distinct nature of
exposure risks when the company is acting as an agent rather than
as principal. 14 In particular, in the case of a nonbank financial
company that manages assets on behalf of customers or other third
parties, the third parties' direct financial exposures are often to
the issuers of the managed assets, rather than to the nonbank
financial company managing those assets.
14 Dodd-Frank Act section 113(a)(2)(F), 12 U.S.C.
5323(a)(2)(F).
The Council will consider the exposures that counterparties and
other market participants have to a nonbank financial company
arising from the company's capital markets activities. This
assessment includes an evaluation of the company's relationships
with other significant nonbank financial companies and significant
bank holding companies. In most cases, the Council will consider
factors such as the amount and nature of, and counterparties to,
the company's:
• Outstanding debt (regardless of term) and other liabilities
(such as guaranteed investment contracts issued by an insurance
company or Federal Home Loan Bank loans).
• Derivatives transactions (which may be measured on the basis
of gross notional amount, net fair value, or potential future
exposures).
• Securities financing transactions (i.e., repurchase
agreements and securities lending transactions).
• Lines of credit.
• Credit-default swaps outstanding for which the company or an
affiliate is the reference entity (generally focusing on
single-name credit-default swaps).
Relevant metrics may include the number, size, and financial
strength of a nonbank financial company's counterparties, including
the proportion of its counterparties' exposure to the nonbank
financial company relative to the counterparties' capital. The
potential risk arising under this transmission channel depends not
only on the number of counterparties that a nonbank financial
company has, but also on the importance of that nonbank financial
company to its counterparties and the extent to which the
counterparties are interconnected with other financial firms, the
financial system, and the broader economy. Therefore, the Council
will focus on exposures of large financial institutions to the
nonbank financial company under review. This analysis will take
into account both individual counterparty exposures as well as
aggregate exposures of other financial institutions to the company
under review. The amount and types of other exposures that
counterparties and other market participants have to a nonbank
financial company is highly dependent on the nature of the
company's business. The Council's analysis will take these other
fact-specific considerations into account.
The Council also will consider applicable factors, including
existing regulatory requirements, that may mitigate potential risks
under the exposure transmission channel. For example,
collateralization by high-quality, highly liquid securities, such
as U.S. Treasury securities, the use of insurance funds to limit
counterparty exposures, or other transactions that reallocate risk
to well-capitalized entities, may reduce the potential for certain
exposures to serve as a channel for the transmission of risk.
Contagion. The negative effects of the material financial
distress of a large, interconnected nonbank financial company are
not necessarily limited to the amount of direct losses suffered by
the firm's creditors, counterparties, investors, or other market
participants. In general, the wider and more interconnected a
company's network of financial counterparties, the greater the
potential negative effect of the material financial distress of the
company. Aggregate exposures to a nonbank financial company can
create a potential threat to U.S. financial stability if they lead
to contagion among financial institutions and financial markets
more broadly. Contagion has the potential to spread distress
quickly and seemingly unexpectedly. Such transmission is associated
with opaque balance sheets, closely correlated markets, and
coordination failures among investors. In such circumstances, fire
sales by a highly leveraged and interconnected nonbank financial
company may result in a loss of confidence in other financial
companies that are perceived to have similar characteristics. The
Council will seek evidence regarding the potential for contagion,
including relevant industry-specific historical examples and the
scope of the company's interconnectedness with large financial
institutions, among other factors. Various market-based or
regulatory factors can strongly mitigate the risk of contagion.
Contagion should be viewed in conjunction with other factors
described above when evaluating risk under the exposure
transmission channel.
Asset Liquidation Transmission Channel
Under this transmission channel, the Council will consider
whether a nonbank financial company holds assets that, if
liquidated quickly, could pose a threat to U.S. financial stability
by, for example, causing a fall in asset prices that significantly
disrupts trading or funding in key markets or causes significant
losses or funding problems for other firms with similar holdings.
This channel would likely be most relevant for a nonbank financial
company that could be forced to liquidate assets quickly due to its
funding and liquid asset profile. For example, this could be the
case if a nonbank financial company relies heavily on short-term
funding. The Council may also consider whether a deterioration in
asset pricing or market functioning could pressure other financial
firms to sell their holdings of affected assets in order to
maintain adequate capital and liquidity, which, in turn, could
produce a cycle of asset sales that could lead to further market
disruptions. This analysis includes an assessment of any maturity
mismatch at the company - the difference between the maturities of
the company's assets and liabilities. A company's reliance on
short-term funding to finance longer-term positions can subject the
company to rollover or refinancing risk that may force it to sell
assets rapidly at low market prices. The Council will also consider
applicable factors that may mitigate potential risks under the
asset liquidation transmission channel. As part of its analysis,
the Council will consider the extent to which assets are managed
rather than owned by the company.
The Council's analyses of the asset liquidation transmission
channel will focus on three central factors, described below.
Liquidity of the company's liabilities. The first factor
in the Council's assessment under this transmission channel is the
amount and nature of the company's liabilities that are, or could
become, short-term in nature. This analysis involves an assessment
of the company's liquidity risk. Liquidity risk generally refers to
the risk that a company may not have sufficient funding to satisfy
its short-term needs. For example, relevant factors may
include:
• The company's short-term financial obligations (including
outstanding commercial paper).
• Financial arrangements that can be terminated by
counterparties and therefore become short-term (including callable
debt, derivatives, securities lending, repurchase agreements, and
off-balance-sheet exposures).
• Long-term liabilities that may come due in a short-term
period.
• Financial transactions that may require the company to provide
additional margin or collateral to the counterparty.
• Products that allow customers rapidly to withdraw funds from
the company.
• Liabilities related to other collateralized borrowings and
deposits.
The Council will quantitatively identify the scale of potential
liquidity needs that could plausibly arise at the company. As part
of this analysis, the Council will apply counterparty and customer
withdrawal rates based on historical examples and other relevant
models to assess the scope of plausible withdrawals. In addition,
any ability of the company or its financial regulators to impose
stays on counterparty terminations or withdrawals is relevant,
because it may reduce the company's liquidity needs in an event of
material financial distress. The Council also will consider the
company's internal estimates of potential liquidity needs in a
context of material financial distress.
The company's leverage and short-term debt ratios are relevant
to this analysis, as high leverage and reliance on short-term
funding can increase the potential for a company to be subject to
sudden liquidity strains that force it rapidly to sell assets.
Leverage can be measured by the ratio of assets to capital or as a
measure of economic risk relative to capital. The latter
measurement can better capture the effect of derivatives and other
products with embedded leverage on the risk undertaken by a nonbank
financial company. Comparisons of leverage to peer financial
institutions can help indicate the level of risk at the company.
Metrics that may be used to assess leverage include:
• Total assets and total debt measured relative to total equity,
which measures financial leverage.
• Derivatives liabilities and off-balance sheet obligations
relative to total equity, which may show how much off-balance sheet
leverage a nonbank financial company may have.
• Securities financing transactions and funding agreements that
provide alternative sources of liquidity or operating income, which
indicate the use of operating leverage.
• Changes in leverage ratios, which may indicate that a nonbank
financial company is increasing or decreasing its risk profile.
Liquidity of the company's assets. The second factor
under the asset liquidation transmission channel is an analysis of
the company's assets that the company could rapidly liquidate, if
necessary, to satisfy its obligations. In particular, the Council
expects that this assessment will focus on the size and liquidity
characteristics of the company's investment portfolio. The Council
will assess the company's assets, grouped into categories such as
highly liquid (for example, cash, U.S. Treasury securities, and
U.S. agency mortgage-backed securities) and less-liquid (for
example, corporate bonds, non-agency mortgage-backed securities,
and mortgages and other loans) to determine if it holds cash
instruments or readily marketable securities that could reasonably
be expected to have a liquid market in times of broader market
stress. To the extent that the company's assets are encumbered,
those assets would generally not be considered to be available to
satisfy short-term obligations.
Potential fire sale impacts. The third factor in the
asset liquidation transmission channel analysis is the potential
effects of the company's asset liquidation on markets and market
participants. As described above, the Council will assess the scale
of potential liquidity needs that could plausibly arise at the
company and the amount and nature of financial assets the company
could sell to satisfy its obligations. In this step of the asset
liquidation transmission channel analysis, the Council will apply
quantitative models to assess how the company could satisfy the
identified range of potential liquidity needs by rapidly selling
its identified liquid assets. To assess this factor, the Council
will compare the volume of the company's potential liquidation of
particular categories of financial instruments with the average
daily trading volume in the United States of those types of
instruments. In general, a rapid liquidation of a significant
amount of relatively illiquid financial instruments, or instruments
that are widely held by other market participants, will have a
greater effect on the market than a liquidation of the same amount
of highly liquid instruments or instruments that are not widely
held. The Council may also conduct an analysis to assess the
relative impact of negative shocks to the equity or assets of
certain financial institutions on other financial institutions. The
Council expects that its analysis will generally focus on potential
asset liquidation periods of 30 to 90 days.
The order in which a nonbank financial company may liquidate
assets is a factor in the extent of any fire sale risk, but is
subject to considerable uncertainties. A company could liquidate a
significant portion of its highly liquid assets first, in order to
reduce the likelihood that the company would be forced to liquidate
illiquid assets in the event of its material financial distress.
However, in the event of the company's material financial distress,
a company may also be expected to seek to maintain compliance with
any applicable risk-based capital ratios and other requirements.
Doing so might require a company to sell a mix of assets across a
number of asset classes, rather than proceed with the sale of
assets in order from most liquid to least liquid. Further, in the
event of a significant market disruption, there could be a
meaningful first-mover advantage to selling less-liquid assets
first. For example, markets for less-liquid assets, such as private
and public corporate bonds and asset-backed securities, could be
prone to disruption in the event that a seller liquidated a large
portion of its portfolio of those assets. Given these potential
discounts, in some circumstances a company may be incentivized to
sell a portion of its less-liquid assets first and to hold U.S.
government securities and agency mortgage-backed securities, which
tend to increase in value during a period of market turmoil. To the
extent that a company's highly liquid assets are encumbered (for
example, under securities financing transactions or as collateral
for loans), the company would also need to sell less-liquid assets
to satisfy its liquidity needs. Further, a company's holdings of
liquid assets could be reduced before the company enters material
financial distress. As a result, the Council may take into account
company-specific factors in assessing the order in which the
company might liquidate assets. One approach the Council may take
is to assess the potential effects if the company sells pro rata
portions of the more-liquid segments of its investment portfolio
(such as cash and highly liquid instruments, U.S. agency
securities, investment-grade public corporate debt securities,
publicly traded equity securities, and asset
backed-securities).
Critical Function or Service Transmission Channel
Under this transmission channel, the Council will consider the
potential for a nonbank financial company to become unable or
unwilling to provide a critical function or service that is relied
upon by market participants and for which there are no ready
substitutes and thereby pose a threat to U.S. financial stability.
This factor is commonly referred to as “substitutability.”
Substitutability captures the extent to which other firms could
provide similar financial services in a timely manner at a similar
price and quantity if a nonbank financial company withdraws from a
particular market. Substitutability also captures situations in
which a nonbank financial company is the primary or dominant
provider of services in a market that the Council determines to be
essential to U.S. financial stability. A risk under this
transmission channel may be identified if a company provides a
critical function or service that may not easily be substitutable.
The Council's analysis will also consider applicable factors that
may mitigate potential risks under the critical function or service
transmission channel.
Concern about a potential lack of substitutability could be
greater if a nonbank financial company and its competitors are
likely to experience stress at the same time because they are
exposed to the same risks. The Council may also analyze the nonbank
financial company's activities and critical functions and the
importance of those activities and functions to the U.S. financial
system and assess how those activities and functions would be
performed by the nonbank financial company or other market
participants in the event of the nonbank financial company's
material financial distress. The Council also will consider the
substitutability of critical market functions that the company
provides in the United States in the event of material financial
distress of a foreign parent company.
The analysis of this channel incorporates a review of the
competitive landscape for markets in which a nonbank financial
company participates and for the services it provides (including
the provision of liquidity to the U.S. financial system, the
provision of credit to low-income, minority, or underserved
communities, or the provision of credit to households, businesses
and state and local governments), the ability of other firms to
replace those services, and the nonbank financial company's market
share. This analysis may focus on the company's market share in
specific product lines and the ability of substitutes to replace a
service or function provided by the company. The Council's
evaluation of a nonbank financial company's market share regarding
a particular product or service may include assessments of the
ability of the nonbank financial company's competitors to expand to
meet market needs during a period of overall stress in the
financial services industry or in a weak macroeconomic environment;
the costs that market participants would incur if forced to switch
providers; the timeframe within which a disruption in the provision
of the product or service would materially affect market
participants or market functioning; and the economic implications
of such a disruption.
c. Complexity and Resolvability
The potential threat a nonbank financial company could pose to
U.S. financial stability may be mitigated or aggravated by the
company's complexity, opacity, or resolvability. In particular, a
risk may be aggravated if a nonbank financial company's resolution
under ordinary insolvency regimes could disrupt key markets or have
a material adverse impact on other financial firms or markets. An
evaluation of a nonbank financial company's complexity and
resolvability entails an assessment of (1) the complexity of the
nonbank financial company's legal, funding, and operational
structure, and (2) any obstacles to the rapid and orderly
resolution of the nonbank financial company:
• Legal structure factors may include the number of
jurisdictions the company operates in, the number of subsidiaries,
and the organizational structure.
• Funding structure factors may include the degree of
interaffiliate dependency for liquidity and funding (such as
intercompany loans or other affiliate support arrangements),
payment operation (such as treasury operations), and
risk-management.
• Operational structure factors may include the number of
employees, the number of U.S. and non-U.S. locations, and the
degree of inter-company dependency in regard to financial
guarantees and support arrangements, the ability to separate
functions and spin off services or business lines, the complexity
and resiliency of intercompany and outsourced services and
arrangements in resolution, and the likelihood of preserving
franchise value in a recovery or resolution scenario.
• Cross-border operational factors may include size and
complexity of the company's cross-border operations and impact of
potential ring-fencing on an orderly resolution.
Factors that would tend to increase the risk associated with a
company's complexity and resolvability include large size or scope
of activities; a complex legal or operational structure;
multi-jurisdictional operations and regulatory regimes; complex
funding structures; the potential impact of a loss of key
personnel; and shared services among affiliates. The opacity of a
firm's structure - if the firm's structure and operations cannot
readily or easily be determined - may present an obstacle to
resolution.
d. Existing Regulatory Scrutiny
As noted above, one of the considerations the Council is
statutorily required to take into account in making a determination
under section 113 of the Dodd-Frank Act is the degree to which the
nonbank financial company is already regulated by one or more
primary financial regulatory agencies. 15 In its analysis of this
statutory consideration, the Council will focus on the extent to
which existing regulation of the company has mitigated the
potential risks to financial stability identified by the Council.
For example, factors that may be used to assess existing regulatory
scrutiny include:
15 Dodd-Frank Act section 113(a)(2)(H), 12 U.S.C.
5323(a)(2)(H).
• The extent to which the company's primary financial regulator
has imposed risk-management standards such as capital, liquidity,
and reporting requirements, as relevant to the type of company, and
has authority to supervise, examine, and bring enforcement actions,
with respect to the company and its affiliates.
• Regulators' processes for inter-regulator coordination.
• For non-U.S. entities, the extent to which the company is
supervised and subject to prudential standards on a consolidated
basis in its home country that are administered and enforced by a
comparable foreign supervisory authority.
e. Benefits and Costs of Determination; Likelihood of Material
Financial Distress
Determining whether the expected benefits of a potential Council
determination justify the expected costs is necessary to ensure
that the Council's actions are expected to provide a net benefit to
U.S. financial stability and are consistent with thoughtful
decisionmaking. 16 Financial stability benefits may be difficult to
quantify, and some of the costs may be difficult to forecast with
precision. When possible, the Council will quantify reasonably
estimable benefits and costs, using ranges, as appropriate, and
based on empirical data when available. If such benefits or costs
cannot be quantified in this manner, the Council will explain why
such benefits or costs could not be quantified. The Council also
expects to consider benefits and costs qualitatively. 17 To the
extent feasible, the Council will attempt to assess the relative
importance of any such qualitative elements. The Council will make
a determination under section 113 only if the expected benefits to
financial stability from Federal Reserve supervision and prudential
standards justify the expected costs that the determination would
impose. As part of this analysis, the Council will assess the
likelihood of a firm's material financial distress, in order to
assess the extent to which a determination may promote U.S.
financial stability.
16 See MetLife, Inc. v. Financial Stability Oversight
Council, 177 F. Supp.3d 219, 242 (D.D.C. 2016) (quoting 12
U.S.C. 5323(a)(2)(K) and Michigan v. Environmental
Protection Agency, 135 S. Ct. 2699, 2707 (2015)).
17 The Council will also consider non-quantified benefits and
costs. See Office of Management and Budget Circular A-4
(Sept. 17, 2003), section (E) (Developing Benefit and Cost
Estimates) (7).
The key elements of regulatory analysis include (1) a statement
of the need for the proposed action, (2) an examination of
alternative approaches, and (3) an evaluation of the benefits and
costs (quantitative and qualitative) of the proposed action and the
main alternatives. 18 The Council will conduct this analysis only
in cases where the Council is concluding that the company meets one
of the standards for a determination by the Council under section
113 of the Dodd-Frank Act, because in other cases doing so would
not affect the outcome of the Council's analysis.
18 See Office of Management and Budget Circular A-4
(Sept. 17, 2003).
Benefits. With respect to the benefits of a Council
determination, the Council will consider the benefits of the
determination itself, both to (1) the U.S. financial system and
long-term economic growth and (2) the nonbank financial company due
to additional regulatory requirements resulting from the
determination, particularly the prudential standards adopted by the
Federal Reserve under section 165 of the Dodd-Frank Act.
One of the Council's statutory purposes is to respond to
emerging threats to the stability of the U.S. financial system. 19
The primary intended benefit of a determination under section 113
of the Dodd-Frank Act is a reduction in the likelihood or severity
of a financial crisis. Therefore, the Council will consider
potential benefits to the U.S. financial system and the U.S.
economy arising from a Council determination. To the extent that a
Council determination reduces the likelihood or severity of a
potential financial crisis, the determination could enhance
financial stability and mitigate the severity of economic
downturns. The Council may use various measures of systemic risk to
assess any improvement in financial stability. Such measures
include S-Risk (which attempts to quantify the amount of capital a
financial firm would need to raise in order to function normally in
the event of a severe financial crisis), conditional value at risk,
and certain estimates of fire sale risk, among others. To assess
the benefit to the U.S. financial system and the U.S. economy from
a determination, the Council may also consider historical analogues
to the nonbank under review. In addition, the Council may compare
the risks to financial stability posed by a particular nonbank to
the risks posed by large bank holding companies, in order to
produce an assessment of the relative risks the company may pose.
Further, the loss of any implicit “too big to fail” or similar
subsidy would be considered a benefit to the economy, even if it
increases the nonbank financial company's cost of capital.
19 Dodd-Frank Act section 112(a)(1)(C), 12 U.S.C.
5322(a)(1)(C).
Analysis of the benefits of a determination for the relevant
nonbank financial company may include those arising directly from
the Council's determination as well as any benefits arising from
anticipated new or increased requirements resulting from the
determination, such as additional supervision and enhanced capital,
liquidity, or risk-management requirements. For example, a nonbank
financial company subject to a Council determination may benefit
from a lower cost of capital or higher credit ratings upon meeting
its post-determination regulatory requirements.
Costs. With respect to the costs of a Council
determination, the Council will consider the costs of the
determination itself, both to (1) the nonbank financial company due
to additional regulatory requirements resulting from the
determination, including the costs of the prudential standards
adopted by the Federal Reserve under section 165 of the Dodd Frank
Act; and (2) the U.S. economy.
The Council will consider costs to the company arising from
anticipated new or increased regulatory requirements resulting from
the determination related to:
• Risk-management requirements, such as the costs of capital
planning and stress testing.
• Supervision and examination, such as compliance costs to the
firm of additional examination and supervision.
• Increased capital requirements, after accounting for
offsetting benefits to taxpayers and to the holders of the firm's
other liabilities.
• Liquidity requirements, such as the opportunity cost from any
requirement to hold additional high-quality liquid assets, relative
to the company's current investment portfolio.
Because the Federal Reserve is required to tailor prudential
standards to a nonbank financial company subject to a Council
determination after the Council has made a determination regarding
the company, the new regulatory requirements that result from the
Council's determination will not be known to the Council during its
analysis of the company. In cases where the nonbank financial
company under review primarily engages in bank-like activities, the
Council may consider, as a proxy, the costs that would be imposed
on the nonbank if the Federal Reserve imposed prudential standards
similar to those imposed on bank holding companies with at least
$250 billion in total consolidated assets under section 165 of the
Dodd-Frank Act. 20
20 Dodd-Frank Act section 165, 12 U.S.C. 5365.
The Council also will consider the cost of a determination under
section 113 of the Dodd-Frank Act to the U.S. economy by assessing
the impact of the determination on the availability and cost of
credit or financial products in relevant U.S. markets. To the
extent that the markets in which the relevant nonbank participates
have low concentration, the impact that the determination regarding
one firm would have on credit conditions would generally be
immaterial. However, if the relevant markets are concentrated, a
Council determination regarding a significant market participant
could have a material impact on credit conditions in that market.
As part of this analysis, the Council may also consider the extent
to which any reduction in financial services provided by the
nonbank financial company under review would be offset by other
market participants.
Likelihood of Material Financial Distress. As part of the
assessment of the overall impact of a Council determination for any
company under review under the First Determination Standard, the
Council will assess the likelihood of the company's material
financial distress based on its vulnerability to a range of
factors. For example, these factors may include leverage (both on-
and off-balance sheet), potential risks associated with asset
reevaluations (whether such reevaluations arise from market
disruptions or severe macroeconomic conditions), reliance on
short-term funding or other fragile funding markets, maturity
transformation, and risks from exposures to counterparties or other
market participants. This assessment may rely upon historical
examples regarding the characteristics of financial companies that
have experienced financial distress, but may also consider other
risks that do not have historical precedent. The Council's analysis
of the vulnerability of a nonbank financial company to material
financial distress will be conducted taking into account a period
of overall stress in the financial services industry and a weak
macroeconomic environment. The Council may also consider the
results of any stress tests that have previously been conducted by
the company or by its primary financial regulatory agency.
IV. The Determination Process
As described in section II above, the Council will prioritize an
activities-based approach for identifying, assessing, and
addressing potential risks to financial stability. However, if a
potential risk or threat to U.S. financial stability cannot be
adequately addressed through an activities-based approach, the
Council may consider a nonbank financial company for a potential
determination under section 113 of the Dodd-Frank Act. The Council
anticipates it would consider a nonbank financial company for a
potential determination under section 113 only in rare instances,
such as if the products, activities, or practices of a company that
pose a potential threat to U.S. financial stability are outside the
jurisdiction or authority of financial regulatory agencies. The
Council expects generally to follow a two-stage process of
evaluation and analysis, as described below.
In the first stage of the process (“Stage 1”), nonbank financial
companies identified as potentially posing risks to U.S. financial
stability will be notified and subject to a preliminary analysis,
based on quantitative and qualitative information available to the
Council primarily through public and regulatory sources. During
Stage 1, the Council will permit, but not require, the company to
submit relevant information. The Council will also consult with the
primary financial regulatory agency or home country supervisor, as
appropriate. This approach will enable the Council to fulfill its
statutory obligation to rely whenever possible on information
available through the Office of Financial Research (the “OFR”),
Council member agencies, or the nonbank financial company's primary
financial regulatory agencies before requiring the submission of
reports from any nonbank financial company. 21
21 See Dodd-Frank Act section 112(d)(3), 12 U.S.C.
5322(d)(3).
Following Stage 1, nonbank financial companies that are selected
for additional review will receive notice that they are being
considered for a proposed determination that the company could pose
a threat to U.S. financial stability (a “Proposed Determination”)
and will be subject to in-depth evaluation during the second stage
of review (“Stage 2”). Stage 2 will involve the evaluation of
additional information collected directly from the nonbank
financial company. At the end of Stage 2, the Council may consider
whether to make a Proposed Determination with respect to the
nonbank financial company. If a Proposed Determination is made by
the Council, the nonbank financial company may request a hearing in
accordance with section 113(e) of the Dodd-Frank Act and §
1310.21(c) of the Council's rule. 22 After making a Proposed
Determination and holding any written or oral hearing if requested,
the Council may vote to make a final determination.
22 See 12 CFR 1310.21(c).
a. Stage 1: Preliminary Evaluation of Nonbank Financial Companies
Stage 1 involves a preliminary analysis of nonbank financial
companies to assess the risks they could pose to U.S. financial
stability.
Identification of Company for Review in Stage 1
If, as described in section II, the Council's consultation with
and any recommendations to a nonbank financial company's primary
financial regulatory agency do not adequately address a potential
risk identified by the Council, the Council may evaluate one or
more individual nonbank financial companies for an entity-specific
determination under section 113 of the Dodd-Frank Act. The Council
will vote to commence review of a nonbank financial company in
Stage 1. When evaluating the potential risks associated with a
nonbank financial company, the Council may consider the company and
its subsidiaries together. This approach enables the Council to
consider potential risks arising across the consolidated
organization, while retaining the ability to make a determination
regarding either the parent or any individual nonbank financial
company subsidiary (or neither), depending on which entity the
Council determines could pose a threat to financial stability.
Engagement With Company and Regulators in Stage 1
The Council will provide a notice to any nonbank financial
company under review in Stage 1. In Stage 1, the Council will
consider available public and regulatory information; in addition,
a company under review in Stage 1 may submit to the Council any
information it deems relevant to the Council's evaluation and may,
upon request, meet with staff of Council members and member
agencies who are leading the Council's analysis. In order to reduce
the burdens of review on the company, the Council will not require
the company to submit information during Stage 1. In addition,
staff representing Council members will, upon request, provide the
company with a list of the primary public sources of information
being considered during the Stage 1 analysis, so that the company
has an opportunity to understand the information the Council may
rely upon during Stage 1. Through this engagement, the Council will
seek to enable the company under review to understand the focus of
the Council's analysis, which may enable the company to act to
mitigate any risks to financial stability and thereby potentially
avoid becoming subject to a Council determination.
During the discussions in Stage 1 with the company, the Council
intends for staff of Council members and member agencies to explain
to the company the key risks that have been identified in the
analysis. Because the review of the company is preliminary and
continues to change until the Council makes a final determination,
these identified risks may shift over time.
The Council will also consider in Stage 1 information available
from relevant existing regulators of the company. Under the
Dodd-Frank Act, the Council is required to consult with the primary
financial regulatory agency, if any, for each nonbank financial
company or subsidiary of a nonbank financial company that is being
considered for a determination before the Council makes any final
determination with respect to such company. 23 For any company
under review in Stage 1 that is regulated by a primary financial
regulatory agency or home country supervisor, the Council will
notify the regulator or supervisor that the company is under review
no later than such time as the company is notified. As part of that
consultation process, the Council will consult with the primary
financial regulatory agency, if any, of each significant subsidiary
of the nonbank financial company, to the extent the Council deems
appropriate in Stage 1. The Council will actively solicit the
regulator's views regarding risks at the company and potential
mitigants. In order to enable the regulator to provide relevant
information, the Council will share its preliminary views regarding
potential risks at the company, and request that the regulator
provide information regarding those specific risks, including
whether the risks are adequately mitigated by factors such as
existing regulation or the company's business practices. During the
determination process, the Council will continue to encourage the
regulator to address any risks to U.S. financial stability using
the regulator's existing authorities; if the Council believes the
regulator's actions adequately address the potential risks to U.S.
financial stability the Council has identified, the Council may
discontinue its consideration of the firm for a potential
determination under section 113 of the Dodd-Frank Act.
23 Dodd-Frank Act section 113(g), 12 U.S.C. 5323(g).
Based on the preliminary evaluation in Stage 1, the Council may
vote to commence a more detailed analysis of the company by
advancing the company to Stage 2, or it may decide not to evaluate
the company further. If the Council determines not to advance a
company that has been reviewed in Stage 1 to Stage 2, the Council
will notify the company in writing of the Council's decision. The
notice will clarify that a decision not to advance the company from
Stage 1 to Stage 2 at that time does not preclude the Council from
reinitiating review of the company in Stage 1. For example, the
Council may reinitiate review of the company if material changes
affecting the firm merit further evaluation.
b. Stage 2: In-Depth Evaluation
Stage 2 involves an in-depth evaluation of any company that the
Council has determined merits additional review.
In Stage 2, the Council will review the relevant company using
information collected directly from the nonbank financial company,
through the OFR, as well as public and regulatory information. The
review will focus on whether the nonbank financial company could
pose a threat to U.S. financial stability because of the company's
material financial distress or the nature, scope, size, scale,
concentration, interconnectedness, or mix of the activities of the
company. The Council expects that the transmission channels and the
other factors described above will be used to evaluate a nonbank
financial company's potential to pose a threat to U.S. financial
stability.
Engagement With Company and Regulators in Stage 2
Each nonbank financial company to be evaluated in Stage 2 will
receive a notice (a “Notice of Consideration”) that the nonbank
financial company is under consideration for a Proposed
Determination. The Council also will submit to the company a
request that the company provide information that the Council deems
relevant to the Council's evaluation, and the nonbank financial
company will be provided an opportunity to submit written materials
to the Council. 24 This information will generally be collected by
the OFR. Before requiring the submission of reports from any
nonbank financial company that is regulated by a Council member
agency or any primary financial regulatory agency, the Council,
acting through the OFR, will coordinate with such agencies and
will, whenever possible, rely on information available from the OFR
or such agencies. Council members and their agencies and staffs
will maintain the confidentiality of such information in accordance
with applicable law. During Stage 2, the company may also submit
any other information that it deems relevant to the Council's
evaluation. Information considered by the Council includes details
regarding the company's financial activities, legal structure,
liabilities, counterparty exposures, resolvability, and existing
regulatory oversight.
24 See 12 CFR 1310.21(a).
Information requests likely will involve both qualitative and
quantitative data. Information relevant to the Council's analysis
may include confidential business information such as detailed
information regarding financial assets, terms of funding
arrangements, counterparty exposure or position data, strategic
plans, and interaffiliate transactions.
The Council will make staff representing Council members
available to meet with the representatives of any company that
enters Stage 2, to explain the evaluation process and the framework
for the Council's analysis. If the analysis in Stage 1 has
identified specific aspects of the company's operations or
activities as the primary focus for the evaluation, staff will
notify the company of those issues, although the issues will be
subject to change based on the ongoing analysis. In addition, the
Council expects that its Deputies Committee 25 will grant a request
to meet with a company in Stage 2 to allow the company to present
any information or arguments it deems relevant to the Council's
evaluation.
25 The Council's Deputies Committee is composed of senior
officials from each Council member and member agency. It
coordinates and oversees the work of the Council's other
interagency staff committees.
During Stage 2 the Council will also seek to continue its
consultation with the company's primary financial regulatory agency
or home country supervisor in a timely manner before the Council
makes any proposed or final determination with respect to such
nonbank financial company. The Council will continue to encourage
the regulator during the determination process to address any risks
to U.S. financial stability using the regulator's existing
authorities; as noted above, if the Council believes the
regulator's actions adequately address the potential risks to U.S.
financial stability the Council has identified, the Council may
discontinue its consideration of the firm for a potential
determination under section 113 of the Dodd-Frank Act.
Before making a Proposed Determination regarding a nonbank
financial company, the Council will notify the company when the
Council believes that the evidentiary record regarding such nonbank
financial company is complete. The Council will notify any nonbank
financial company in Stage 2 if the nonbank financial company
ceases to be considered for a determination. Any nonbank financial
company that ceases to be considered at any time in the Council's
determination process may be considered for a Proposed
Determination in the future at the Council's discretion, consistent
with the processes described above.
c. Proposed and Final Determination Proposed Determination
Based on the analysis performed in Stage 2, a nonbank financial
company may be considered for a Proposed Determination. A proposed
determination requires a vote of two-thirds of the voting members
of the Council then serving, including an affirmative vote by the
Chairperson of the Council. 26 Following a Proposed Determination,
the Council will issue a written notice of the Proposed
Determination to the nonbank financial company, which will include
an explanation of the basis of the Proposed Determination. 27
Promptly after the Council votes to make a proposed determination
regarding a company, the Council will provide the company's primary
financial regulatory agency or home country supervisor (subject to
appropriate protections for confidential information) with the
nonpublic written explanation of the basis of the Council's
proposed or final determination. The Council also will publish the
explanation of the basis of the Proposed Determination, subject to
redactions to protect confidential information from the company or
its regulators.
26 12 CFR 1310.10(b).
27 Dodd-Frank Act section 113(e)(1), 12 U.S.C. 5323(e)(1).
Hearing
A nonbank financial company that is subject to a Proposed
Determination may request a nonpublic hearing to contest the
Proposed Determination in accordance with section 113(e) of the
Dodd-Frank Act. If the nonbank financial company requests a hearing
in accordance with the procedures set forth in § 1310.21(c) of the
Council's rule, 28 the Council will set a time and place for such
hearing. The Council has published hearing procedures on its
website. 29 In light of the short statutory timeframe for
conducting a hearing, and the fact that the purpose of the hearing
is to benefit the company, if a company requests that the Council
waive the statutory deadline for conducting the hearing, the
Council may do so in appropriate circumstances.
28 See 12 CFR 1310.21(c).
29 Financial Stability Oversight Council Hearing Procedures for
Proceedings Under Title I or Title VIII of the Dodd-Frank Wall
Street Reform and Consumer Protection Act, available at
https://www.treasury.gov/initiatives/fsoc/designations/Pages/Hearing-Procedures.aspx.
Final Determination
After making a Proposed Determination and holding any requested
written or oral hearing, the Council may, by a vote of not fewer
than two-thirds of the voting members of the Council then serving
(including an affirmative vote by the Chairperson of the Council),
make a final determination that the company will be subject to
supervision by the Federal Reserve and prudential standards. If the
Council makes a final determination, it will provide the company
with a written notice of the Council's final determination,
including an explanation of the basis for the Council's decision.
30 The Council will also provide the company's primary financial
regulatory agency or home country supervisor (subject to
appropriate protections for confidential information) with the
nonpublic written explanation of the basis of the Council's final
determination. The Council expects that its explanation of the
final basis for any determination will highlight the key risks that
led to the determination and include clear guidance regarding the
factors that were most important in the Council's determination.
When practicable and consistent with the purposes of the
determination process, the Council will provide a nonbank financial
company with a notice of a final determination at least one
business day before publicly announcing the determination pursuant
to § 1310.21(d)(3), § 1310.21(e)(3), or § 1310.22(d)(3) of the
Council's rule. 31 In accordance with section 113(h) of the
Dodd-Frank Act, a nonbank financial company that is subject to a
final determination may bring an action in U.S. district court for
an order requiring that the determination be rescinded.
30 Dodd-Frank Act section 113(e)(3), 12 U.S.C. 5323(e)(3);
see also 12 CFR 1310.21(d)(2) and (e)(2).
31 See 12 CFR 1310.21(d)(3) and (e)(3) and
1310.22(d)(3).
The Council does not intend to publicly announce the name of any
nonbank financial company that is under evaluation prior to a final
determination with respect to such company. However, if a company
that is under review in Stage 1 or Stage 2 publicly announces the
status of its review by the Council, the Council intends, upon the
request of a third party, to confirm the status of the company's
review. In addition, the Council will publicly release the
explanation of the Council's basis for any nonbank financial
company determination or rescission of a determination. The Council
is subject to statutory and regulatory requirements to maintain the
confidentiality of certain information submitted to it by a nonbank
financial company or its regulators. 32 In light of these
confidentiality obligations, such confidential information will be
redacted from the materials that the Council makes publicly
available.
32 See Dodd-Frank Act section 112(d)(5), 12 U.S.C.
5322(d)(5); see also 12 CFR 1310.20(e).
V. Annual Reevaluations of Nonbank Financial Company Determinations
After the Council makes a final determination regarding a
company, the Council intends to encourage the company or its
regulators to take steps to mitigate the potential risks identified
in the Council's written explanation of the basis for its final
determination. Except in cases where new material risks arise over
time, if a company adequately addresses the potential risks
identified in writing by the Council at the time of the final
determination and in subsequent reevaluations, the Council should
generally be expected to rescind its determination regarding the
company.
For any nonbank financial company that is subject to a final
determination, the Council is required to reevaluate the
determination at least annually, and to rescind the determination
if the Council determines that the company no longer meets the
statutory standards for a determination. The Council may also
consider a request from a company for a reevaluation before the
next required annual reevaluation, in the case of an extraordinary
change that materially decreases the threat the nonbank financial
company could pose to U.S. financial stability. 33
33 See note 12 above.
The Council applies the same standards of review in its annual
reevaluations as the standard for an initial determination
regarding a nonbank financial company: Either the company's
material financial distress, or the nature, scope, size, scale,
concentration, interconnectedness, or mix of the company's
activities, could pose a threat to U.S. financial stability. If the
Council determines that the company no longer meets those
standards, the Council will rescind its determination.
The Council's annual reevaluations generally assess whether any
material changes since the previous reevaluation and since the
determination justify a rescission of the determination, based on
the same transmission channels and other factors that are
considered during a determination decision. The Council expects
that its reevaluation process will focus on whether any material
changes - including changes at the company, changes in its markets
or its regulation, changes in the Council's own analysis, or
otherwise - result in the company no longer meeting the standard
for a determination. In light of the frequent reevaluations, the
Council's analyses will generally focus on changes since the
Council's previous review, but the ultimate question the Council
will seek to assess is whether changes in the aggregate since the
Council's determination regarding the company have caused the
company to cease meeting the Determination Standards. The Council
expects that its analysis in its annual reevaluations will
generally be organized around the three transmission channels
described above as well as existing regulatory scrutiny and the
company's complexity and resolvability.
Before the Council's annual reevaluation of a determination
regarding a nonbank financial company, the Council will provide the
company with an opportunity to meet with staff of Council members
and member agencies to discuss the scope and process for the review
and to present information regarding any change that may be
relevant to the threat the company could pose to financial
stability. Staff of Council members and member agencies will also
be available to meet with the company during the annual
reevaluation, at the company's request. In addition, during an
annual reevaluation, a company may submit any written information
to the Council the company considers relevant to the Council's
analysis. During annual reevaluations, companies are encouraged to
submit information regarding any changes related to the company's
risk profile that mitigate the potential risks previously
identified by the Council. Such changes could include updates
regarding company restructurings, regulatory developments, market
changes, or other factors. If the company has taken steps to
address the potential risks previously identified by the Council,
the Council will assess whether those risks have been adequately
mitigated to merit a rescission of the determination regarding the
company. If the company explains in detail potential changes it
could make to its business to address the potential risks
previously identified by the Council, staff of Council members and
member agencies will endeavor to provide their feedback on the
extent to which those changes may address the potential risks.
If a company contests the Council's determination during the
Council's annual reevaluation, the Council will vote on whether to
rescind the determination and provide the company, its primary
financial regulatory agency, and the primary financial regulatory
agency of its significant subsidiaries with a notice explaining the
primary basis for any decision not to rescind the determination. If
the Council does not rescind the determination, the written notice
provided to the company will address each of the material factors
raised by the company in its submissions to the Council contesting
the determination during the annual reevaluation. The written
notice from the Council will also explain in detail why the Council
did not find that the company no longer met the standard for a
determination under section 113 of the Dodd-Frank Act. In general,
due to the sensitive nature of its analyses in annual
reevaluations, the Council may not in all cases publicly release
the written findings that it provides to the company.
Finally, the Council will provide each nonbank financial company
subject to a Council determination with an opportunity for an oral
hearing before the Council once every five years at which the
company can contest the determination.
[84 FR 71760, Dec. 30, 2019]