Fed Releases Market Shock Scenarios for 2014 Bank Stress Tests

Six large banks, including JPMorgan Chase & Co. and Goldman Sachs Group Inc., will need to test their resilience against a 29.4 percent decline in U.S. stocks and a 40.5 percent plunge in equities across Asia’s emerging markets, the Federal Reserve said.

The hypothetical losses are part of the “severely adverse” scenario in stress tests created by the Fed to ensure the biggest banks have sufficient capital and appropriate risk management systems to survive financial turmoil. Released by the Fed board today, the hypothetical conditions include extreme volatility in foreign exchange markets, sovereign credit, private equity portfolios and commodity markets.

The Fed on Nov. 1 outlined adverse and severely adverse economic scenarios for the 30 biggest banks aimed at encouraging them to build capital cushions.

In the “adverse” economic scenario, banks will be tested against a global flight from long-term debt that pushes the U.S. into a recession, with unemployment rising to 9.25 percent. The yield on the U.S. 10-year Treasury note jumps to 5.75 percent by the end of 2014, and corporate bond and mortgage rates also rise.

In the Fed’s “severely adverse” scenario, the jobless rate peaks at 11.25 percent, and U.S. housing prices slide 25 percent, while the euro area sinks into recession. Developing economies in Asia also experience a “sharp slowdown,” the Fed said.

Companies will have until the first week of January to submit their capital plans, and the results will be released in March.

To contact the reporters on this story: Craig Torres in Washington at ctorres3@bloomberg.net;

To contact the editors responsible for this story: Chris Wellisz at cwellisz@bloomberg.net

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