Additional Detail on Supervisory Ratings and Actions Reviewed
We review two types of supervisory assessments of bank holding companies (BHCs) in our comparison to market data threshold breaches: the overall or composite holding company rating and the component of the overall rating focused on financial condition.32 Supervisors assign a composite rating “based on an evaluation and rating of its managerial and financial condition and an assessment of future potential risk to its subsidiary depository institution(s).”33 This composite rating “encompasses both a forward-looking and static assessment of the consolidated organization, as well as an assessment of the relationship between the depository and nondepository entities.”34
The financial condition rating, or F rating, “represents an evaluation of the consolidated organization’s financial strength. The F rating focuses on the ability of the BHC’s resources to support the level of risk associated with its activities. The F rating is supported by four subcomponents: capital (C), asset quality (A), earnings (E) and liquidity (L).”35
Specifically, we review when these two ratings were downgraded in the pre-crisis and crisis periods. The ratings occur on a 1 to 5 scale with 1 being the best. A 3 rating or below defines an institution as in less-than-satisfactory condition. A downgrade occurs when a rating moves from a better rating to a worse rating (e.g., from 1 to 2 or 4 to 5).
We collected data on supervisory assessments as follows:
Ratings
We obtained from the National Examination Database (NED) a listing of all bank holding company inspections that were started between 2005 and 2008 that resulted in the assignment of a BHC composite rating for the firms in our sample that were BHCs at the time. We then used these observations to construct a monthly time series of both the overall composite rating and the financial subcomponent rating for each firm. Lastly, we reviewed these time series and identified all of the instances in which a downgrade occurred. Our initial set of data from the NED consisted of 122 separate inspection events for 22 firms (most of which were “full scope” inspections; however, our data set also included several observations that were from limited or targeted inspections, as well as several supervisory assessment events). As an additional robustness check, we adjusted and informed our automated search based on a select manual review of the supervisory reports contained in a Federal Reserve document repository.
Of the 33 firms for which we reviewed market data thresholds, we do not have any ratings data for the following during the 2005-08 period:
- AIG
- American Express
- Bear Stearns
- Countrywide Financial (we have a single rating observation from 11/2005)
- Fannie Mae
- Freddie Mac
- Goldman Sachs
- Lehman Brothers
- Merrill Lynch
- Morgan Stanley
- Washington Mutual
Enforcement Actions
We obtained from the Board of Governors public website a list of all enforcement actions from 2005 to 2008. During this period (sampled on July 9, 2012), 193 separate entries were reported. We reviewed the list and identified eight observations that were associated with BHCs in our sample. Four of the eight observations dealt with terminations of preexisting enforcement actions. The remaining four observations were the following:
- 2/9/2005: Written agreement with Bank of America (BAC)
- 3/31/2005: Written agreement with Huntington Bancshares (HBAN)
- 4/24/2006: Written agreement with Bank of New York (BONY)
- 8/6/2007: Order of assessment of a civil money penalty and a cease and desist order against American Express Bank International
The written agreement with BAC dealt with violations of various securities laws and regulations by broker-dealer and investment adviser subsidiaries and failures by certain subsidiary units to adequately assess legal and reputational risks posed by certain mutual fund trading activities and to address flaws in compliance and risk management relating to the asset management line of business.
The agreement with HBAN addressed deficiencies relating to corporate governance, internal audit, risk management, and various controls regarding financial and regulatory reporting.
The agreement with BONY dealt with deficiencies in the bank’s compliance function and its audit department’s role in the bank’s anti-money-laundering program.
The orders involving the international bank unit of American Express were due to the failure of the unit to establish and maintain an adequate anti-money-laundering program.
Endnotes
32 See the Bank Holding Company Inspection Manual for a discussion of holding company ratings
33 BHC Inspection Manual, p. 1, section 4070.0
34 BHC Inspection Manual, p. 2
35 35 BHC Inspection Manual, p. 3
