What are the different risk areas where stress test is conducted?

Bangladesh Bank guidelines require banks to conduct stress tests on five specific risk areas, plus a combined shock assessment that aggregates all of them together.

Credit Risk:

Five shocking events are tested: (i) Direct increase in NPLs: 3%, 9%, and 15% of performing loans downgraded to bad/loss category having 100% provisioning requirement. (ii) Default of top large borrowers — Minor shock: default of top 3 borrowers; Moderate shock: top 7 borrowers; Major shock: top 10 borrowers. (iii) Fall in forced sale value (FSV) of mortgaged collaterals — 10%, 20%, and 40% decrease. (iv) Negative shifts in NPL categories — 5%, 10%, and 15% shifts (e.g., SMA downgraded to SS, SS to GF, GF to BL). (v) Increase in NPL in top 2 sectors — 3%, 9%, or 15% of performing loans of those 2 sectors downgraded directly to bad/loss category.

Interest Rate Risk:

Measured using Rate Sensitive Gap Analysis and Duration Gap Analysis. The bank checks how a rise or fall in interest rates affects Net Interest Income (NII) and the market value of equity. Interest rate shocks are applied at 1%, 2%, and 3% changes.

Exchange Rate Risk:

The bank’s overall net open position (the greater of net long or net short positions) is stressed. Shock levels are 5% (minor), 10% (moderate), and 15% (major). The impact of the respective shocks is calibrated in terms of the CRAR.

Equity Price Risk:

Test what happens if the stock market falls sharply. The current market value of all on-balance sheet and off-balance sheet securities — including shares, NIT units, and mutual funds — falls at the rate of 10%, 20%, and 40%, respectively. The impact of the resultant loss is calibrated against the CRAR.

Liquidity Risk:

Evaluates the bank’s resilience towards a fall in liquid liabilities. A threshold of one business week survival period is set to test the bank’s ability to withstand a liquidity run autonomously. A bank is considered well-liquid if it can survive 5 days under the stress situation. Standard shocks are 2%, 4%, and 6% in excess of the bank’s normal withdrawal scenario.

Combined Shock:

The bank aggregates results of credit shock (all five sub-scenarios), exchange rate shock, equity price shock, and interest rate shock. This gives the most comprehensive picture of the bank’s overall risk resilience.