Net Net: Promoting innovation and managing change
Net Net: Promoting innovation and managing change

Big banks to catch break on calculating capital

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Eight of the nation's largest banks will be able to use their own models and systems to calculate the amount of capital they need to set aside for risk- weighted assets, according to a source familiar with the situation.

The banks receiving approval for their models are JPMorgan Chase, Citigroup, Goldman Sachs, Morgan Stanley, Northern Trust, State Street, Bank of New York Mellon and U.S. Bancorp. The changes will take place in the second quarter.

The source said at least 10 other U.S. banks are in line to have their models approved, as the rule they are complying with applies to all U.S. banks with more than $250 billion in assets and a global presence. The other banks have not received approval yet as their models have not been running for the last two years.

The rule on how to model for capital was finalized in 2007, and in July 2013 regulators said at a minimum the banks would have to hold 7 percent Tier 1 capital, which primarily entails common stock and reserves. The source said that under the banks' own models, they will all hold more than the 7 percent minimum and that broadly speaking all eight banks have currently meet or exceed that level.

The banks receiving approval for their models and systems have been testing them for the past two years, proving to regulators they have an appropriate system for measuring risk.

Here is an example of how it might work: Under a standard model a bank is required to hold 50 percent capital on a residential mortgage. However, some residential mortgages are riskier than others.

So a bank may have a model where the amount of capital set aside for a residential mortgage to a homeowner with a high credit score and who put down 20 percent would be less than one with a lower credit score and a 5 percent down payment.

The eight banks will start calculating the new capital numbers in April of this year and start disclosing them by the end of the second quarter.