12 CFR Appendix D to Subpart A of Part 327, Description of the Loss Severity Measure
The loss severity measure applies a standardized set of assumptions to an institution's balance sheet to measure possible losses to the FDIC in the event of an institution's failure. To determine an institution's loss severity rate, the FDIC first applies assumptions about uninsured deposit and other unsecured liability runoff, and growth in insured deposits, to adjust the size and composition of the institution's liabilities. Assets are then reduced to match any reduction in liabilities. 1 The institution's asset values are then further reduced so that the Leverage ratio reaches 2 percent. 2 In both cases, assets are adjusted pro rata to preserve the institution's asset composition. Assumptions regarding loss rates at failure for a given asset category and the extent of secured liabilities are then applied to estimated assets and liabilities at failure to determine whether the institution has enough unencumbered assets to cover domestic deposits. Any projected shortfall is divided by current domestic deposits to obtain an end-of-period loss severity ratio. The loss severity measure is an average loss severity ratio for the three most recent quarters of data available.
1 In most cases, the model would yield reductions in liabilities and assets prior to failure. Exceptions may occur for institutions primarily funded through insured deposits, which the model assumes to grow prior to failure.
2 Of course, in reality, runoff and capital declines occur more or less simultaneously as an institution approaches failure. The loss severity measure assumptions simplify this process for ease of modeling.
Table D.1 contains run-off assumptions.
Table D.1 - Runoff Rate Assumptions
|Liability type||Runoff rate *
|Federal Funds Purchased||100|
|Unsecured Borrowings ≤ 1 Year||75|
|Secured Borrowings ≤ 1 Year||25|
|Subordinated Debt and Limited Liability Preferred Stock||15|
* A negative rate implies growth.
Given the resulting total liabilities after runoff, assets are then reduced pro rata to preserve the relative amount of assets in each of the following asset categories and to achieve a Leverage ratio of 2 percent:
• Cash and Interest Bearing Balances;
• Trading Account Assets;
• Federal Funds Sold and Repurchase Agreements;
• Treasury and Agency Securities;
• Municipal Securities;
• Other Securities;
• Construction and Development Loans;
• Nonresidential Real Estate Loans;
• Multifamily Real Estate Loans;
• 1-4 Family Closed-End First Liens;
• 1-4 Family Closed-End Junior Liens;
• Revolving Home Equity Loans; and
• Agricultural Real Estate Loans.
Table D.2 shows loss rates applied to each of the asset categories as adjusted above.
Table D.2 - Asset Loss Rate Assumptions
|Asset category||Loss rate
|Cash and Interest Bearing Balances||0.0|
|Trading Account Assets||0.0|
|Federal Funds Sold and Repurchase Agreements||0.0|
|Treasury and Agency Securities||0.0|
|Construction and Development Loans||38.2|
|Nonresidential Real Estate Loans||17.6|
|Multifamily Real Estate Loans||10.8|
|1-4 Family Closed-End First Liens||19.4|
|1-4 Family Closed-End Junior Liens||41.0|
|Revolving Home Equity Loans||41.0|
|Agricultural Real Estate Loans||19.7|
|Commercial and Industrial Loans||21.5|
|Credit Card Loans||18.3|
|Other Consumer Loans||18.3|
|All Other Loans||51.0|
Federal home loan bank advances, secured federal funds purchased and repurchase agreements are assumed to be fully secured. Foreign deposits are treated as fully secured because of the potential for ring fencing.
The FDIC's loss given failure (LGD) is calculated as:
An end-of-quarter loss severity ratio is LGD divided by total domestic deposits at quarter-end and the loss severity measure for the scorecard is an average of end-of-period loss severity ratios for three most recent quarters.