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Protected CMHC Corporate-Wide Stress Testing Program Ottawa Day of Learning October 6, 2016
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Executive Summary The purpose of CMHC’s Stress Testing Program
Use best in practice risk management tools to assess financial solvency and operational resiliency of the Corporation Satisfy regulatory requirements by OSFI Scenario development and selection Roles and responsibilities in developing and validating scenarios Criteria for selecting scenarios 2016 Stress Testing Program Scenario themes Financial impacts of each scenario Stress Testing Program: next steps
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The purpose of CMHC’s Stress Testing Program
Satisfy regulatory requirements Since the 2008 credit crisis, regulators have set strict requirements regarding the type and severity of stress scenarios that institutions must conduct annually Through this mandatory stress testing, financial institutions ensure that they are able to remain solvent through severe economic challenges CMHC follows regulations set by the Office of the Superintendent of Financial Institutions (OSFI) in designing its stress testing program OSFI E-18 Guideline Use best in practice risk management tools Stress testing provides a formalized mechanism for companies to look at risks in a systematic and structured way and to assess the impact of extreme events on their financial solvency and operational resiliency Stress testing involves searching out extreme ‘what if’ scenarios that have a very remote chance of happening and planning for them Stress testing results inform CMHC’s capital adequacy plan OSFI E-19 Guideline
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Scenario development and selection
Roles and responsibilities The Sector of the Chief Risk Officer develops at the beginning of each year a selection of stress scenarios The Board of Directors approves the proposed scenarios or recommends adjustments The scenarios are validated independently by an internal model validation team and Economists within CMHC`s Market Analysis Centre Scenario selection criteria Scenarios must be sufficiently severe and relevant to the Corporation’s mortgage loan insurance and securitization businesses The underlying variables within each of the scenarios are developed based on a combination of hypothetical modelling and historical economic analysis
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2016 Stress Testing Program: scenario themes
Scenario descriptions Global Economic Deflation Multiple demand shocks in key markets across the world, combined with a steep fall in the price of oil to US$30 per barrel or less, generate a severe bout of global deflation. In Europe, the scenario envisages a continuation of the current euro-zone fiscal regime (austerity), increased government indebtedness, economic slowdown, and the depreciation of euro. Sustained Low Oil Price Shock Unexpected additional excess supply causes the price of oil to fall to as low as US$20 per barrel in Prices then range between US$20-30 for a further four years. Earthquake – Vancouver A magnitude 9.0 earthquake on the Modified Mercalli Intensity scale occurs to the west of Vancouver Island in late July 2016. Earthquake – Quebec A magnitude 7.1 earthquake on the Modified Mercalli Intensity scale occurs northeast of Quebec City in early December 2016. Canadian Financial Institution (CFI) Failure Severe economic and financial stress in China and other emerging markets causes an abrupt spike in global risk premia. Increased borrowing costs cause a decrease in the volume of new mortgage transactions of one CFI and several institutional investors terminate their relationship with it on fears over the strength of the financial sector. The Institution fails.
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2016 Corporate-Wide Stress Tests – Earthquake key severity metrics
Base – earthquake-impacted region Base – Canada Earthquake – earthquake-impacted region Earthquake – Canada
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2016 Corporate-Wide Stress Tests – Earthquake key severity metrics
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2015 Stress Testing Program: financial impacts
Impact on net income/loss Global Deflation scenario would have the most detrimental effect on CMHC`s financial position, resulting in over $20 billion in mortgage loan insurance losses, which is 10 times greater than normal Impact on capital None of these scenarios would deplete CMHC’s capital below the minimum capital target of 100 per cent Minimum Capital Test (MCT). Across all scenarios, CMHC is on par with OSFI-mandated minimum levels for private competitors
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Conclusion CMHC’s Stress Testing Program is designed to assist CMHC in fulfilling its mandate of helping to maintain the stability of the Canadian financial system By quantifying and qualifying the potential impact of extreme but plausible stress scenarios, CMHC ensures that it remains a best-in-class risk manager, which has an adequate action plan for each scenario Unlike many other Canadian financial institutions, CMHC makes its stress testing results public, because it believes that increased transparency and information dissemination are a key tactic for risk diffusion The results of CMHC’s 2016 Stress Testing will be published later in the year
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