savings

What are bank stress tests?

Highlights
  • The stress tests will evaluate banks' finances under two scenarios.
  • The Federal Reserve is expected to release some results on May 4.
  • Staying within FDIC limits is paramount to protecting your deposits.

Are your finances strong enough to withstand another couple years of this battering economy? Can you suffer additional losses and still pay your bills and, if not thrive, at least survive if the economy continues to deteriorate?

That's what federal banking regulators are trying to determine with the country's largest banking institutions. The stress tests you've heard about are "forward-looking economic assessments." Do these organizations have enough capital to withstand another two years of an economy that may be worse than is currently anticipated?

Nineteen banks and thrifts, each with more than $100 billion in assets, are being put to the test. As a group, they hold an estimated two-thirds of the assets in the U.S. banking system. Most Americans do business with one or more of these institutions. Among those being tested are JP Morgan Chase, Bank of America, Citigroup, Wells Fargo, SunTrust Bank, Goldman Sachs and PNC Bank.

The stress tests will evaluate each institution's finances under two scenarios -- a baseline and a more adverse scenario.

Baseline scenario

Economy -- Shrinks by 2 percent (adjusted for inflation) in 2009 and grows by 2.1 percent in 2010.
Unemployment -- Averages 8.4 percent in 2009 and 8.8 percent in 2010.
Housing prices -- Drop 14 percent in 2009 (from where they ended December 2008) and drop 4 percent in 2010 (from December 2009).

More adverse scenario

Economy -- Shrinks by 3.3 percent in 2009 and grows by 0.5 percent in 2010.
Unemployment -- Averages 8.9 percent in 2009 and 10.3 percent in 2010.
Housing prices -- Drop 22 percent in 2009 (from where they ended December 2008) and drop 7 percent in 2010 (from December 2009).

The Federal Reserve is expected to release some information May 4 about the stress test results. Institutions that aren't well-capitalized will have six months to try to raise the necessary funding in the private markets. Any that can't raise the money will be bailed out by the government.

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Government intentions foggy

"The whole idea of going through this process is to give people greater confidence in the banking system," says David Waddell, CEO and senior investment strategist at Waddell & Associates in Memphis, Tenn.

"I'd be surprised if they do anything that would create concern over the banking system. But the government's intentions are foggy. It's probably to be able to go back to Congress and say they need more money but they have to do it in a way that doesn't spook the market and doesn't cause a run on the banks."

Even if information released clearly shows which banks are weak, Waddell says he doesn't think that consumers will stop banking with a particular institution any more than they quit flying when the government's National Threat Advisory is elevated.

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