Fifth Third Bank 2014 Annual Report Download - page 180

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178 Fifth Third Bancorp
conservation and countercyclical buffers to induce banking
organizations to hold capital in excess of regulatory minimums.
In addition, Basel III establishes an international leverage
standard for internationally active banks.
In July of 2013, U.S. banking regulators approved the final
enhanced regulatory capital rules (“Final Capital Rules”), which
included modifications to the proposed rules. The Final Capital
Rules substantially revise the risk-based capital requirements
applicable to BHCs and their depository institution subsidiaries as
compared to the previous U.S. risk-based capital and leverage
ratio rules, and thereby implement certain provisions of the DFA.
The Final Capital Rules, among other things, (i) introduce a
new capital measure “Common Equity Tier I” (“CET1”), (ii)
specify that Tier I capital consists of CET1 and “Additional Tier I
capital” instruments meeting specified requirements, (iii) define
CET1 narrowly by requiring that most adjustments to regulatory
capital measures be made to CET1 and not to the other
components of capital and (iv) expand the scope of the
adjustments as compared to existing regulations. CET1 capital
consists of common stock instruments that meet the eligibility
criteria in the final rules, including; common stock and related
surplus, net of treasury stock and retained earnings, certain
minority interests and accumulated other comprehensive income
(“AOCI”), if elected.
When fully phased-in on January 1, 2019, the Final Capital
Rules require banking organizations to maintain (i) a minimum
ratio of CET1 to risk-weighted assets of at least 4.5%, plus a
2.5% “capital conservation buffer” (which is added to the 4.5%
CET1 ratio as that buffer is phased-in, effectively resulting in a
minimum ratio of CET1 to risk-weighted assets of at least 7.0%
upon full implementation), (ii) a minimum ratio of Tier I capital
to risk-weighted assets of at least 6.0%, plus the capital
conservation buffer (which is added to the 6.0% Tier I capital
ratio as that buffer is phased-in, effectively resulting in a
minimum Tier I capital ratio of 8.5% upon full implementation),
(iii) a minimum ratio of total capital (that is, Tier I plus Tier 2
capital) to risk-weighted assets of at least 8.0%, plus the capital
conservation buffer (which is added to the 8.0% total capital ratio
as that buffer is phased-in, effectively resulting in a minimum
total capital ratio of 10.5% upon full implementation) and (iv) a
minimum leverage ratio of 4.0%, calculated as the ratio of Tier I
capital to adjusted average consolidated assets.
Banking institutions with a ratio of CET1 to risk-weighted
assets above the minimum but below the conservation buffer will
face limitations on the payment of dividends, common stock
repurchases and discretionary cash payments to executive officers
based on the amount of the shortfall.
The Final Capital Rules provide for a number of deductions
from and adjustments to CET1. These include, for example, the
requirement that mortgage servicing rights, deferred tax assets
dependent upon future taxable income and significant investments
in non-consolidated financial entities be deducted from CET1 to
the extent that any one such category exceeds 10% of CET1 or all
such categories in the aggregate exceed 15% of CET1. Under
current capital standards, the effects of AOCI items included in
capital are excluded for the purposes of determining regulatory
capital ratios. Under the Final Capital Rules, Bancorp has a one-
time election (the “Opt-out Election”) to filter certain AOCI
components, comparable to the treatment under the current
general risk-based capital rule.
The Final Capital Rules were effective for the Bancorp on
January 1, 2015, subject to phase-in periods for certain of their
components and other provisions. Although not currently
required, Fifth Third Bancorp believes the aforementioned capital
ratios under the revised Final Capital Rules meet or exceed the
ratios on a fully phased in basis. Refer to the Non-GAAP section
of MD&A for an estimate of the Basel III CET1 ratio as of
December 31, 2014.
In February 2014, the FRB approved a final rule
implementing several heightened prudential requirements.
Beginning in 2015, the rules require BHCs with $10 billion or
more in consolidated assets to establish risk committees and
require BHCs with $50 billion or more in total consolidated assets
to comply with enhanced liquidity and overall risk management
standards, including company-run liquidity stress testing and a
buffer of highly liquid assets based on projected funding needs
for various time horizons, including 30, 60, and 90 days. These
liquidity-related provisions are designed to be complementary,
and in addition to the Final LCR Rule applicable to BHCs (as
discussed below). Rules to implement two other components of
the DFA’ s enhanced prudential standards –single-counterparty
credit limits and early remediation requirements– are still under
consideration by the FRB. Fifth Third has conducted a self
evaluation of all the requirements within the enhanced prudential
standards, and believe the necessary steps have been taken to
ensure compliance with all requirements regarding liquidity, risk
exposures, and early remediation.
Liquidity Regulation
Liquidity risk management and supervision have become
increasingly important since the financial crisis. On September 3,
2014, the FRB and other banking regulators adopted final rules
(“Final LCR Rule”) implementing a U.S. version of the Basel
Committee’ s Liquidity Coverage Ratio requirement (“LCR”),
which is designed to ensure that the banking entity maintains an
adequate level of unencumbered high-quality liquid assets
(“HQLA”) equal to the entity’ s expected net cash outflow for a
30-day time horizon (or, if greater, 25% of its expected total cash
outflow) under an acute liquidity stress scenario. The rules apply
in modified form to banking organizations, such as the Bancorp,
having $50 billion or more in total consolidated assets but less
than $250 billion. The LCR is the ratio of an institution’ s stock of
HQLA (the numerator) over projected net cash out-flows over the
30-day horizon (the denominator), in each case, as calculated
pursuant to the Final LCR Rule. Once fully phased-in, a subject
institution must maintain an LCR equal to at least 100% in order
to satisfy this regulatory requirement. Only specific classes of
assets, including U.S. Treasuries, other U.S. government
obligations and agency mortgaged-backed securities, qualify
under the rule as HQLA, with classes of assets deemed relatively
less liquid and/or subject to greater degree of credit risk subject to
certain haircuts and caps for purposes of calculating the
numerator under the Final LCR Rule. The total net cash outflows
amount is determined under the rule by applying certain
hypothetical outflow and inflow rates, which reflect certain
standardized stressed assumptions, against the balances of the
banking organization’ s funding sources, obligations, transactions
and assets over the 30-day stress period. Inflows that can be
included to offset outflows are limited to 75% of outflows (which
effectively means that banking organizations must hold high-
quality liquid assets equal to 25% of outflows even if outflows
perfectly match inflows over the stress period). The total net cash
outflow amount for the modified LCR applicable to the Bancorp
is capped at 70% of the outflow rate that applies to the full LCR.
The initial compliance date for the modified LCR will be
January 2016, with the requirement fully phased-in by January