Consolidated Supervision of Broker-Dealer Holding Companies
Program Overview and Assessment Criteria

Primary Goals

The program is intended to provide consolidated supervision to investment bank holding companies that is broadly consistent with Federal Reserve oversight of Bank Holding Companies. The regime is intended to allow the Commission to monitor for, and act quickly in response to, financial or operational weakness in a CSE holding company or its unregulated affiliates that might place regulated entities, including US and foreign-registered banks and broker-dealers, or the broader financial system at risk. While maintaining broad consistency with Federal Reserve holding company oversight, the program is tailored to reflect two fundamental differences between investment bank and commercial bank holding companies: First, the CSE regime is focused on the daily marking-to-market of most positions as the critical risk governance and risk management tool at securities firms. Second, the design of the CSE regime reflects the critical importance of maintaining adequate liquidity in all market environments for holding companies that do not have access to an external liquidity provider such as a central bank.

Strategies for Achieving the Goals

1. Require that CSE holding companies maintain regulatory capital commensurate with the risk of their activities, inventory positions and principal investments, as reflected inter alia by capital adequacy measures computed under the internationally recognized Basel Standard.
    
2. Require that CSE holding companies maintain sufficient liquidity outside of regulated entities to credibly deal with losses in unregulated affiliates or deterioration in the unsecured funding market.
    
3. Require that CSE holding companies maintain and document a risk management infrastructure and governance system that includes policies and procedures addressing the material risks faced by the group.
    
4. Test that the documented risk and governance controls are implemented robustly.
    
5. Monitor on an ongoing basis capital adequacy, liquidity and risk exposures, with a special emphasis on concentrated positions.

Tools for Implementing the Strategies

1. Monthly review of:
    
• Consolidated capital adequacy measures computed under the Basel Accord
   
• Liquidity measures computed under liquidity guidelines developed by the firm and approved by the Commission
   
• Credit and market risk measures computed using methods developed by the firm and approved by the Commission
   
2. Quarterly review of consolidating financial statements that provide insight into the activities, measured by balance sheet usage and revenue production, conducted in unregulated affiliates
    
3. Quarterly meetings with corporate treasury at each firm to monitor, inter alia:
    
• The liquid assets available to the holding company, namely held at the parent and not in regulated entities, and the nature of the funding supporting the assets
   
• The funding model used to determine the amount of long-term debt and equity necessary to support the balance sheet, including the schedule of "haircuts" for different types of balance sheet assets
   
• The impact on the firm of a liquidity stress scenario, intended to reflect the impact of both firm-specific and market events on the liquidity of the holding company
   
4. Quarterly meetings with financial controllers at each firm to monitor, inter alia:
    
• Significant profit and loss ("P&L") events at the desk level, including large losses, large gains, and large variances with prior quarters
   
• P&L for non-trading businesses such as investment banking and retail brokerage
   
• Significant accounting policy changes, especially those related to mark-to-market accounting
   
• The mark-to-market review process
   
5. Monthly meetings with market and credit risk managers at each firm to monitor, inter alia:
    
• The firm's market risk profile, as reflected by VaR and other market risk measures
   
• Validation of exposure measures through comparison of ex ante risk measures with realized profit and loss
   
• Risk limits, usage of limits, and related governance issues
   
• Concentrated credit risk exposures, and related governance issues
   
• Analysis of historical and theoretical scenarios intended to capture the impact of low-probability but severe events
   
6. Quarterly meetings with the internal auditors at each firm to monitor, inter alia:
    
• Evolution of the audit plan throughout the year as projects are added or deferred
   
• Resolution, or escalation to the Audit Committee of the board, of significant audit findings
   
• Detailed discussions of selected audits, typically those with implications for risk governance
   
7. Targeted on-site inspections to test whether the firm robustly implements its documented policies and procedures with respect to, inter alia:
    
• Operational controls, including transaction processing and risk measurement systems, applicable to products booked in unregulated legal entities
   
• Marking to market of complex and less-liquid positions
   
• Consolidated capital computations
   
• Anti-money laundering
   
8. Topical reviews of businesses, activities, risk models, products and other topical issues as warranted by market developments, corporate acquisitions, and regulatory initiatives.
    
9. Broad authority to impose additional conditions on CSE holding companies, including mandating changes to risk management policies and procedures and requiring additional liquidity to be maintained by the parent.

Assessment Criteria:

The success of the program is measured against the following assessment items:

1. Does the program provide quarterly explanation and analysis of material changes in the liquidity position of each firm?
    
2. Does the program provide monthly explanation and analysis of material changes in risk exposures at each firm?
    
3. Does the program provide monthly explanation and analysis of changes in regulatory capital measures for each firm?
    
4. Does the program identify emerging issues relevant to risk governance at the CSE firms, including new products and businesses?
    
5. Does the program produce a quarterly risk assessment, highlighting firm-specific governance and control issues?
    
6. Does the program provide detailed descriptions of the controls tested through on-site inspection and the results of this work?

http://www.sec.gov/divisions/marketreg/cseoverview.htm