Impact of Stress Testing on Bank Risk

• Název v anglickém jazyce: Impact of Stress Testing on Bank Risk
• Klíčová slova: Stress testy, Kapitalizace bank, Riziko bank
• Klíčová slova anglicky: Stress tests, Bank capitalization, Bank risk
• Akademický rok vypsání: 2014/2015
• Typ práce: diplomová práce
• Jazyk práce: angličtina
• Ústav: Institut ekonomických studií (23-IES)
• Vedoucí / školitel: doc. PhDr. Adam Geršl, Ph.D.
• Řešitel: skrytý - zadáno a potvrzeno stud. odd.
• Datum přihlášení: 05.01.2015
• Datum zadání: 05.01.2015
• Datum a čas obhajoby: 23.06.2015 00:00
• Místo konání obhajoby: IES
• Datum odevzdání elektronické podoby: 15.05.2015
• Datum proběhlé obhajoby: 23.06.2015
• Oponenti: doc. PhDr. Ing. et Ing. Petr Jakubík, Ph.D., Ph.D.

Seznam odborné literatury

Barth, J. R., Caprio, G., & Levine, R. (2006). Rethinking Bank Regulation: Till Angels Govern. New York, NY: Cambridge University Press.
Barth, J. R., Caprio, G., & Levine, R. (2012). The evolution and impact of bank regulations (No. 6288).
Barth, J. R., Caprio, G., & Levine, R. (2013). Bank Regulation and Supervision in 180 Countries from 1999 to 2011 (No. 18733).
Bischof, J., & Daske, H. (2012). Mandatory supervisory disclosure, voluntary disclosure, and risk-taking of financial institutions: Evidence from the EU-wide stress-testing exercises.
Cihak, M., Demirguc-Kunt, A., Peria, M., & Mohseni-Cheraghlou, A. (2012). Bank regulation and supervision around the world: a crisis update (No. 6286).
Etzioni, A. (2009). The Capture Theory of Regulations - Revisited. Society, 46(4), 319–323.
European Banking Authority. (2011). 2011 EU-wide Stress Test Aggregate Report.
Chortareas, G. E., Girardone, C., & Ventouri, A. (2012). Bank supervision, regulation, and efficiency: Evidence from the European Union. Journal of Financial Stability, 8(4), 292–302.
Pasiouras, F., Tanna, S., & Zopounidis, C. (2009). The impact of banking regulations on banks’ cost and profit efficiency: Cross-country evidence. International Review of Financial Analysis, 18(5), 294–302.
Wolff, G. B. (2011). Is recent bank stress really driven by the sovereign debt crisis? (No. 2011/12). Brussels.
Wolff, G. B., & Angeloni, C. (2012). Are banks affected by their holdings of government debt? (No. 2012/07). Brussels.

Předběžná náplň práce

Motivation:
In order to maintain a well functioning and stable banking industry, an effective regulatory framework is of crucial importance. Recent financial and sovereign debt crises, however, have shown that with changes in the industry, regulation needs to adjust as well in order to contain newly emerging risks and threats. This paper will examine the current situation, focusing on the determinants of bank risk-taking behavior. Specifically, we will estimate bank reactions to pressure to take less risk from different channels.

The aim of the paper is to determine whether the banks are influenced by the three following factors: new information about their risk profile and exposures; official but not binding warning by a regulatory authority; pressure from shareholders. With this information it would be possible to adjust current regulatory and supervisory trends and utilize those channels that work the strongest. In order to test this issue empirically, I will utilize the latest EU-wide stress test results and recommendations published by the European Banking Authority (2011).

So far, there has been a decent body of literature on the topic of supervision trying to determine which approach is the most effective. The majority of this literature examines the influence of supervisory approaches on different measures of the banking performance and stability (see eg. Barth, Caprio, & Levine, 2006, 2012, 2013; Cihak & Demirguc-Kunt, 2012; Etzioni, 2009; Chortareas, Girardone, & Ventouri, 2012; Pasiouras, Tanna, & Zopounidis, 2009). The aim of this paper, however, is to decompose this connection and only scrutinize its first part - the question of how banks respond to different sources of influence, leaving the specific impact of this influence on effectiveness and stability aside. Similar approach was used by Bischof and Daske (2012), who analyzed the effect of information disclosure rules on bank risk-taking behavior.

Hypotheses:
1. Hypothesis #1: The EU-wide stress test performed by the European Banking Authority in 2011 had a significant impact on bank behavior.
2. Hypothesis #2: The reaction of shareholders and the test score were significant determinants of the banks response.
3. Hypothesis #3: Ceteris paribus on the test result, the non-binding recommendation did not affect the bank behavior.

Methodology:
In order to estimate the issue at hand, I will use three primary sources of data. Firstly, the results of the 2011 stress test by the EBA which contain data on 91 banks operating in the EU. This source will provide information among other on the individual bank results in different scenarios and their exposure to sovereigns. Secondly, the Bankscope database with data on individual banks and the development of their capital and risk structure after the stress test. Thirdly, I will use Bloomberg or other financial tool to obtain historical bank stock prices. With this data I will use regression models to determine the significance of different influence channels.
The power of shareholders will be estimated as the effect of stock price change on banks’ own capital structure. This approach works with the underlying assumption that upon surprisingly bad results the market would “punish” the bank and its price would drop which would trigger remedial measures in banks riskiness to counter act this downswing. For this purpose, I also use the contributions of Wolff and Angeloni (2012) and Wolff (2011) who test the influence of stress test results on bank stock performance.

The influence of official recommendations and the information on bank riskiness itself will be estimated together. In this case I will regress bank response on its stress test results and recommendation category (in case it was issued a recommendation). The expectation is that in case the recommendation itself is influencing bank behavior, it will be a significant determinant of the response on the top of bank score which contains information on the actual risks.

Expected Contribution:
Contrary to much of the current literature, I will analyze only the first part of the regulation-outcome event chain. I will only focus on how banks respond to different sources of pressure which will enable a more detailed view on this matter. Moreover, I will estimate the results based on the latest available information and therefore the analysis will account for any structural or institutional changes which might have taken place during the Great recession. With this information, it will be clearer, whether it is effective to focus on ensuring sufficient transparency of the banks, issue official warnings or simply provide them with additional information about their exposures and possible threats.

Outline:
1. Introduction and motivation.
2. Banking supervision theories (private and public supervision concepts and different ways to influence bank behavior) and introduction to stress testing.
3. Data, its sources and descriptive statistics.
4. Methodology used for the analysis, its advantages and disadvantages
5. Results and robustness checks.
6. Conclusion of my main findings and the implications, suggestions for further research

Development & changes after the writing of the thesis:
Over the course of writing of the thesis, the hypotheses have been slightly adjusted. Given the lack of research on the topic of stress test influence on banks, we focused on this specific link. Therefore, we slightly shifted our main focus from the responsiveness of the banks to the impact of the stress tests. Finally, we have included the 2010 stress test which enabled us to fully utilize the power of panel data estimation.

Předběžná náplň práce v anglickém jazyce

Motivation:
In order to maintain a well functioning and stable banking industry, an effective regulatory framework is of crucial importance. Recent financial and sovereign debt crises, however, have shown that with changes in the industry, regulation needs to adjust as well in order to contain newly emerging risks and threats. This paper will examine the current situation, focusing on the determinants of bank risk-taking behavior. Specifically, we will estimate bank reactions to pressure to take less risk from different channels.

The aim of the paper is to determine whether the banks are influenced by the three following factors: new information about their risk profile and exposures; official but not binding warning by a regulatory authority; pressure from shareholders. With this information it would be possible to adjust current regulatory and supervisory trends and utilize those channels that work the strongest. In order to test this issue empirically, I will utilize the latest EU-wide stress test results and recommendations published by the European Banking Authority (2011).

So far, there has been a decent body of literature on the topic of supervision trying to determine which approach is the most effective. The majority of this literature examines the influence of supervisory approaches on different measures of the banking performance and stability (see eg. Barth, Caprio, & Levine, 2006, 2012, 2013; Cihak & Demirguc-Kunt, 2012; Etzioni, 2009; Chortareas, Girardone, & Ventouri, 2012; Pasiouras, Tanna, & Zopounidis, 2009). The aim of this paper, however, is to decompose this connection and only scrutinize its first part - the question of how banks respond to different sources of influence, leaving the specific impact of this influence on effectiveness and stability aside. Similar approach was used by Bischof and Daske (2012), who analyzed the effect of information disclosure rules on bank risk-taking behavior.

Hypotheses:
1. Hypothesis #1: The EU-wide stress test performed by the European Banking Authority in 2011 had a significant impact on bank behavior.
2. Hypothesis #2: The reaction of shareholders and the test score were significant determinants of the banks response.
3. Hypothesis #3: Ceteris paribus on the test result, the non-binding recommendation did not affect the bank behavior.

Methodology:
In order to estimate the issue at hand, I will use three primary sources of data. Firstly, the results of the 2011 stress test by the EBA which contain data on 91 banks operating in the EU. This source will provide information among other on the individual bank results in different scenarios and their exposure to sovereigns. Secondly, the Bankscope database with data on individual banks and the development of their capital and risk structure after the stress test. Thirdly, I will use Bloomberg or other financial tool to obtain historical bank stock prices. With this data I will use regression models to determine the significance of different influence channels.
The power of shareholders will be estimated as the effect of stock price change on banks’ own capital structure. This approach works with the underlying assumption that upon surprisingly bad results the market would “punish” the bank and its price would drop which would trigger remedial measures in banks riskiness to counter act this downswing. For this purpose, I also use the contributions of Wolff and Angeloni (2012) and Wolff (2011) who test the influence of stress test results on bank stock performance.

The influence of official recommendations and the information on bank riskiness itself will be estimated together. In this case I will regress bank response on its stress test results and recommendation category (in case it was issued a recommendation). The expectation is that in case the recommendation itself is influencing bank behavior, it will be a significant determinant of the response on the top of bank score which contains information on the actual risks.

Expected Contribution:
Contrary to much of the current literature, I will analyze only the first part of the regulation-outcome event chain. I will only focus on how banks respond to different sources of pressure which will enable a more detailed view on this matter. Moreover, I will estimate the results based on the latest available information and therefore the analysis will account for any structural or institutional changes which might have taken place during the Great recession. With this information, it will be clearer, whether it is effective to focus on ensuring sufficient transparency of the banks, issue official warnings or simply provide them with additional information about their exposures and possible threats.

Outline:
1. Introduction and motivation.
2. Banking supervision theories (private and public supervision concepts and different ways to influence bank behavior) and introduction to stress testing.
3. Data, its sources and descriptive statistics.
4. Methodology used for the analysis, its advantages and disadvantages
5. Results and robustness checks.
6. Conclusion of my main findings and the implications, suggestions for further research

Development & changes after the writing of the thesis:
Over the course of writing of the thesis, the hypotheses have been slightly adjusted. Given the lack of research on the topic of stress test influence on banks, we focused on this specific link. Therefore, we slightly shifted our main focus from the responsiveness of the banks to the impact of the stress tests. Finally, we have included the 2010 stress test which enabled us to fully utilize the power of panel data estimation.