With deadlines for implementation of the new Current Expected Credit Loss (CECL) standards fast approaching, financial institutions are in need of data and methods to address the need for more robust and quantitative approaches to credit quality these new rules will require.
The Office of Financial Research (OFR) recently introduced two new tools to help monitor the health of the nation’s financial system that may be beneficial in this regard. These are the Financial System Vulnerabilities Monitor (FSVM) and the Financial Stress Index (FSI).
The FSVM has six categories of indicators that reflect key types of risks that have contributed to financial instability in the past:
- Solvency and Leverage
- Funding and Liquidity
The latest FSVM shows red or orange signals in a number of areas, including key asset valuations and risk premiums, some consumer and nonfinancial business debt ratios, and federal government debt and deficits. The OFR’s full assessment of these potential vulnerabilities and others will appear in the forthcoming 2017 Financial Stability Report.
The FSI is a daily market-based snapshot of stress in global financial markets. It is constructed from 33 financial market indicators. The indicators are organized into five categories:
- Equity Valuation
- Safe Assets
The index measures systemwide stress. It is positive when stress levels are above average and negative when stress levels are below average. Unlike financial stress indexes produced by others, the OFR’s FSI can be decomposed into contributions from each of the five categories. It also can be broken down by the region generating the stress.
Today, the FSI shows that overall stress in the financial system is near its lowest level since the 2007-09 financial crisis. Extremely low volatility is the largest contributor to the low stress level. Low volatility may lead investors to take more risks. As discussed in the OFR’s recent Financial Markets Monitor, this behavior can make the financial system more vulnerable to shocks.
Links to additional information concerning these indexes and OFR are below.
FSVM latest index: https://www.financialresearch.gov/financial-vulnerabilities/#/.
FSI latest reading: https://www.financialresearch.gov/financial-stress-index/.