US banks that flout new regulatory guidance on leveraged lending risk facing higher capital penalties when the Federal Reserve undertakes its annual stress tests of the banking sector, according to people familiar with the process.
The Fed has begun to warn banks defying its guidelines that making risky leveraged loans could affect its assessment of their loan loss rates in the next stress test, these people said. That, in turn, would affect the Fed’s capital ratio projections.
The decision to link leveraged lending specifically to the Fed’s annual “comprehensive capital analysis and review” for the first time is likely to alarm Wall Street, since failing the test constrains a bank’s ability to pay dividends to shareholders or to its parent company.