As a result of the financial collapse that took our country by storm in 2008, Congress ordered bank regulators to identify the riskiest companies so they can be more tightly supervised. This is no laughing matter -- the largest six banks in the U.S. had assets valued at 64% of GDP at the end of Q3 2010; that number was just 55% at the end of 2006 and only 17.1% in 1995.
This spring, the Fed, the Treasury Department, and nine other regulators on the Financial Stability Oversight Council will reveal the criteria they're using to decide which companies are in fact systemically risky. The companies will be named later in the year.
In the meantime, however, NYU's Stern School of Business has come up with its own test, led by Nobel Prize winner Robert Engle. The model takes a firm's stock price as a replacement for its capital, and then subjects each company to a stress test, indicated by a 40% drop in the overall stock market. The hope is that this will reveal how much capital a company would need to hold in such a dire situation. The results of the Stern Systemic Risk Contribution (SRISK) are outlined below:
Bank of America
: 25% SRISK. This is America's largest bank, with $2.3 trillion in assets and a leverage ratio of 7.2%. (NYSE: BAC)
: 12% SRISK. This is the second-largest bank by assets; it has a leverage ratio of 7.1%. The NYU model illustrates that JPMorgan's market value would fall by 5% if the stock market declined by 2%. (NYSE: JPM)
- Morgan Stanley: 12% SRISK. Morgan Stanley has a leverage ratio of only 6.6% (at the end of last June). However, according to the NYU model, every $22 of assets sits atop $1 of stock market value.
: 12% SRISK. This is the third-largest bank with about $2 trillion in assets and a leverage ratio of 6.6%. (NYSE: C)
: 10% SRISK. Similar to JPMorgan, the study shows that Goldman's stock would drop by 5% if the overall market declined by 2%. Goldman has an 8% leverage ratio (as of June). (NYSE: GS)
- Metlife: 6% SRISK. Worse than Goldman, the model shows that this insurer would lose about 6% of its value if the market dropped by 2%.
: 6% SRISK. The NYU model illustrates that the company has $33 of assets for each $1 of stock market value, making it vulnerable to shocks in the stock market. (NYSE: PRU)
- Sallie Mae: 3% SRISK. This has the highest leverage in the NYU model, with almost $38 dollars of assets for each $1 in stock market value.
Hartford Financial Services
: 3% SRISK. Hartford has $28 in assets for every $1 in stock market value. (NYSE: HIG)
: 2% SRISK. This is the fourth-largest bank in the U.S. with $1.2 trillion in assets. The systemic risk is less because, according to the model, Wells has more of a capital buffer that should protect it from a market downfall. (NYSE: WFC)
What do you think as an investor: Which financial institution would you feel most comfortable with if the stock market declined drastically? Sound off in the comments below or add any of these companies to your Watchlist to get the latest analysis and commentary.
Jordan DiPietro owns no shares mentioned above. The Fool owns shares of Bank of America, JPMorgan Chase, and Wells Fargo. Through a separate Rising Star portfolio, the Fool is also short Bank of America. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.