FHFA Methodology for Determining Market Risk Scenarios
The FHFA methodology to construct a historically-based shock for a given interest rate is to measure the absolute change at each term point on the corresponding yield curve over a six-month horizon, and then impose that absolute change on the current measure of that yield curve. However, because the current rate environment may differ significantly from the historical rate environment, imposing the historical shock on the current rate can result in a shock scenario that is implausible. Implausible shock scenarios include any that contain negative values for interest rates, and those where the resulting spread between any two different interest rates is inconsistent with the historically observed spread.
To ensure that the resulting shock scenarios are plausible, FHFA uses a technique known as parsimonious factorization to represent each yield curve as a five-factor equation, and then applies measures of the shock made in parameter space to the current yield curve parameters to construct a shocked yield curve. This approach facilitates a straightforward means to impose a set of plausibility constraints on interest rate shocks.
The FHFA scenarios contain term point shocks to SOFR, OIS, Treasury, and Federal Home Loan Bank System Cost of Funds yield curves. Banks that must involve other miscellaneous rates to estimate portfolio value may determine shocked values for those rates by applying a constant measure of the current yield curve spread between the miscellaneous rate and any one of the four rates that FHFA provides. A shocked miscellaneous yield curve can then be derived by applying the constant measure of spread to the shocked version of the selected FHFA provided yield curve.
The FHFA scenarios also contain shocks to implied volatility and Agency option-adjusted spreads (OAS). Implied volatility shocks are provided for at-the-money (ATM) swaptions, and in- and out-of-the-money caps in the form of level shifts to the volatility surface. These level shifts are estimated based upon the long-term, reduced form relationship between changes in the level of the implied volatility surface and changes in the term structure of interest rates. Agency OAS shocks are provided for both SOFR and Treasury discounted OAS. These OAS shocks are estimated based upon the long-term, reduced form relationship between changes in Agency OAS and changes in the term structure of interest rates.
For a more detailed description of the methodology, see the working papers listed below. Questions or comments can be sent to FHLBmarketshocks@FHFA.gov.
All scenarios posted prior to 2020 are intended for testing purposes only.
Please note that only the quarter-end monthly scenarios are applicable for reporting risk-based-capital requirements. The off-quarter-end monthly scenarios are being provided at this time for testing and monitoring purposes, and may not be subject to the same degree of validation as the quarter-end scenarios.
| Description | Format |
|---|---|
| Term point shocks to SOFR, OIS, Treasury, and FHLBank COF interest rate curves | [All XLSX Files] |
| Level shocks to the ATM swaption and cap volatility surfaces | [All XLSX Files] |
| Shocks to SOFR and Treasury discounted OAS for Agency securities | [All XLSX Files] |
| PolyPaths ready file containing interest rate, implied volatility, and OAS shocks | [XLSX and CSV Files] |
Assumptions and Directions Page
A number of key assumptions and application directions are required in constructing the market risk scenarios and applying the shocks to the portfolio. They are described on the Assumptions and Directions Page, which will be updated as appropriate.
Last Update of the Assumptions Details and Application Directions Page: 5/29/2018
Working Papers
WP 13-2: Generating Historically-Based Stress Scenarios Using Parsimonious Factorization
WP 15-3: Additional Market Risk Shocks: Prepayment Uncertainty and Option-Adjusted Spreads
Page last updated: 7/17/2023