Jun 18, 2024

OCC Report Highlights Emerging Risks in Federal Banking System

The Office of the Comptroller of the Currency (OCC) has released its Semiannual Risk Perspective for Spring 2024, identifying several critical issues facing the federal banking system. Despite the overall stability of the banking system, the OCC warns that a maturing economic cycle could bring significant consumer challenges. To mitigate these risks, the OCC urges banks to enhance their risk management practices and avoid complacency.

The OCC's report focuses on four main risk categories: credit, market, operational, and compliance risks. Here are the key highlights:

Credit Risk: The OCC reports an increase in credit risk, particularly within the commercial real estate sector. The office sector and certain multifamily properties are under pressure due to higher interest rates and structural changes. Loans, especially those with interest-only terms, set to refinance over the next three years pose additional risks. Persistent inflation and elevated interest rates could further strain consumer finances and reduce overall consumption growth.

Market Risk: Net interest margins (NIMs) are under pressure from strong deposit competition. Although the pressure on funding costs and NIMs may be peaking, uncertainties about future rate movements and depositor behavior remain. The use of wholesale funding is growing, but at a slower pace. While investment portfolio depreciation has improved, unrealized losses are still high due to increased asset liquidity and sustained high-interest rates.

Operational Risk: The financial industry's operational risk is elevated as it adapts to an increasingly complex environment. Cyber threats, including ransomware and other attacks targeting financial services and their key providers, continue to pose significant challenges. The growing digitalization and adoption of new products and services add complexity, increasing both opportunities and risks. The prevalence of check and wire transfer fraud, along with rising payment fraud incidents, highlights the critical need for robust fraud risk management.

Compliance Risk: Banks are navigating a dynamic environment shaped by changing customer needs and preferences for products, services, and delivery channels. If these changes are not implemented fairly, compliance risks increase. Banks must maintain a compliance risk management framework that evolves with their risk profiles. The OCC stresses the importance of effective processes for preventing, identifying, and reporting fraudulent activities promptly. As banks strive to process payments securely, incidents of check and wire fraud, and peer-to-peer (P2P) transaction scams are becoming more common. The OCC continues to assess banks' Community Reinvestment Act (CRA) performance under the 1995/2021 regulatory framework.

Focus on Resilience

The report emphasizes the need for banks to enhance their resilience by recognizing the interconnected nature of risks. Establishing a risk-aware culture is crucial for identifying potential risks early, particularly before periods of stress. Proactive planning across all risk categories—operational, liquidity, credit, compliance, and others—can help banks maintain operations, financial stability, and customer service during challenging times.

Based on data as of December 31, 2023, the OCC's report serves as a resource for the banking industry, examiners, and the public, providing insights into the key risks facing national banks, federal savings associations, and federal branches and agencies. By addressing these emerging risks and enhancing risk management practices, banks can better navigate the evolving financial landscape and continue to serve their customers effectively.

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