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Executive Letter: 2023 Agencies Risk Perspectives

By Rose Oswald Poels

This year was a very busy one from a banking regulatory perspective with WBA and the industry engaging regulators on many different issues. As you look ahead to the new year, it is helpful to understand from the banking agencies’ perspectives the key issues they identify that are facing the industry.

The following summarizes the most recent risk perspective reports from the Office of the Comptroller of the Currency (OCC), the Federal Reserve Board (FRB), and the Federal Deposit Insurance Corporation (FDIC), and will offer insight to bankers as you evaluate and revise risk strategies for the upcoming year:

OCC Semiannual Risk Perspective, Fall 2023

The OCC’s Fall 2023 Semiannual Risk Perspective presents data in five main areas — the operating environment, bank performance, special topics in emerging risks, trends in key risks, and supervisory actions. OCC reported that the overall strength of the federal banking system remains sound and that OCC expects banks to remain diligent and adhere to prudent risk management practices across all risk areas. Additionally, OCC stated that banks should continue to guard against complacency to ensure each maintains the ability to withstand potential future economic challenges.

The OCC highlighted credit, market, operational, and compliance risks, as the key risk themes. Highlights from the report include that:

  • Credit risk is increasing due to higher interest rates, increasing risk in CRE lending, prolonged inflation, declining corporate profitability, and the potential for slower economic growth. Key performance indicators are beginning to show signs of borrower stress across asset classes.
  • Rising deposit rates, broader market liquidity contraction, and increased reliance on wholesale funding started to impact net interest margins through the first half of 2023. Competition for deposits and higher interest rates are raising deposit rates. OCC reported deposit and liquid asset trends stabilized in the latter half of 2023, but the levels were supported by increased reliance on wholesale funding. Increases in interest rates are negatively impacting investment portfolio values.
  • Operational risk is elevated. Cyber threats continue. Banks continue to leverage new technology to further digitalization efforts, offering innovative products and services to meet customer demands. OCC warned that increasing digitalization efforts can also heighten risk of fraud and error, including fraud targeting peer-to-peer and other faster payment platforms.
  • Compliance risk remains elevated. OCC believes this is due to the heightened focus on ensuring equal access to credit and fair treatment of consumers, the expanded use of innovative technologies for product and service delivery, and expanded partnerships with third parties, such as financial technology firms, and increases in BSA/AML risk.

Federal Reserve Financial Stability Report, October 2023

The FRB’s latest Financial Stability Report was released in October in which FRB reports conditions affecting the stability of the U.S. financial system by analyzing vulnerabilities related to valuation pressures, borrowings by business and households, financial-sector leverage, and funding risks. Similar to the OCC, FRB reported that the banking sector remains sound overall, and that most banks continue to report capital levels above regulatory requirements. Nevertheless, FRB reports a subset of banks continued to face funding pressures.

The FRB’s report includes a discussion which considers possible interactions of existing domestic vulnerabilities with several potential near-term risks, including international risks. Survey contacts reflect the effect of persistent inflation and monetary tightening, insights regarding CRE, the reemergence of banking-sector stress, market liquidity strains and volatility, fiscal debt sustainability, and climate-related financial risks.

FDIC Risk Review 2023 Report

The latest FDIC Risk Review report incorporates data for 2022 through first quarter 2023, with insights related to the stress to the banking sector that emerged in March 2023. The report reflects risks on the key credit, market, operational, crypto-asset, and climate-related financial risks facing banks.

Regarding key credit risks, FDIC reported asset quality remained generally favorable as of first quarter 2023 despite modest deterioration. FDIC believes weaker economic conditions and higher interest rates may challenge bank loan portfolios, including credit card, C&I, residential real estate, and CRE loans.

From a markets perspective, FDIC reported market risks were primarily related to the effects of higher interest rates. Also, deposit outflows along with high levels of unrealized losses could pressure liquidity for some banks. FDIC reported the banking industry benefited from strong loan growth and higher NIMs in 2022, but higher funding costs reduced NIMs.

FDIC also reported that operational risks, including cybersecurity risks and risks related to illicit financial activity, remained elevated across the banking industry. FDIC also reported that crypto assets continue to present novel and complex risks that FDIC believes are difficult to fully assess. From FDIC’s perspective, climate-related financial risks include physical risk and transition risk, and FDIC’s report focuses on physical risk from severe weather and climate events.

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May 2023 Compliance Journal

The May 2023 WBA Compliance Journal is now available. In this edition, readers will find an article covering recently issued guidance by FDIC, CFPB, and OCC, each of which identify activities expected to be a focus of upcoming compliance examinations. Readers will also find an article highlighting an interagency statement and an interim final rule regarding the transition from US LIBOR. The publication also includes a summary of recently published agency rules and notices, other important compliance-related updates, and a WBA Education Calendar which lists upcoming training events.

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Hand reaching toward holographic display of icons relating to compliance
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A Year in Comment Letters

June 1, 2021–May 31, 2022

This year, attorneys Heather MacKinnon, Scott Birrenkott, and President/CEO Rose Oswald Poels submitted 16 comment letters in response to requests for comment on rulemaking affecting the banking industry.

Through this process, the WBA Legal Team was able to advocate on behalf of all WBA members for the betterment of the banking industry. From digital assets to examinations and fees, comment letters are a great opportunity for members of the banking industry to inform agencies about the impact of rulemaking and provide examples.

As part of the rulemaking process within the Administrative Procedure Act (APA), all agencies are required to allow the public an opportunity to comment on proposed rules for a prescribed period (minimally 30 days). All WBA members are encouraged to share their comments with federal and state agencies as requested. Information regarding comment letters, or WBA-created letter templates — when available — are typically shared with the membership in the Wisconsin Banker Daily. Additional rulemaking developments at the federal level are compiled in the monthly WBA Compliance Journal.

Once the public has commented, each agency must determine how to proceed given the feedback received. This year, the WBA Legal Team addressed five federal agencies and further helped inform said agencies on the impact of their proposed rulemaking.

Six Comment Letters Filed with the FDIC

Over the past year, WBA filed six comment letters with Federal Deposit Insurance Corporation (FDIC). Two of WBA’s letters commented on FDIC’s actions regarding examinations. In the first, WBA commented on the FDIC’s proposed hybrid approach to bank examinations and in the second, WBA commented on the post-examination surveys related to FDIC Safety and Soundness and Consumer Compliance examinations. In each letter, WBA emphasized the importance of the FDIC establishing consistent coordination and communication with banks.

Three Comment Letters Filed with the CFPB

WBA wrote three letters this year to the Consumer Financial Protection Bureau (CFPB). Most recently, WBA responded to CFPB’s concerns regarding products which feature “junk fees,” assuring CFPB that the Wisconsin financial services marketplace is competitive, featuring a diverse range of high-quality, convenient, innovative, and competitively priced products and services. Additionally, WBA highlighted that, despite CFPB’s concerns, the market is highly regulated, and that further rulemaking is unnecessary as fees are already subject to disclosure requirements.

Four Comment Letters Filed with the FRB

This year, WBA also filed four comment letters with Board of Governors of the Federal Reserve System (FRB). In one of the letters, WBA addressed FRB’s request for comment regarding the evaluation of account and services requests. WBA acknowledged FRB’s attempt to create consistency, but ultimately expressed concern with allowing access to the payment system by entities with little or no regulatory oversight, lack of protection, and minimal capital and liquidity requirements, among others. WBA proposed that FRB establish standards or requirements for users, maintain ongoing review of those involved, as well as coordinate an FRB-led evaluation committee.

One Comment Letter Filed with the HUD

In late May, WBA expressed support of the Department of Housing and Urban Development’s (HUD) proposal to extend a term for loan modifications. The modification would allow mortgagees to modify Federal Housing Administration (FHA) insured mortgage loans by recasting the total unpaid amount due for a new term limit of 480 months — an increase from a term limit of 360 months; allow FHA-loan borrowers similar flexibility and benefits as is available for Fannie-/Freddie-loan borrowers; and  creates yet another tool for Wisconsin’s financial institutions to use in their continued work to help find solutions for struggling borrowers to retain their homes.

One Comment Letter Filed with the OCC

In a letter filed with the Office of the Comptroller of the Currency (OCC), WBA was able to comment on a final rule to adopt a new Community Reinvestment Act (CRA) framework. This regulation facilitated the issuance of joint CRA to an interagency basis which would allow for greater coordination on all CRA ruling between the OCC, FRB, and FDIC for the benefit of banks serving low- and moderate-income communities.

One Interagency Comment Letter Filed

Some rulemakings are issued on an interagency basis. This year, WBA commented on the FRB, FDIC, and OCC’s proposed interagency guidance on third-party relationships related to risk management. In the letter, WBA commented that this effort would promote consistency in their guidance as well as clearly articulate risk-based principles. In addition, WBA identified several ways Wisconsin banks will be impacted by the new guidance during final implementation.

Conclusion

Industry comment is a critical aspect to the rulemaking process. It is an opportunity for the industry’s voice to be heard, and it is important that the agencies hear from banks about how rulemaking affects you. WBA welcomes feedback on comment letters because it is key that we, and the agencies, hear directly from members.

For more information on the rulemaking process, comments, and upcoming rules, contact the WBA Legal Department at wbalegal@wisbank.com. For a full list of the comment letters filed during the 2021–22 fiscal year, visit www.wisbank.com/advocacy/comment-letter-library.

*This article has been updated from previous published editions

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Omarova Withdraws From OCC Running

President Biden’s top pick for comptroller of the currency, Saule Omarova, withdrew her nomination to lead the Office of the Comptroller of the Currency on Tuesday, December 7, in a letter to the White House. After facing stiff opposition from the banking industry and members of Congress, President Biden has accepted her request and expects to make an announcement at a later date, according to reports.

The Wisconsin Bankers Association had previously signed onto the Independent Community Bankers of America (ICBA)’s letter opposing Omarova’s nomination citing her academic papers and public statements that propose transferring private retail banking functions to the Federal Reserve and fully replacing private bank deposits to “end banking as we know it.”

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Agencies Release Final Computer-Security Incident Notification Requirements Rule

The federal banking agencies (FRB, FDIC, and OCC) have issued their final rule to require banks to notify their primary federal regulatory of any “computer-security incident” that rises to the level of a “notification incident”, as soon as possible and no later than 36 hours after the bank determines that a notification incident has occurred.  

The rule defines a “computer-security incident” as an occurrence that results in actual harm to the confidentiality, integrity, or availability of an information system or the information that the system processes, stores, or transmits.  

“Notification incident” is defined as a computer-security incident that has materially disrupted or degraded, or is reasonably likely to materially disrupt or degrade, a banking organization’s: 

(i) Ability to carry out banking operations, activities, or processes, or deliver banking products  and services to a material portion of its customer base, in the ordinary course of business;  

(ii) Business line(s), including associated operations, services, functions, and support, that upon  failure would result in a material loss of revenue, profit, or franchise value; or  

(iii) Operations, including associated services, functions and support, as applicable, the failure or  discontinuance of which would pose a threat to the financial stability of the United States.  

The final rule is effective April 1, 2022 and has a compliance data of May 1, 2022. The full final rule may be viewed here.

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American flag flying in front of Capitol Building
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Executive Letter: Advocating for Wisconsin Banks in Washington D.C.

Rose Oswald PoelsBy Rose Oswald Poels

Last week for the first time in two years, I was back in Washington D.C. with a small group of nine bankers from Wisconsin for meetings with banking regulators and a few members of Congress. Joining WBA was a delegation of six bankers and two staff from the Illinois Bankers Association. While our meetings with regulators were still virtual, all meetings were productive affording the smaller group of bankers ample time to ask questions and hear directly from senior officials about a wide variety of issues.

We began the first day in the afternoon with briefings from the FDIC and OCC. FDIC Board Director Martin Gruenberg led the conversation highlighting the fact that while the FDIC anticipated stress in the banking system heading into the pandemic that did not materialize and notably, there have not been any bank failures in 2021. Areas of focus for the FDIC remain on commercial real estate, tailoring climate change risk concerns based on the impact to different markets and/or the size of the institution, and on the impact of non-bank companies to the financial system. OCC Acting Director Michael Hsu led the discussion with bankers emphasizing his support for community banks, his understanding of the need to tailor regulation to the size and complexity of each institution, and robust discussions around both FinTechs and climate change.

The next day featured conversations with FinCEN and CFPB. Naturally, the discussion with FinCEN was largely around the status of their development of a beneficial ownership registry which remains in process. Until one is finally launched, banks will still have to follow the current beneficial ownership rules. A representative from FinCEN’s Financial Intelligence Division indicated that they have seen an increase in all types of crime notably COVID-19 fraud, work at home scams, cyberthreats of all types (e.g. ransomware and account takeovers), and illicit use of cryptocurrency. The primary focus of our conversation and questions with the CFPB was around the upcoming Section 1071, small business data collection proposal. The bankers took turns stressing the hardships of the current proposal and asking for an extension of the comment period deadline so that the industry had adequate time to respond to the many issues raised in the over 900-page document. CFPB staff indicated that they have been in meetings with the core providers on this proposal already to help prep them ahead of time so that data collection would be easier once the proposal is finalized.

These meetings are impactful largely due to the proactive engagement of the bankers in the room. I encourage you to take advantage of these opportunities as they arise and be involved because each regulator we met with unequivocally stated they want to hear directly from bankers about the impact proposals have on their operations. While WBA certainly represents the industry’s concerns, bankers truly make the best advocates in sharing specific examples about the impact on the operations of individual banks.

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Pens and paper laid out on conference table
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WBA Meets with OCC, Bankers on Post-Pandemic Industry

On Tuesday, WBA hosted a virtual meeting with bankers and OCC to discuss concerns of the industry and to gather insight of OCC’s perspective as Wisconsin’s banking industry continues moving forward through pandemic recovery. Discussion included: CTR filings for bank cash orders handled by Thillens, continued efforts of CECL implementation, monitoring CRE and the impact of vacancies as office space needs change, thinking through liquidity contingencies, LIBOR, cybersecurity and importance of good business resumption plans, importance of strong underwriting practices, awareness of loan downpayments amounts, and careful review of evaluations due to the current hot real estate market. Bankers shared concerns over exams losing the focus of being risk-based.  

Those attending the meeting included National Bank of Commerce President and CEO Steven Burgess, National Exchange Bank & Trust President and CEO James Chatterton, OCC Assistant Deputy Comptroller Mike Larabee, OCC Associate Deputy Comptroller Ben Lemanski, and OCC Central District Deputy Comptroller Brian James. WBA staff present included Rose Oswald Poels, Daryll Lund, Scott Birrenkott, and Heather MacKinnon.

When asked of their current expectations regarding struggling borrowers, OCC stated they are using the same approach as was taken during the pandemic; banks should continue to work with struggling borrowers, document position taken, and to feel free to have further conversations with the exam team and OCC district office regarding the treatment or classification of a particular borrower. OCC also shared that discussions continue at a high level on the topics of fair lending, climate changes, bank collaborations with fintechs, and OCC’s efforts to work collaboratively on CRA.  

WBA continues to engage in small group virtual meetings with each of the banking regulators over the course of the next few months. Normally, we host these meetings in person in Madison in addition to visiting the industry’s regulators in Washington each fall. If you are interested in participating in a small group virtual conversation with your bank’s regulator, please contact WBA’s VP-Legal Heather MacKinnon at hmackinnon@wisbank.com. In addition to sharing which regulator is your bank’s primary federal regulator, please also provide Heather with any specific topic or issue you’d like to make sure is raised during these conversations.   

By, Alex Paniagua

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questions@wisbank.com

608-441-1200

4721 S Biltmore Ln.
Madison, WI 53718

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