Banking industry is strong, but economic warning signs remain, OCC report says

Banks remain well capitalized, with ample liquidity and sound credit quality, “although macroeconomic headwinds are a concern,” according to the Office of the Comptroller of the Currency’s Semiannual Risk Perspective report for fall 2022 issued today. The agency noted that economic growth slowed sharply in 2022 but high employment rates supported consumer spending and overall bank performance.

The report highlights interest rate, operational, compliance and credit risks. In terms of interest rate risk, OCC noted bank investment portfolios have been adversely affected by the rising rate environment, resulting in portfolio depreciation. Deposits and liquid assets declined for the first time since the end of 2019 but remained high. Operational risk remained elevated with cyber threats continuing to evolve, and with threat actors continuing to target the financial services industry with ransomware and other attacks, the OCC said.

Compliance risk was elevated as banks continue to operate in an increasingly complex environment, with expanded use of technology for product and service delivery, imposition of complex sanctions related to Russia’s invasion of Ukraine and adjustments to work environments, the agency said. Key indexes for credit risk were starting to show stress, especially in retail and commercial real estate, which the OCC attributed to growth and utilization trends and economic uncertainty. “Loan portfolio performance has been resilient, but signs of potential weakening in some segments warrant careful monitoring,” the agency said.

The fall report also included a special section on crypto-related risks. Crypto industry risk management practices “lack maturity” and are not yet robust, the OCC said. The agency also said that stablecoins “may be unstable” and remain susceptible to long-term risks, and that contagion risk is high within the crypto industry. “The market stresses revealed that crypto participants may be engaging in highly leveraged trading, in addition to providing brokerage, custody, and exchange-like services to customers,” the agency said.

Bank-fintech partnerships remain area of heightened scrutiny

As banks increasingly partner with financial technology companies to provide products and services, third-party risk management continues to be an area of heightened supervisory focus for the OCC, according to the report. The OCC cautioned that banks must “conduct appropriate due diligence” before entering into any partnership with a third party. “The scope and depth of due diligence, as well as ongoing monitoring and oversight of the third party’s performance, should be commensurate with the nature and criticality of the proposed activity,” the agency said.

The OCC announced earlier this year that it would establish an Office of Financial Technology in 2023 to bolster its expertise on fintech. During a call with reporters yesterday, Acting Comptroller Michael Hsu said what role the office takes in supervising third-party relationships will depend on who heads it, which hasn’t been determined yet. “Once we do, then we’ll provide an update at that point as to how that’s going to play out,” he said. “But the general idea is to provide a greater degree of focus and capabilities—both monitoring and engagement, and policymaking—through that office.”