Fed: Most banks managing interest rate risk

While higher interest rates contributed to the recent bank failures, high levels of capital and moderate risk exposures mean that a large majority of U.S. banks are resilient to potential strains from higher rates, the Federal Reserve said in its latest financial stability report released today.

The biannual report is the first issued by the Fed since the failures. It noted that some banks experienced significant funding strains following the Silicon Valley Bank and Signature Bank closures in March but credited federal actions with reducing those strains. “Overall, domestic banks have ample liquidity and limited reliance on short-term wholesale funding,” the report said.

As interest rates increased, deposit outflows picked up as higher-paying deposit alternatives became more attractive to businesses and households, according to the report. Deposits declined in the fourth quarter of 2022 at a 7% annual rate, and outflows increased slightly in January and February before the banking sector stress in March. As a result, some banks increased their reliance on wholesale funding sources, although banks’ overall reliance on short-term wholesale funding remained near historically low levels. The report also noted that banks’ overall vulnerability to future credit losses appeared moderate, particularly for banks with sizable commercial real estate exposures. Still, “bank profitability was below its 2021 level but close to its pre-pandemic average.”