Risk Headlines

Why Hundreds of U.S. Banks May Be At Risk of Failure - source CNBC.com

Key Points:

The analysis performed by a consulting firm reveals that a significant number of small and regional banks in the U.S. are facing financial stress due to their exposure to commercial real estate loans and potential losses from rising interest rates. 

While most of these banks are not insolvent, the stress they are under could lead to reduced investments in their communities and potentially impact the availability of credit. The next few quarters will definitely test Bank CEOs on the type of risk medication strategies they are planning to implement if trouble waters arrive.

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$7 Trillion Off-Balance Sheet Holdings At Major US Banks - source dailyhodl.com

Key Points:

The substantial off-balance sheet holdings of major US banks, totaling $7.427 trillion, include potentially risky instruments such as loan commitments, letters of credit, and derivatives. The historical precedent of Citigroup's near-collapse in 2008 demonstrates the real-world consequences of excessive off-balance sheet exposure.

The Federal Reserve's proposed regulatory changes present an opportunity to proactively address risks and enhance financial resilience, but industry pushback highlights the need to carefully consider and balance competing interests.

It is crucial to conduct a thorough review of the bank's off-balance sheet holdings and management strategies and engage in proactive dialogue with regulator to navigate this complex risk and ensure the bank's long-term stability and success is not jeopardized.

A.I. Risk / Technology Risk

The Impact of Gen AI on Risk Management Practices in the Financial Services Industry - source custodiatechnology.com

Key Points:

Gen AI technologies become more integrated, banks must adapt their existing compliance frameworks.  The underlying significance of this shift lies in the transformative power of AI to enhance efficiency and effectiveness in areas such as regulatory compliance and fraud detection. Also emphasis on data governance and quality are prerequisites for successful AI deployment. Banks must invest in robust frameworks to ensure that the data fed into AI systems is clean, centralized, and normalized.  The article further stresses the need for banks to develop AI-ready infrastructure, implement advanced analytics, and increase transparency and explainability of AI decisions. These factors are essential for maintaining regulatory compliance and building trust among stakeholders.

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Cybersecurity & ERM Top Audit Priorities - source deloitte.wsj.com

Key Points:

The audit committee's crucial role in overseeing cybersecurity and ERM — two increasingly critical priorities in today's accelerated business and regulatory environment. The new SEC disclosure rules on cybersecurity incidents and risk management elevate the potential regulatory and reputational consequences of inadequate control and monitoring measures.

Over 75% percent of audit committees currently lack sufficient cybersecurity expertise, which could hamper their ability to fulfill this vital responsibility.  While most audit committees have some level of ERM expertise, the findings suggest room for further improvement. The findings reinforce the need for banks to treat these key risks as top strategic priorities worthy of continued investment.

Regulatory News - Fines, Losses, & Rules

FED - April 2024 Senior Loan Officer Opinion Survey on Bank Lending Practices - source federalreserve.gov

Key Points:

The April 2024 Senior Loan Officer Opinion Survey indicates a notable shift towards tighter lending standards and weaker loan demand, reflecting banks' increasing caution in the face of economic uncertainty and evolving risks. Banks are responding to economic uncertainty, regulatory pressures, and concerns about asset quality by adopting more conservative lending practices, particularly in higher-risk segments.

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FDIC Wake-Up Call on Toxic Workplace Culture - source fdic.gov

Key Points:

The Wall Street Journal reported last year on the workplace misconduct occurring at the Federal Deposit Insurance Corporation (FDIC), which prompted the FDIC Chair to commission an independent review. The FDIC has now received that report, which concludes there is an urgent imperative to transform its workplace culture to address unacceptable misconduct and systemic issues, potentially including leadership changes. Over 8% of the employees raised misconduct concerns, which should set off alarms at any firm. In light of the report's findings, some Senators have called for the FDIC Chair to step down.

Risk Data to Geek Out On

Kahneman’s Legacy- Contributions to Risk Management: The Power of Human Frailties - source Clifford Rossi - garp.org

Key Points:

The influential work of the late psychologist Daniel Kahneman, whose Prospect Theory provides critical insights into how human behavior and biases affect risk-taking in banking. Its essential for risk managers  to understand these psychological factors to better manage risk at any firm.

Key takeaways:

1. People, including executives, tend to be risk-averse when pursuing gains but risk-seeking when considering losses. This can lead to poor decision making.

2. Various cognitive biases like herd mentality, recency bias, confirmation bias and anchoring bias can amplify risky behavior by executives, especially when incentive compensation favors short-term performance over long-term risk-adjusted returns.

3. The degree of risk-taking is driven by how sensitive management is to gains vs losses, which in turn is influenced by biases and the effectiveness of governance.

4. Strong oversight can check risky behavior, while weak governance enables management teams swayed by biases to take excessive risks.

5. It's critical to recognize these human tendencies and put controls in place. The board should evaluate its own biases as well as management's to limit dangerous risk-taking.

While financial metrics are vital, we must account for the substantial impact of human psychology and incentives on risk management. Kahneman's work provides a valuable framework to understand and mitigate these often overlooked behavioral risks at firms. Continue to assess governance, compensation structures, and decision-making processes in light of these insights to strengthen risk culture.

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Thank you for reading,

Naeem

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