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ComplianceFinanceLegalCorporateApril 07, 2023

Bank failures in the news: Why compliance and risk management are crucial

Recent events in the banking industry have affected the overall population’s confidence in the U.S. banking system – but did you know that it is common for at least a few banks to fail each year?

Not all are as widely publicized as the most recent failure of Silicon Valley Bank (SVB) or the bank failures during the financial crisis of 2008, when more than 400 banks failed between 2008 and 2011. For better or worse, these high-profile failures have underscored the importance of effective governance, oversight, and assurance in the financial sector. 

To restore any eroded confidence in the banking system following the recent headlines about bank failures, it’s important to understand what can lead to a bank’s failure and what steps to consider in order to minimize the impacts to depositors.  

What are the factors and warning signs? 

While it is impossible to predict with 100% certainty if a bank will fail, there are signs and indicators that a bank might be in trouble. Education is key, and a first step to take is to understand how we got here – what caused the current bank failure situation that started with Silicon Valley Bank (SVB), and the fall-out from it. 

Financial risk mismanagement arguably played a significant role. For example, some of the banks impacted by the fallout from the SVB situation were warned of their exposure to a rise in interest rates by internal systems, but they chose to ignore the warnings. It could, of course, also have been due to economic factors. In fact, the most recent Regulatory & Risk Management Indicator survey, compiled by experts at Wolters Kluwer Compliance Solutions at the end of last year, showed that 73% of respondents were highly concerned about interest rate increases.

How do you know if a bank might be in trouble?  

Experts say one of the first signs might come from financial news or social media. Staying informed will help you assess a bank’s overall health. 

Look for news about a delay in a bank’s financial reports, about talks a bank might be acquired or sold, about lay-offs of non-essential employees, or of branches being closed.  

Other warning signs concern a bank’s customers: are depositors withdrawing their money? Also, is the bank making it too easy to open new accounts? That could be a sign that the bank is desperate for cash.  

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How can we mitigate the risk of being impacted by a bank failure? 

Different groups can take different steps.  

Of course, there are the banks themselves. Mid-size banks must ensure they have built a robust internal balance sheet management system to identify critical gaps on their balance sheet.

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 “Banks should be able to run simulations that in times of uncertainty, will enable them to apply a holistic risk management framework, which will assist the bank when a crisis appears. While supporting business as usual, they will have the ability to recognize and act quickly when an event occurs,” notes Jeroen Van Doorsselaere, Vice President of Global Product & Platform Management, Wolters Kluwer Finance, Risk & Regulatory Reporting (FRR).

“In an everchanging and dynamic regulatory landscape, the ability to use regulatory metrics further constrains the internal risk management system and ensures regulatory compliance at all times while optimizing it from a risk perspective.”

Internal audit also plays a critical role because it contributes to the effectiveness of a bank’s governance practices. Banks need to provide internal auditors the necessary tools and access to the data, so they can objectively assess risk management and control processes across the organization.

Lenders can capture insights into their loan portfolios and create a risk appetite statements (RAS) structure for managing those assets more effectively. Here, data plays a key role because it can help better calculate secured lending risk exposure.

“It is essential to have a front-line platform with the power to inform risk officers and enable processes that can create a more robust risk appetite statement than many automated filing and lien management services to protect one’s security interests,” says Suzanne Konstance, Vice President and Lien Solutions Leader, Wolters Kluwer Compliance Solutions.

Artificial Intelligence (AI) and other automation tools can help financial institutions better understand the nuances of their secured position and empower them to make more informed decisions.

Also, corporate legal departments can help companies ensure business continuity with key measures. Legal counsels can complete thorough due diligence into the health and stability of a bank. For example, legal experts point to the power of diversification for businesses. Now is the time to take action. An organization should not have all its money tied up in one bank, but should keep several accounts in separate banks. Also, the overall balance across all accounts in an organization’s name at any one FDIC-insured bank should stay below a $250,000 balance. It’s important for a company to evaluate how much money it needs for liquidity, then consider depositing any additional funds in short-term investments.

What are possible responses to a bank failure?

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"In responding to the recent bank failures making headlines, federal and peer banks have helped minimize the impacts to depositors and restore confidence." says Tim Burniston, Senior Advisor, Regulatory Strategy for Wolters Kluwer Compliance Solutions.

“What we can point to in the early days of these developments is that regulators and major banks are collectively working to stem further losses and instill confidence." In fact, Burniston expects “more positive measures by regulators and the industry to address and calm the current turbulence in the industry.”

The key points to remember are that it’s impossible to predict a bank failure, but it is possible to look for red flags and assess risks – and, most importantly, to take steps to mitigate the risks in case of a bank failure. If you need help with any of the above points, our Wolters Kluwer team of experts is here to help. For more information, check out insights and resources through the links below and to the right.

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