WASHINGTON Bank examiners confronted balance-sheet Armageddon when bad loans skyrocketed in the crisis. But their test in the relative calm of 2013 may be just as daunting for a different set of reasons.
With most of the credit-quality issues have been worked through, regulators like Doreen Eberley are facing the difficult task of trying to divine banks' next bit pitfall before it hits their bottom line.
Eberley, who became director of the Federal Deposit Insurance Corp.'s division of risk management supervision in January , says the "fundamentals" of examining banks have not changed since the crisis. But if the real estate boom-and-bust cycle taught regulators anything, she said, it is that you cannot be satisfied with just a point-in-time assessment of a bank's condition.
"It's a real challenge to identify risk and address it when it's building, especially when it's making lots of money," said Eberley, 50. "That's the challenge that we're going to have going forward. We know we have that challenge, and we are focused on it. We need to make sure that we embed the lessons learned from the crisis into the fabric of our supervisory program."
Eberley is a 26-year FDIC veteran but has been in Washington full-time for only a couple of years after having served as the regional director of the agency's New York office. That followed prior stints in Atlanta, Charlotte and California, and an original posting in Bossier City, La., within the division of liquidations (now known as the division of resolutions and receiverships.) during the thrift debacle of the late eighties.
"It was absolutely an interesting time," she said of the earlier crisis and the regulatory reforms that followed, including "prompt corrective action" and the addition of the FDIC's backup authority over banks not supervised by the agency. "I have a different perspective on it now than I did when I started. With time you gain an appreciation for the significance of the regulatory and statutory changes that have taken place."
Having spent time both inside the Beltway and in the field, she says a key part of her management function today is helping examiners understand the "why" of recent regulatory policies in addition to how to implement them.
Eberley sees three major risk factors facing the industry, largely having to do with how banks are responding to still-limited loan demand and thin net interest margins. Those concerns are: the matching of asset durations with the expected rise in interest rates; a growing focus on payments-related products and other noninterest revenue sources as banks earn less net interest income; and the use of new credit instruments with which some institutions may lack experience.
"Maybe the type of lending that the institution was doing isn't as profitable or there isn't demand, and the institution sees an area where there is that demand," Eberley said. "But are there the right policies, procedures and personnel in place before they move down that path, or are they creating credit risk?"
Eberley sat down with American Banker to reflect on her experience during two crises, the FDIC's ongoing initiative to address community banks' concerns about the regulatory landscape and the industry's risk profile in the face of changing economic factors and a wave of new products.
"These are not just 'plug-and-play' products," she said. "They've got to be evaluated."
Are bank regulatory issues seen differently from the headquarters of a Washington regulator than they are from the field?
"When you're here you certainly have a better understanding of why things are moving in the direction they're moving. A key part of my job now is to share that with the regional directors so they can share it with their staffs to make sure that everybody really understands the 'why'."
Do you have a particular concern about community banks utilizing more types of new noninterest products, perhaps working with a third-party vendor?
"Are they doing the due diligence on the front end to make sure that they know what they're getting into? They need to ensure they're offering the new product or service in a safe and sound manner that is consistent with consumer protection laws and the Bank Secrecy Act. This is not necessarily a concern about specific products, but more the way the institution is delivering the product through its respective framework. They need to make sure that the way they're marketing a product is how it is designed to be marketed, and that they are complying with consumer protection laws. These are not just 'plug-and-play' products. They've got to be evaluated."
Would you rather see banks taking risks by using more traditional forms of lending?
"It's not that banks are stepping away from lending, but they don't have a lot of demand and there is a lot of pressure on their net interest margins and they're looking for other avenues to boost their bottom lines and at the same time offer new products and services to their customers."
What should banks be doing right now to prepare for interest rate risk?
"The high-level message is: Be sure you understand the assumptions that are going into your model. When you shock your model with a 400-basis point increase in interest rates, the result you get should be a meaningful one. The assumptions that are going in on the front end should make sense and be well-thought-out. They shouldn't just be what comes from the vendor as a standard set of assumptions."
It sounds like you want institutions to be preparing for a future rise in interest rates. But there have already been rate fluctuations. Has that already been seen on institutions' balance sheets?
"It would be my expectation that with the interest rate fluctuations that we've had in the last quarter, there have probably been some institutions that have been affected. But the modeling we have been asking institutions to do for the last few years is to model for a really big increase a 400-basis point simultaneous shift in interest rates and what does that mean for the institution?"
The FDIC has been praised by community bankers for steps the agency has taken to open lines of communication, make the pre-examination process more efficient and provide technical training for small institutions. What else is the FDIC considering to improve community bankers' experience with their regulator?
"One of the things we will be looking at is in-between examination activity and how to communicate more frequently or better in between examinations. [The standard communication at the midpoint between exams is] an opportunity for bank management to talk about what's changed since the last examination, if anything. Have there been new products or services, changes in the marketplace or changes in management? They are presently done by phone, but one of the things that could be considered is: Should they be in person? How we approach those interactions between exams is the next topic we're exploring within the division, and we'll be talking to bankers about that. We're looking at how we use that program and whether it can be leveraged to be better used."
What's one advantage of having better communication with bankers?
"Bankers will say that they're hearing the regulators want the industry to do X, Y or Z, when it's not anything we've ever said or contemplated. It's just kind of rumor. That's an example where we would hope banks would come to us and ask for insight. If we're providing one more avenue or touch point for a banker to ask a question, that may help dispel some of those myths."
Do your examiners have a different mind-set when they go into a bank today versus when they would conduct an exam before the financial crisis?
"I don't think it's a completely different mind-set. The fundamentals are the same. But there has been a focus on the lessons learned, paying attention to risk as it's building before it manifests into diminished financial condition of the institution, and taking a forward-looking approach to supervision."