Last week saw some important and possibly crucial policy discussions for community banks.  A conference sponsored by the Federal Reserve and the CSBS covered several critical issues for this segment of the banking industry.  The conclusions of the conference are described below, but, among other things, the conferees discussed de novos, onerous regulatory burdens, the corresponding lack of flexibility in the regulatory and supervisory process, and a possible uptick in M&A.  At the same time, the Federal Reserve and the CSBS released the results of a survey of community bankers.  A separate speech by FDIC Chairman Gruenberg covered three risks that are likely to be the focus of upcoming FDIC examinations: interest rate risk, credit risk, and operational risk/cyber security.  Finally, on Friday, the FFIEC issued an alert about the "Bash" or "Shellshock" bug.

The full set of developments over the past week is as follows:  

Community Banks

  • Federal Reserve and CSBS release Community Banking in the 21st Century: Opportunities, Challenges and Perspectives (Sept. 24).    
  • Federal Reserve/CSBS Community Banking Research Conference, St. Louis, MO (Sept. 23).  From the wrap-up:
    • There is a continued role for de novo banks. De novo entry can curb the exercise of market power and make banking markets more competitive. 
    • Research suggests that net interest margins at community banks will rebound once monetary policy is normalized and the national economy improves.
    • Technology, especially adoption of mobile technology, is being driven by competition and the rate of smartphone adoption and will continue.
    • The use of guidance as a macro-prudential tool (in this case, the commercial real estate guidance) had the desired effect of reducing commercial real estate concentrations.
    • The banks that participated in the Small Business Lending Fund increased small business lending significantly faster than other community banks.
    • Based on research and practical use, the appeals process is inconsistent across federal regulatory agencies, and could benefit from a clear standard and transparency.
    • Whether Dodd-Frank or other trickle-down effects, compliance costs are going up.  Community banks are giving serious consideration to cuts in products or services – or in some cases, considering consolidation.
    • The regulatory process has reacted to market failures driven by systemically important financial institutions, to the detriment of community banks.
    • Relationship banking needs and benefits from judgment – some of the regulatory changes in recent years are impacting community banks’ ability to exercise judgment.
    • Community banks take risk on entrepreneurs, which is vital to job creation. Regulation is making it more difficult to take risk on “non-traditional” borrowers.
    • The goal should not only be consumer protection; rather, a balanced approach is needed that allows community banks to flexibly respond to the needs of consumers.
    • Tackle the obvious pressure points, including the call report, mortgage servicing rights capital limitations, and Sub S dividend restrictions.
    • The M&A trend will continue and may accelerate. Banker fatigue is a real phenomenon.
    • Private equity will not be the answer to community bank capital. Investors in community banks will intentionally accept the rate of return produced.
    • Materials available at
  • FDIC Chairman discusses interest rate, credit, and operational (cyber security) risks that affect community banks.  See Credit RiskCyber Security, and Interest Rate Risk below.

Credit Risk

  • Remarks by FDIC Chairman Gruenberg to the American Banker Regulatory Symposium, Arlington, VA (Sept. 22). 
    • "Almost 75 percent of banks grew their loan portfolios during the second quarter. And all major loan categories saw an increase, including small loans to businesses. We welcome this recovery in the overall pace of lending as a sign that our banking system is once again in a position to carry out its critical role in making sound loans to creditworthy borrowers."
    • "Community banks also hold 45 percent of the industry's small loans to U.S. farms and businesses, or more than three times their share of total industry assets. Unless community banks are effectively carrying out their role as portfolio lenders, these local economies and small businesses cannot thrive."
    • "But the flip side of this local dependence on the community banking sector is the need to actively manage loan concentrations so as to limit the credit risk associated with this type of lending."
    • "Many banks with significant concentrations of CRE and construction loans managed to survive the recent crisis with the benefit of:
      • conservative growth strategies
      • limited dependence on non-core funding
      • prudent risk management practices
      • effective capital maintenance, and
      • responsiveness to supervisory recommendations, actions, and guidance.
    • However, "it is not possible to draw a bright numerical line that separates prudent from imprudent levels of concentration…. What matters most is how well the risks are managed."
    • Text available at

Cyber Security

  • FFIEC warns of "Bash" or "Shellshock" bug (Sept. 26).
    • May affect computers running Unix, Linux, and Mac OS X operating systems.
    • Banks should address Shellshock by taking appropriate risk mitigation steps, including:
      • Identifying vulnerable internal systems and services.
      • Following appropriate patch management practices.
      • Ensuring that third-party vendors take appropriate risk mitigation steps and monitoring the status of the vendors’ efforts.
    • FFIEC Alert available at
  • Remarks by FDIC Chairman Gruenberg to the American Banker Regulatory Symposium, Arlington, VA (Sept. 22).
    • "We're clarifying our expectations with regard to actions community banks should take when problems are identified at their TSP, and guiding these banks to zero-cost resources that can assist them in assessing their vulnerability to cyber threats."
    • Framework for conducting exams on information security developed by FDIC and FFIEC.
    • Text available at

Fannie Mae/Freddie Mac

  • FHFA IG issues report on compliance with selling and servicing guidelines (Sept. 26).
    • Report recommends that FHFA "direct the Enterprises to assess a risk-based approach to having their counterparties obtain independent, third-party attestations of their compliance with origination and servicing requirements" (Sept. 26).
    • FHFA has disagreed with recommendation.
    • FHFA's Oversight of Risks Associated with the Enterprises Relying on Counterparties to Comply with Selling and Servicing Guidelines, Audit Report AUD-2014-018, available at

Foreign Banks

Information Technology

  • FFIEC directs banks to ensure systems are protected against "Bash" or "Shellshock" vulnerability (Sept.26).  See Cyber Security above.

Interest Rate Risk

  • Remarks by FDIC Chairman Gruenberg to the American Banker Regulatory Symposium, Arlington, VA (Sept. 22). 
    • Current interest rate environment has caused some banks to invest more heavily in long term securities.  Maturity mismatches have not caused problems yet, but the inevitable rise in interest rates will do so unless exposures are carefully managed.
    • Rise in interest rates also may create more credit risk from variable rate borrowers.
    • "For community banks, the effects of interest rate risk tend to be most visible in their net interest margins. For most of the past five years, community bank margins have remained well below pre-crisis levels that were frequently in excess of 4 percent. Still, the upward shift in long-term interest rates since mid-2013 helped to lift net interest margins at community banks to 3.61 percent in the second quarter, a level that is 46 basis points above the industry average."
    • Text available at


  • Basel Committee on Banking Supervision endorses – but does not release – Net Stable Funding Ratio requirement (Sept. 25).  See Too Big to Fail below.

Mortgage Lending

  • OCC Mortgage Metrics Report, Second Quarter 2014 released (Sept. 25).
    • The performance of first-lien residential mortgages serviced by selected national banks and one federal savings association "declined slightly from the previous quarter, consistent with observed seasonal trends, but improved from a year earlier."
    • "Foreclosure activity in this portfolio of mortgages continued to decline."
    • "Servicers implemented 208,150 home retention actions during the quarter—including modifications, trial-period plans, and shorter-term payment plans—compared with 64,790 home forfeiture actions during the quarter, which include completed foreclosures, short sales, and deed-in-lieu-of-foreclosure actions. The number of home retention actions implemented by servicers decreased by 12.5 percent from the previous quarter and 34.1 percent from a year earlier."
    • Report available at


Swaps and Derivatives

  • "The Looming Cross-Atlantic Derivatives Trade War: 'A Return to Smoot-Hawley.'"

Third Party Service Providers

  • FFIEC directs banks to ensure TSPs are updating systems to address "Bash" or "Shellshock" vulnerability (Sept. 26).  See Cyber Security above.

Too Big to Fail

Bank Closings

  • None.

Congressional Hearings – Upcoming

  • None scheduled.

Congressional Hearings – Past Week

  • None.

Upcoming Events

  • Sept. 30
    • Best Practices for Effective Liquidity Risk and Funds Management, FDIC New York Region regulatory teleconference.
  • Oct. 7
    • Public meeting of OCC Minority Depository Institutions Advisory Committee.
  • Oct. 16-17
    • FDIC annual Consumer Research Symposium.
  • Oct. 28-29
    • OCC director workshops, Credit Risk and Risk Assessment, in Cleveland, OH.
  • Nov. 5-6
    • OCC director workshops, Compliance Risk and Credit Risk: A Director's Focus, in Kansas City, MO.
  • Nov. 6
    • FDIC Interagency CRA Workshop for Banks (Waukesha, WI).

Regulatory Comment Deadlines

  • 60 days from publication in Federal Register – FDIC: changes to risk-based deposit insurance assessment system.  
  • Oct. 14 – SEC: references to credit ratings in money market rules.  
  • Oct. 22 – CFPB: HMDA reporting requirements.  
  • Oct. 28 – FHFA: housing goals for Fannie Mae and Freddie Mac.  
  • 60 days from publication in Federal Register – Federal Reserve: repeal of Regulation AA.  
  • 60 days from publication in Federal Register – Federal Reserve/OCC/FDIC: additions to CRA Q&As.  
  • Nov. 10 – SEC: circulation of price quotes of security-bases swaps that may be purchased only by eligible contract participants not deemed an offer to sell.  
  • Nov. 12 – FHFA: FHLB membership to require 1% of assets in home mortgage loans.  
  • 60 days from publication in Federal Register – CFPB: definition of "larger participant" in nonbank auto lending market.  
  • Nov. 24 – Federal Reserve/OCC/FDIC/FHFA/Farm Credit Administration: margin requirements for uncleared swaps  
  • Nov. 28 – Defense Department: Military Lending Act regulations on annual percentage rate, mandatory arbitration, and other matters.