The Josefa Group

The Obama administration has proposed sweeping changes to the regulation of financial institutions. The proposal will:

·         Significantly expand federal authority over financial institutions

·         Impose tougher standards on large banks

·         Extend regulations to all trading of financial derivatives for the first time

·         Require registration of large hedge funds

·         Create a systemic risk regulator

·         Expand the power of the government to takeover major non bank financial institutions

"Let me be clear. The days when a major insurance company could bet the house on credit default swaps with no one watching and no credible backing to protect the company or taxpayers must end." Geithner said to Congress.

The administration’s proposal will require approval from Congress

Insights into the Evolution of Risk Management at Banks

Worldwide economies, including the United States, have suffered substantial declines. Key catalysts to the rapid deterioration include severe contraction to credit flow, broad declines in housing values, and near or actual failure of major financial institutions. The risk of systemic failure rose to a level that threatened the stability of the entire financial system and continues to be a major concern of regulators around the world.

Centric to preventing a recurrence is a simple concept that has not been well implemented – Risk Management. It is not surprising that the policy and guidance of regulators in their review of risk management programs at financial institutions will substantially change in the short term.

In a recent speech by Roger T. Cole of the Federal Reserve, he outlined the following areas of risk management that will evolve as the US strengthens its oversight of banks:

·         Self Assessments – Increased regulatory review of a firm’s self assessments promoting improvements learned across other banks.

·         Liquidity Risk Management – Use of scenario based reviews of liquidity and funding profiles, greater rigor in the assessment of expected and unexpected funding needs, recognition that sources of funding, even hen well collateralized, may not be available in a crisis, and the alignment of US goals with those of the Basel Committee.

·         Capital Planning and Capital Adequacy – Evaluation of loss scenarios vs. capital needs.  Guidance on dividends, capital repurchases, and redemptions. Review of internal processes to assess economic capital practices vs. capital needs.

·         Firm-wide Risk Identification and Compliance Risk Management – Better identification of risks and how they may be inter-related. Timely and effective communication of risk to senior management. Financial institutions must address more serious risk management deficiencies so that risk management is appropriately independent, that incentives are properly aligned, and that management information systems (MIS) produce comprehensive, accurate, and timely information. 

·         Residential Lending - Requiring institutions to maintain risk management practices that more effectively identify, monitor, and control the risks associated with their mortgage lending activity and that more adequately address lessons learned from recent events. Establish systematic, proactive, and streamlined mortgage loan modification protocols and to review troubled loans using these protocols. 

·         Counterparty Credit Risk – Assessments of the overall quality of MIS for counterparty risk ensuring that limits are complied with and exceptions appropriately reviewed. With respect to credit default swaps (CDS) and the over the counter derivatives market promoting such steps as greater use of electronic-confirmation platforms, adoption of a protocol that requires participants to request counterparty consent before assigning trades to a third party, and creation of a contract repository that maintains an electronic record of CDS trades. The most important potential change in the infrastructure for credit derivatives is the creation of one or more central counterparties (CCPs) for CDS.

·         Commercial Real Estate - Strategic- and capital-planning processes must adequately acknowledge the risks from their commercial real estate (CRE) concentrations. Better stress testing can improve the understanding of how concentrations--both single-name and sectoral/geographical concentrations--can impact capital levels during shocks.

For the complete text of the speech see:

http://www.federalreserve.gov/newsevents/testimony/cole20090318a.htm#f1

Recent enforcement actions:

March 24, 2009 - Written agreement with Premier Bancshares
March 24, 2009 - Written agreement with BancMidwest Corporation 
March 24, 2009 - Written agreement with Spring Grove Investments
March 24, 2009 - Written agreement with Pine City Bancorporation
March 23, 2009 - Order of prohibition and order of assessment of civil money penalty against G. Craig Chupik
March 23, 2009 - Written agreement with Columbia Commercial Bancorp
March 20, 2009 - Written agreement with Thunder Bancorp
March 18, 2009 - Written agreement with FNB Holding Company
March 17, 2009 - Written agreement with Omni Financial Services
March 17, 2009 - Written agreement with Societe Generale
March 9, 2009   - Order of assessment of civil money penalty against East Dubuque Savings Bank
March 9, 2009   - Written agreement with Solutions Bank

• Federal Deposit Insurance Corporation
• Federal Reserve
• Office of Thrift Supervision
• Office of the Comptroller of the Currency
• National Credit Union Administration
• State Authorities

The following link, provides a detailed explanation of Banks and Their Regulators

http://www.newyorkfed.org/banking/regrept/BIATR.pdf

As reported 3/16/09 in the WSJ, the Obama administration is moving quickly to address changes to financial markets’ oversight. The Federal Reserve will have broader powers to monitor risks across the economy. New oversight will likely entail tougher capital requirements and regulatory authority to takeover failing institutions. Additionally, consumer protection laws applicable to financial products will be more consistently applied. A key goal is to monitor systemic risk such as is present in payment and settlement systems. Although the plan lacks significant detail, it is apparent that it will have far reaching impact on all financial institutions.

For the full WSJ article, see http://online.wsj.com/article/SB123717148665837323.html#mod=todays_us_page_one