Credit Portfolio in the Pandemic

The pandemic has inflicted deep and widespread damage worldwide. The event has been a nightmare since February. No one knows what is going to happen this year, or next year or five years out. These are unprecedented times. $2.2 trillion in Federal stimulus, $650 billion for PPP loan allocation, 5 million loans issued by 5500 lending institutions. To put this in perspective, in 2019 the SBA issued a total of $28 billion in loans to its members. In addition to these staggering figures, the call report has been delayed by 30-days, taxes postponed from April to July and virtual activity has been the rule for all interactions. It is foggy outside, and the fog is here to stay, for how long is anyone’s guess. Because of this many fundamental processes have been altered permanently.  

Three of SRA Watchtower top banking experts in the areas of geographic and industry sector fundamentals, credit stress testing, and loan review accompanied by the Chief Commercial Lending Officer from Bankers Bank in Madison Wisconsin provided their prognosis and remedial instruction.

Fundamentally, the predictive power of previous credit models will be weak. Qualitative factors will be necessary for credit models going forward. These factors will be rooted in economic and industry analysis. The posture of supervisory agencies is being influenced by geographical and sectoral risk considerations. Improvement of portfolio oversight is critical for portfolio and single name decisions. Sectoral and geographic factors will define these decisions. Banks must consider the amount of concentration that they have in their MSA (Metropolitan Statistical Area) trouble spots coupled with troubled industries. Presently, there is too much information. Information must be synthesized to be effective.

On the topics of deferrals, reserves and examinations, banks must document what they did and when they did it. Banks should have separate documentation for all activities pandemic related. Skepticism is necessary to ask what the banks game plan is, and how it will redefine its processes for the next round. Banks have dramatically increased their reserves during quarters one and two. As far as examiners and examinations are concerned, everything is taking place remotely. Examiners are focusing on risk management processes and scaling back in other areas. Banks must start early and stay ahead with frequent, scheduled communication internally and with examiners.

Credit stress tests and adjusted loan reviews are essential in navigating through the fog. The bottom line: Does the bank have enough capital? After ten years of peacetime stress testing, we are now in wartime. Testing if capital is adequate, testing is good governance, testing can help banks adjust its risk appetite and expose retail and commercial problems. All banks doing stress tests must be certain they are logical and rational while accepting that no test is completely accurate and to be wary of false precision assumptions. Key to performing a pandemic adjusted loan review begins with the banks risk profile analysis, specifically of high-risk industries within a banks geographic sphere. This analysis is derived from KRI metrics. Focusing on these metrics make the bank more relevant. Do the banks borrowers have the liquidity and or capacity to meet their obligations? Is there a guarantor backstop? This pandemic impact work must be illustrated and documented.

‍Recapping the contents of the webinar:

• More analysis is required from geographic and industry sector perspectives.
• Asking where the bank stands today and how it can improve its balance sheet and profitability.
• Stress tests that are logical providing sufficient capital level insight.
• Government programs and the banks compliance with program guidance.
• Establishing and maintaining substantial credit reserves.
• Supervisory exams being orchestrated remotely. (Is the bank communicating often and effectively? Is the bank being proactive with supervisory agencies?)
• Pre-pandemic loan review practices require approach change.
• Pandemic variable overlay on top of loan review.

Please visit our website: srawatchtower.com to view and listen to the complete webinar. A wealth of information and insight is provided by the events guest speakers. In addition, SRA Watchtower offers a complete program that assists banks with these activities.