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From Banking and Finance Law Daily, December 10, 2015

Bank’s underwriting standards continue to ease, increased credit risk noted

By Charles A. Menke, J.D.

Bank underwriting standards are continuing to ease for both commercial and retail loan products with a resulting increase in credit risk according to the Office of the Comptroller of the Currency’s 21st Annual Survey of Credit Underwriting Practices. The survey, which is a compilation of examiner observations and assessments of credit underwriting standards, included 95 of the largest national banks and federal savings associations, and covered the 12-month period ending June 30, 2015. The survey covered loans totaling $5.1 trillion representing approximately 94 percent of total loans in the national bank and federal savings association system.

In a release, OCC Senior Deputy Comptroller and Chief National Bank Examiner Jennifer C. Kelly said that the agency is “seeing trends very similar to those that examiners reported just prior to the most recent financial crisis.” She added that as credit risk increases, “OCC examiners will remain focused on evaluating new loan originations to assess banks’ and federal savings associations’ efforts to maintain prudent underwriting standards and practices through this stage of the credit cycle.”

Highlights. Loan portfolios that experienced the most easing in underwriting standards included indirect consumer, credit cards, leveraged loans, other commercial real estate (CRE) loans, and CRE construction. The examiners cited competition as the most prevalent reason for the relaxing of pricing and terms. However, economic outlook, ample market liquidity, market strategy, and risk appetite also contributed to loosened underwriting standards.

Other highlights of the survey include:

  • commercial underwriting standards reflected a significant net easing for the third consecutive survey year with pricing being the predominant method used by banks to ease standards;
  • retail underwriting standards eased for a third year, with eased standards noted in 27 percent of the banks—the highest level of easing reported since the OCC’s 2006 survey;
  • the majority of banks generally apply the same underwriting standards to loans underwritten with the intent to hold as to loans underwritten with the intent to sell;
  • examiners noted a trend of increasing policy exceptions in commercial products (20 percent of surveyed banks) and retail products (6 percent of surveyed banks) although the policy exceptions were adequately documented and approved for most products; and
  • the level of credit risk increased primarily in commercial loan products.

Credit risk concerns. According to the OCC, the 2015 survey reflects that many banks are pursuing portfolio growth and yield by loosening underwriting standards and, as a result, credit risk is increasing. “The combination of increasing policy exceptions and easing of underwriting standards can increase portfolio risk to excessive levels and result in less resilient portfolios during times of stress,” the agency cautioned. “Boards of directors and senior management should carefully consider the impact of eased underwriting standards on the quality and volatility of performance in their loan portfolios, particularly for products that have already seen considerable easing over the past several years, such as leveraged lending, CRE loans, indirect consumer lending, and credit cards.”

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