[WASHINGTON] The risks to US banks associated with loose underwriting standards are increasing, the Federal Office of the Comptroller of the Currency said in a report released on Wednesday, as the Federal Reserve raised interest rates for the first time in nine years.
With interest rates low, banks have relaxed their standards for lending and the lower quality loans pose dangers to their overall health, the report found.
At the same time, lower interest rates have pushed many banks to reach for yield on their assets, according to the OCC's semiannual analysis of risks to the sector.
"As the economic cycle turns, we see banks and thrifts reaching for yield and growth, sometimes extending their reach at the expense of sound underwriting, strong risk management, and adequate loan loss provisioning," said Comptroller Thomas Curry in a call with reporters about the report.
"In the area of credit risk, the warning lights are flashing yellow. Regulators and bank management need to act now to prevent those risks from becoming reality. We can't afford to wait until the warning lights turn red." The comptroller's office said risks created by cyberthreats have increased, as well.
The federal office charged with monitoring US financial stability has also warned that rising credit risk could harm the country's financial health.
On Wednesday, the Fed raised the range of its benchmark interest rate to between 0.25 per cent and 0.50 per cent.
Alongside the risks that have resulted from low interest rates, banks need to also keep in mind that new jumps in rates could create a surge of deposits from savers, Mr Curry said, adding they need to prepare for a variety of scenarios dealing with interest-rate risk.
The comptroller's report found the financial performance of national banks and federal savings associations strengthened in the first six months of 2015 compared with the first six months of 2014, with net income rising 7 per cent on higher operating income and lower expenses.
Their credit quality is sound, as well. Total noncurrent loans, those 90 days or more past due, declined for both small and large banks and charge-off ratios are near 2006 levels, the report found.
But looking at the US$3.9 trillion of large loans owned by US and foreign banks in the Shared National Credit Portfolio, the report found that the volume of loans classified as substandard increased 18.5 per cent from 2014.
Commercial debt is raising most of the alarms, the report said.
The comptroller's office said it is keeping a keen eye on the increase of loans to nondepository financial institutions, such as real estate investment trusts. The firms make loans or engage in bank-like activities, which could lead to a concentration of risk for the banks. Growth in those loans from last year totaled US$53.8 billion, it said.
It is also monitoring banks' exposure to the oil and gas sector, loan concentrations in multifamily real estate, and declining market liquidity.