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Overcoming adversity through low-probability/high-impact scenarios


May 13, 2020
Financial Institutions

My husband and I enjoy watching our kids’ competitive team-sport games. During football season in the fall of 2018, our son kept dislocating his shoulder and we were advised that he should get surgery. So he did in October 2018, with an estimated five-month recovery period. Then during lacrosse season in the spring of 2019, our son tore his ACL playing lacrosse … surgery again! Post-surgery, he required time for healing, lots of physical therapy and rigorous exercise programs to strengthen the areas to be able to play competitive sports again in 9 to 12 months. Just as we were thinking luck had not been on our side lately, our daughter tore her ACL playing soccer in the fall of 2019. One could say that three sports-related surgeries for a family in a year’s time was a low-probability/high-impact scenario.

Recently, amidst the COVID-19 pandemic, a bank client shared with me that their core processor had a ransomware attack and they had no access to their data and various applications for over a week. Well, not many banks had to put both their pandemic plan and business continuity plan into action during the same week! Fortunately, the bank was able to create workarounds in this short-term, low-probability/high-impact scenario. 

As we are embarking on what could be one of the most potentially highly impactful scenarios in history, we strongly encourage banks to ramp up their liquidity risk management process today, including reviewing the potential impact of correlated credit risk, capital adequacy, and interest rate risk. We also encourage banks to generate liquidity sources to uses reports and perform liquidity stress testing more often than in the past. Examples of heightened triggering events for liquidity cash flows and stress testing may include assumptions such as the following:

  • Line of credit draws
  • New loan production
  • Increased loan delinquencies/loans in forbearance
  • Additional utilization of funding sources
  • Accelerated funding costs from change in funding mix

In light of the current COVID-19 pandemic, enhancing its contingency funding plan (CFP) and conducting crisis stress scenarios activating the CFP, including preemptive actions, are likely to be a bank’s best protection plans for overcoming adversity during these uncertain times.

Author(s)

Bunch_LuAnn
LuAnn E. Bunch, CPA
Manager, Asset/Liability Management
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