NAVIGATING UNCERTAINTIES TOP SIX STRESS TESTING TIPS FOR COMMUNITY BANKS By Jay Kenney, SVP & Southwest Regional Manager, PCBB In the complex world of banking, scenario-based stress tests provide a familiar framework for risk assessment. However, amidst today’s higher interest rates and the ever-changing economy, pinpointing the scenario that encapsulates all uncertainties can be daunting. To aid in this endeavor, we offer our top six stress testing tips tailored to the needs of community banks. 1. Sensitivity Testing: Market downturns, interest rate fluctuations and liquidity issues underscore the importance of sensitivity testing alongside scenario testing. Rather than attempting to capture every stressor, focus on assessing your portfolio’s resilience against deviations from your typical baseline. Additionally, consider sensitivity back-testing to document past actions and their effectiveness in mitigating sudden market fluctuations. These insights are invaluable for future planning, board education and employee training. 2. Collateral Location: While major urban centers often dominate headlines, several secondary markets are witnessing increased vacancies in commercial real estate (CRE) and multifamily properties. Scrutinize the geographical distribution of your collateral and consider introducing additional loan groupings to address heightened risks in these markets. Tailoring stress assumptions to local economic conditions enhances risk assessment accuracy. 3. Rollover Risk: With interest rates surpassing recent historical averages, shorter-term borrowers face increased rollover risk. Assess loan structures, particularly balloons nearing maturity, to anticipate refinancing challenges. Understanding the proportion of loans reaching maturation and borrowers’ ability to qualify for refinancing is crucial for managing rollover risk and preserving portfolio stability. 10
RkJQdWJsaXNoZXIy MTg3NDExNQ==