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How will banks respond to and get ahead of market volatility?

Banks must focus on five key areas as they address immediate vulnerabilities, plan for continued medium-term volatility and position themselves for long-term growth.

In brief
  • In this environment, banks should first address vulnerabilities, respond to changing regulations and position themselves for the future.
  • Authorities cited failures to manage organizational risk and breakdowns in regulatory oversight as contributing to the recent bank runs. 
  • Early detection of potential weaknesses in commercial real estate portfolio is critical for mitigating potential distress in that market.

Each passing week seems to bring new and potentially conflicting signals about the health of the US economy, the resilience of our financial system, and the effectiveness of supervision and regulation of individual institutions. While these signals may create a degree of uncertainty, there are steps that banks can take to better understand and mitigate their own vulnerabilities, respond to changing regulatory expectations, while also positioning themselves for the future.

The market continues to face significant stress, driven by slower economic growth, higher interest rates, the outflow of deposits, unrealized losses in bond portfolios, and worsening credit conditions. Citing a deterioration in the operating environment and funding conditions, Moody’s recently downgraded the credit ratings for 11 banks. While much of the recent focus has been on large regional banks, firms of all sizes should be taking appropriate measures to prepare for continued market uncertainty. This includes the expectation for heightened attention on risk governance and capital and liquidity adequacy by market participants and banking regulators.

As banks plot a course forward, they need to take steps to defend their existing franchise and strengthen their competitive position through client retention, taking advantage of market growth opportunities and reducing costs, as well as strategically reshaping their business portfolio. To that end, well-capitalized institutions should evaluate market opportunities that could strengthen their portfolio, including inorganic opportunities for growth. Conversely, weaker banks may consider asset sales or business repositioning to weather the current storm.

Banks will need to keep an eye on five key focus areas as they address immediate stresses, plan for continued medium-term volatility and position themselves for long-term growth:

  1. Risk management and regulation
  2. Commercial real estate
  3. Treasury management
  4. Customer growth and cost transformation
  5. Portfolio optimization and transactions

Risk management and regulation

Regulatory authorities in the US acted swiftly to evaluate the cause of recent bank failures and propose near- and long-term responses. On April 28, the Federal Reserve and FDIC issued reports addressing the failures of Silicon Valley Bank and Signature Bank, respectively. While these reports cited failures by each bank’s board of directors and senior management to adequately manage risks within their organizations, the reports also cited numerous breakdowns in the regulatory oversight process. The reports recommended that the regulators should adopt a stronger supervisory and regulatory framework that would encourage regulators to take more prompt and aggressive action in the future. The Fed’s report also suggested a revisiting of the so-called tailoring rule, which reduced some regulatory requirements for banks between $100 billion and $250 billion in assets.


The Fed also noted that a tougher standard on incentive compensation could be considered. Further, these reforms would come in addition to several proposals that were already under consideration, including the Basel III “end game” for regulatory capital, use of multiple stress testing scenarios, and increased resiliency measures for banks above $100 billion.


Now, Next, Beyond

While the Fed and FDIC reports largely focused on supervision and regulation of banks greater than $100 billion, banks of all sizes should expect a heightened degree of supervisory focus on key risk issues in the coming months, in particular on fundamental risk management capabilities across credit, liquidity, and interest rate risks.

As they respond to these increased expectations and proposed rulemaking as it is published, banks will need to focus on current and emerging risks, challenge where further contagion could cause risks to materialize across their portfolios and build the necessary resiliency and contingency playbooks. Strong governance, second line challenge, and oversight will be essential. While an exact repeat of the events that led to the recent banking failures may seem unlikely, banks need to recognize that other issues could arise that expose vulnerabilities unique to their own business model and take pre-emptive action to mitigate those risks.


Commercial real estate

With over $1 trillion of CRE loans maturing through 2024, borrowers may struggle to fully refinance the outstanding CRE debt as property values decline, occupancy rates remain below pre-pandemic levels and interest rate increases impact their ability to service debt. This will likely lead to requests for forbearance, workouts, default and foreclosures. While all property types in this space are under stress, the office market is under heightened pressure due to reduced demand and the uncertainty of how return-to-office work plans will play out in the future.


Now, Next, Beyond

Early detection of potential portfolio weaknesses is critical to help plan for and potentially mitigate CRE distress. Banks should run scenario-based forecast models to identify specific loans and properties that may exhibit near-term weakness due to changing market conditions and investor expectations. This will enable a proactive response, allowing banks to work with borrowers in advance of upcoming renewals or potential covenant breaches. Banks may consider a strategic review of certain relationships that may include a cost-benefit analysis for determining the best course of action for accommodating or exiting a relationship.


Following the rapid assessment of their office portfolio, banks should review or adjust risk metrics and reporting, with a focus on developing or enhancing a suite of early warning indicators that may leverage new data or assumptions about portfolio performance given updated market conditions.

Given the changing market conditions in this space, banks may need to revisit top-of-house credit risk appetite and concentration limits. Changes in risk appetite may trigger adjustments to credit and underwriting guidelines, risk rating systems, updated credit risk metrics, and reporting. With any anticipated increase in troubled debt, banks should assess the adequacy of policies and staffing for problem loans, related accounting policies, allowance processes, and disclosures.


Treasury risk management

Currently, most firms are reviewing lessons learned from recent market events, identifying areas of weakness and developing plans to increase resiliency in future stress events. To address vulnerabilities exposed during recent market events, many firms will be taking steps to enhance their liquidity and interest rate risk as well as capital management capabilities, both proactively and in anticipation of heightened regulatory requirements. This should include an assessment of whether noted capabilities are truly managing and mitigating the firm’s specific risks as opposed to checking a box for regulatory compliance. 


Now, Next, Beyond

As market uncertainty and volatility continues, it’s critical for firms to have timely reporting and monitoring of liquidity positions to identify further potential bank runs, alongside available liquidity sources for mitigation. Deposit monitoring is of key importance, particularly for higher-risk segments such as uninsured balances and certain counterparty sectors.


Banks are also reassessing overall balance sheet positioning and hedging strategies. These topics are expected to remain a top priority for boards, senior management, agency supervisors and rating agencies in the coming months.


As a next step, firms should evaluate and assess the effectiveness of their liquidity management capabilities, both in safeguarding against emerging risks in the normal course of business and in managing through stress conditions.


Liquidity stress-test scenarios and assumptions should be reviewed and recalibrated, particularly given the speed and volume of deposit outflows as well as the reliability and market capacity of available funding sources. Firms should ensure that contingent funding sources are appropriately diverse, quantified and tested, with consideration given to knock-on impacts to capital. Many banks should also consider updating contingency funding plans, early warning indicators and key risk indicators.


Asset liability management capabilities will also be an important focus area looking forward. In particular, firms should assess the comprehensiveness of their interest rate risk reporting and limits framework to ensure they address both short-term and long-term considerations. Underlying assumptions related to deposit duration and interest rate sensitivity may also be reconsidered as banks review the size and composition of their investment portfolio and associated hedging strategies.


The recent banking volatility exemplifies the need to respond quickly to emerging trends and risks. To that end, firms should consider improving the timeliness, accuracy and granularity of liquidity reporting. They will want to develop integrated financial forecasting and dynamic scenario analysis across liquidity, interest rate risk and capital management to avoid siloed decision-making related to balance sheet and risk management strategies.


Customer growth and cost transformation

In the current environment, high-net-worth and commercial clients are laser-focused on the safety of their deposits in the immediate term. In addition, some are reconsidering their banking relationships for the long term. Beyond managing the risk of attrition and deposit flight, however, firms can view this crisis as an opportunity to rethink customer retention strategies and adopt an operating model that creates new sources of value, with the added benefit of managing cost during a period of challenged earnings.


Now, Next, Beyond

For the near term, banks need to closely monitor deposit flows, especially those most at risk: corporate and commercial accounts with more than $250,000 in deposits. Customers can now withdraw funds in real time. This means banks will also need to monitor customer and market sentiment and be prepared to provide proactive and regular communication that instills confidence in the short-term safety of their deposits.


Moving forward, banks will want to develop and implement a cash-product and funding strategy that balances the joint goals of retaining deposits and managing deposits across multiple lines of business. They will also need to develop a targeted approach to convert priority segments and deploy a stickier transaction banking model.

This may include adapting decision-making processes for pricing, new product launch, and customer engagement and communications to enable more rapid response times. They will also want to identify and implement near-term opportunities to reduce the cost of operations (without sacrificing client trust/experience) to offset earnings headwinds.


With the steps in place to retain customers, sustain growth and transform costs, banks should move forward and align their overall line of business, client segment and product strategy with their enhanced risk management, treasury and portfolio approach. This may mean reviewing and revising the operating model (people, process and technology) to support new regulatory requirements, portfolio strategy and cost management imperatives and to develop a plan to increase long-term trust and stickiness. A key part of this effort will entail developing a personalized digital experience that cuts across product silos and lines of business to create new value for customers.


Portfolio optimization and transactions

In parallel with short-term actions, banks are beginning to reconsider all aspects of their portfolio, which includes updating their growth strategy to align with their current tolerance for risk. For well-capitalized players, this presents an opportunity to consider potential acquisitions to drive growth and/or build new capabilities at attractive valuations. On the other hand, banks under strain will need to take steps to bolster their financial position.


Now, Next, Beyond

During this period of volatility, banks will have to evaluate their current position and strengthen their portfolio accordingly. One step banks can take is to analyze the current composition of their business portfolio along with key performance drivers as they identify key risk exposures and immediate mitigating actions. This would include forecasting new portfolio positions at three- to six-month intervals based on mitigating actions, including the following components: (1) new vs. existing customers, (2) product mix, (3) sector mix/concentration, and (4) areas of growth vs. decline.


Firms should evaluate the impact these steps will have on profitability, ROE and key balance sheet metrics. They should then review the current standing against competitor firms to identify diversified customer segments that might be underrepresented in their current portfolio.


As a next step, firms should set risk and resiliency goals that consider the macro climate, competitive and regulatory trends already underway, as well as core competencies, including how they have changed and how they are likely to evolve in coming months. Once any immediate rebalancing is complete, banks can take a more holistic approach, defining a growth vision, profitability, client goals, and competitive positioning, considering the new market reality and including near-term actions to exit portfolios.


As banks plan ahead, they should define a three-year portfolio composition that aligns risk tolerance with their vision and long-term goals. In addition to working backward across line of business, segment, sector and products to define short-term growth opportunities, banks should quantify the effects of portfolio decisions on value creation, concentration and risk exposures. This will help them inform decisions and external messaging.



This period of volatility will continue to intensify in the coming months, further testing the resilience of all banking institutions. This is not a time when banks can afford to stand still and wait for conditions to improve. Even those that are well capitalized need to be ready to act to bolster their portfolios, position themselves to withstand strengthening headwinds and take advantage of growth opportunities.

Danielle Austin, Allen Morrison, Preston Thompson also contributed to the article.


This article discusses how banks can respond to and get ahead of market volatility by using strategies and technologies to mitigate risks and stay ahead of changes. It offers insights and recommendations for the banking industry.

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