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Sowing the Seeds: OCC Insights for Agricultural Banks

By: Jay Branger and Keith Osborne

By many measures, today’s agricultural business is in good shape. Commodity prices and land values are soaring, interest rates are low and it looks as though the drought that caused much damage in 2012 in the Midwest and Great Plains may be easing. As farmers, we understand the whims of Mother Nature: how it affects crops, livelihoods and communities. As national bank examiners, we want to be sure banks are prepared for the inevitable downturns. Our basic message: resist complacency in good times and identify, measure, monitor and control risk to prepare for a potential downturn. Farmers and good bankers know that you survive the lean times by sowing the seeds of preparation in times of plenty.

The Office of the Comptroller of the Currency applies knowledge gained from examiners who live and work in local communities to act quickly and face potential risks. For example, during the 2012 drought, the OCC’s Central District Office in Chicago established an informal working group of examiners with knowledge of banking and agriculture. The group’s goal: to develop guidance for local field office examiners to take a measured approach in evaluating the drought’s impact on agricultural banks.

The OCC also takes a longer-term view. In 2010, the OCC’s Western District Office in Denver sent a personalized letter to bankers with high agricultural concentrations. The principles outlined in that letter, including concentration risk management, apply even today.

“We have seen the negative effect of high concentrations in oil and gas, real estate and retail lending on the financial condition of banks when those market segments decline,” wrote OCC’s Western District Deputy Comptroller Kay Kowitt in the letter. “With this experience in mind, it is appropriate to apply these lessons learned to agricultural concentrations and remind you of our expectations for measuring, monitoring and controlling agricultural credit concentrations.”
The points below highlight some of the sound risk management practices addressed in that letter:

Even though conditions today are good, agriculture is cyclical and changes are likely in the future. For agricultural banks, OCC examiners are seeing emerging risks that include:

What to Expect During Examinations

OCC examiners, who work with agricultural banks and who are based in nearly 60 local offices throughout the country, are monitoring agricultural banks to ensure those bank management teams understand these and other emerging risks. Bank management should also understand how prices and other trends affect agriculture-related industries in their communities. The farm economy is in near unprecedented territory in terms of overall profitability. This is an important time for bankers to perform scenario analyses to help them understand what will happen if prices fall or input costs continue to increase.

OCC examiners expect banks to have processes in place to mitigate emerging risk. Two recent issuances include guidance that bankers should consider to maintain and strengthen their systems: OCC Bulletin 2012-16 Guidance for Evaluating Capital Planning and Adequacy, and OCC Bulletin 2012-33 Community Bank Stress Testing: Supervisory Guidance. Examiners will discuss these issuances with bank management to determine if the bank’s systems and controls reflect the risk profile and complexity of the institution.

Stress testing is a prudent practice that can help a community bank identify key vulnerabilities to market forces. Once risks are identified, banks are able to assess more effectively how to monitor and control those risks as they develop. In addition, data gained from stress testing at both the transaction and portfolio level can provide great insights for determining the level of capital necessary to support operations.

The OCC has a transaction-level stress-testing tool available for national banks and federal savings associations. Further, the guidance in OCC Bulletin 2012-33 offers simple, portfolio-level stress testing examples that help bankers observe how their loan portfolios would perform under various conditions as well as to see the impact to capital adequacy.

We encourage bankers to discuss the OCC’s expectations with their board of directors, especially now when times are good. OCC experts, many of whom are located in your area, are available to assist management and the board in understanding the OCC’s expectations and guidance.

No one likes surprises when it comes to business and financial matters. Let’s avoid the complacency that sometimes accompanies good times and prepare for the next potential agricultural downturn now.

Jay Branger is a Minneapolis, Minn.-based national bank examiner for the Office of the Comptroller of the Currency and a family farmer. Keith Osborne is a Wichita, Kan.-based national bank examiner for the OCC and a family farmer.

Copyright (c) September 2013 by BankNews Media