Bank Director's Training | Financial Report

Potential Problem:
A customer missing a loan payment

Type of Risk Exposure:
This is an example of credit risk – the risk the bank will not receive its principal and interest or experience some loss on the loans that it makes.

Potential Problem:
Loss of deposits

Type of Risk Exposure:
The loss of deposits to a competitor is an example of liquidity risk since the other bank may make it more difficult or costly for your bank to fund it operations. Liquidity risk is the risk the bank will not be able to obtain the funds it needs to conduct its business at a reasonable cost.

Note:
Potential Problem:
Your bank cancels its loan promotion campaign.

Type of Risk Exposure:
While canceling a promotional campaign may be a reaction to other risks, it does not necessarily present a risk in and of itself.

Potential Problem:
Lower profits as a result of a rise in interest rates.

Type of Risk Exposure:
Lower profits due to a rise in interest rates are an example of market risk – the risk that interest rates may harm a bank’s earnings and capital.

Potential Problem:
Questions raised in the community.

Type of Risk Exposure:
Questions raised in the community as a result of visible conflict among senior management is an example of reputational risk – the risk that negative publicity regarding an institution's business practices, whether true or not, could harm the bank. In this case, the bank’s standing in the community may be damaged.

Potential Problem:
A lawsuit against the bank by homeowners in the housing development.

Type of Risk Exposure:
This is an example of legal risk - the risk that unenforceable contracts, lawsuits or adverse judgments could harm the bank. Depending upon how the bank deals with the court action against it, the lawsuit may also present reputational risk – the risk that negative publicity could harm the bank.

Note:
A defaulting borrower
The defaulting borrower is an example of credit risk that the bank inherited. The bank presumably investigated and addressed this risk before approving the loan.

All loans involve some level of credit risk and a bank must take steps to manage that risk. Even with the best risk controls in place, there will always be a number of loans that default due to unforeseen circumstances.

Directors should review the bank’s loan policy to see if this particular loan is indicative of a larger problem with how the bank extends credit.

The methane gas dome
The methane gas dome is an example of an external event that resulted in a loss. The bank exposed itself to the risks assumed by the borrower when the bank took over the property.

As a new director, there is nothing you can do to immediately address this risk other than to review the bank’s loan policy to determine if this particular loan is indicative of a larger problem with how the bank extends credit.

Potential Problem:
Loan customers may have a decreased ability to repay their loans.

Type of Risk Exposure:
This is an example of credit risk - the risk the bank will not receive its principal and interest or experience some loss on the loans that it makes

Potential Problem:
Bank buys five-year note and funds purchase with one-year deposits. Net interest income falls when market rates rise.

Type of Risk Exposure:
This is an example of market risk - the risk the bank’s income and capital will be harmed by changes in interest rates. In this case, the interest received on the note remains fixed for five years. The deposit rate changes every year. When market rates rise, the bank will have to pay more for deposits, causing the net interest income to shrink (in this case, net interest income is the difference between what the bank earns on the note and what it pays depositors).

The minutes show that the “Visions for Success” program has been successful in generating loan business with loans increasing by nearly 50 percent. Such a large increase raises questions about the credit risk the bank is incurring as the program progresses. It also raises concerns about the bank’s ability to fund loan growth if the pace of lending doesn’t decrease – liquidity risk. In addition, there may be evolving operational issues associated with the jump in lending. For instance, one potential issue is whether the bank has the staff and systems to administer the rapidly growing portfolio.