Strict warnings for increased risks in banks

By Leonidas Stergiou

The side effects of sanctions against Russia, the effects of the energy crisis on the real economy, the possibility of rising interest rates by the ECB and exposure to cyber-attacks due to the industry’s strong digitization during the pandemic are among the critical risks facing competent European authoritiesin a joint report published yesterday.

In their announcement they call them national supervisory authorities and financial institutions take action and prepare for the following risks:

1. Geopolitical developments. Banks and the financial sector in general should be prepared for possible further complications from sanctions. As the war progresses, the industry will have to be shielded in the event of escalating sanctions and repercussions (blocking Russian banks, accounts, splitting energy prices) and more.

2. Valuation of investments. Further increases in returns and risk ejection should be systematically monitored for impact on banks and investors. On the one hand, raising interest rates or interest rates may favor banks’ profitability, but it also increases the credit risk of businesses and households. At the same time, the valuation (fall) of the bond portfolios of banks and insurance companies is affected. The joint statement states that the results of the latest stress tests of banks should be used, in order to identify the weaknesses at the level of sectors, countries and institutions, in order to take measures. These risks include insurance companies, which hold a large proportion of bank bonds and shares in their portfolios. Like, that is, banks and investment houses have also invested in corporate bonds. This combination can lead to a domino of developments in the wider financial sector and in international markets.

3. Risks and quality of assets. Banks should be very careful and closely monitor the risks associated with a possible increase in red loans, as well as their exposure (financing and investment) to inflation-sensitive sectors, such as the real estate market, the construction industry, commercial real estate, etc.

4. Investors. Private investors have increased their exposure to markets (stocks and bonds) in recent years. This development has dramatically increased their exposure to risks that may be caused by abrupt changes, such as monetary decisions (rising interest rates), rising inflation, escalating war, tougher sanctions, supply chain problems and more.

5. Climate change. The energy crisis has highlighted issues related to the green transition and the ESG (environment, society, governance) criteria for sustainable development. The financial sector should continue to move in this direction, ie to adopt and support investments according to ESG criteria. However, it must develop methodologies for measuring risk and proper classification.

6. Cyber ​​attacks. Geopolitical developments, namely Russia’s war in Ukraine and Western sanctions against Russia, dramatically increase the chances of cyber attacks. This development coincides with a rapid digitization of the banking system and the financial sector that has not entered a maturity phase (users and providers). In this context, the European authorities agree to create a pan-European institutional framework for cybersecurity at systemic risk level.