Banking Exchange March 2018

BANKING EXCHANGE March 2018 bankingexchange.com

the

Otting Effect New Comptroller Joseph Otting brings a banker’s view to OCC

The Voice of The Next Generation of Banking

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/Contents BANKING EXCHANGE March 2018

14 The Otting Effect New Comptroller Joseph Otting, a banker, discusses CRA reform, innovation, changes at OCC, and being a “Trump regulator”

By Steve Cocheo, executive editor Cover photo: David Hathcox

20 Community banking’s future Need to change now is widely recognized. Bankers and others weigh in on how

By Steve Cocheo & Bill Streeter

March 2018

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/ contents /

BANKING EXCHANGE

4 On the Web

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ALCO changes for 2018; CFPB wants your complaints; How to pick a tech vendor

6 Like it or Not Everyone wants a “secret sauce.”

Is it technology, or something else?

March 2018, Vol. 4, No. 1 Editorial and Executive Offices: 55 Broad St., New York, N.Y. 10004 Phone: (212) 620-7210 Fax: (212) 633-1165 Email: bankingexchange@sbpub.com Web: www.bankingexchange.com Twitter: @BankingExchange Subscriptions: (800) 895-4389, (402) 346-4740 Fax: (402) 346-3670 Email: bankingexchange@halldata.com

8 Threads Survey of community bankers finds confidence and angst; Where Chase will branch; Cryptocurrency—why it’s for real

Chairman & President Arthur J. McGinnis, Jr. Group Publisher Jonathan Chalon

11 Seven Questions CEO Jill Castilla used a turnaround and social media to transform her bank. How she avoids “regulatory fatigue”

26 Bank Tech

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Partnering with a fintech is all the rage, but sometimes building or buying work best. One mid-size bank’s experience points to three key factors

Executive Editor & Digital Content Manager Steve Cocheo scocheo@sbpub.com Art Director Nicole Cassano Graphic Designer Aleza Leinwand Editorial & Sales Associate Andrea Rovira arovira@sbpub.com Contributing Editors John Byrne, Nancy Castiglione, Dan Fisher, Jeff Gerrish, John Ginovsky, Lucy Griffin, Mike Moebs, Ed O’Leary, Melanie Scarborough, Lisa Joyce

28 Compliance Watch The change in regulatory leadership is already bringing some new attitudes. But don’t be fooled into thinking the core focus of fair banking will change

Director, National Sales Erik Vander Kolk erikvanderkolk@yakol.net Production Director Mary Conyers mconyers@sbpub.com

32 Idea Exchange Mutual finds success with program that earmarks deposits for use in one Massachusetts municipality

Editor & Publisher William Streeter bstreeter@sbpub.com

32

Circulation Director Maureen Cooney mcooney@sbpub.com Marketing Manager Erica Hayes ehayes@sbpub.com

Banking Exchange (Print ISSN 2377-2913, Digital ISSN 2377-2921) is published March, June, September, December by Simmons-Boardman Publishing Corp., 55 Broad Street, 26th Floor, New York, NY 10004 Pricing Qualified individuals in the banking industry may request a free subscription. Non-qualified subscription printed or digital version: 1 year, financial institutions $67; other business $93; foreign $508. 2 year, financial institutions $114; other business $155; foreign $950. Single Copies are $35 each. Subscriptions must be paid for in U.S. funds.

Copyright © Simmons-Boardman Publishing Corporation 2018. All rights reserved.

Content may not be reproduced without permission.

Reprints For reprint information Contact: Mary Conyers, (212) 620-7250, mconyers@sbpub.com For Subscriptions & Address Changes Please call: (800) 895-4389, (402) 346-4740, or Fax: (402) 346-3670, e-mail: bankingexchange@omeda.com Write to: Banking Exchange, PO Box 3135, Northbrook IL 60062-2620 Postmaster Send address changes to Banking Exchange, PO Box 3135, Northbrook IL 60062-2620

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Editorial Advisory Board Jo Ann Barefoot, Jo Ann Barefoot Group, LLC Ken Burgess, FirstCapital Bank of Texas, N.A. Steve Ellis, Wells Fargo & Co, Mark Erhardt, Fifth Third Bank, Joshua Guttau, TS Bank Brian Higgins, First Financial Bank Trey Maust, Lewis & Clark Bank Earl McVicker, Central Bank and Trust Co. Chris Nichols, CenterState Bank of Florida, N.A. Dan Soto, Ally Bank Dominic Venturo, U.S. Bank McCall Wilson, Bank of Fayette County

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/ ON THE WEB / Now Showing at

bankingexchange.com

What ALCO must watch for in 2018

Any beefs about CFPB complaint system?

Can innovation get traction?

Every year brings a new set of challenges. Darling Consulting’s Robert Lallo discusses deposit betas; strategic deposit management; loan growth and pricing; liquidity issues; and tax reform implications.

Read more sat tinyurl.com/ALCO2018

Turnabout is fair play. Acting CFPB Director Mick Mulvaney is asking for opinions about the bureau’s complaints handling process and its public online Consumer Complaint Database.

Read more at tinyurl.com/ beefsaboutcomplaints

In an Accenture survey a group of bankers say fintech innovation ideas actually make it through to implementation less than one out of four times.

Fintech players identify four reasons why the ratio isn’t higher. Read more at tinyurl.com/fintechtraction

5 rules for picking a good tech vendor Rule #1 from Anna Murray, our “Tech Sherpa” blogger: Be realistic about who your bank is and who your vendor is. “Engaging with the big-name tech firms is kind of like trying to dock with the International Space Station.

You have to be ready for it, with all the right hooks and connectors in place.”

Read more at tinyurl.com/ Fivevendorrules

@BankingExchange

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Subscribe to our free weekly newsletters, Tech Exchange and Editors Exchange at bankingexchange.com/newsletters To suggest topics, new blog subjects, and other web ideas, contact Steve Cocheo, digital content manager, scocheo@sbpub.com, 212-620-7219

20 40 UNDER

BANKING EXCHANGE

KNOW A BANKER UNDER 40 WHO IS GOING PLACES? Banking Exchange presents its inaugural 20 Under 40 Awards in which we will profile twenty noteworthy Next-Gen bankers under the age of 40.

We are looking for the people who will help banks thrive in the next decade. Entries will be judged by experienced industry professionals and those that represent the “best of the best” will be featured in Banking Exchange’s June issue.

Deadline: April 22, 2018 at 11:59 pm EST

20under40.strutta.me

/ like it or not /

Is tech the secret sauce?

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o. Okay, now that we’ve got that out of the way, what is?

Well, it’s a secret, right? But it’s an open secret.

The phrase “secret sauce,” of course, has become a marketing term of art (thank you, Big Mac). It implies, “We’ve got something unique that gives us an edge, makes us the better choice,” etc. Buzz phrase or not, it’s a legitimate concept.

In certain f ields—pharmaceuticals being the first that comes to mind—the billions spent on research does produce unique advances that at least for a time give a company a true edge. It’s also true in the tech industry, although there the advantages seem shorter-lived.

With a few exceptions, banking is in a different category. Mostly it’s not R&D driven and its products are essentially the same among almost all f inancial institutions. Product innovations often come from vendors.

Much has been said about banks partnering with nonbank tech companies.

The odds are slim, however, of a fintech company signing an exclusive deal with one bank—other than one of the Big Five, perhaps.

So again, the notion of technolog y providing that secret sauce advantage is spurious. As bank attorney/consultant Jeff Gerrish pointed out to us a few months ago, technology isn’t so much a competitive advantage as it is a competitive disadvantage if an institution does not keep pace with the changes.

The downside there is that providing what’s expected is not a differentiator.

Providing the unexpected can be.

Businesses and consumers in most markets, for example, now expect a bank to provide mobile remote deposit capture. So if your bank is just now rolling it out (assuming you’re not in a one-bank market), it would be a defensive move.

Even so, how you roll out the product can turn defense into a plus. If, for example, you trained a group of mobile geniuses (to borrow from Apple) in each location to help customers get set up— or even sent these helpers out to local small-business customers—that would

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be unexpected and appreciated.

Building up your bank’s social media expertise and using it to promote customer businesses and events would be another example of the unexpected.

For most banks (and any primarily service-oriented business), the secret sauce almost always comes down to their people—in particular an enlightened leader and a team of engaged associates.

Together they can come up with creative ways to go above and beyond for customers. They innovate.

That is the greatest differentiator.

With talented people on board, given the right encouragement, a bank in a slow-growth market can do quite well.

Without them, even a bank in a fastgrowing market will never quite achieve its potential.

Of course it’s true that many other factors contribute to banking success, one being a solid credit foundation. But even there, it’s people who ensure adherence to credit principles while at the same time encouraging creative ways to accommodate borrowers who don’t qualify for standard credit.

Banking has a great pool of talent, fortunately. That will ensure its future relevance and success—if it’s used.

A s numerous people, ba n kers included, have observed, the ongoing consolidation in the industry has more to do with a lack of leadership succession than it does with regulatory burden or outdated technology.

Developing the next generation of talent, then, is the single most important priority for any bank leader. (Not coincidentally, it’s why we created our “20 under 40” recognition program—details at tinyurl.com/BE-20under40).

One more thing. Developing nextgen talent requires an open mind to the possibilities, be they related to gender, experience, education, or other fa c tors. Too of ten incumbent lea ders follow comfortable or traditional paths in developing talent. That may be understandable, but in an increasingly competitive market, it’s essential to step outside the usual.

BILL STREETER, Editor & Publisher bstreeter@sbpub.com

As many have observed, the ongoing consolidation in the industry has more to do with a lack of leadership succession than it does with regulatory burden or technology

C T D t B H m a P D G t c E s

BANKING EXCHANGE

BANKINGEXCHANGE.COM: SMART NEWS FOR SMARTER BANKS

Can America grow new banks again? Cybersecurity is everybody’s iss The next thing: Agile banking? 5 AML technologies you must understa Due diligence—checking out a bank 4 internal frauds and how to spot them Quick lessons in loan swaps Making “Three Lines of Defense” w Blockchain: What you need to know NOLs in acquisitions … simplified!

Hang on—Big Tech is remaking banking 4 techniques for better financ management. Have the right conversation with customers. Get real about strategic planning in 11 steps Fintech and banks shaking hands Panama Papers: Hot—but issues aren’t new Getting ready for more HM NEWS AND BEYOND Digital strategy: Does your bank have one? - Bank tries out Pokémon ANALYSIS. Go “Flying money” may land inINSIGHT. U.S. What’s new with SOLUTIONS. neobanks? Day i the life of Compliance 10 reasons fintech startups fail. When blockchai cryptocurrencies, and AML meet Brexit Blues: “We Don’t Need No Education” CFPB means it as you read it. How community banks can survive Banking on artificial intelligence How are marketplace lenders

/ THREADS GOOD TIMES, WITH FOOTNOTES

Survey finds community bankers upbeat, but aware of the need to stay up on tech

By Bill Streeter, editor & publisher

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telling fact from the recent Future Forces in Banking survey is this: Three years ago, in the first round of the survey, 25% of responding bankers thought community banks and credit unions would become relics of the past—losing out to large banks or digital-only competitors.

In this year’s survey, however, that figure dropped by over half to 11%.

Adding to this more optimistic trend, 86% in the most recent survey agreed t hat “c om mu n it y ba n k s a nd cred it unions will be around for the long haul, although fewer in number.” However, only 4% of respondents thought bank charters will eventually grow in number.

The survey was conducted in late 2017 as a joint project of the Correspondent Division of CenterState Bank, Winter Haven, Fla., the San Diego-based bank consultancy CS Consulting Group, and Banking Exchange. Findings were based on 270 responses, of which 82% were from

executive officers or senior managers.

The vast majority of respondents (91%) were from banks, with the rest working for credit unions and savings institutions.

Overall, 94% came from institutions with assets of $9 billion or less.

Impact of scale There are several possible reasons for the more upbeat view of community banks’ future. As survey coauthor Chris Nichols, chief strategy officer for CenterState notes: “It has never been a better time to be a banker.” He cites lower but rising interest rates, improving credit quality, and improving efficiency driven by technology.

Another possibility: Industry consolidation, particularly at the smaller end of the scale, has resulted in fewer, but larger institutions, better able to bear the cost of regulation and invest in tech upgrades.

The importance of scale was probed in the most recent survey. A substantial 85% of respondents agreed that achieving a

BANK TECH PROJECT STATUS

Source: Future Forces in Banking 2018

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COMPLETED 84% Mobile banking 44% Enhancing BSA/ fraud compliance 43% Payments

Shutterstock/ Monster Ztudio

Community bank executives were asked what major technology projects their banks were currently working on, planning to work on this year, or had completed. The top three answers from the 270 surveyed are shown at right. More details at tinyurl.com/moretech-morebranches

certain asset size was at least “somewhat important.” Within that group, 37% felt it was “critically important.” (The feature story on page 20 has comments from several bankers reflecting this view.)

Survey co-author Joe Cady, managing partner of CS Consulting, notes the majority of benefits from economies of scale are realized when a bank reaches $100 million to $300 million in total assets, according to a 2012 FDIC study.

He cautions that simply growing an inefficient institution means banks hurt their value at a faster rate than before. In fact, as the report notes, institutions often become less efficient as they grow.

Impact of technology Since passage of the tax reform legislation, many banks have indicated they will use increased after-tax earnings for bonuses, salary increases, and stock buybacks. Many also will use at least some of the money for upgrading technology.

This dovetails w ith the f inding in which 66% of respondents agree they “need new strategies, lines of business, and methods to compete effectively.”

Technology plays a role in that. Indeed, 68% of the bankers say they are currently losing business to online-only lenders.

Further, 81% anticipate losing business to such fintech disruptors in five years.

Not surprisingly, 91% of the respondents say their bank’s technology budget will be

higher this year than last (59% “slightly higher” and 32% “significantly higher”).

Some technology projects under way are shown in the infographic below, and are described more fully in the report.

The full 32-page report can be viewed at tinyurl.com/FutureForces2018Report

Entry deadline near for Banking Exchange’s “20 under 40” awards

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anking Exchange launched i t s f i r s t a n n u a l “ 20 U n d e r 40” awards program in early February. Twenty noteworthy nextgeneration bankers will be profiled in a special report in the magazine’s June 2018 issue.

Nominations are due by mid night, April 22. Nominations can come from anyone and bankers can nominate themselves.

Nominations will be evaluated by a panel of judges to include Banking Exchange editors, working and retired bankers, and others knowledgeable about the industry.

For more program details and to submit a nomination, go to tinyurl.com/BE-20under40

CURRENTLY WORKING ON

PLANNING TO WORK ON

65% Cyber defense

70% Using artificial intelligence

55% Onboarding/digital account opening 52% Lending platform/loan processing

46% Cloud infrastructure 46% Core conversion

March 2018

BANKING EXCHANGE

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/ THREADS /

THE BRANCH LIVES, AT CHASE

Scoping out the new locations By Brian Cheung, S&P Global Market Intelligence staff writer

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s widely reported, JPMorgan Chase & Co. announced in late January it would be rechanneling proceeds from the new tax bill into 400 new Chase branches in markets where it does not have a presence.

Filings with the Office of the Comptroller of the Cur renc y show Cha se proposing one branch in Boston’s Downtown Crossing neighborhood and one near Philadelphia’s Rittenhouse Square.

The company also has four locations planned in the Washington, D.C., metro area: two in the city, one in the Maryland suburb of Bethesda, and another in the Virginia suburb of Arlington.

By expanding into Philadelphia and D.C., Chase hopes to fill in large gaps in its mid-Atlantic footprint. The company only has branches dotted across suburbs in New Jersey and Delaware.

Marty Mosby, director of bank equity strategy at Vining Sparks, said in an inter view that JPMorgan Chase w ill likely use the new branches to pursue middle-market commercial real estate and aff luent customers looking for the occasional in-person visit, adding that he does not see the company needing more

than a few branches in a city.

Other analysts do not understand the strategy. Compass Point’s Isaac Boltansky wrote that the expansion seems “odd” given banking’s shift to digital platforms, noting that Citigroup, Inc., has sold its physical branches in Boston and Houston. “It will be an interesting experiment to see if branches are still a necessary tool to gain share/clients in new markets.”

The bank said it plans on expanding into a total of 15 to 20 new markets.

The OCC applications also show JPMorgan Chase pursuing three branches in Nevada and California, around the Lake Tahoe area where it currently does not have any physical locations.

Adapted from a longer article on BankingExchange.com. Go to tinyurl. com/thebranchlives

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nless you have been asleep for the past year, you cannot have missed the buzz around bitcoin and other cryptocurrencies like Ethereum’s Ether and Ripple’s XRP. There are even some coins that were created as a joke that are getting significant investments, such as Dogecoin.

Most predict that the cryptocurrency world is a bubble and will come crashing down. I have been tracking bitcoin since 2011, and have heard over and over again from financially experienced colleagues that it is a scam, will fail, is silly, undermines the system, and will never work.

Yet it does work.

It enables people to trade online at a low cost and without financial inter-

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mediaries. Here is the real concern: Bitcoin and other cr yptocurrencies could eradicate the need for banks.

This is why banks keep rallying against cryptocurrencies while embracing the technologies that allow them to operate, namely the blockchain or, more correctly, distributed ledger technology (DLT). Most financial institutions are piloting Ripple, R3, Ethereum, and more because they see the savings of recording transactions on ledgers without human involvement.

DLT can completely transform everything from digital identity schemes that will replace passports to digital land registries that will replace the paperbased land deeds register allowing clearing and settlement to take place

in a far more efficient structure.

You have two extremes: libertarians, who are playing with digital currencies and having fun; and business and government, who are committed to transforming ledgers that need a lot of work to ones that can run using DLT, based on cryptocurrency blockchains.

But the thing is, you cannot have one without the other.

Therefore, the fatuous claims that bitcoin is a fraud and the cryptocurrency world is a bubble are fundamentally inaccurate when we are talking about a foundational technology that will transform planet Earth over the next decade.

See a longer version of this article by fintech expert Chris Skinner on tinyurl.com/Skinneroncrypto

Shutterstock/ Fotografiche

Take cryptocurrency seriously

/ Seven Questions /

CAN-DO CEO

Propelled by necessity, Jill Castilla shaped Citizens Bank of Edmond into a modern community bank By Bill Streeter, editor & publisher

Photos courtesy of Citizens Bank of Edmond

C a s t i l l a h a s bu i lt a n i mpr e s sive resume: a stint in the Army; finance and economics degrees; CFO of a Michigan community bank; played a key role in Citizens Bank’s two-year workout from a regulatory enforcement order; named CEO of the bank in 2014; named “Community Banker of the Year” by American Banker; elected to the board of the American Bankers Association; turned herself into a social media “wunderbanker.”

As Steve Cocheo wrote in a piece on BankingExchange.com in 2015, “If you travel in banking circles on Twitter, it is hard to miss Castilla (@JillCastilla). She has close to 6,500 followers of her own.”

That figure is now 13,000.

The resume is impressive, but even more so is Castilla’s enthusiasm for her profession. “I love this job,” she says.

“This is my New York Yankees job.”

Whenever she travels—even on vacation—she’ll stop in to visit with other bankers. She gets inspiration, ideas, contacts—many of which she implements.

For example, the idea for Vault 405, the bank’s downtown co-working location for local entrepreneurs—set up in space resulting from branch consolidation—came from visiting other offices.

In the following edited dialog, Castilla shares her views on community banking’s future, learning from adversity, her approach to regulation, and more.

As a reference point, the $259 millionassets state bank she heads is situated in Edmond, Okla., a suburb of Oklahoma City. The bank was founded in 1901 by her stepfather’s grandfather.

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orried about banking’s relevance in the digital age?

D o n’ t b e . Te n m i nu t e s spea k ing w it h (or rea ding about) Jill Castilla, president, CEO, and vice-chairman of Citizens Bank of Edmond, Okla., will banish any doubts.

She’s a one-woman recruiting team for millennials or any other cohort who may view a bank as kind of a stuffy, sleepy,

old-school place to work—or bank.

One cohort in particular she hopes to encourage is women in banking, noting that less than 2% of bank CEO positions are held by women, even though they comprise 70% of banking’s workforce.

Castilla thinks that represents a huge talent pool that could help solve banks’ succession challenges. “I hope I can have some impact on those numbers,” she says.

Q1. In a digital world, how does a community bank keep a personal touch with customers and the community?

I think the digital world enhances the community banker’s ability to stay in touch with communities and even personal relationships. We’re known for being in the grocery store aisle and for being at Little League games.

The digital component allows us to be accessible in even more ways than we’ve ever been before. Being on social media March 2018

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/ Seven Questions / we sold the physical locations. [More on this in Q6.] Overall, we had net customer growth after the consolidation.

Q3. You seem very comfortable with technology. Does increased competition from Amazon, Google, Facebook, Apple, and others concern you?

Jill Castilla opens one of her bank’s “Heard on Hurd” music/food festivals. Running once a month from March to October, they draw 25,000-35,000, boosted by social media. Castilla credits Bank of Ann Arbor’s “Sonic Lunch” concerts for the idea. and having customers able to contact you directly where you can respond in real time, I think, is the greatest advent since their being able to email the bank.

Accessibility is what differentiates the community bank president from the market president of a larger bank because it allows that greater intimacy to the decision maker. The digital world has just amplified that.

Q2. Because of the shift to digital, branch numbers and visits are down for many institutions. Are you seeing that?

We had six branch locations when I came here in 2009—all within two and onehalf miles of each other. It’s hard to make that profitable.

We consolidated to one in 2013. And we haven’t seen branch traffic diminish.

Those additional branches had not been open that long and never had the traffic of the original bank location. And most of the branch transactions were occurring through drive-through lanes.

Now, we have a very lively and energetic single-branch lobby and have one 12

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drive-through that’s also very busy. We have digital channels that complement these two, but we haven’t seen in-bank transactions decrease. Actually, they’ve increased, and I think it’s because it’s a busy branch lobby and attracts people to

LinkedIn is like having a ‘fintech chamber of commerce’ meeting that can transform into partnerships come back into the bank after they open an account. Customers use digital, but they still want the in-bank experience.

We also put v ideo drive-up ATMs near the branches that we closed. They basically replaced the drive-through experience that the customers lost when

It does. Competitors are emerging all the time, and consumer preferences are changing at a pace that we’ve never seen.

It should concern any banker, especia lly when look ing at our f unding mechanisms. We need access to the customers’ deposits in order to be able to deploy loans and investments effectively to keep our business model going as it has for hundreds of years.

To stay relevant in this changing landscape, we have to be ready to partner with f intech companies and to really understand consumer preferences and needs even before consumers know them, so that we can try to get ahead of them.

I spend probably 50% of my time meeting with customers in person and engaging digitally. This helps me stay in touch with our customers and their preferences. I also spend a good amount of my time engaging with the f intech communities. Social media allows you to manage both of those communities very well.

If you join Twitter, all you do is search for #fintech and you can follow all of the conversations that are happening in the financial technology sector in real time.

As you’re reading articles that fintech leaders post or opinions that they tweet out, you can engage with them and add your perspective.

I also use LinkedIn to connect with individuals after I’ve read an article they’ve posted. It’s a great way to get introductions and to ask that community for advice if you’re looking for some specific technology. It’s like having a “fintech chamber of commerce” meeting. You can transform some of those relationships from just being interactions on Twitter or posts on LinkedIn to becoming actual friendships or partnerships.

Q4. There’s an ongoing discussion in banking about the size and scale needed to succeed. As head of a $259 million-assets bank, what’s your view?

I don’t think there’s a magic number. It all depends on how skillful your management team is in running the institution

at whatever size it may be. I see some highly successful $100 million-asset banks in what you would think of as lowgrowth areas.

The M&A activity in our industry is more the result of succession planning issues—being able to attract that next generation of talent and being willing to hand the bank over to that next generation. There’s also regulatory fatigue a mong m a ny m a n a g e me nt g r o u p s and boards.

Scale can a ssist you in some ways by dispersing fixed costs over a larger base. But if you’re smart in the management of the bank, nimble in taking advantage of opportunities, and willing to cut your losses in those dogs that weigh you down—such as a bank branch that’s not performing—you can make the bank more eff icient for the consumer as well as internally. Then there’s no rea son why a sma ll ba nk can’t be as successful as a larger institution. And maybe even better.

Q5. You mention regulatory fatigue.

How do you keep that fatigue from setting in at Citizens Bank of Edmond?

A lot of it is attitude at the top. The leadership team for your bank has to be positive when it comes to good regulation that’s trying to look out for the consumer.

Our leadership is committed to being able to understand regulations and comply with them, and also to understand the spirit of the regulation and comply with that spirit.

We feel it is our responsibility as the community bank in town to make that effort to understand the regulations, to comply with them as was intended, and still prov ide customer access to mortgages, small business loans, and unsecured loans—in a way that is ethical and complies with the regulatory environment we’re in.

We invest a lot in our compliance staff, and they’re at the table in almost every decision we make. We view them a s a ssets to the organization rather than burdens.

When the Dodd-Frank mortgage regulations came out, we saw other banks pulling out of mortgages. We thought it was an opportunity for us to enhance our expertise and our offerings, so we started increasing our mortgage activity rather than decreasing it.

But whenever the regulatory burden

impacts the consumer negatively, then it’s important for banks to band together and speak up to make some changes. I believe that’s a very empowered way to approach regulation and not be defeated by it.

Q6. What lessons did you take from helping your bank work its way out from under a regulatory order?

It was painful at the time [2010-2012], but looking back, you’re able to get ten years of banking experience for every year you’re going through the turnaround.

The benefits for my team of having gone through the turnaround is the confidence we now have that we can find solutions; that as long as we consistently do things the right way, it will generally turn out for the best; and having courage to make decisions that could change the course of a company.

It’s difficult to disrupt yourself when times are good.

The turnaround made us shake things up Going through the turnaround gave us the confidence to think about banking a little differently, yet still stay safe and sound—we will not concede on that. But there’s a lot of flexibility to be a little different and to implement new technology or new approaches to doing business.

For e x a mple , i f we ha d not gone through the turnaround, I don’t believe we would have been as open to using soc ia l me d ia . We’re not ma rke t i ng geniuses. We got into it because we didn’t have any money for advertising.

It was the same way with the interactive video at the ATMs. Not having access to the technology that the big banks have, we had to kind of become “MacGyvers” and develop our own solution.

[The bank collaborated with two Oklahoma City companies—Monscierge and OrderMatic—to develop a “savvy interactive experience” for the drive-up ATMs in a very short time.]

In the process, we realized technology can be inexpensive and very accessible.

If you stay away from customer account information and payment processing and things like that, there is technology you can implement that doesn’t have the same level of security concerns or the regulatory hurdles.

The turnaround opened our eyes to how we could change the way we were interacting with the customer without taking on a lot of risk.

As bankers, we’re expert risk managers—especially on the credit side. But sometimes we forget that we can apply that skill to all areas of the bank. Going through the turnaround helped us see that.

It’s really difficult to disrupt yourself when times are good and the business model is working great. The external force of the turnaround made us shake things up and allowed us to have the opportunity to change the culture at the bank and do things differently.

Q7. Your bank is a member of the Independent Community Bankers of America and the American Bankers Association, and you’re on the ABA Board. Why both?

The associations are slightly different from one another. The ICBA consistently has banks like me in the forefront of their advocacy—very specific to the needs and challenges of my type of institution. To be able to engage with them and hear their perspective on how proposed regulations or laws specifically affect community banks is very valuable to me.

Whereas ABA is an advocate for the entire industry, so their advocacy may or may not be specific to me, but they’re looking at banking as a whole and, at times, they’re able to use that muscle to push forward a community banking agenda.

At ABA Board meetings, I enjoy that very diverse perspective, and I’ve learned a lot from my peers that are 100-times, 1,000-times larger. Hearing their perspective has helped me become a better banker and be more empathetic to the challenges they have and understand better the role they have in our economy.

Also, I think there’s more strength in having diverse voices and having an ICBA that can step up maybe where an ABA can’t because of the composition of their membership. They can’t go out on a limb for specif ically sized legislation that could potentially harm their other members, where the ICBA can. I like having that flexibility.

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13

The

Otting

effect I

n early February, Joseph Otting, the new Comptroller of the Currency, hosted a gathering of nine former comptrollers. Only one person in the room had been a career banker prior to becoming a regulator—Otting. In fact, unlike the others, Otting isn’t a law yer or an experienced bureaucrat. This has brought something of a new approach to OCC since Otting formally took office in late November 2017—a fresh set of eyes from a fresh background.

“There were a lot of processes here that had been built up over many, many years,” Otting explains. “People would say, ‘That’s the way we’ve always done it.’ A nd I’d respond, ‘Well, great, but we’re going to figure out a new way to do it.’”

Not change for change’s sake, but for the sake of functionality and efficiency. One shift is simple: that people stop showing up at meetings with thick binders stuffed with papers.

Now tablets sit where paper used to.

Too many people signing off

Another shift is more meaningful: how OCC renders decisions. “There were certain things that maybe took four or five weeks to make a decision on,” says Otting. Now, “we make that decision in a day or two.”

Otting directed a rethinking of decision processes. “A lot of stuff went to the top of the house here,” he 14

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explains. That’s been replaced with a process that delegates more items down into the agency to give people the authority to approve various matters. “I want people who interact with the agency to be able to see a quicker, faster decision-making process. I want them to say, ‘Wow, this is like dealing with somebody who is in commerce.’”

Otting also shrunk the administrative cycle by trimming the number of regulators who were expected to approve a decision. “There was stuff that 20 people would sign off on that they had no ability to inf luence. I’d ask, ‘Why are 20 people signing this?’”

This may sound like a businessm a n’s d i s d a i n for bu r e a uc r a t s , but Otting speaks highly of OCC staff—something one or two past comptrollers didn’t do. One goal he has for his term is to leave OCC with a solid management team with business-like attitude. “I’ve forced back on them a lot more decisions that historically they weren’t involved in,” he says. “Issues around budgets and being accountable for your unit’s financials. That’s a new skill set that people are learning around here.”

This particular internal emphasis arises from Otting’s knowledge that bank assessments pay for OCC operations. “It disturbed me when I got here that the year-over-year budget increase was high single digits,” says Otting. He says he’s brought that rate of increase down and hopes to

All photos courtesy of David Hathcox

By Steve Cocheo, executive editor & digital content manager

New Comptroller Joseph Otting—a banker—discusses CRA reform, innovation, the regulator’s job, and being a “Trump regulator” March 2018

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/ COVER STORY: NEW COMPTROLLER / Quick facts about Comptroller Joseph M. Otting Where he hails from: Born and raised in Maquoketa, Iowa.

Holds a B.A. in management from the University of Northern Iowa.

He’s 60.

Where he’s worked: Started in Bank of America’s management training program; worked in branch management, preferred banking, and commercial lending.

1986-2001: Union Bank, including time spent as executive vice-president and the group head of commercial banking.

2001-2010: U.S. Bank, going from market president in Oregon to vice - chairman and head of the commercial banking group.

2010-2015: OneWest Bank, where he was president, CEO, and board member. Remained at the bank for five months af ter the acquisition and name change to CIT Bank. Worked closely with Steven Mnuchin, founder of OneWest and now Treasury Secretary.

actually begin reducing agency costs. “We won’t do that by layoffs or hiring freezes, but by being good stewards of the monies provided to us by the institutions.”

No buffer from nitty gritty

Hav i ng been a work i ng ba n ker for decades, Otting says he brings a different level of understanding to his new job.

Under former Comptroller Thomas Curry, OCC had a chief of staff. Otting did not fill the position. “It’s important for me to be able to get directly involved with the people here and for them to be able to have direct involvement with me, to see the type of leader I am and the viewpoints I have. I have a voracious appetite for information and knowledge. And I like to be involved in a lot of different things.”

It is not surprising to hear that Otting typically works 12-hour days, including some weekends. He thinks the post demands that kind of schedule.

Otting also brings experience in many different aspects of banking to the table when discussing issues with his staff.

“One of the beauties of coming in here with industry experience,” he says, “is that, if somebody, say, wants to talk about credit, I can talk about portfolio metrics. I can talk about individual credits. If people want to discuss compliance, BSA/ AML, interest rate risk management, whatever you want, I know all of that stuff probably as good as some of the experts around here.” Much of Otting’s career was devoted to banking’s business side.

As a result, says Otting, “they don’t have to spend hours educating me on those items as they would an attorney or consultant.” He adds that because he’s been a regulated banker, he can share his knowledge of the challenges and “pain points” of handling regulatory policies.

Time to fix CRA What you don’t know about him: Between leaving CIT and becoming Comptroller, he co-managed a family business, the real estate development/resort called Southern Highlands in Nevada. Otting has homes in Santa Monica, Calif., and Las Vegas, Nev.

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Early in Otting’s term, he told a small gathering of reporters that a top priority was reform of Community Reinvestment Act regulations. “We have a very complex process,” he said at the time. “The community groups don’t like what CRA is today, the banks don’t like what CRA is, and the regulators don’t like CR A.” (When the subject was broached during the recent interview, he upped the ante from “don’t like” to “hate” for each group.)

“We’re fairly far down the path on this issue,” says Otting about a CR A

proposal. “We’re not talking summer; we’re still talking about the spring.”

CRA cries out for simplification, says Otting. He explains that the 1977 law and resulting regulation began very simply with the concept that banks would lend in their communities. “And over the last 40 years,” he says, “we created this highly complex animal that’s difficult to measure, communicate, and be consistent in.”

Otting says he thinks the complexity of today’s CRA can be reduced significantly by bringing determination of compliance down to a simple metric. The base may be capital or, perhaps, total loans. The goal would be to measure CRA performance as a factor of whatever base is ultimately selected.

Part of the appeal of this approach, to Otting, is to get back to the point of CRA in the first place—“Are we getting money into those communities?”—rather than losing track of that goal amongst minutiae. He also believes this approach would provide an ongoing measure of how well a bank is meeting CRA obligations. Now, CRA exams can take some time, especially for larger institutions, and the bank’s rating may not be known for months while the exam report is being written and approved within the examining agency.

Otting says he’s been in preliminary discussions with community groups, political leaders, bankers, and OCC staff.

“People kind of jump out of their chairs and give me the high five when I talk about where I’d like to take CRA,” he says.

“I think we can make this simple and do more in the inner cities of America.”

Expand CRA asset classes

Otting believes a f law of how CRA has evolved is its strong emphasis on lowto-moderate income mortgage lending and lending for low-to-moderate income multifamily housing. He thinks more types of activities should count toward meeting CRA’s intention. For example, he says, small business lending in lowto-moderate income areas should count.

Likewise, he believes that building community centers that can be used in inner cities to provide job training, financial literacy, and related skills also should count. In addition, he thinks more donations that support the community should be counted; this category has narrowed substantially over the years.

Beyond this, Otting thinks student loans should qualif y for CR A credit.

“You’re taking a person from an underprivileged area of the community and you’re helping them reach outside that community to gain skills and be successful people,” he explains.

“I think banks will do more in those communities if we give them guidance on what will qualify, and we broaden the categories of available investments,” says Otting. Outside of cities, in suburbia and rural areas, other community-oriented lending and investments also may qualify.

“I’m open to people putting forth ideas,” says Otting. “Let’s open our minds about what can be done to improve the world.

I’d like to have people talk to us about asset classes that should be included, and not look so narrowly, as has happened historically.” One suggestion that he’s heard is supporting infrastructure that brings broadband service to rural users.

Another facet of Otting’s view of how CR A regulation ought to be revamped entails a focus on results, rather than details. “If I told you to go to the Capitol and you did, and then I asked you, ‘How many steps did it take you to get there?’

You’d say, ‘I didn’t think of measuring that.’” He continues, “Let’s go right to the end and figure out the most effective way to accomplish the goal.”

Yet a not her cha nge t hat t he new Comptroller would make to CRA regulation is the concept of the assessment area. “I think assessment areas are a little archaic, frankly,” says Otting. “If banks are operating in a particular state, they should be making investments in that state. But the old days of drawing a circle

People give me high fives when I talk about where I’d like to take CRA. We can make this simple and do more for inner cities around one county and saying that’s your assessment area and the only place you can make qualified CRA investments, I think that time has come to an end.”

Much of what will be proposed is anticipated to take place in the regulatory, rather than legislative, arena. The original CR A law is brief and most of what

grew up around it is in the form of rules, exam procedures, and official Q&As.

Key focus: Credit quality

Former Comptroller Tom Curry brought a career of state-level bank regulatory experience to the job. Otting brings a career of being a regulated banker to it. He sees being regulated as an industry advantage, and one that he believes no banker wishes to give up. This sets the tone for his thinking on the regulator’s role.

“Our core responsibility is the safety and soundness of the banking system,” says Otting. “I’m a big believer that credit quality is number one, and that the only thing that can truly destroy a bank, generally, is poor credit quality. You can rebound back from a lot of things, but not deterioration beyond your capital levels.”

Even compliance and regulatory management can be seen as a facet of safety and soundness, Otting believes. And he’s established that cybersecurity will be a key focus. While historically there have been banks with reputation issues that took them down—he cites Riggs Bank’s debacle in the mid-2000s—ty pically credit deterioration is the key factor.

Is the bank regulator’s role in credit March 2018

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/ COVER STORY: NEW COMPTROLLER / Otting’s book of banking stars

A

s a banker, Joseph Otting liked going to conferences.

Par t of this was to hear about other bankers’ strategies and ideas. But another part was talent spotting. “People used to kid me about this book I kept, from the very first time I became a manager, of all the people I met in my career that I thought I would someday want to work for me,” he says.

“So when I had job opportunities, I’d think: Who was a really good leader? Who was a great accountant? Who was a great f inance person? I hired a lot of those people at OneWest Bank.”

Otting’s book today bulges with about 500 people he’s liked over the years. He would add people w h e n t h e y l o o ke d p r o m i s i n g .

Sometimes what he had to offer wasn’t a big enough promotion or they didn’t want to move. “But when a person is really good at what they do, I don’t want to lose track of them,” he says.

When Otting felt he had a really good match of person and post, he could be persistent. When Otting worked at Union Bank, “Carl” ran the derivatives function, and Otting thought if he ever needed a derivatives expert, he’d want Carl. When he came to OneWes t Bank, he needed a derivatives head, but he couldn’t find Carl. So in 2013, he hired a private investigation firm.

The firm found Carl living in Canada. Carl thought he was in trouble until he realized it was an entrée to a job offer. Eventually, he became the bank’s derivatives chief.

Otting still has the book, but so far he’s not used it at OCC. Many posts would require uprooting families to move to Washington. Also, some skill sets don’t neatly translate from industry to regulator, he says. And then, there’s money. “A private enterprise job would generally pay significantly more,” he says.

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quality a leading one or a lagging one?

“It’s a little bit of both,” Otting says, “because while you are following behind an existing book of business, you are also trying to be in front of things, looking at the bank’s new underwritings.”

Look further ahead Credit is not a static matter. “You’re constantly looking at portfolio metrics,” Otting elaborates. “What is the risk rating of the portfolio? Is it deteriorating?

How is the portfolio migrating? What is the aggregate risk within the portfolio?

Everything may be stable, but if threequarters of a bank’s portfolio was highly leveraged, that would make me a little nervous about the institution.”

All this said, Otting wants his examiners to be able to get further ahead. “I want our people to be out there thinking about future risk—the risks coming down the pipeline—as opposed to what’s on the current book of business,” he explains.

To facilitate this, Otting favors more standardization of data and the way that data is delivered to OCC, “to allow us to be able to see trend lines.” He says such elements will be part of discussions at a senior OCC staff off-site meeting in April, when the leaders consider how examinations should evolve. (Otting has already indicated that a level of authority that used to be given to examiners in charge in the field will be reinstated, restoring more field-headquarters balance.)

Is there a role for artificial intelligence in compliance? Otting says he notices AI becoming part of AML/BSA compliance and can see why. “But it’s very difficult to audit against artificial intelligence.”

Traditional rules-based systems can be adjusted, but a human is turning the knobs. With AI, the technology is constantly readjusting and recalibrating, points out Otting, and this makes thirdparty review more challenging.

Credit cycle and CECL Dur ing a press meeting in Ja nua r y concerning OCC ’s t w ice-a-year r isk assessment, credit conditions generally received favorable comments, but bankers were warned against “complacency”—the agency’s word—multiple times.

“I think bankers are much better at risk management than we’ve really ever been,” says Otting. “They have more tools for seeing and monitoring risk. So what we’re trying to do is remind them.” So

long as banks maintain current risk levels and don’t become overambitious in their underwriting, he says, “I think the industry can hold this position.” He believes the slow start of this cycle’s recovery phase, followed by steady growth, and then a bit of a “turbo charge” on the back end of the recovery, may enable favorable conditions to continue for a couple of years.

Bankers always have their eyes on the economy, but making a feel for the future more important is the coming implementation of the Financial Accounting S t a nd a rd s Boa rd’s CE CL — C u r rent Expected Credit Loss model. This will require establishment of loss reserves based on long-term projections, in brief.

“There’s good analytical data available both externally and internally for people to make those estimates,” says Otting, which will have to be “life of loan” projections. Conservative and liberal credit expectations will have to be balanced, notes Otting. “You can’t just use the best of times to make a prediction of what your loss will be,” says the Comptroller.

Innovation and the fintech charter

During his December press meeting, Otting made remarks that some reporters took as a clear endorsement of the fintech charter concept developed during Comptroller Curry’s time. Banking Exchange had taken what was said differently, more along the lines of “Interesting, but let’s see a little bit more of what’s involved here.” Asked about this, Otting’s says: “I think your assessment is accurate.”

Since that meeting, Otting says he and relevant staffers have had several “deep dives” on f intech charters, and these talks continue.

The f intech charter may seem simple in concept, but Otting says there are many implications for it within and outside of OCC—both positive and negative.

Some of the questions Otting has: How do you examine and monitor a fintech given a charter to perform a particular function? How would it be funded? What would be the funding requirements?

One of the attractions of a national charter is preemption of certain statelevel rules and state-level licensing.

Concern over that, in part, drove lawsuits by the Conference of State Bank Supervisors and New York State’s Department of Financial Services. (The New York case was dismissed last December as

not being “ripe” as the charter remains a work in progress, not a finished product.

The CSBS case remains pending.)

“Everybody views preemption as the Holy Grail in that space,” says Otting. “But often they don’t understand what comes with the Holy Grail—requirements for capital, liquidity, compliance, CRA, etc.”

Otting adds that he thinks Curry did a good job starting the conversation about this new concept. “I would hope in the next 90 days,” he says, speaking in early February, “that I can reach a position about my support or nonsupport for a move forward with a fintech charter.”

Banks should be marketplace lenders

Hav ing addressed the f intech charter question thus far, Otting makes two points about innovation.

First, he says banks are no strangers to technological innovation. It’s been going on for decades, stretching back to the introduction by banks of the first ATMs. Otting believes regulators should encourage innovation, making sure it falls within industry rules and regulations.

What if something looked appealing but fell outside the regs? “You’d have to ask yourself if it is plausible to change those rules and regulations,” says Otting.

“I’m a supporter of innovation,” he says.

“I think innovation is what drives success.”

As a second point, Otting suggests st epping ba ck a nd look ing at what makes fintech hot. As an example, he points to marketplace lending to consumers. “Why are fintechs interested in that space? Because, for the most part, banks left that space—small-ticket consumer lending,” he explains. “If you have a big market that’s unfulfilled, someone is going to step in and serve that market.”

Otting would like to see banks step up to fill the consumer need for small loans, again with their own fintech-style consumer credit services.

“I think there was a position previously that OCC did not really want banks to be in that space,” says Otting. “But I think banks should be in that space. I think banks will do it cheapest, safest, the most regulated, and fairest.”

On being a “Trump regulator”

Decades ago, most bank examinations tended to be consultative, not adversarial. Exams by the Comptroller’s Office

especially had a reputation for being so.

Through a series of crises, the regulator-banker relationship often became more “scratchy.”

Otting thinks much of this has faded, and that relations have improved between OCC and national banks. “Cycles have a tendency to draw regulators and bankers together and then to push them further

I want our people to be out there thinking about future risk as opposed to what’s on the current book of business apart,” he says. His recent experience as a banker has generally been one where exams were a “value-added” experience.

In his early days at the agency, Otting has spent some time reaching out to national bank leaders. “A common theme I heard from the CEOs was: ‘It’s perhaps been a tough couple of years of working on our compliance and our BSA, but I

want you to know that your people were always highly respectful and brought a tremendous amount of value when we sat down and had dialog.’”

Rougher times require tougher regulation, Otting says. He points to periods like the Great Recession. “Regulators have to stiffen their spines and step in, and often be tough with the management teams and set the expectations,” he explains.

(Otting does have views on how regulators handle enforcement, based on personal experience when OneWest Bank was caught up in the robosigning controversy. This was treated within our online coverage, “A banker takes OCC’s helm.”

Visit: https://tinyurl.com/OttingOCC) Harking back to earlier comments, saving federal money is a theme heard a great deal out of Washington in the last year, from Trump appointees and the President himself. This prompts the question, is there such a thing as a “Trump regulator”?

“If there is ‘Trumpism,’ I think that it’s people who believe in America and capita lism and that people ta k ing r isk s should be rewarded with success,” says Otting. “I have always been a believer in job grow th, creating jobs for people.

When you do that, many positive things happen to them.”

March 2018

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Community Banking: Rethinking the future

By Steve Cocheo, executive editor, and Bill Streeter, editor & publisher

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Not panic, but resolve and some frustration. “Now is the time”

R

ecently, Luanne Cundiff took a call from a small business owner who asked, “Can your bank set me up for same-day ACH service?”

“I thought, ‘Wow, he knows what that means,’” says Cundiff, who is president and CEO of $374.3 million-assets First State Bank of St. Charles, Mo. “And he was not a 20-year-old customer.”

The conversation demonstrated for Cundiff yet again that customers want faster payments and faster, more convenient banking.

“We’re def initely in a period of transformation,” she says. “ I ’m v e r y c onc e r ne d a b ou t being able to offer them these new options,” says Cundiff. Like many community banks, First State is dependent on how quickly its primar y technolog y prov ider can bring it new backshop and customer-facing technologies.

“I recently told our board that now is our time to accelerate our customer innovation,” says Cundiff.

Shutterstock/ Peshkova

Less talk about regulation

This is a small taste of what was learned by speaking to more than a dozen community bankers and others around the United States.

The level of urgency among them varies with competition and other market factors.

“There’s not a general panic,” says Jim McAlpin, leader of the f i na ncia l ser v ic e s pra c t ic e at Bryan Cave. “I do think that there is a pervasive awareness that the industry is changing, and a growing understanding of what that change needs to be.”

Understanding, but also some frustration.

Laurie Stewart, president and CEO at $644. 5 million-a sset s Sound Community Bank, Seattle, Wash., says community banks spend t o o much t i me t a l k i ng

about regulation. More talk has to be about the future. “We need to reinvent ourselves, or we are going to be left behind,” explains Stewart. “We don’t talk about this enough. We are quick to talk about regulation, but we seem skeptical of innovation.”

Frustration, innovation, and regulation all mingle for Por tland, Ore., banker Trey Maust. He feels regulators don’t necessarily want to see banks becoming more innovative. For instance, he says, a standard strategy of innovative organizations is trying new things in bite-sized chunks: You try, you learn, and you try some more.

However, Maust, executive vicechairman at $183 million-assets Lewis & Clark Bank, says regulators don’t like banks that stand out by trying new things, the “tall blades of grass.”

“I feel like we should have a little bit of leeway,” says Maust.

Some form of “sandbox” reg ulation would help, he says. “You could put a fence around it.” It’s a concept already in use in other countries, but so far resisted by U.S. regulators.

Unfortunately, Maust believes, “you don’t get rewarded for giving banks latitude in the regulatory agencies. They don’t like outliers.”

“No more excuses” Much about innovation concerns technology, but attitude toward the need for change varies all over the lot. Frankly, there is a wide distance between the world that

INSIDE THIS REPORT • One bank’s far-flung talent hunt, p. 22 • Asset-size relevance, p. 24 • Tech’s ever-growing impact, p. 25

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/ COMMUNITY BANKING’S FUTURE /

Centric Bank’s Patti Husic: “We have to earn the right to be independent.” fintech gurus portray at conferences and what many community bankers experience back home. At the other end of the spectrum from Cundiff and Stewart is a midwestern bank that Bryan Cave’s

McAlpin visited for a strategic planning session last summer. The bank has been doing quite well in a little pocket, he says, but adds that “I felt like I was describing the internet to them” for the first time.

To them, the exploding world of personal technology, Amazon Prime, and Google Everything almost seemed like something from another planet.

Yet talk to Joshua Siegel, a longtime investor in community banking, and you hear a stern warning: Get “smart” or you’re dead. “ Sm a r t ” a s i n sm a r t phone s. Sie gel, chairman and CEO of StoneCastle Financial Corp. and managing partner, chairman, and CEO, StoneCastle Partners, LLC, thinks that community banks can no longer plead an inability to compete on technology. “The herd is thinning,” he says.

Tools are available that can give community banks the speed to market, and agility enjoyed by fintechs, he says. Vendors of middleware (Q2, nCino, D3 are some) can enable a bank to match the competition without having to figure out how to make systems communicate.

Now, board members can’t sit around the table wondering what an API is, Siegel insists. Banks must add directors who understand the importance of such technologies or hire a chief technology officer who can keep the bank at parity with other players.

“If you can’t get to that level today, you are going extinct—you just are,” says Siegel. Community banks stress service.

“But customer service today isn’t necessarily walking into four walls and a roof—it’s your phone,” he says.

“To the next generation,” says Siegel, a mobile phone isn’t a phone. “It’s a grocery store, a GPS, a camera, and more.

And it’s a bank branch. Don’t you want to be able to interact with your customers every way you possibly can?” Siegel asks.

“The fact is, the smart phone is a bank branch that the customer pays for.”

Does physical presence matter?

Inclined to ag ree about the import a nc e of ex pa nd i ng on how mobi le devices connect bankers and customers is Chris Nichols, chief strategy officer

Talent search: Is it time for new hunting grounds?

B

oston’s $1.1 billion-assets Radius Bank represents the far end of the range of institutions that can be classified as community banks. Not by size, but by nature.

Radius’ roots were in a trade unionowned bank that fell into difficulty and was taken over by an investor group.

While the Massachusetts bank’s headquarters are in Boston and it maintains a small branch on the building’s first floor, Radius represents a hybrid. Its funds gathering occurs mostly online, and it engages in a variety of consumer and commercial credit specialties that are national in scope.

While the bank does play a part in its physical community, in many ways Radius serves a digital community.

And this has driven a different, almost eclectic, talent search.

For example, about a year ago, the bank hired a chief data officer, Dr. Chip

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Clarke, formerly of KeyCorp, to head an expanded data-driven effort that encompasses Radius’ data and modeling approaches to fraud, credit, and marketing. With little or no physical contact with customers, data is how Radius understands its clientele and its prospects. “The models that we build around our data will be among the most valuable parts of this organization,” says Michael Butler, president and CEO. As head of a digital bank, Butler says he wakes up every morning thinking about Amazon. “Customers today expect that we know them and will treat them in the right way,” he says.

This ongoing awareness informs the bank’s philosophy on recruitment. “We are expanding the net that we cast for recruiting,” explains Chris Tremont, executive vice-president for virtual banking at Radius.

As a result, in addition to bankers, Radius has hired people from TripAdvisor, the online travel site, for a data analytics position; Destination XL, a big and tall menswear firm, for a post in customer experience; and for a customer service supervisor job, someone who had worked in quality control for Wayfair, an online home furniture and décor store.

“The vibe a company gives off is important for attracting the talent that we have today,” maintains Butler. Elements of the Radius vibe, he points out , include f lexible hour s; a “do well, get paid well” philosophy; and a relaxed dress code, “where you don’t see a bunch of suits.” Butler adds that Radius doesn’t track vacation time.

You take a break when you need one.

He confides that as it is, executives are rarely fully away from their jobs wherever they go.

at $7 billion-assets CenterState Bank, N.A., in Florida.

“Moving forward, a physical presence will be less important,” says Nichols. “Our feeling is that a banker is more important than a physical presence, and what customers want to know is that their banker has their back. As technology expands, greater mobile functionality, the ability to better utilize data, and innovative ways to interact w ith your personal bankers will reduce the need to come into a branch.”

Maybe so, but few other subjects in banking engender such a wide range of viewpoints—and strategies—as banks’ physical locations.

For James Beckwith, it’s clear that today’s community bankers must be able to operate in both worlds: face-to-face personal contact and dig ital convenience. Never theless, the president and CEO at $972.8 million-assets Five Star Bank, Rocklin, Calif., near Sacramento, points out that Physical presence remains important, even though 68% of transactions are no longer face-to-face.

“We sell relationships, and you still need a place to meet with customers,” he says. “When you meet them elsewhere, people will ask, ‘Where’s your office?’

You also need a place for employees to work. We want them to be together. It works better that way.”

Indeed, two bankers we interviewed say that their institutions are adding new branches.

Patricia Husic, president and CEO of Centric Bank, a $554.8 million-assets bank based in Harrisburg, Pa., says that transaction volume in the bank’s four branches has been growing 20%30% over the pa st t wo years. Husic plans to open a new branch in 2018 and another in 2019 as the bank continues to expand.

In Texas, $1.1 billion-assets FirstCapital Bank of Texas, N.A., Midland, is a poster child for branches. Although the bank has closed some branches and has a growing network of video-enabled interactive teller machines, it also has opened branches in two new markets and added one in Lubbock, Tex., where it now has three locations.

Many customers still want to meet with a personal banker face-to-face, says Jay Isaacs, president. “If you are going to open in new cities, you are going to have to open brick and mortar facilities,” he

Which statement best characterizes your institution’s readiness for future conditions of banking?

80%

66%

60% 40% 20%

21%

13%

0% What we’re doing now is well suited for the future

We will need new strategies, lines of business, and methods to compete effectively A significant transformation of our business model will be required The Future Forces in Banking 2018 survey found 79% of 270 community bank leaders felt they needed to significantly change their institution in some way to better compete going forward. Read more at tinyurl.com/NeedToChange says. Branches demonstrate commitment to a market.

As with many aspects of community banking, however, much depends on the market or markets the bank operates in.

In rural eastern Ohio, at $227.7 mill ion-a s se t s F i r s t Nat iona l Ba n k of Dennison, Chairman and CEO Blair Hillyer says traffic has fallen drastically in the bank’s five branches. This is partly due to the impact of digital and partly to an aging population base in some of his markets. He says the bank is talking about closing one branch.

Hillyer says his core provider enables the bank to meet the needs of customers who want to bank digitally. “But one of the worries I have is that if you drive people away from the physical presence in the branch, unless you’re really tied to them somehow, the big banks’ tech and service is fine for them. And the big guys have the big marketing budgets.”

In western Maryland, First United Bank & Trust, Oakland, has been transforming the look and feel of its offices.

For Ca r issa Rodeheaver, cha ir ma n, CEO, and president, the mission of the $1.3 billion-assets bank is to be the customers’ “trusted advisor.”

“I don’t want banking to be a transaction,” she explains. “I want it to be an

experience.” The bank consolidated two branches, and is changing the others into places more suited to advisory roles.

Inside bankers’ heads More than ever, there is no “ty pical” community bank, really. One common denominator, as demonstrated by many of the comments above: Bankers all realize change is upon the industry.

Indeed, when asked what community banks’ greatest competitive threat is, David Schaefer, chairman and CEO of $150 million-assets Oklahoma State Bank, answers: “Ourselves.”

“Community bankers often react to the actions of their competitors or the rules coming from the regulators or the laws coming from Congress instead of looking at their own strategic plan, their vision, and their mission,” says Schaefer. “While we must follow the law, we sometimes get bogged down in being overly compliant.”

He adds that while bankers should be mindful of their competition, they should not simply follow their competitors’ lead “because we don’t know what their management team is discussing or what their goals are. We might perceive them to be smart or really stupid, but that opinion is just based on outward appearances.”

Report continues on following page March 2018

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/ COMMUNITY BANKING’S FUTURE / How important is it to grow asset size to a particular threshold in order to compete more effectively?

5% Not important 10% Somewhat unimportant 47% 37% 0%

10%

20%

30%

Somewhat important

Critically important 40%

50%

60%

70%

80%

90%

100%

More than 8 out of 10 community bankers think growing asset size is important (from Future Forces in Banking 2018). Almost none interviewed, however, believe there is a “magic size number.” More at tinyurl.com/NeedToChange

Consolidation & Growth: Does asset size matter?

H

ow big should a community ba n k be t od ay? W i l l e ver y community bank in some way participate in the industry’s gradual consolidation?

There’s no r ig ht a n s wer t o t hose questions. And strategic planning notwithstanding, not every community bank will have a choice.

Regarding asset size, Patricia Husic, president and CEO of Centric Bank, a $554.8 million-assets bank based in Harrisburg, Pa., believes the more important component is ability.

“You have to deliver on your goals to earn the right to be independent,” explains Husic. Under her leadership, Centric has concentrated on organic grow th, though it would consider an acquisition if the target aligned with Centric’s strategy, culture, and financial performance philosophy. “ G r o w t h i s i m p o r t a n t ,” m a i n tains Husic, “but it must be profitable growth—not just growth for the sake of growth.” She hears of community banks that buy market share via pricing and claim they will “make it up in volume.”

She shakes her head, wondering just how you do that.

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Consider the source

The question of reaching some “ideal” size for a community bank has currency in some circles, but others have doubts.

“My standard advice is to stop listening to the guys who are saying that your bank has to be a certain size to survive,” explains Jeff Gerrish, chairman of the board of Gerrish Smith Tuck Consultants, LLC, and a member of the Memphis, Tenn.-based law firm of Gerrish Smith Tuck, PC, Attorneys. Typically, he points out, they are dealmakers who profit by M&A. “I don’t get that hung up by size,” says Jim McAlpin, leader of the financial services practice at Bryan Cave. “You need to be at the asset size and customer mix that allows your bank to be profitable at your particular geography.”

Independence or seek ing to be acquired is not necessarily a voluntary choice. One midwestern banker interviewed has a bank that’s chugging along in a community where there isn’t much growth to be had. This banker has no family member interested in stepping in as he retires, so he found a buyer. He felt it was the best way to leave his long-time employees with decent careers.

What options are really open?

That midwestern banker was for tunate to find that avenue open. Gerrish points out that some banks have little choice but to remain independent. The smallest bank s may have to remain independent because there is no compelling reason that a buyer would fancy them. “They are making enough money” to stay in business, he explains, “but no one will buy them.”

For some, selling their charter, giving new owners an opportunity to buy a going concern and move the headquarters to a more promising market, may work, but such deals hinge on many factors. Gerrish says banks not willing or able to sell need to have management succession plans in place to ensure that what they have remains viable.

Blair Hillyer, chairman and CEO of $227.7 million-assets First National Bank of Dennison, Ohio, says regulatory fatigue and leadership that is aging out are causing some bank owners to consider selling. Such frustrations get a banker thinking, and, Hillyer says, “They’re paying two times book again.”

McAlpin estimates that of the 5,000odd ba nk s rema ining, about 2,000 have no plans to sell, and the remainder have varying degrees of willingness to sell. However, even some banks that were grown specifically to be sold someday find buyers difficult to line up, says McAlpin. They just don’t have the niche or the market that makes them attractive, and just adding on assets may not fit the potential acquirer’s taste. “Those banks are kind of stuck,” he says.

Seeking the magic Others seek to build size for greater efficiency, in part because of the increasing costs of compliance.

At $150 million-assets Ok lahoma State Bank, Chairman and CEO David Schaefer says that he thinks there is a minimum asset size that makes sense for community banks. “You want to be able to serve customers with revenues over a certain size or with a loan request of a certain size,” he explains. “So you must have the capital and team depth to do so. In our case, we can do so much more than we could do just three years ago when we were $90 billion. We’d love to have the capital, funding, and team to

grow to $250 million in the next three to five years. Given the costs associated with complying with regulations and our competitive markets, we have to have some greater economies of scale.”

“I feel that if we were able to get closer to $300 million, we would definitely see some economies of scale that would help,” says Hillyer. However, he adds that ‘I’ve seen many banks that merged to grow larger—to $1 billion or whatever their ideal number was—and most of them are long gone now because the merger of equals didn’t work.”

Five Star Bank, Rocklin, Calif., opened in 1999 at about $13 million in assets and is now closing in on $1 billion. President and CEO James Beckwith says he feels that is a good size. The bank’s size scales well, he believes, but the bank remains small enough to still have meaningful personal relationships with customers.

Size matters, he says, but for a community bank, that personal connection is critical to success.

Ownership is a factor, too, according to Josh Rowland, CEO and vice-chairman at $212.6 million-assets Lead Bank, Kansas City, Mo. His organization is

family ow ned, and he wants to keep it that way because he believes that local ow nership matters to customers. However, he also sees the need to grow towards $1 billion in assets for efficiency and the ability to deliver services customers need. How to get there?

“Everything is on the table,” says Rowland. Organic growth and acquisitions can both help build the bank.

Launching an acquisition war chest

At $1.1 billion-assets FirstCapital Bank of Texas, N.A., Midland, the bank has been dramatically g row ing its footprint chief ly via de novo branching, and its balance sheet via organic grow th.

But this will change, according to Jay Isaacs, president.

Isaacs says FirstCapital is making a strategic shift. Recognizing that there are forces pushing toward consolidation, the bank has decided to make acquisitions. It recently raised $45 million in private equity as a war chest for making such deals. Isaacs believes that finding targets with the right cultural and geographical fit will build a larger, more

Community banks’ biggest threat?

“Us,” says OSB’s David Schaefer.

efficient bank. He explains that simply crossing the $1 billion line cost the bank $200,000 more in compliance expenses.

He maintains that growing the bank to $1.5 billion-$2 billion would be a good place for FirstCapital.

Tech is ever-widening domain for community banks

“I

f it works, don’t fix it” is a luxury community bankers can no longer afford. Now, not only fixing it, but adding to it and hooking into other providers’ tech grows increasingly critical. “Anybody who doesn’t believe that is kidding themselves,” says James Beckwith, president and CEO at $972.8 million-assets Five Star Bank in Rocklin, Calif. The attractiveness of tech-based marketplace lending, for example, is only going to increase, he says. Also, payments innovations, going on inside and outside banking, can’t be ignored by consumer or business bankers.

Community bankers frequently complain that they are at the mercy of their core tech providers. They can advance only when these vendors say so.

The good news: Community bankers have been taking steps to counter such competitive challenges on the tech side.

At $835 million-assets Bank Mid-

west, Spirit Lake, Iowa, Mary Kay Bates, president and CEO, says her institution saw the advances being made in P2P payments and more.

It became frustrated with its major core provider’s speed to market and decided to switch. Its new core vendor provides open architecture (or “open API” for application programming interface), allowing Bank Midwest to choose third-party services, which will enable it to offer the delivery options customers want on a timely basis. She says demand goes far beyond millennials: “People are busy. They don’t want to go to a bank unless they choose to.”

At $212.6 million-assets Lead Bank, Kansas City, Mo., CEO and Vice-Chairman Josh Rowland has been taking two major steps to increase tech agility. He says that to think of fintech as a distraction means fobbing off “societal change that we ignore at our peril.”

The first step: working with a vendor, INV Fintech, an incubator and accelerator that has a connection with Fiserv.

“We know that we can’t wait around for a big bank to ask Fiserv for what they want,” says Rowland. INV Fintech develops applications meeting current customer demand that work with the bank’s Fiserv platform.

The second step, still in development: partnering with Hyphen Funding to produce Lead Bank’s own answer to marketplace lending. Rowland hopes to use this capability to counter the threat of Kabbage and others.

Beckwith, also believing that marketplace lending must be taken seriously, has begun working with SmartBiz, a fintech that works with banks to set up such lending, rather than competing with banks. He believes that it is only a matter of time before marketplace players enter CRE lending.

March 2018

BANKING EXCHANGE

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/ BANK TECH /

Fintech options

Partnering may be in fashion, but sometimes building or buying work best By Joe Ganzelli and Sam Kilmer, Cornerstone Advisors What critical considerations must banks factor into exploring fintech partnerships? The sidebar on the opposite page outlines factors common to all new tech implementations. Below are others, using a business-lending example at a mid-sized banking company.

I

t’s hard to walk the hallways of banking these days without hearing the buzz about exploring partnerships with fintechs.

“Fintech” covers many things, but is often used to refer to nonbank f irms that leverage cutting-edge technology to deliver financial services directly to consumers and businesses. In that sense, banks initially viewed fintechs as competition, as they compete for lending, personal finance, payments, and other consumer services.

But that view has evolved, as banks increasingly realize that the pace of technolog ica l change and customer expectations demands the advanced capabilities of fintechs, while fintechs need established bank customer bases.

I n a dd it ion , t her e a r e s ome f i n tech companies—Mirador being one e x a mpl e —t h a t w o r k o n l y t h r o u g h f inancial institutions.

So the ba nk-f intech la ndsc ape is an interesting one that has all parties exploring build-buy-partner options and morphing the separation between what is a fintech and what is a vendor.

26

BANKING EXCHANGE

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Build, buy, or partner?

When it comes to organically creating needed customer functionality, banks can build capabilities themselves, buy tools from a vendor, or partner with a fintech. As with BBVA’s acquisition of Simple in 2014, there is also the option of acquiring a fintech that has built or acquired such capability.

Even partnering has permutations.

Chase’s partnership with OnDeck, for instance, involves an investment in OnDeck and use of OnDeck’s tools to acquire loans, but with the retention of loans as Chase assets.

Beyond such higher prof ile f intech situations, the build-buy-partner framework of choices is one all tech companies face. And that is the point of the situation: All companies are increasingly tech companies—including banks.

As the industry automates and shifts toward self-service delivery as the primary access point in the delivery mix of banking that includes technology, people, and facilities, only technology is increasing in the mix. That goes for both banks and fintechs.

A mid-sized bank in the $10 billionto $30 billion-assets range needed to automate its commercial origination processes and wanted to offer borrowers and third parties (CPAs, attorneys, appraisal firms) a way to interact with the bank via a digital web portal to submit loan applications and upload due diligence items.

This was less of an issue for larger commercial clients serviced by relationship officers, but more for small businesses that want to do business with their local bank, but not be subjected to lengthy, extensive due diligence processes typical of larger commercial loans. It’s not an accident that small businesses prefer to deal with local institutions that take time to know and understand them, but those same small businesses don’t want to sacrifice speed, ease, or efficiency.

When building a front-end business loan application and third-party processing portal, performance, cost, and risk considerations must be examined as well.

But many banks quickly realize they don’t have the appetite for this development.

In this bank’s web portal example, an analysis of the needed development effort revealed the bank did not have the resources in house to develop and maintain this portal, and the costs and ramp-up risks associated with building the needed infrastructure, or to subcontract it, would exceed that of other options for obtaining the needed digital presence.

Buying the functionality would come with the broader commercial loan origination and portfolio management system functionality that the bank needed. Vendor performance, client references, system availability (especially for application service provider or cloud-based systems) can be documented and analyzed.

Shutterstock/Peshkova

One bank’s experience

Vendors must provide detailed costs, including license fees, per-user costs, and implementation, integration, support, maintenance, and test environment costs, for the life of the contract. Risk assessment is typically performed by a bank’s procurement/contract unit, with well-def ined processes to review the vendor’s finances, contract performance record, trade payments, and the like.

In this bank’s case, most of the origination vendors under evaluation offered the needed web portal, but related addon module, maintenance, and variable volume pricing prompted it to consider a fintech partnership. Partnering with a fintech entails the same performance, cost, and risk considerations, but there are three critical differentiators: 1. What’s the problem to be solved?

Sounds like common sense, but a fintech partnership should necessitate an extensive evaluation of the underlying need, such as filling in product or service gaps, or, in this bank example, offering borrowers a digital channel for applying and getting to closing quicker on a commercial loan as their primary competitors offered. Clear objectives help the bank and fintech determine if the match is on solid ground from the start.

A fintech partnership should offer the bank an upside—quantitative and qualitative—that simply isn’t available at more favorable cost, risk, and performance measures under the build or buy options.

2. What’s the difference between buying vs. partnering with a fintech? Is it a shared risk and shared reward? Does the reward justify the risk? Or is it just the innovation culture of the third party?

The definition is critical as the process of evaluating a fintech’s performance, costs, and risks entails unique considerations from a typical vendor evaluation.

Many partnerships are really just vendor relationships. That’s okay. In many cases, banks with extremely low risk appetites prefer the typically lower risk of a vendor relationship. One fintech exec noted how impossible it is to run many banks’ risk gauntlets because they don’t understand what they are getting into.

A bank’s procurement/contract function often isn’t equipped to evaluate fintechs, which often have huge R&D expenditures that enable them to devise cutting-edge technologies, and likely won’t pass standard vendor evaluation criteria. Instead, a potential fintech partnership requires Legal and Finance to play critical roles in the evaluation, as a shared risk/reward dynamic needs to be understood and quantified.

Lastly, the board should be involved in any significant partnership decisions, as many entail unique risks or potential impacts to the bank’s strategic vision.

3. I s t he at t rac tion to a f intech largely due to its ability to invest and move quickly with innovations and not really a desire to share risk/reward?

That’s important to know because there are different types of vendors that could fit the bill within a bank’s risk appetite.

While there are some mature vendors driven by near-term profitability who don’t move as quickly with new capabilities, there are other start-up vendors driven by revenue and client grow th who move more quick ly. Some even have banks as owners. In turn, the lines between what is a fintech or vendor and between build-buy-partner are blurred.

And the result?

The mid-sized bank’s analysis of a fintech partnership revealed that the incremental cost and risks weren’t warranted given that the needed functionality was included with the origination system that the bank was simultaneously evaluating and purchasing.

By vetting each option via a buildbu y - pa r t ner e v a lu at ion , i nc lud i ng performance, cost, and risk considerations, the bank gained tremendous knowledge for future use in evaluating a fintech partnership and the critical factors in making a partnership a success for both parties.

Joe Ganzelli Sr. is senior director at Cornerstone Advisors. He spent 15 years as a banker. Sam Kilmer is senior director at Cornerstone, and has worked at two mid-sized banks and two fintechs.

Consistent performance management approach

E

very build-buy-partner situation has critical performance, cost, and risk considerations to manage.

1. Performance must be monitored by line - of- business executives to ensure the bank is getting the benefits projected from the system. Banks must commit to operationalizing all the features that won the execs over.

2. Cost variables require continual

monitoring. Volumes or other pricing parameters may change during contract terms and impact the original justification. Bank CFO’s should not wait until contract renewal to evaluate original expenditure decisions, as the cost-benefit relationship will change.

3. Risk factors are critical. They include tracking vendor or partner performance and assigning risk ratings.

The complexity of the vendor-partner ser vices and risks dictate periodic reviews, ideally by a risk officer. Vendor management systems can provide tools. Fintech partnerships often can be more complex to assess.

Finally, it is best that the assessors of these three factors be different executives. Not only due to expertise, but as a healthy check and balance.

March 2018

BANKING EXCHANGE

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/ compliance watch /

HOW FAIR BANKING WILL FARE

T

he New Year rang in with new questions for the financial services industry. Many wonder if leadership changes at the federal banking agencies will change their focus.

What will happen to rulemaking initiatives, such as the new Home Mortgage Disclosure Act (HMDA) rule and small business data collection? Expect 2018 to provide some new twists and turns on the path to fair-lending compliance.

Leadership changes The leadership turnover will have the most signif icant impact on fair and responsible banking in 2018. Richard Cordray stepped down as director of the Consumer Financial Protection Bureau, and Mick Mulvaney was appointed acting director. Joseph Otting has been sworn in as Comptroller of the Currency.

Jerome Powell, a member of the Board of Governors, has replaced Janet Yellen as Federal Reserve chairman. Jelena 28

BANKING EXCHANGE

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McWilliams has been nominated to head FDIC. How will this turnover change agencies’ approach to supervision, regulation, and enforcement?

First, expect an increased focus on efficiency and easing of regulatory burden. For example, Mulvaney has already ordered a review of CFPB’s policies and priorities; implemented revisions to the payday lending rule; and announced a review of the new HMDA rule, including transactional and institutional coverage, and the collection of data points not mandated by law. Similarly, at the Fed, Powell has said he would consider appropriate ways to ease banks’ regulatory obligations while preserving key elements of 2010’s Dodd-Frank Act, such as stress tests and capital requirements. Comptroller Otting stated that he looks forward to reducing unnecessary rules. In a Senate hearing, McWilliams said she would focus FDIC’s work on easing regulatory requirements for community banks, and noted that

regulators should not shrink from their responsibilities to evaluate the impact of rules, including their costs.

CFPB’s new strategic plan, released in February, is a prime example of this. For 2018 through 2022, the bureau set three goals: ensure that all consumers have access to markets for financial products and services; implement and enforce the law consistently to ensure that markets for consumer f inancial products and services are fair, transparent, and competitive; and foster operational excellence through efficient and effective processes, governance, and security of resources and information.

A few changes are clear from comparing the 2018 strategy with the 2013 plan. First, the mission statement has changed. The 2013 plan: “The CFPB is a 21st century agency that helps consumer finance markets work by making rules more effective, by consistently and fairly enforcing those rules, and by empowering

Shutterstock/ Joseph Sohm

D.C. stance may shift, but fundamentals, state and private actions, and the law remain By Lynn Woosley and Brenda Baylor, Treliant

consumers to take more control over their economic lives.” By contrast, the 2018 mission statement comes directly from Dodd-Frank: “to regulate the offering and provision of consumer financial products or services under the federal consumer financial laws and to educate and empower consumers to make better informed financial decisions.”

Simila rly, the goa ls a nd suppor ting objectives have changed. Most are now tied directly to Dodd-Frank, such as ensuring consumer access to markets for financial goods and services, and consistently enforcing federal consumer financial law with respect to both banks and nonbanks. Other goals and objectives are focused on operational excellence, including cybersecurity, efficiency, and internal accountability.

Fair access still priority

Many observers expect consumer protection and fair access to credit to remain priorities, although the federal focus may shift from enforcement to more traditional supervision activity in many cases.

Comptroller Otting has emphasized the key role banks play in prov iding access to capital for economic growth and supported bank small-dollar lending, but he also has expressed concern over diminishing branch networks and the potential impact on access to banking by minorities and lower-income consumers. Although Mulvaney has criticized CFPB’s previous leaders for “pushing the envelope” on consumer protection enforcement, he has noted that he does not intend to shut down the bureau and plans to faithfully execute the law. Mulvaney also stated that the bureau will continue to pursue fair-lending enforcement and supervision cases, but that preenforcement analyses would be more quantitatively rigorous, with agency priorities driven by complaint data.

On the other hand, CFPB recently announced that the Office of Fair Lending and Equal Opportunity is moving f r om t he D i v i s ion of S up er v i s ion , Enforcement, and Fair Lending to the

Office of Equal Opportunity and Fairne ss. Fa ir-lend ing super v ision a nd enforcement responsibilities will remain w ith the div ision. In the future, the Office of Fair Lending and Equal Opportunity is expected to focus on advocacy, coordination, and education.

Changing federal activity would not mean the end of public fair-lending disputes. Numerous state attorneys general have said they will fight any attempt to weaken consumer protection and suggested their enforcement activity will increase if CFPB’s declines. In addition,

Numerous state attorneys general say their enforcement activity will increase if CFPB’s declines advocacy groups and the plaintiffs’ bar are likely to become more active if federal enforcement activities decline. The banking agencies’ examination staffs will continue to assess compliance with consumer protection laws, including the Equal Credit Opportunity Act and the Fair Housing Act. The U.S. Department of Housing and Urban Development will continue to play a role, especially through its complaint processes.

HMDA revisions Regardless of agency leadership, the new HMDA rule will have a significant impact on lenders and will give insight into what to expect from rulemaking on small business lending data collection. Even if CFPB delays enforcement activity based on data reporting under the rule, fair-lending examinations will begin to incorporate the additional data fields, resulting in increasing regulatory risk. HMDA data reported for 2018 will

contain many more of the key factors used in underwriting and pricing, which will allow regulators to model fair-lending risk much more precisely.

When the new data is released to the public in 2019, reputational and litigation risks will increase as advocacy groups, law firms, and the media analyze it. The richer data set will permit focus on pricing components, such as fees and lender credits that were previously available only to regulators. It will be much easier to compare an institution’s performance by originator, branch, and channel.

In preparation, lenders must incorporate the new data into their fair-lending monitoring and testing. As lenders collect the new data for HMDA-reportable loans, they should assess how changes in transactional coverage w ill affect their fair-lending and Community Reinvestment Act analy tics. For example, inclusion of home equity lines of credit may change the apparent lending distribution if HELOC clientele demographics differ from those of traditional mortgage borrowers. Lenders offering both closedend mortgage loans and HELOCs should use the expanded data to test for steering risk between the two product classes.

Additional questions include: • How are the new or modified HMDA fields likely to affect lenders’ existing fair-lending analytics or regulatory fairlending screening?

• How should institutions incorporate the new or disaggregated race, ethnicity, and gender fields into fair-lending monitoring and testing?

• How should lenders evaluate changes in their apparent fair-lending performance in light of the changes in institution and transaction coverage and data fields?

• How should changes to HMDA data collection and fair-lending analytics be risk-rated, prioritized, and incorporated into fair-lending risk assessments?

• How does the new monitoring impact reporting to management and the board?

Once the ex pa nded dat a is ava ilable , lender s t hen shou ld u se it t o enhance peer comparisons, marketing March 2018

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/ compliance watch /

Turnover at the top will bring more focus on efficiency and reg burden. Left to right: Jelena McWilliams nominated to head FDIC; Jerome Powell, new Fed chairman; Mick Mulvaney, CFPB acting director; and Joseph Otting, new Comptroller of the Currency. analyses, redlining analyses, and reverse redlining analyses.

Finally, what about HMDA data integrity? The increase in the number of fields magnifies the regulatory risk inherent in HMDA loan application register submissions. As a result, the effort required to collect and report accurate data also must increase. This is especially true for HELOC data and any other new/modified fields, which have not been subject to mandatory HMDA reporting and rigorous data quality testing in the past.

Fair-servicing scrutiny Expect the focus on loan servicing to continue. On the mortgage front, regulators will continue to expect servicers to maintain robust systems, enabling fair and timely evaluation of, and assistance to, distressed borrowers. Concerns highlighted by CFPB in 2017 may receive continued attention, including reasonable due diligence in getting borrowers to complete loss mitigation applications; avoiding overly broad waivers of rights clauses in loss mitigation programs; and ensuring that the mortgage periodic statements contain all the required data and disclosures.

The loan servicing focus that began with mortgages has already spread to student loans. In 2017, CFPB continued examination, reporting, and enforcement activity related to servicing student loans, especially private ones. Going forward, lenders should expect the fair-servicing principles established for mortgages and student loans to be applied more broadly.

In addition to mortgages and student loans, servicing issues highlighted by 30

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the CFPB in 2017 affected several other products, including: • Auto loans, including repossessions.

• Credit cards, including payment processing, collections, and error resolutions.

• Deposit accounts, including overdraft protection products, Regulation E error resolution, and the “freezing” of transaction accounts.

Financial institutions’ compliance monitoring and testing should include servicing, especially of significant and higher-risk products.

In addition, Mulvaney indicated that the bureau’s focus on debt collection will continue. One recent focus involves borrower communications during collections. CFPB identified several concerns, which include: • Communicating with unauthorized persons regarding debts.

• Contacting borrowers at inconvenient times or places.

• Misstating the effect of the debt payment s a nd t he debt set t lement s on borrower credit scores.

The bureau also noted instances of creditors attempting to collect from authorized users and making unauthorized ACH debits for accounts in collection. Lenders and debt collectors should evaluate their processes and controls, including call monitoring, to ensure that debt collection efforts are fair and appropriate. Further, lenders using third-party debt collectors should ensure that the outside provider adheres to the requirements for fair and responsible collection activities. Lenders are responsible for the actions that service providers take on their behalf.

Risk management technology

Especially for larger institutions and t ho se eng a g i ng i n f i nt e c h- en able d lending, changes in risk management technology will have a significant impact.

Big data brings big challenges from a fair-lending standpoint. As the number and complexity of credit and pricing models and segmentations increase, so does the need for more robust fairlending statistical analysis of the risk inherent in the development and use of such models.

Additiona lly, reg ulator y ex pec tations for statistical analysis appear to be increasing. As a result, banks should evaluate the quality of their fair-lending models; ensure appropriate validation of credit risk and pricing models that includes consideration of fair-lending concerns; and include fair-lending models within the coverage of their model risk management programs.

A lthough some things may change under the Trump administration, banks should expect a continued focus on robust compliance management systems, including fair lending, data integrity, regulatory reporting, loan servicing, and third-party oversight. Having a strong control framework will help manage risks in spite of shifting regulator y expectations and requirements. Institutions should examine their CMS for adequacy in light of their product mix, risk appetite, and the changing regulatory environment.

Rebecca (Lynn) Woosley, CRCM, is engagement director, and Brenda Baylor, CRCM, is a director with Treliant.

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/ idea Exchange /

EARMARKED DEPOSITS

Mutual sees success matching local deposits to local development loans By Bill Streeter, editor & publisher

M

Four-part program Some years ago, Amorello helped create a similar program at another Worcester bank. After that bank was acquired, she says, the program lay dormant for many years. Amorello joined UniBank in 2009.

With homeownership in Worcester on the decline again, she realized it was a good time to reintroduce such a program—this time at UniBank.

Invest Worcester has four components: 1. A premium-rate statement savings account available to individuals, businesses, nonprofits, and Worcester municipalities. As described on the bank’s website: “Money deposited into these accounts will be leveraged by UniBank to provide loans in Worcester to advance homeownership, community 32

BANKING EXCHANGE

March 2018

development, and small business development.” (The rate is 1.00% for balances of $10 to $250,000, and 1.00% to 0.84% for balances over $250,000.)

2. A $750 credit toward mortgage closing costs. This is available to anyone purchasing or refinancing a 1-4 family residence in Worcester.

3. Low-rate, small business development loans or lines of credit. The APR is 1.722% for 12 months on loans of $1 million or less. Again, the rate is available only for businesses located in Worcester.

4. A $2,500 credit toward closing costs for Community Reinvestment Acteligible community development loans.

Amorello and her team developed a multimedia marketing plan to launch the program, including radio, TV, print, billboards, and social media.

As of year-end 2017, Invest Worcester had close to $9 million in outstanding loans and $1.7 million in deposits, notes Matthew Wally, vice-president of government and community affairs. He says deposits are a mix of small-dollar deposits from individuals and larger amounts from local businesses and nonprofits. As of early February, there were almost 80 deposit accounts, of which 50 are new to the bank.

Wally notes “earmarked deposits” in

Invest Worcester accounts are not literally segregated, of course, but the aggregate amount is strictly used locally. “We tell people that this money is staying on Main Street—not going to Wall Street,” he says.

“It’s being kept in Worcester.”

The rate on the small business development loans is very popular, he adds.

CRA impact another plus The Invest Worcester prog ra m ha s brought CRA benefits as well, according to Wally. “It aligns with the CRA mission very nicely,” he points out. Worcester is a key component of the bank’s CR A assessment area.

While small business and mortgage lending under the program both help with CRA, the community development loans “are the gold standard for CRA lending,” says Wally. These loans, with the sizeable closing credit, have attracted interest, he says, from organizations promoting affordable housing, rehabilitating abandoned properties, and otherwise serving a low-to-moderate income clientele.

Amorello notes that the bank is considering setting up a similar program in Milford, Mass. “Any large, densely populated area would benefit from something like” Invest Worcester, she says.

Shutterstock/ Watchara Ritjan

ost community banks fund their loans locally as much as possible. It’s part of the fabric of the industry.

But creating an account specifically to fund community and economic development loans and to boost homeownership in a given municipality is a bit different.

Different, and quite successful, as Ma ssa chuset t s-ba sed UniBa n k ha s found over the last 18 months.

The 148-year-old mutual rolled out its Invest Worcester account in late 2016. The bank refers to the account as “socially responsible banking.”

UniBank has 14 branches in three counties in central Massachusetts. Worcester, population 180,000, is the largest market for the $1.6 billion-assets bank, formally known as UniBank for Savings. As the second-largest city in New England, Worcester faces problems common to many older industrial cities like declining homeownership and sluggish economic growth, says Janet Amorello, senior vicepresident of marketing for the bank.

Although long active in the Worcester community—including as a source of grant money for local nonprofits—the bank has come up with a way to engage the customer base in helping to boost the Worcester economy and homeownership.

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