Refinance risk in commercial lending at banks is addressed in a bulletin issued Thursday by the regulator of national banks.
According to the Office of the Comptroller of the Currency (OCC), refinance risk occurs when borrowers will not be able to replace existing debt at a future date under reasonable terms and prevailing market conditions.
The agency said examples of loan types most affected by refinance risk include interest-only loans, commercial real estate loans, leveraged loans, and revolving working capital lines.
The OCC said fully amortizing loans to sound borrowers generally have lower refinance risk than loans that are not fully amortizing.
“Banks should have processes to identify, measure, monitor, and control refinance risk at both the transaction and portfolio levels,” the OCC said in Bulletin 2024-29. “The tools to monitor refinance risk should be tailored to the bank’s size, complexity, risk profile, and types of lending. Sound transaction-level credit risk management practices include assessing refinance risk at underwriting, during ongoing monitoring, and near maturity. At the portfolio level, banks should have systems and processes to monitor the volume and cadence of upcoming loan maturities. Independent credit risk review should consider the level of refinance risk when determining an appropriate review scope and assessing credit quality.”
The agency asserted that a common method for assessing refinance risk at the transaction and portfolio level is multivariable stress testing.
“Transaction-level stress testing can provide insight into the borrower’s ability to meet refinancing requirements if the borrower’s financial condition declines or market conditions deteriorate (e.g., interest rates increase, market terms tighten, expenses increase, or collateral values fall),” OCC wrote. “Portfolio-level stress testing can identify and measure the potential effect of changing market conditions on portfolio segments with higher refinance risk.”