Community banks and credit unions continue to face changing and challenging circumstances. The industry’s landscape remains shaped by lingering impacts of the COVID-19 pandemic: higher (yet moderating) interest rates, inflationary pressures, tariff impacts, and slower economic growth. The combination of these factors has led to meaningful increases in delinquency trends and loan loss rates — and further deterioration is a reasonable expectation. As such, effective credit risk management is a top priority for community banks and credit unions to maintain financial stability.
What is credit risk management?
Credit risk management is the continual practice of identifying, assessing, and mitigating the potential loss a lender faces when a borrower fails to repay a loan or meet contractual obligations. It involves evaluating creditworthiness, setting limits on exposure, and monitoring portfolios to ensure the financial stability of the institution while still fostering overall growth.
Economic factors shaping credit risk
For now, it appears the U.S. economy performed as expected in 2025, with annual GDP growth estimated around 2%. However, in 2026, economic growth has been expected to hold to a consensus forecasted range between 1.8% and 2.2%. The primary causes for slower growth are moderating consumer spending, rising unemployment rates, and weaker business investment. Uncertainty about tariffs, hard-to-shake inflation, and fewer and slower Fed rate cuts than previously forecasted will add nuance to a dynamic business environment.
Credit quality trends and portfolio risk hotspots
Credit quality, broadly speaking, is expected to deteriorate further, with delinquencies and net charge-offs continuing to increase relative to the past few years.
- Commercial real estate (CRE): CRE portfolios, particularly the office segment, are experiencing higher stress while most other CRE sectors remain healthy, albeit down from peak valuations seen in early 2022.
- Agricultural lending: Recent trends in agricultural loan portfolios indicate higher nonperforming loans as a result of lower commodity prices and higher input costs, creating a stressed working capital scenario.
- Commercial and industrial: On the commercial and industrial loan front, industries that appear to be experiencing higher credit risk include retail (motor vehicle dealers, power equipment, and electronics); transportation (freight trucking); healthcare (skilled nursing facilities); and waste management services.
Emerging credit risk themes to watch
Some additional troubled credit themes appear to be emerging.
- Demand and capacity decisions: For a handful of commercial and industrial credits, pandemic “demand-pull forward” continues to persist. Some of the capital expenditure immediately following the pandemic, meant to meet increased demand, is looking like a mistake at this point.
- Risk at renewal: The higher interest rate environment is almost fully ingested into loan portfolios, and those 5% coupon credits from 2019 don’t look very good with 8–9% interest rates upon renewal in 2024 and 2025 (in fact, some simply don’t work at all).
- Consumer credit stress: Finally, the consumer, particularly at the low and moderate end of the spectrum, is under significant stress. Student loan, auto loan, and credit card delinquencies are at or near all-time highs, causing many to wonder what asset classes will be impacted next and to what extent.
Here’s the bottom line: The very strong credit performance of the past decade or so is behind us, and effective credit risk monitoring remains as important as ever.
How banks and credit unions can improve credit risk monitoring
Banks and credit unions should continually adapt their strategies to identify loans that have higher risk profiles and may be impacted by inflationary pressure, slower economic growth, and higher interest rates — the sooner the better.
- Ongoing monitoring, annual reviews, and maturities: As was highlighted in the Office of the Comptroller of the Currency Bulletin 2024-29 in October 2024, banks and credit unions should evaluate credit risk during ongoing monitoring activities such as annual reviews or upon nearing loan maturities.
- Loan-level stress testing: A proactive analysis that monitors a borrower’s performance relative to expectations is highly encouraged. Multivariable stress testing at the loan level for vacancy rates, expenses, interest rates, and capitalization rates is a valuable risk management tool.
- Portfolio monitoring and concentration limits: On a portfolio level, effective credit risk management processes mean monitoring the volume and number of loans maturing within a specified time period, identifying portfolio sectors affected by external risk factors, and setting and adhering to sector concentration limits.
Building a resilient credit risk management program
As community banks and credit unions navigate growing complexities, addressing credit risk in the commercial, agricultural, and CRE portfolios will be paramount. Staying informed of economic trends and advancing your risk management strategies can solidify a better positioning for long-term success.
