The dual cooperative protection scheme – comprising the BVR protection scheme and BVR Institutssicherung GmbH – plays a key part in ensuring the stability of the entire Cooperative Financial Network and confidence in the creditworthiness of all its members.

Institutional protection scheme of the Cooperative Financial Network

BVR protection scheme (BVR-SE)

BVR-SE is Germany’s and the world’s oldest deposit guarantee fund for banks and is financed entirely without government support. Right from its establishment in 1934, this system has always ensured that all institutions covered by the scheme have been able to meet their financial obligations – especially toward retail customers holding deposits. BVR-SE is regulated and monitored by the Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin) [German Federal Financial Supervisory Authority].

Since the German Deposit Insurance Act (EinSiG) came into effect on July 3, 2015, when it became necessary to establish a legally recognized deposit insurance scheme, BVR-SE has been continued as an additional voluntary institutional protection scheme in accordance with section 2 (2) and section 61 EinSiG.

The main responsibilities of BVR-SE are to ensure stability by averting imminent financial difficulties or eliminating any such existing problems at the affiliated institutions and to prevent any negative impact on confidence in the Cooperative Financial Network. So that it can provide the necessary support in securing these aims, BVR-SE has access to a guarantee fund that is funded by contributions from the member institutions. If necessary, the institutions will also support each other with additional funding (guarantee obligations).

As can be seen from its annual report, BVR-SE was able to fulfill the responsibilities set out in its articles of association – especially its responsibilities as an institutional protection scheme – in 2023. A total of 704 institutions of the Cooperative Financial Network belonged to BVR-SE as at December 31, 2023 (December 31, 2022: 744 members). The decrease stemmed from mergers within the Cooperative Financial Network.

BVR Institutssicherung GmbH (BVR-ISG)

BVR-ISG is an officially recognized deposit guarantee scheme and, since July 1, 2015, has been operating an institutional protection scheme within the meaning of article 113 (7) of Regulation (EU) No. 575/2013 for CRR credit institutions that has been approved by the regulator. By operating the institutional protection scheme, BVR-ISG satisfies its responsibility under its articles of association to avert or eliminate imminent or existing financial difficulties in its member institutions.

To this end, BVR-ISG will initiate any preventive or restructuring action, as required. Where, in accordance with section 10 EinSiG, BaFin identifies a compensation event in relation to a CRR credit institution that is a member of the BVR-ISG protection scheme, BVR-ISG will compensate the customers of the credit institution concerned in accordance with sections 5 to 16 EinSiG. BVR-ISG thus fulfills the statutory requirements regarding deposit protection for customers.

Together, BVR-ISG and BVR-SE form the Cooperative Financial Network’s dual cooperative protection scheme. The members of the BVR-ISG protection scheme are those CRR credit institutions that also belong to the BVR and are affiliated to BVR-SE. As at December 31, 2023, the membership comprised 702 CRR credit institutions (December 31, 2022: 742).

Under section 50 (1) EinSiG, BVR-ISG is subject to supervision by BaFin and to monitoring by the Bundesrechnungshof (BRH) [German Federal Court of Audit] with regard to its responsibilities to compensate depositors in accordance with sections 5 to 16 EinSiG and with regard to funding and target funding levels in accordance with sections 17 to 19 EinSiG.

To the extent possible under EinSiG, BVR-ISG’s organizational and decision-making structures match the organizational and decision-making structures of BVR-SE. A service agreement is in place so that BVR-ISG’s day-to-day business operations can be carried out by the BVR employees who perform the relevant functions for BVR-SE. These include monitoring and assessing risks for all CRR credit institutions that are members of BVR-ISG.

The activities of BVR-ISG in 2023 related to the fulfillment of its responsibilities as defined by law, the articles of association, and regulatory requirements. These activities centered on the risk-based collection of contributions, which is compliant with the relevant guidance of the European Banking Authority (EBA), the management of funds, extensive operational stress tests, and management of the IPS recovery plan in accordance with the Regulation on the Minimum Requirements for the Design of Recovery Plans for Institutions (MaSanV). BVR-ISG can look back on a highly successful year, having not had to take any action to protect depositors or member institutions or pay any compensation in accordance with section 145 of the German Bank Recovery and Resolution Act (SAG) at any time in 2023.

Risk identification and analysis

Basic structures

The Cooperative Financial Network is a decentralized organization made up of legally independent institutions that are linked – through the dual cooperative protection scheme – on the basis of the rules in the statutes of BVR-SE and in the articles of association of BVR-ISG. This decentralized element is in contrast with banking groups that have a parent company at the top of a hierarchical structure. Consequently, the power to make business decisions lies with each individual institution and its independent Board of Managing Directors and Supervisory Board. This decentralized structure determines the focus of the analytical activities of the dual cooperative protection scheme. The focus is primarily on overall analysis of the financial risk carriers – i.e. the institutions – rather than on isolated examination of individual risk types and their scope. This fundamental methodological approach ensures that, in establishing that each individual institution’s financial position and risk position are appropriate and its financial performance is adequate, the entire system – i.e. the entire Cooperative Financial Network – as a unit can be considered to be on a sound economic footing.

The dual cooperative protection scheme has appropriate systems for identifying and classifying risks and for monitoring the risks of all its members and of the institutional protection scheme as a whole. Risks are rated on the basis of BVR-SE’s classification system, which has been in use since 2003. The aim of this rating process, which is based on the annual financial statements, is to obtain an all-round, transparent view of the financial position, financial performance, and risk position of all members. Rating a bank in accordance with the classification system provides the basis for determining the risk-adjusted guarantee fund contributions of BVR-SE and is also the starting point for preventive management, comprising the monitoring process and ongoing support for an institution in the form of preventive measures. The purpose of monitoring is to analyze and assess abnormalities at member institutions at an early stage, so that a decision can then be made about whether to include an institution in preventive measures. Preventive measures involve providing intensive support for the institution affected by abnormalities in order to eliminate the identified weaknesses and ensure that it has a strong and sustainable business model, primarily in order to avoid threats to its ability to continue as a going concern.

The results of the classification are supplemented by further analysis and data, in particular evaluations of the data collected as part of an annual comparative analysis. This is a data pool that the BVR compiles from data collected from its member institutions and is predominantly based on information from the institutions’ accounting and reporting systems. The data from the annual comparative analysis forms the basis for analyses that use key risk indicators to identify and examine particular abnormalities. In addition, BVR-SE prepares special analyses on specific issues and specific risks.

In accordance with its risk-oriented mode of operation, BVR-SE performs individual bank analyses on institutions of major financial significance to the protection scheme as a whole. This includes applying the concept used to analyze large banks. It thus takes into account the risks resulting from the size category of the affiliated institutions.

To assess BVR-SE’s risk-bearing capacity, probabilities of default are determined on the basis of various stress scenarios and Monte Carlo simulations are used to calculate the possible restructuring amounts. This involves carrying out scenario-specific classifications on the basis of different assumptions (e.g. interest-rate changes, declining credit ratings in the customer lending business).

BVR-SE classification process

The classification system uses eight key figures relating to financial position, financial performance, and risk position to assign the institutions to one of the nine credit rating categories, which range from A++ to D. The classification system is based on quantitative key figures, most of the data for which is taken from the institutions’ audited annual financial statements and audit reports. BVR-SE receives this data from the regional auditing association responsible for the individual institution. In 2023, the general meeting of members of the BVR adopted changes to the key figures and to the parameterization of the classification process. These changes are being applied for the first time in 2024.

Generally, all institutions covered by BVR-SE are included in the classification system. Only a small number of institutions are not included, notably those that are rated separately by an external rating company, e.g. DZ BANK and Münchener Hypothekenbank eG.

The 2023 risk assessment partly drew on the classification process based on an analysis of data from the 2022 financial statements. This risk assessment was supplemented with further up-to-date information and reporting data over the course of 2023. The classifications revealed that the distribution of the classification results was much worse than in the previous year owing to the shift in interest rates. However, this trend started to reverse again with regard to the level of interest rates during the reporting year. The classification results can be explained as follows. In terms of the income statement line items above fair value gains and losses, financial performance was healthy because there was an increase in both net interest income and net fee and commission income from the traditional banking business and the cost/income ratio improved thanks to a smaller rise in administrative expenses relative to gross profit. Within fair value gains and losses, this positive effect was far outweighed by high interest-rate-related impairment losses and a sharp increase in write-downs to the lower of cost and market that were avoided in respect of own-account investments. The resulting loss before taxes and net reversal of/addition to reserves, combined with the deduction of write-downs to the lower of cost and market, constituted the main reason for the deterioration in the overall distribution. Nonetheless, the financial position remained stable as the volumes of business grew at only a slightly faster rate than the components of equity. The risk position was also stable because, in the lending business, the volumes of unsecured lending within more critical lending exposures declined slightly.

Classification of the BVR-ISG contributions

The contributions from the CRR credit institutions that are members of BVR-ISG are calculated on a risk-oriented basis in accordance with the BVR-ISG rules on contributions. The main structural elements and the details of the calculation methodology are drawn from EBA Guidelines EBA/2015/10, in accordance with which deposit guarantee schemes and institutional protection schemes are required to collect risk-related contributions. The EBA revised and finalized this standard in 2023, replacing it with the new Guidelines EBA/GL/2023/02. The new requirements regarding the contribution rating come into force in mid-2024 and must be applied by BVR-ISG.

Risk management and monitoring

Preventive management

The aim of preventive management is to identify and counteract adverse economic trends in the member institutions at an early stage, thereby helping to prevent the need for supporting measures and providing impetus for improving the financial situation of institutions in the Cooperative Financial Network. An analysis is carried out of the available data and other information in order to identify institutions with potential issues. Further discussions are then held with the senior management of the institutions in order to agree the measures required to stabilize and improve business performance.

The results of the classification process form the basis for BVR-SE’s systematic preventive management. An institution is brought into the scope of this preventive management approach no later than when it is classified as B– or lower on the basis of its annual financial statements. For some years now, however, other key figures (e.g. key figures from institutions’ reporting systems or their financial planning and reporting data) and qualitative information have been added that supplement the classification results so that any abnormalities at institutions can be identified at an early stage. In 2023, this data included the multi-year planning, the institutions’ regular reporting, the key figures used in the IPS recovery plan, and the statutory ad hoc disclosures required pursuant to section 24 (1) no. 4 of the German Banking Act (KWG).

Before the prevention phase, the monitoring of conspicuous institutions plays a significant role in the early identification of possible risk situations at institutions. Developments in the real estate markets were significant to this aspect of BVR-SE’s work in 2023. However, the problem was not so much one of decreases in new traditional home finance business with retail customers – the core assets-side business of many cooperative banks – but of increased risk in the commercial finance business. This was the focus of many of the analyses of institutions already receiving support and also the reason for a lot of the instances of first-time contact.

As had become established practice in previous years, the monitoring program once again also reached out to institutions that were not showing any indications of particular risk but that could potentially represent a major risk simply because of the size of their balance sheet. The number of institutions continued to go up in this area of activity, primarily due to mergers.

In addition to restructuring, the work of BVR-SE continues to focus on systematic and end-to-end preventive management that also includes monitoring.

Restructuring management

As before, the work of the dual cooperative protection scheme in restructuring member institutions is primarily aimed at ensuring that these institutions’ annual financial statements can be prepared on a going concern basis so that regulatory measures against member institutions can be avoided. The next stage is to contractually agree the measures required in order to ensure that the bank’s business regains its future viability while accommodating the interests of all members of the Cooperative Financial Network. BVR-SE’s statutes and BVR-ISG’s articles of association provide the legal basis for all actions of the dual cooperative protection scheme.

The ‘Manual for future-proof bank management – guidelines for reorganizing and restructuring cooperative banks’ forms the basis for providing restructuring assistance and carrying out restructuring measures. The principles documented in the manual provide affected institutions with guidance on re-establishing competitive structures, e.g. through recovery, and describe concepts for restoring their fundamental profitability. The aim is for the institutions to complete this restructuring phase within no more than five years. The manual is also specifically aimed at institutions undergoing preventive measures and any institutions that have themselves identified the need for reorganization. In addition, it includes a dedicated section setting out in detail the restructuring steps that need to be carried out in close consultation with the bank undergoing restructuring and the relevant cooperative auditors’ association with statutory responsibility. This section of the manual addresses different potential target institutions separately and can be applied specifically to each individual case.

Despite the highly challenging economic conditions, there was a continued absence of any uptick in recovery activities in 2023. However, there was one recovery case involving a high restructuring amount. Only very minor costs were incurred for legacy cases where risks already covered had materialized or for which a loss allowance had been recognized. These legacy cases are being progressively reduced. The total restructuring amounts in need of protection resulting from such legacy cases were significantly lower than expected and there were only a few isolated repayments under debtor warrant obligations and other guarantee release obligations.

The overall business performance meant that the capital base of the dual cooperative institutional protection scheme was strengthened once more in 2023 despite the aforementioned case where support was required.

Outlook for the dual cooperative institutional protection scheme

The main influence on the financial performance of the cooperative institutional protection scheme in 2024 will be the macroeconomic environment in Germany. This may lead to new restructuring cases, resulting in risks for BVR-SE and demands on its resources. In 2024, BVR-ISG will achieve the target funding level required by law.

Regulatory capital management

The consolidated financial statements of the Cooperative Financial Network provide a comprehensive overview of the main capital ratios, particularly the consolidated regulatory capital ratios. These capital ratios are fundamentally calculated in accordance with the CRR provisions using the extended aggregated calculation pursuant to article 49 (3) CRR in conjunction with article 113 (7) CRR. Information concerning the regulatory capital ratios relates to the reporting date of December 31, 2023 and does not include the retention of the profits reported in the 2023 annual financial statements. Profit is retained after the individual institution’s relevant committees have given their approval. This retention of profits will further strengthen capital in 2024.

The Tier 1 capital ratio improved to 15.6 percent as at December 31, 2023 (December 31, 2022: 15.0 percent). There was also an improvement in the Cooperative Financial Network’s regulatory total capital ratio, which stood at 16.2 percent as at December 31, 2023 (December 31, 2022: 15.6 percent).

Overall, regulatory own funds increased by €9.2 billion to €130.5 billion as at the reporting date (December 31, 2022: €121.3 billion). This change was influenced by the rise in own funds resulting from the retention of the profits reported in the 2022 financial statements and by a change in accounting treatment affecting the valuation of the equity investment in R+V Versicherung AG following the initial application of IFRS 17 for insurance contracts in the DZ BANK Group. The Cooperative Financial Network’s capital is predominantly held by the cooperative banks.

The total risk exposure as at December 31, 2023 amounted to €803.1 billion (December 31, 2022: €775.9 billion). This growth of 3.5 percent was due to a valuation-related rise in DZ BANK’s equity-accounted equity exposure to R+V Versicherung AG resulting from the initial application of IFRS 17 and to increases in exposures in both the retail and the corporate customer lending business.

BVR-SE analyzes the regulatory capital ratios of each member institution on an ongoing basis. The institutions themselves are responsible for fulfilling the regulatory requirements at all times, including in respect of bank-specific SREP surcharges.

The Cooperative Financial Network has healthy capital adequacy thanks to equity of €143.2 billion as at the reporting date (December 31, 2022: €131.9 billion) (see the chart on pages 58–59). It has continually boosted its level of capital in recent years by retaining profit. This trend substantiates the Cooperative Financial Network’s sustainable business model with its broad diversification of sources of risk and income.

The Cooperative Financial Network’s consolidated leverage ratio pursuant to the CRR came to 8.0 percent as at December 31, 2023 (December 31, 2022: 7.4 percent). This is continued proof of the healthy capital adequacy of the Cooperative Financial Network. This increase was driven by the €8.6 billion rise in Tier 1 capital and a simultaneous slight decline in the total exposure measure. The leverage ratio is calculated for the Cooperative Financial Network in accordance with the provisions of article 429 CRR. It is based on Tier 1 capital as determined in the extended aggregated calculation in accordance with article 49 (3) CRR. The risk exposures are determined by aggregating the individual leverage ratio submissions of all the institutions in the Cooperative Financial Network and adjusting them for material internal exposures within the joint liability scheme. The leverage ratio total exposure measure decreased by 0.3 percent year on year to €1,569.8 billion. The reasons for this fall included maturing securities financing transactions with the central bank and a reduction in derivative exposures.

Normative and economic risk-bearing capacity

Capital is proactively managed to ensure that an institution always has an adequate level of capital. This is achieved with calculations of risk-bearing capacity, in which the available risk capital is compared with the capital risks taken on. Risk-bearing capacity must be examined from two perspectives that complement each other, namely the normative and the economic perspectives. The normative perspective is centered on the institutions having adequate levels of regulatory capital. The economic perspective focuses on the institutions adequately and efficiently allocating their available internal capital across their material risk types.

Since January 1, 2023, all institutions in the Cooperative Financial Network have – according to the internal reporting – completed the transition to the normative and economic perspectives of risk-bearing capacity and integrated them into their risk management processes.

Capital management is a core management task for all institutions in the Cooperative Financial Network. Pursuant to the Minimum Requirements for Risk Management (MaRisk), the institutions must structure it according to the specifics of their organization, reflecting their complexity, scope of business activities, and size. The cooperative banks’ main risk types in this context are usually counterparty risk, market risk (including interest-rate risk), liquidity risk, and operational risk.

The German economy performed poorly in 2023, primarily due to heightened uncertainty stemming from geopolitical conflicts (especially those in Ukraine and the Middle East), ongoing effects from interest-rate hikes in 2022, and the high rate of inflation. Moreover, pandemic-related support measures expired. Despite these difficult economic conditions, the internal reporting shows that the median utilization of own funds – including freely available allowances for general banking risks pursuant to section 340f of the German Commercial Code (HGB) – for the cooperative banks stood at 75.6 percent as at December 31, 2023 in the normative calculation of risk-bearing capacity. In the economic calculation of risk-bearing capacity, the median stood at 57.6 percent of the present value of assets as at December 31, 2023.

parcIT GmbH, the center of excellence for management processes in the Cooperative Financial Network helped the cooperative banks to apply and refine their procedural and calculation methods for risk-bearing capacity. An area of focus in 2023 was the ongoing optimization of the processes for the risk inventory check and for documentation in connection with the risk report. Furthermore, parcIT GmbH provided up-to-date scenario parameters for analyzing the impact of interest-rate movements. It also provided proof of adequacy with regard to real-estate risk, which is becoming increasingly important, and developed stress parameters. In addition, the range of tools for managing ESG risks was further expanded, for example methods for measuring such risks were introduced.

Credit ratings of the Cooperative Financial Network

The Cooperative Financial Network has been awarded a credit rating of AA– from Fitch and of A+ from Standard & Poor’s, in both cases with a stable outlook. The agencies point to the consistently successful business model focused on retail and corporate banking as the reason for the current credit ratings. Capital adequacy is also judged to be above average in terms of quantity and quality. The rating agencies recognize the Cooperative Financial Network’s ability to build up capital from its own resources by retaining profits. The granular credit structure and high proportion of mortgages in the retail business are the hallmarks of the overall high level of quality in the customer lending business. Funding based on customer deposits remains stable, even though the interest-rate environment has changed. The dual cooperative protection scheme is seen by the rating agencies as an important connecting link and a crucial element of the risk governance system in the Cooperative Financial Network.

Credit risk

Credit risk is the risk of losses that may arise as a result of the default or deterioration in the creditworthiness of a borrower, issuer, counterparty, or equity investment. As at December 31, 2023, the credit risk-weighted assets of the Cooperative Financial Network amounted to €738.0 billion (December 31, 2022: €707.3 billion), which equated to 91.9 percent of total risk-weighted assets (December 31, 2022: 91.2 percent). This means that credit risk is the most significant risk category for the cooperative banks’ risk-bearing capacity in the normative perspective.

To assess the creditworthiness of individual borrowers in the customer business, the institutions use segment-specific rating systems. Most of the institutions measure risk on the basis of value at risk (VaR), which is calculated using a credit-portfolio model. These processes are validated annually at both parameter level and overall model level.

To assess the credit quality of own-account investments, the institutions use segment-specific rating systems and, in some cases, assessments from external rating agencies. In the case of own-account investments too, risk is usually measured on the basis of VaR, which is calculated using a continually validated portfolio model. Furthermore, scenario analysis and stress analysis are regularly used both in the customer lending business and for own-account investments.

Lending to regional retail and corporate customers is a core element of the Cooperative Financial Network’s strategy. This involves the profit-oriented assumption of risk, taking account of the level of equity and pursuing a risk-conscious lending policy. For the institutions in the Cooperative Financial Network, knowledge about customers plays a central role in lending, as does the capacity of customers to meet their obligations. Overall, the Cooperative Financial Network’s customer lending business has a predominantly granular credit structure and a high proportion of loans secured against real estate. The granularity and extensive regional diversification of the Cooperative Financial Network’s business activities in Germany limit the formation of risk clusters.

The Cooperative Financial Network’s lending business grew slightly in 2023 but did not match the high growth rates seen in previous years. Loans and advances to customers increased by 2.4 percent year on year (2022: 5.9 percent). Long-term home finance remained the principal driver of the growth in lending. However, interest-rate hikes introduced by the ECB in order to tackle inflation, the resulting rise in lending rates, and high construction costs led to a fall in demand for mortgages. Against this backdrop, prices in the German housing market began to fall following many years of rising prices. The housing market has been going through a process of adjustment since mid-2022, and this may last for several years. According to data from the Verband deutscher Pfandbriefbanken (vdp) [Association of German Pfandbrief Banks], prices for owner-occupied housing went down by 4.1 percent in 2023, having risen by 9.0 percent in the previous year. Prices also fell sharply in the commercial real estate market, which recorded a year-on-year decrease of 10.2 percent (2022: decrease of 0.4 percent).

The growth in the local cooperative banks’ corporate banking business was predominantly driven by lending to companies in the service and construction sectors. Because of their regional roots, the local cooperative banks also regularly assist with projects in the renewable energies market and provide financial support to companies in relation to projects for increased energy efficiency and for power generation from renewable sources. The DZ BANK Group’s lending business was primarily focused on entities within the Cooperative Financial Network and on real estate finance in the reporting year.

The risk of loan defaults was higher in 2023 than in the previous year but remains at a moderate level when viewed over the long term. In the institutions’ retail customer business, the principal reasons for this rise were increased energy costs and high inflation that resulted in a fall in disposable incomes. In the corporate customer business, the reasons included the wars in Ukraine and the Middle East, ongoing supply bottlenecks, higher prices for input products, rising financing costs, and the weak Chinese economy. Companies in the construction, manufacturing, chemicals, pharmaceuticals, power, wholesale, and retail sectors were hit particularly hard. In 2023, the number of defaults across the entire corporate customer segment went up by almost 20 percent compared with 2022.

The main methodological changes in 2023 were the expansion of the segment-specific rating systems and credit-portfolio models with the aim of ensuring that all relevant segments in the lending business are covered. In addition, parcIT GmbH continued to focus on developing stress scenarios based on historical analysis.

The expense for loss allowances amounted to €1.8 billion in 2023 (2022: €1.5 billion) and was mainly attributable to the larger addition required for loss allowances as a result of the gloomier economic conditions and the increase in corporate and personal insolvencies over the course of the reporting year. According to the internal reporting, the Cooperative Financial Network’s NPL ratio (non-performing loans as a proportion of the total lending volume) went up slightly to stand at 1.5 percent as at December 31, 2023 (December 31, 2022: 1.2 percent). This rise in the NPL ratio was attributable to the increase in the volume of NPLs. Nevertheless, the NPL ratio remains at a low level. In summary, the institutions in the Cooperative Financial Network operate a healthy lending business overall.

Market risk

Market risk is the risk of losses that could arise from adverse changes in market prices or in factors that influence prices. Market risks are generally grouped into the following categories: equity risk, interest-rate risk, currency risk, and commodity risk. As at December 31, 2023, the risk-weighted assets of the Cooperative Financial Network for market risk amounted to €10.3 billion (December 31, 2022: €13.2 billion), which equated to 1.3 percent of total risk-weighted assets (December 31, 2022: 1.7 percent).

The institutions in the Cooperative Financial Network chiefly use value-at-risk models to measure and manage their market risk. They also use various scenario analyses (planning, adverse, and stress scenarios), for example to produce their capital plans and create transparency about the impact of developments in the markets.

The assumption of market risk – particularly interest-rate risk – has a significant influence on the institutions’ financial performance. As in previous years, the largest proportion of net interest income was generated from net interest margin contributions in the customer business.

Following sharp interest-rate hikes in 2022, interest rates in the financial markets generally moved sideways during 2023, although volatility remained high. In 2023, net interest income in the Cooperative Financial Network jumped by 17.3 percent year on year.

The cooperative banks have a suitable system for managing market risk in the economic perspective. This process, the present-value market risk model, is based on the historical simulation method and is continually refined by parcIT GmbH. To help the institutions to use the model, guidelines have been developed for checking the appropriateness of the parameters of the market data scenarios for present-value risk measurement. The guidelines are reviewed and updated regularly.

Liquidity risk

In the Cooperative Financial Network, liquidity risk is managed with the aim of ensuring that a bank can meet its payment obligations at all times. In accordance with the cooperative principle of subsidiarity, each cooperative bank is in charge of its own liquidity management and risk management. Compliance with the liquidity coverage ratio (LCR) and net stable funding ratio (NSFR), which are regulatory key figures, is a core aspect of liquidity analysis for the institutions in the Cooperative Financial Network. The institutions also deploy business management tools, for example to determine liquidity risk and any changes in liquidity levels. Stress tests are carried out too.

For many years, the Cooperative Financial Network has had a reliable liquidity structure that is deemed crisis-resistant. The loan to deposit ratio of the Cooperative Financial Network is 99.1 percent (December 31, 2022: 96.8 percent). The basis for this lies in the diversifying, risk-mitigating effect created by the stable and granular business structure of the cooperative banks and, in particular, in the institutions’ traditional method of obtaining funding through customer deposits. This reflects the recognition by customers of the Cooperative Financial Network of the effectiveness of the institutional protection provided by BVR-SE and BVR-ISG, which is particularly aimed at safeguarding deposits and goes beyond the statutory requirements regarding deposit protection.

The liquidity of the Cooperative Financial Network is characterized by the strong portfolio of deposits from retail and corporate customers. This deposit portfolio has an extremely granular structure. Excess liquidity is invested using the Cooperative Financial Network’s internal market system at DZ BANK. As the central institution, DZ BANK is responsible for offsetting liquidity peaks that arise by pooling the excess liquidity from individual cooperative banks and balancing out differences in their liquidity levels. BVR-SE shares information about the liquidity situation of the individual institutions with DZ BANK on an ongoing basis.

The shift in the ECB’s interest-rate policy posed a challenge for liquidity management in 2023, especially in the first half of the year. At the start of the year, the monthly LCRs declined slightly but then rose sharply from mid-2023 onward. As at December 31, 2023, the median LCR for the institutions in the Cooperative Financial Network stood at 185.9 percent, which was significantly higher than the figure of 158.5 percent as at December 31, 2022. The minimum level of 100 percent was achieved at all times.

The NSFRs were also monitored as a way of measuring the institutions’ ability to meet their payment obligations over the longer term. The median NSFR for all institutions in the Cooperative Financial Network exhibited a very low level of volatility during the reporting year. As at December 31, 2023, this figure came to 120.5 percent (December 31, 2022: 120.0 percent), remaining at the largely stable level seen over a longer-term observation period. Once again, the Cooperative Financial Network’s liquidity structures proved resilient even during a year of sharply rising interest rates.

Operational risk

Based on the definition used by the banking regulator, operational risk is the risk of losses arising from inadequate or failed internal processes, personnel, or systems, or from external events. As at December 31, 2023, the risk-weighted assets of the Cooperative Financial Network attributable to operational risk amounted to €52.1 billion (December 31, 2022: €51.9 billion), which equated to 6.5 percent of total risk-weighted assets (December 31, 2022: 6.7 percent).

The cooperative banks’ internal control system (ICS) is aimed at reducing operational risk. It comprises an internal management system and an internal monitoring system that, in turn, consists of monitoring mechanisms that are built into processes as well as cross-process monitoring mechanisms. The various mechanisms include procedural instructions, separation of functions, the use of standardized contract templates that have been reviewed by a legal expert, and the appointment of IT security, compliance, data protection, and anti-money-laundering officers. In addition, business continuity plans for failure of technical equipment and unexpected staff absences are in place.

Internal control processes ensure that material operational risks are identified, analyzed, and assessed on a regular basis. The institutions can use guidelines to conduct a systematic risk assessment in keeping with market standards. The institutions record any loss events in their own database. Based on the outcome of the loss event analysis, internal procedures are adjusted and preventive safeguards implemented as necessary.

Operational risk is measured in consideration of the business model of the individual institution. The dominant method is quantification in the form of a lump sum, although value-at-risk approaches are sometimes used too.

Customer membership is a distinctive feature of the cooperative banks’ business model and one that is ideally suited to conveying the values of the cooperative idea. It offers the cooperative banks and product suppliers in the Cooperative Financial Network the opportunity to differentiate themselves from rival banking groups. The extensive branch network allows the institutions in the Cooperative Financial Network to continue to reach a wide range of customers in a way that online banks cannot. Strong customer loyalty results in measurable economic benefits, such as income growth for the institutions in the Cooperative Financial Network and protection of their market share. In our view, the cooperative principle has received a boost – partly because the coronavirus pandemic and geopolitical tensions have resulted in a trend toward regionalization – that creates new opportunities for the cooperative banks to strengthen their competitive position.

Sustainability is firmly enshrined in the DNA of the cooperative identity. Financial success and socially responsible business are inextricably linked for the institutions in the Cooperative Financial Network and are always geared toward working together to support the common good. In its sustainability guidelines, the Cooperative Financial Network has made a commitment to the Paris climate goals and the UN’s global sustainable development goals (SDGs). It has also set itself the objective of playing a significant role in creating sustainable forms of employment in the regions and a climate-friendly economy.

Even in the digital age, the business model of the institutions in the Cooperative Financial Network puts people and their wishes and objectives first. The aim is to forge ahead with digitalizing the cooperative banks’ products and services and to offer all of the touchpoints that customers want (local branches as well as online and hybrid banking).

The advance of digitalization and automation, along with the expanded availability of omnichannel products and services on the new sales platform, allows the Cooperative Financial Network to take account of the changes in customer behavior and to adjust and strengthen the overall business model accordingly. The focus is on the comprehensive omnichannel presence and thus the implementation of efficient processes at all levels. Nonetheless, personal contact remains a key component of the customer relationship, alongside high-quality advice and the possibility for customers to choose how they would like to communicate with their bank. The Cooperative Financial Network is therefore establishing a variety of different customer touchpoints and giving its members integrated access to all information and services through all the relevant channels, whether in branch or via digital media.

By marketing new digital payment services, implementing an online inquiry process for all of the main products, and offering digital membership, banks can address customer needs and should be able to attract new customers. This also enables them to target young, tech-savvy customers and members. The BVR believes that, by establishing the smart data company Truuco, it has reated the structures that allow highly tailored recommendations to be created for customers based on smart data. Furthermore, the new strategic equity investment and company-building unit Amberra, which invests in relevant start-ups and develops new business models, allows ecosystem offerings to be provided that go beyond banking products in the traditional sense.

In view of current interest rates, we believe that the institutions continue to have good potential for generating income in the lending business. This can be seen from the rise in interest rates on home finance, which will have a positive impact on net interest income even if the absolute volume of new business stabilizes at a low level. However, the actual impact depends on the materialization of risks as a result of these higher interest rates, in particular with regard to the level and speed of changes in interest rates on liability-side products and – based on the implications for lending demand and credit risk – the geopolitical situation this year.