By Pete Schroeder

WASHINGTON (Reuters] – Friday’s statement by the U.S. Federal Reserve indicated that the U.S. banking sector remains strong despite increased volatility, geopolitical risk and cautioned people against prime brokerage services that carry heightened risks.

According to the Fed’s most recent bank supervision report, they offered positive views on U.S. banking strength. They noted that banks continue to have robust capital and liquidity levels. Asset quality also improved in 2021’s second half.

The central bank did however note that Russian aggression in Ukraine could have increased financial sector risk. While the U.S. bank’s direct exposure to Russia may be relatively small, several factors could impact the financial sector such as increased volatility in commodity price and cybersecurity risks.

According to the Fed, its supervisors will closely monitor banks in order to determine how they react to rising geopolitical tensions.

A separate warning was issued by the Fed to banks regarding prime brokerage services offered to large investment funds. This carries “significant risk.” The Fed cited the collapse of Archegos Capital Management in 2021, leaving a few banks with large losses. It noted that banks must be careful if they want to conduct business in this highly opaque and complex market.

According to the report, “Strong risk management is essential for the safety of banks that provide these services,”

Fed cautioned banks with significant derivatives portfolios, or close relationships to investment funds that they cannot rely upon incomplete or untrue information from clients of fund managers. They should also consider quitting business with those firms who refuse to give the required information in order gauge risk.