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“Most crypto market participants appear unprepared for the stresses and surprises that have taken place this year, resulting in substantial losses for millions of consumers,” the OCC said in a report.

Noting recent “dislocations” in crypto markets, the regulator said banks should take “a careful and incremental approach” to ensure that appropriate risk management practices are in place before they engage with digital assets or expand existing business.

The OCC also advised national banks to discuss with regulators any plans to engage in digital assets, and potentially seek clearance for some activities.

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Crypto news has been dominated in recent weeks by the implosion of FTX, which until its failure in November was one of the world’s largest cryptocurrency exchanges. FTX founder Sam Bankman-Fried has said that he spent no time or effort trying to manage risk at the exchange, saying the collapse might have been avoided had he spent even an hour a day thinking about risk management.

Bankman-Fried has also said he couldn’t explain what happened to billions of dollars that FTX customers sent to his trading firm’s bank accounts.

The OCC in its advisory said that the risk of contagion in the crypto industry was high because of interconnectedness between certain crypto industry players through “opaque lending and investing arrangements.”

The OCC’s call for a cautionary approach by financial institutions comes as various agencies grapple with how digital assets might fit into a regulatory system built for traditional finance.

The OCC itself less than six months ago noted the risks of crypto, but also said crypto products and services could “create opportunities for banks and their customers.” It didn’t mention crypto opportunities in 8 December’s report.

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The New York State Department of Financial Services, an important state-level regulator because of its sway over Wall Street institutions, said last week that it intended to add staff to its virtual currency regulation team, but stressed that its system of licensing had helped it hold companies to high standards.

The Securities and Exchange Commission, which has yet to sue a major crypto exchange, is also facing pressure to step up its enforcement. Two former chairmen of the Securities and Exchange Commission and the Commodity Futures Trading Commission have also jointly called for stronger regulation.

Write to Richard Vanderford at Richard.Vanderford@wsj.com

This article was published by The Wall Street Journal, part of Dow Jones