FMS Maryland Chapter March 21st 2014 March 21 Breakfast Meeting Managing Interest Rate Risk in the Investment Portfolio Investment Portfolio Steve Twersky, CPA Portfolio Strategies Group Portfolio Strategies Group [email protected] Agenda Agenda 1. Tough challenge of managing rate risk today 2. Current profile of depository portfolios p p yp 3. Key strategies for managing rate risk 2 The Changing Rate Landscape Portfolios have turned over at historical lows 3 Market Yields Push Higher Coupons have moved sharply lower in mortgages Source: FTN PASPort January 2014 purchase activity 4 Market Yields Push Higher Retention of recent deposit growth uncertain 5 Losses are unavoidable as rates rise 6 GAAP forces too much focus on portfolio losses • • • • Even with Basel III opt-out, optics of AFS OCI adjustment forces too much focus on portfolio Takes emphasis off full balance sheet management Can put portfolio management in conflict with full rate risk profile C b Can be diffi difficult lt tto b balance l against i t each h other th 7 Agenda Agenda 1. Tough challenge of managing rate risk today 2. Current profile of depository portfolios p p yp 3. Key strategies for managing rate risk 8 FTN Barometer • • • • Risk profile of 1,200 plus portfolios Run weekly using actual portfolio holdings Banks and Credit Unions shown separately Looks at peer group mean as well as 1 standard deviation 9 Steeper Curve Will Help Mitigate Future Losses Bank Data – Extension Profile 10 Steeper Curve Will Help Mitigate Future Losses Bank Data –Market Value Exposure 11 Treasuries can provide context to market value shock 12.1% drop up 300 equivalent to around a 4.6 yr Treasury 12 Steeper Curve Will Help Mitigate Future Losses Bank Data – Unrealized Losses vs. 1 Year Ago Today 12 Mos ago 2.1% drop In value 13 Steeper Curve Will Help Mitigate Future Losses Bank Data – Principal Roll‐Off 14 Steeper Curve Will Help Mitigate Future Losses Bank Data – Sector Mix 15 Steeper Curve Will Help Mitigate Future Losses Bank Data – Amortizing and Floating Rate Bonds 16 Steeper Curve Will Help Mitigate Future Losses Bank Data – Book Yield 17 Steeper Curve Will Help Mitigate Future Losses Credit Union Data – Extension Profile 18 Steeper Curve Will Help Mitigate Future Losses Credit Union Data – Market Value Exposure 19 Treasuries can provide context to market value shock 10% drop up 300 equivalent to around a 3.8 yr Treasury 20 Steeper Curve Will Help Mitigate Future Losses Credit Union Data – Unrealized Losses vs. 1 Year Ago Today 12 Mos ago 1.6% drop In value 21 Steeper Curve Will Help Mitigate Future Losses Credit Union Data – Principal Roll‐Off 22 Steeper Curve Will Help Mitigate Future Losses FTN Barometer – Sector Mix 23 Steeper Curve Will Help Mitigate Future Losses Credit Union Data – Amortizing & Floating Rate 24 Steeper Curve Will Help Mitigate Future Losses Credit Union Data – Book Yield 25 Agenda Agenda 1. Tough challenge of managing rate risk today 2. Current profile of depository portfolios p p yp 3. Key strategies for managing rate risk 26 1. Manage portfolio in context of ALM • • • • Focusing only on the portfolio may drive strategies that are inconsistent with overall balance sheet risk GAAP treatment of AFS losses will continue to be a challenge, however Focus should be on EVE rather than just one asset segment Important to resist tendency to try to call the market (this goes both ways) 27 2. Closely y monitor cash flow ladder • Cashflow rolloff will be vital as rates rise • Will be needed to fund growing loan demand • Most of portfolio may be well underwater • Use mortgage securities for base of cashflow ladder • Use other structures to build-out and fine-tune cashflows 28 3. If extending, focus on roll-down • Seasoning along a steep curve can mitigate some losses as rates rise • Best candidates are those with hard finals, such as bullet or callable agencies and municipals • Also mortgage securities with tight pay windows such as VADM CMOs and FNMA DUS bonds 29 3. If extending, focus on roll-down Roll-Down Example – Agency Bullets 30 3. If extending, focus on roll-down 31 3. If extending, focus on roll-down 32 4. Keep excess funds invested • • • • Carrying too much liquidity or staying too short can create risk as well Tends to force investing when balances build up or lost earnings becomes too great Better approach is to reinvest excess liquidity as it builds T k emotions Takes ti outt off equation ti and d allows ll you to t average through volatile markets 33 5. Avoid chasing yield • • • • Market M k t is i generally ll efficient ffi i t in i pricing i i risk i k Higher yields carry some form of perceived add’l risk Make sure you fully understand risk profile – especially if new sector or type of bond for your institution If a bond has a higher yield than comparables find out why – there is a reason 34 6. Manage expectations • • • • Its important to manage the expectations your stakeholders This includes the board, management, shareholders, employees and customers Help them understand the pressures on margins and income Lower returns may be necessary over the near-term to be able bl tto b bestt serve th the community it as th the economy tturns 35 Closing thoughts • • • • • • Manage portfolio rate risk as part of ALM process Cashflow roll-off will be key as rates rise Wh extending When t di ffocus on roll-down ll d Avoid chasing yield Diversity important when managing risk Manage stakeholder expectations 36 FMS Maryland Chapter March 21st 2014 March 21 Breakfast Meeting Managing Interest Rate Risk in the Investment Portfolio Investment Portfolio Steve Twersky, CPA Portfolio Strategies Group Portfolio Strategies Group [email protected] This material was produced by an FTN Financial Strategist and is not considered research and is not a product of any research department. Strategists may provide information to investors as well as to FTN Financial's trading desk. The trading desk may trade as principal in the products discussed in this material. Strategists ma may ha have e cons consulted lted with ith the trading desk while hile preparing this material and the trading desk may have accumulated positions in the securities or related derivatives products that are the subject of this material. Strategists receive compensation which may be based in part on the quality of their analysis, FTN Financial revenues, trading revenues, and competitive factors. Although Alth h this thi information i f ti has h been b obtained bt i d from f sources which hi h we believe b li tto be b reliable, li bl we d do nott guarantee its accuracy, and it may be incomplete or condensed. Ratings on all securities are subject to change. Opinions, historical price(s) or value(s) are as of the date and, if applicable, time, indicated. FTN Financial does not accept any responsibility to update any opinions or other information contained in this communication. FTN Financial is not providing investment advice through this material. This is for information purposes only and is not intended as an offer or solicitation of any product product. Securities Securities, financial instruments, products or strategies mentioned in this material may not be suitable for all investors. Before acting on any information in this material you should consider whether it is suitable for your particular circumstances. Further information on any of the securities or financial instruments mentioned in this material may be obtained upon request. FTN Financial Group, FTN Financial Capital Markets, and FTN Financial Portfolio Advisors are divisions of First Tennessee Bank National Association (FTB). FTN Financial Securities Corp (FFSC), FTN Financial Main Street Advisors, LLC and FTN Financial Capital Assets Corporation are wholly owned subsidiaries of FTB. FFSC is a member of FINRA and SIPC—http://www.sipc.org/. FTN Financial Group, through FTB or its affiliates, offers investment products and services. FTN Financial is not registered as a Municipal Advisor. 38 38
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