Communicator Archives: May 2001

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Interest Rate Risk
And the good news is...

While most of our personal portfolios are looking less than stellar, the economic downturn of the past six months could prove profitable for community banks.

First, the serious decline in equity markets has begun a shift in deposits toward traditional banking products.   This growth pattern of core deposits slows and may potentially reverse an almost decade long trend of reliance on expensive, wholesale funding sources. Community banks have been forced into brokered deposits and FHLB advances which puts a tight squeeze on net interest margin. This influx of deposits is a welcome relief.

Secondly, in a struggle to maintain net interest margin, the typical community bank adopted aggressive loan strategies to boost earnings. In many cases, a bank's high cost funding was channeled into riskier commercial loans that compromised the credit quality of the bank. The recent real estate boom should help to ease this burden from both a profitability and risk standpoint.

Finally, the typical community bank tends to have longer duration assets and relatively shorter duration liabilities. The recent downward trend in rates optimizes this type of bank's profitability by repricing liabilities downward at a quicker rate than assets. Although this situation is temporary, banks should, in general, see net interest margins increase.

And now for the bad news. The economic downturn could increase loan charge offs and wipe out gains in profitability. Falling rates could also mean a downward trend in economic value of equity. The bottom line: the potential exists for community banks to record outstanding profits in 2001 but it is never as easy as it looks!

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ICBA took the lead this week in drafting a joint memorandum to the Senate that was also signed by the ABA, ACB, Conference of State Bank Supervisors and the Financial Services Roundtable.

The five banking trade groups urged removal of a provision in the Bush administration's FY 2002 federal budget requiring the FDIC and Federal Reserve to charge for exams of state-chartered banks and bank holding companies (BHCs). Similar language was included in seven Clinton administration budgets, but was rejected by Congress each time, as well as by the House in late March during its action on the Bush budget bill.

The joint memo noted that the FDIC and the Fed have had authority to charge exam fees since 1991 but have never done so, and that they are already financially healthy, self-funded entities. All banks and thrifts already pay exam fees to their chartering agencies (whether federal or state), as well as deposit insurance premiums to the FDIC. As such, the memo noted, imposing exam fees on state-chartered banks and BHCs would be a discriminatory, double fee on these entities simply because of their charter or organizational structure.

Additionally, Comptroller Jerry Hawke and OTS Director Ellen Seidman sought to have this issue discussed in the FDIC's deposit insurance reform recommendations issued this week. However, Chairman Donna Tanoue, who said the issue was not "central to the deposit insurance reform effort," rejected this idea. We agree.

As we went to press, the Senate was still deliberating the budget bill, but all indications were that an amendment by Senate Banking Committee members Mike Enzi (R-Wyoming) and Tom Carper (D-Delaware) to strike the exam fees provision would be accepted, particularly given its broad bipartisan support.

Text of joint memo:
www.icba.org/news_views/memo0403.html

More on examination and supervision:  (ICBA members only)
www.icba.org/members/govt_relations/exam_supervision_fr.html

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Can more than one person in my bank have access to A/LBonline?
YES! ORA encourages everyone at the bank who uses A/L Benchmarks enjoy the on-line features. It's best if each of you set up you own account.

As long as you have 3 important elements you can setup new users:

1. A valid email address
2. The banks regulatory id (Certificate Number)
3. Client code

If you do not have all of the information necessary to complete an account, email webadmin@olsonresarch.com or call 888/657-6680 x262.

Does it cost more to have an A/LBonline account?
Absolutely not! ALBonline is a way to add more features to A/L Benchmarks^® without adding to the cost. Once you begin to use the online features, ORA would be delighted if you would let us know how to make it more useful. Constructive criticism is encouraged and invited.

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Q. We have just received our Peer Data. We are always a little confused as to the importance and use of the standard deviation. Could you please explain?

A. The Peer Report offers a regulatory view of the bank's ALM performance. It is designed to assist bankers in the construction and administration of risk management policies. The Peer Reports gives you a sense of where you are in relation to banks of similar size.

For each measurement, clients will see their bank's data alongside the peer group statistics. Peer groups are assigned by assets size in order to more accurately reflect "average banks". The peer mean represents the average for all banks in the peer group. Standard deviation refers to the movement both up and down from the mean (average) which would encompass the majority (66 2/3%) of all of the banks in the peer group. High, median and low figures are set points: the highest, middle and lowest figure in the peer group.

Let's look at an example:

Let's say that your bank, which has $120M in assets and is in Peer group B, has an ROA of 1.20 for the 4th quarter of 2000. The mean, or average, of all banks in Peer Group B for the 4th quarter of 2000 is 1.18. The standard deviation is .52, meaning that the range for the majority (66 2/3%) of the banks in Peer Group B is between .66 and 1.70, (adding and subtracting the standard deviation from the mean). The bank with the highest ROA in Peer Group B for the 4th Quarter 2000 had an ROA of 3.64, the middle 1.16 and the bank with the lowest ROA in Peer Group B was -1.67.

Because the bank in our example had an ROA of 1.2 and is within the range for the majority of the peers (.66 to 1.7), ORA will state that this bank is "in-line with the majority of its peers".

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