TIB Ticker - Check Your Bond Portfolio

March 11, 2010TIB Ticker™ - Daily Rates & Viewpoints From the Officers & Staff of TIB.

Check Your Bond Portfolio

In today’s environment, one focus of regulators (and hopefully all bankers, as well!) is on a bank’s preparedness for rising interest rates. While it’s likely that the majority of your preparation will happen on the deposit and loan sides of the bank, you can take some simple steps to tweak your bond portfolios that can have huge long-term implications to the bank’s bottom line in higher interest rate environments, with nominal impact to short-term income and market value.

Usually, when a bank considers a bond swap, it looks at yield pickup/giveup, gain/loss, additional/reduced duration risk, etc. You can often sum up a swap to your boards with a few simple key phrases: “We picked up “x” basis points of yield, which is a “y” month payback for the loss we took, and we only extended our duration risk by “z” months.”

The reality that we’re looking at now, however, cannot be summed up quite so succinctly. We still need to concern ourselves with current income, yield, and duration changes, but we also need to concern ourselves with long-term duration extension in rate shifts, as well as an uncertainty as to how long it will be when rates will increase. Now swaps aren’t that simple- they must be looked at using multiple variables – and we might have to let yield take a back seat to potential exposure – which is difficult to do in the current banking environment.

With all these variables, it’s easy to tune out the barrage of numbers flying at you when you work through a swap. So let’s take a look at a simple $1,000,000 transaction- checking every angle and working through multiple scenarios.

Let’s take a look at a bond that a lot of you own (7 of you that I could find) – each TIB customer who owns this bond purchased it in the spring and summer of 2009 when we saw yields on newer 15 year 4.5% MBS at and above the 4% range. The bond, FG G18303, is currently a 12-month seasoned 4.5% with a base case yield of 4.04% (at a typical ownership level of 101-8). Let’s look at holding $1,000,000 of that bond versus selling it and buying $1,000,000 of a generic 15 year 5.5% with 48 months of seasoning.

First we’ll look at what happens if rates shift up 300 bps a year from now.

You’ll see that a year from now, you gave up $18,700 in yield differential income by moving to the shorter bond, but you took a $21,400 gain, so you’re net $2,700 better off from a current income perspective. After you amortize the premiums of both on your books for a year (using TIB bond accounting default speeds), you’ll see that the extension of the 2024-maturity 15 year 4.5%, combined with the lower coupon, will cause significantly worse market value deterioration, while the shorter stated final and “yield kick” of the higher coupon will drastically lessen market value deterioration. You’re $82,952 better off with the more seasoned bond from a market value standpoint. And your $2,700 additional current income was an added bonus. Net/net, you’re $85,652 better off per million swapped.

	FG G18303	New bond
gain taken	$0.00	$21,400.00
yield year 1	$40,400.00	$21,700.00
TOTAL INCOME	$40,400.00	$43,100.00

price on your books now	101.25	107.75
price on books 1 yr. from now	100.91	104.97
price of bond after rate shift	85.78	99.25
amount of bonds left	$810,005.00	$691,779.00
market value loss	$122,513.26	$39,561.11

Now let’s look and see what happens if a rate shift doesn’t occur for two years. From a current income perspective, you’re $15,012 worse off. From a market value perspective, you’re $73,637 better off. Net/net you’re $58,625 per million better off doing the swap.

	FG G18303	New bond
gain taken	$0.00	$21,400.00
yield year 1	$40,400.00	$21,700.00
yield year 2	$32,724.20	$15,011.60
TOTAL INCOME	$73,124.20	$58,111.60

price on your books now	101.25	107.75
price on books 2 yrs. from now	100.56	101.66
price of bond after rate shift	86.81	100.06
amount of bonds left	$590,417.00	$473,393.00
market value loss	$81,182.34	$7,544.70

And just in case you’re curious, your net/net improvement is $46,980 per million even if rates-up didn’t happen for 3 years.

There are a lot of you out there who own $5 million, $10 million, or possibly $50 million or more of this type of bond. Considering potential savings of over $85,000 per million, there’s a lot of wealth at stake here.

I encourage you to dig into your portfolios and find those newer 15, 20, and 30 year bonds so that you can find the potential market value risks in your portfolio. Or you can always feel free to ask your TIB Capital Markets rep to do it for you. This exercise is not only an opportunity to appease your regulators- it’s an opportunity to put your bank in a much better place when rates rise- which, at some point, they most certainly will.

Blake Scharlach Blake Scharlach
Asst. Vice President
TIB Capital Markets
bscharlach@mybankersbank.com

Market Levels @ 8:53 AM CST

TIB Fed Funds Rate - Previous Day
Agent	0.03%	Principal	0.20%	STAR Principal	0.25%

Key Indices/Commodities
1 - Month LIBOR	0.23%	Dow Jones	10511.71
3 - Month LIBOR	0.25%	NASDAQ 100	2349.26
1-Yr LIBOR	0.86%	S&P 500	1137.80
1-Yr CMT	0.39%	Spot Gold	1103.60
Prime	3.25%	Spot Silver	16.90
3-yr LIBOR Swap/Offer	1.73%	Spot Crude Oil	81.70
5-yr LIBOR Swap/Offer	2.65%	CRB Index	273.66
3 Mo - Fed Fund Futures	0.2%	6 Mo - Fed Fund Futures	0.31%

US Treasury Yields		US Non-Callable Agency Yields
Yield	Maturity	Yield	Spread
0.04%	90 - Days
0.10%	180 - Days
0.88%	2 - Year	1.04%	16bp
1.44%	3 - Year	1.69%	25bp
2.36%	5 - Year	2.63%	27bp
3.70%	10 - Year	3.89%	19bp
4.66%	30 - Year
282 BPs		Yield Curve(2's-10's)

Sample 1x Callable Agency Issues
Description	Call Date	YTC	YTM
FHLB 1.50 12/24/12	3/11	1.50%	1.50%

Select MBS Levels
Description	Coupon	Yield	Spread/Duration*
15-Yr FNMA	4.00%	3.5%	98 / 4.54
30-Yr GNMA	4.50%	4.29%	49 / 8.06
*Duration @ 12 month Historical CPR

Morning Commentary:	Blake Scharlach
The US trade deficit unexpectedly narrowed in January, thanks to lowered demand for oil and autos. The trade gap decreased 6.6% from December, as the US imported the lowest monthly total of crude oil in over a decade. The deficit is expected to re-widen next month, as consumer spending improves and oil prices climb. The Treasury is issuing $13 billion of 30-year treasuries today, but bids are not expected to be as strong on the 30 year as they were on the $21 billion of 10 year debt yesterday, or the $40 billion of 3-year debt on Tuesday. First-time jobless claims dropped by 6,000 to 462,000 for the week ended March 6. Jobless claims are expected to continue to slowly fall over the near term. Unemployment held at 9.7% for February. Some companies like Accenture and Ford are adding jobs, but others like American Airlines continue to reduce payrolls.

Morning Commentary:

Blake Scharlach

The US trade deficit unexpectedly narrowed in January, thanks to lowered demand for oil and autos. The trade gap decreased 6.6% from December, as the US imported the lowest monthly total of crude oil in over a decade. The deficit is expected to re-widen next month, as consumer spending improves and oil prices climb. The Treasury is issuing $13 billion of 30-year treasuries today, but bids are not expected to be as strong on the 30 year as they were on the $21 billion of 10 year debt yesterday, or the $40 billion of 3-year debt on Tuesday. First-time jobless claims dropped by 6,000 to 462,000 for the week ended March 6. Jobless claims are expected to continue to slowly fall over the near term. Unemployment held at 9.7% for February. Some companies like Accenture and Ford are adding jobs, but others like American Airlines continue to reduce payrolls.

Information contained herein is based on sources we believe to be reliable but its accuracy is not guaranteed. Customers should rely on their own outside counsel or accounting firm for specific circumstances. The securities, yields or levels discussed herein are for illustration purposes and are not guaranteed, not obligations of any bank, thrift or other entity and are not insured by the FDIC.

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