Independent Banker - October 2017 - 82

Nuts & Bolts
PORTFOLIO MANAGEMENT
Short interest
Earnings can be found on the front end of the curve.
By Jim Reber
I
ICBA
VOICE
f you are responsible for the
management of your community
bank's investment
portfolio, there's a good
chance you have been in this
conversation in the past 10 years:
You: " I need to buy some shortmaturity
bonds. What kind of yield
can you show me in a two-year fi nal? "
Favorite broker: " I can get you
around 45 basis points to maturity,
if you're willing to live with some
call risk. "
You: " You've got to be kidding me. "
Overall portfolio yields have not
yet begun to show the effect of the
Fed's multiple hikes to the Fed funds
rate since December 2015, but market
yields for shorter-duration bonds
have noticeably improved. Although
most bond analysts are forecasting
some further fl attening to the yield
curve, we have seen some of that
already take place.
Just in the fi rst eight months of
2017, the difference in short (e.g.,
two-year) and long (e.g., 10-year)
Treasury yields shrunk by 47 basis
result of short rates rising and long
rates falling. The good news is that
community banks' cost of funds
has barely budged in the nearly two
years since the Fed began raising
interest rates, so short investments
can now actually create some net
interest margin.
Jim Reber (jreber@icbasecurities.
com) is president and CEO of ICBA
Securities, ICBA's institutional,
fi xed-income broker-dealer for
community banks.
_____________
___
Funds cheap and plentiful
Overall costs of funds
for community
banks remain near
their historical
lows. According
to the FDIC, the
average bank with
less than $1 billion
in assets was paying
all of 46 basis points
to fi nance its operapoints
(0.47 percent). And that fl attening
is more pronounced when
we analyze the securities that community
banks actually own, such as
agencies, mortgage-backed securities
and municipal bonds.
So far, the 2017 levelling of the
interest-rate curve is equally the
tions as of March 31, 2017. This was
only 6 basis points above the all-time
low of a year earlier.
This means that for each $100
million of deposits, your community
bank's interest expense has increased
just $60,000 annually.
Recall that the target level of Fed
82 ICBA IndependentBanker October 2017
funds was 50 basis points higher in
March 2017 than 12 months prior.
Despite banks being quite deliberate
about increasing their rates on deposits,
they remain capable of attracting
them; insured FDIC deposits grew
by more than 6 percent in this same
12-month period. So it would appear
that depositors are not demanding
higher returns on their insured
deposits, at least not yet.
Full Fed disclosure
The global parlor game known as
Fed-watching has produced a complete
lack of consensus for the near
future. The Fed's own " dot plot " projects
that year-end 2018 will have Fed
funds at a median of 2.125 percent. If
historical spreads prevail, that will
mean the two-year Treasury note
would yield about 2.40 by then.
Conversely, the " market, " as
defi ned by Fed funds futures, is
suggesting only one more increase
to overnight rates in the next year.
Compared with the Fed's projections,
that would mean less yield for all
investors on the short end, whether
Independent Banker - October 2017

Table of Contents for the Digital Edition of Independent Banker - October 2017
