Independent Banker - September 2022 - 35

Next: Accommodating customers living with disabilities 
Even as the Fed has pushed through a
multitude of rate hikes this year, it's also
quit buying bonds completely, so a large
buyer has left the building (which is not an
obtuse reference to Elvis Presley).
buying bonds completely, so a large
buyer has left the building (which
is not an obtuse reference to Elvis
Presley). Higher interest rates have
caused some sectors, in particular
mortgage-backed securities (MBS),
to extend their average lives, where
investors expect more spread to
compensate for greater price risk.
A separate but related
consequence of rising rates is that
the municipal bond sector has been
in a bit of disarray lately. Munis
are often the longest maturities in
a community bank's investment
portfolio, and therefore will lose
more market value than other
varieties. What's interesting is a
majority of the entire $4 trillion
muni market is owned not by
institutional investors such as banks
but by individuals either in the form
of individual small blocks or mutual
funds. There has been a noticeable
net outfl ow in muni bond funds
this year, again removing a large
investor group from that market. I'm
pleased to report that there has been
no noticeable decline in the credit
quality of the sector in this cycle, at
least not yet.
This combination of rate hikes
by the Fed, and the disappearance
of buyers for treasuries, MBS and
munis, have caused spreads to widen
when normally they've held steady or
shrunk. This is part of the reason bank
portfolios are so far underwater.
To put a pencil to it, a very simple
MBS at the start of 2022 would
have had a spread over the Treasury
curve of about 15 puny basis points
(0.15%); today, a similar bond can
be found at about 65 basis points, or
incremental yield of a full 0.50%. In
the municipal sector, a high-quality
10-year muni has seen its spreads
increase by a similar amount.
What happens next
When will spreads return to normal?
A lot of variables are at play
here, and some of the answer
is predicated on how softly the
Federal Open Market Committee
can bring this economy down to the
runway. If infl ation (and therefore
rates) remains high, it's possible
buyers will reappear to snap up
attractive yields, causing spreads to
narrow. If a worse-than-expected
recession emerges and rates start
to fall, spreads could remain wide
as credit and call risk start being
priced in again.
And then there's the chance
we have both high rates and a
recession. That's clearly the worst
outcome. But if yield spreads
remain wide, a case can be made
that there's relative value in
the type of high-quality bonds
community banks own. Time to
buy? Maybe. 
Jim Reber, CPA, CFA (jreber@
icbasecurities.com), is president
and CEO of ICBA Securities, ICBA's
institutional, fixed-income brokerdealer
for community banks
Education on Tap
2022 webinar series continues
ICBA Securities and its exclusive broker Stifel Financial resume the
2022 Community Banking Matters webinar series on Sept. 13 at 10 a.m.
Central. The topic is " Municipal Market Update: Investment Strategies
and Credit. " To register, visit icbasecurities.com
Bank strategies webinar this month
Stifel will host its 3rd quarter Bank Management and Consulting
webinar on Sept. 22 at 10 a.m. Central. The presenters will be
Marty Mosby and David Kantor. Contact your Stifel rep for more
information and to register.
independentbanker.org Q 35
http://www.icbasecurities.com http://www.independentbanker.org
Independent Banker - September 2022

Table of Contents for the Digital Edition of Independent Banker - September 2022
