OTS Proposes Simplification Of Interest Rate Risk Test

The Office of Thrift Supervision proposed Wednesday to streamline the test used to determine interest rate exposure.

Under the plan, thrifts would have to determine how a 300-basis point change in interest rates would affect their capital. Currently thrifts are required to predict the impact of a 400-basis point change on overall assets and net earnings.

The proposed new guidelines would complement risk management policies for securities and derivatives recently approved by bank regulators.

OTS Director Ellen S. Seidman said the streamlined test is intended to provide a more accurate gauge of an institution's capital adequacy and simplify interest rate risk management.

"Given the complexity of today's financial institutions, it would be more difficult for OTS to evaluate the interest rate risk exposure of 1,100 plus thrifts on a consistent basis without the new model," she said.

Industry officials applauded the proposed changes. "This provides a more streamlined and cohesive vehicle for managing investment risks," said Gary Gilbert, regulatory specialist at America's Community Bankers. "It will reduce regulatory burden and produce clearer guidance."

The proposal also would increase to $1 billion of assets the size of institutions that are expected to develop their own interest rate risk models. Currently, thrifts with $500 million of assets are expected to have internal models.

"We wanted to reduce regulatory burden for smaller thrifts, but we still encourage all institutions to have an internal model," said Anthony Cornyn, OTS director of risk management. "Most institutions over $500 million already have their own models, and we believe they will continue to use them."

The proposal also details how the OTS plans to carry out new risk management policies from the Federal Financial Institutions Examination Council for securities and derivative investments. Those policies take effect May 22.

The change being implemented by the exam council would eliminate a cumbersome three-part test for gauging any investment's suitability.

The OTS wants to make sure thrifts do not take improper risks after the test is eliminated. Consequently, the agency is proposing that thrifts analyze the potential impact of any complex or volatile securities and derivatives purchase on their investment portfolios.

The OTS proposal also outlines measurements examiners would use to determine an institution's overall exposure to interest rate risk - the "S" component of the Camels rating system.

"A common set of guidelines will ensure more consistency in the assignment of ratings," Ms. Seidman said.

Comments on the plan are due June 21.

In a related move Wednesday, the OTS issued a separate proposal to consolidate rules for derivatives investments. The proposal would eliminate limitations on the amount of specific derivatives investments a thrift may hold. Instead, thrifts would be expected to "generally engage" in derivatives investments only to reduce risk exposure.

The plan also specifies that a thrift's board of directors must establish policies for derivatives investments.

All types except mortgage derivatives would be included in the rule. A proposal on mortgage derivatives is in the works.

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