New Investment Portfolio Regs More a Help Than a Hindrance

Earlier this year, Janey Boyce, the treasurer of Capitol Corp. of the West, was bracing for the worst from visiting regulators.

A year earlier, the fast-growing investment portfolio of her $500 million-asset bank company, based in Merced, Calif., had attracted plenty of scrutiny from examiners. So it was natural to expect more questions.

But Ms. Boyce found that the Federal Reserve examiners who visited her bank were in, her words, "more reasonable."

They were also operating under a new regulation regarding a bank's investment portfolio that went into effect between visits.

The new regulations, issued by the Federal Financial Institutions Examination Council in May 1998, has aroused the interest of community bankers across the country.

But the buzz among industry observers is that the regulation is more of a help than a hindrance.

"They are allowing banks more latitude in the management of their investment portfolio risk," says C.J. Pickering, president of ICBA Securities, a broker-dealer that helps community bankers analyze their investment risk. "I'm pleased with the direction."

Before the new rule, regulators looking at investment portfolios focused specifically on mortgage derivatives such as collateralized mortgage obligations. The regulation required specific stress testing and specific risk parameters for these securities.

The new regulation removes the requirement for mandatory testing of mortgage derivatives. Instead, it requires that the bank must come up with its own requirements for assessing the riskiness of all its investments, not just mortgage derivatives.

During a core examination, an examiner will want answers to these questions, among others: Are investment policies, procedures, and risk limits adequate? Has an effective internal control program been implemented? Do the board and management effectively oversee investment activities?

"We are saying to a bank, 'You assess the type and amount of risk you take based on your own capital situation,'" says William A. Stark, an assistant director in the FDIC's division of supervision.

Though the new rule places the responsibility on banks to come up with their tests and risk standards, that is simple enough to deal with. Banks can retain the analytical services of ICBA Securities, or competitors such as First Tennessee and Morgan-Keegan. Or they can purchase analytical software produced by Bloomberg, Telerate, and others.

Says Ms. Boyce: "It's logical for a community bank to outsource this function."

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