Meeting the Challenge of Investing Bank Funds
Banking, once a profession considered predictable and secure in its traditions, has become one of the fastest-changing fields in the business world. And investing bank funds is no exception.
Bank portfolio managers are bombarded with data from all sides. As a senior investment expert at the Office of the Comptroller of the Currency said recently, "I don't know how portfolio managers handle the incredible amount of change. Every week there is an overwhelming amount of new information."
Where to Focus
There is no single answer to the challenges of professional bank portfolio management.
There are, however, two keys to managing in the face of unprecedented change.
* Develop a sound and flexible asset/liability management strategy.
* Develop the ability to critically examine, compare, and contrast securities on an ongoing basis.
Much has been written and said about this still-new discipline in banking.
But it is not uncommon to find a community bank that has not developed an informed, well-thought-out program for measuring its interest rate risk or for implementing profit-enhancing strategies based on effective asset/liability management.
Too often banks see asset/liability management more as damage control than as profit enhancement. But it's a fact that managing interest rate risk effectively means more profitability.
Another common misconception in this area relates to portfolio management. It is the philosophy that says, "If I just keep my investment short, I'll avoid interest rate risk."
Some banks have suffered the consequences of this thinking in the past few years. In many parts of the country, banks in whose loan portfolios the floating-rate portion has increased hugely have seen profit margins squeezed, as yield on assets fell much faster than their cost of funds.
In asset/liability management, simple answers are often wrong answers.
It is not that asset/liability management is the unique key to portfolio management - though that might be the impression one gets at some bank investment seminars.
But the technique provides the direction needed in selecting securities in light of economic developments.
This is where the rubber meets the road - and where asset/liability management policy is implemented.
The truly professional bank portfolio manager must learn to critically examine all investment options as the bank and investment arenas change, which they do on a daily basis.
Unlike the field of asset/liability management, where consultants with expertise (and, unfortunately, without) abound, investment information is most likely to be found from those that daily participate in the markets on a daily, moment by moment basis - namely, brokers.
Yes, there are investment consultants. But they get much if not most of their information from brokers or brokerage research.
This situation needs management, and it always is managed either by the banker or by the broker.
There are steps you can take to make sure the bank's real needs are met.
To start with, seek out knowledgeable brokers who specialize in bank investments and common sense. Make enquiries of your peers at high performing banks.
Test brokers' opinions and philosophies, not necessarily for their compatibility with yours (you can always find people who will agree with you), but for the intellectual integrity of their position.
Remember that one broker is always too few, but for many community banks more than three is too many.
If you've really found a quality broker, he or she must have enough of your business to justify spending nonselling time working for you and looking out for your interest in the market. Obviously, the broker who brings the most value should get the most business.
In a perfect world all brokers would provide both sides to every story, advising on both the benefits and the hazards of each investment. However, in the real world, it pays to bounce new investment products off the competition. One thing is sure: you can always trust the competition to point out any pitfalls.
And beware of the blanket type of argument we have been hearing a lot of lately - for example, that "investment A isn't as good as investment B for community banks". Raise the red flag on any statements that imply "always." Remember, critical analysis precludes easy, once-for-all strategies.
Keeping Up to Date
Develop a flexible investment policy that doesn't tie the hands of the portfolio manager.
Put your feelers out for high-quality seminars and books on bank investing (unfortunately, there aren't many).
Also, use third-party resources when available. But remember: The market changes so fast that last week's best seller can be old news.
Mr. Betzold is a vice president of Chicago-based Clayton Brown & Associates, an investment banking firm that specializes in public securities. He edits its Bank Portfolio Manager.