WASHINGTON - A two-percentage-point rise in interest rates would cost institutions regulated by the Office of Thrift Supervision 5% of their market value, the agency said on Wednesday.
It's the first time the OTS has publicly discussed the impact of the rate risk borne by the industry. The findings are based on June data that were plugged into a model the agency began using this year.
The industry's market value typically declines as interest rates rise, because of heavy investments in home mortgages.
Rate Exposure Reduced
Should rates rise 1%, the OTS projected that the industry's market value would drop 1%. Should rates drop 1%, there would be no change in the industry's market value. If interest rates fell 2%, the industry's value would go up 1%.
The data show that "the industry has done a fairly good job of reducing its interest rate exposure," said Anthony G. Cornyn, OTS deputy assistant director for policy.
The OTS is the first of the banking agencies to require institutions to set aside capital as a cushion against interest rate risk. The other banking agencies in September proposed rules for adopting rate risk components, but none have been finalized.
Many Seek Agency's Analysis
The OTS tracks interest rate exposure for the 1,497 institutions that file data with the ageny. Of those, only 610 are required to report under the new rules, but another 887 do so because they receive the OTS' analysis of their thrift's rate risk in return, Mr. Cornyn said.
The OTS estimates that if rates rose 3%, the industry's value would drop 11%, and if rates spiked 4%, thrifts' value would drop 19%. Mr. Cornyn said estimates of what would happen to the industry if interest rates should drop quickly are irrelevant now because "rates are so low that we are unlikely to have a 3% decline."
A 4% rate spike "is a relatively remote possibility, but we calculate it because institutions should know what would happen to their balance sheets in a severe shock," Mr. Cornyn said. "It's the Hurricane Andrew effect."
"The numbers are meaningless," said Bert Ely, an Alexandria, Va.-based consultant. "The overall numbers don't sound bad, but that is the danger of looking at averages."
Thrift regulators' new model for measuring rate risk has a side benefit - allowing them to monitor the thrifts' use of derivatives, which are financial contracts whose returns are derived from the performance of currencies, interest rates, or commodities.
Primarily a Hedging Tool
"So far, we have found that they have been using derivatives to reduce their overall interest rate exposure," Mr. Cornyn said. In fact, the agency found that fewer and fewer thrifts are using derivatives.
Since 1988, the OTS has been collecting data on rate risk, including data on off-balance-sheet derivatives holdings. The off-balance-sheet holdings are primarily nonmortgage derivatives, which regulators have expressed increasing concern about because they are complex.
The nation's thrifts primarily use derivatives to hedge. Most thrifts are not large enough to trade derivatives, although they are not directly prohibited from it.
"We want the institution to demonstrate that by adding the swap they reduce the overall interest rate exposure of the firm," Mr. Cornyn said.
"Thrifts have confined their use to relatively straightforward derivative products, and have shied away from using the more exotic instruments," he said. "I think it is good that they are using instruments that they understand - they are useful products, but like a buzz saw they can be dangerous if you don't know how to use them."
The OTS has had a model in place to monitor off-balance-sheet derivatives since 1988. The other banking agencies have not yet begun to collect such detailed information of banks' derivatives holdings.