Community banks should be wary of jumping on the derivatives bandwagon, analysts say.
Smaller banks don't have the sophisticated reporting systems necessary to monitor derivatives, are too small to use the large contracts they require, and sometimes just plain don't understand them, said Ann Grochala, director of bank operations for the Independent Bankers Association of America.
"I don't expect to see any sort of large move to the use of these products by community banks any time in the near future," she said, because they "are too risky and too complex."
Community banks are right to hesitate over derivatives, said James Kaplan, president of Capital Management Sciences in Los Angeles, a software builder for financial intermediaries.
"You certainly can't rely on traditional measures of return and risk to fairly assess these securities," he said.
Not So Fast
But because derivatives and the appropriate tools with which to measure them increasinly are available and more cost effective, "I would imagine that within two years, all community banks will have some exposure" to derivatives, Mr. Kaplan said.
However Edward Krei, vice president of Liberty National Bank and Trust Co. in Oklahoma City, disagrees.
Mr. Krei advises through correspondents about 75 banks, with $25 million to $200 million in assets, on asset liability. And he doesn't think derivatives will spread through community banks so far so fast.
They look askance at them, he said. "Most community banks feel their activity is done on balance sheets.
"With all of the public discussion that derivatives have received and all the discussion among regulatory authorities ... the industry continues to reflect regulatory paranoia. This is another thing to watch out for."