Pub. 1 2020 Issue 1

9 ISSUE 1 | 2020 economy, which of course spawned a favorable lending environment, much like today. Bond portfolios actually shrunk between 1998 and 2000 by a goodly amount of about 25%. This too is a condition that has repeated itself in the very recent past. What were once vices… Peeling back the portfolio onion a bit, we can see how investor preferences and investment products have changed in two decades. Non-amortizing taxable bonds, meaning Treasurys and agencies, made up a large portion of securities portfolios in 1999; in fact, more than 30%. Community banks actually owned more agencies than direct pass-through mortgage backed securities (MBS). It was in this period that “step-ups” hit the scene and appealed to portfolio managers who were justifiably concerned about a “Bad Moon Rising,” otherwise known as still-higher rates. Today, the treasury/agency slice of the “American Pie” is only 12% of the total. These have been replaced by all manner of MBS and by tax-free munis. Even though banks own fewer munis than before tax reform went into effect in 2017, the overall industry profitability creates plenty of incentive to avoid tax liability. Also, particularly for the bank-qualified (BQ) muni sector, credit metrics recently have been outstanding. …Are now habits Portfolio managers in the 21st century have proven to be quick on their feet, and well-informed. The migration out of one-fifth of their tax-free bonds mentioned in the above paragraph is a perfect example. Something else that community bankers have gotten comfortable with in relatively short order is the dramatic growth of multifamily MBS. Bonds with names like DUS, Aces and K’s have become staples in bond portfolios. Also present is the careful maintenance of average maturities, also known as effective duration. Around 80% of investments owned by community banks have some type of call feature attached. Though interest rates have had some wild swings in the past two decades, and rates have trended lower in that time, bond portfolios’ durations have been amazingly stable. The portfolio managers and the risk management functions in general have been able to “Hold on Tight.” Another success for community banks is their still-low cost of funds. Industrywide, the average remains less than 1%, even though Federal Reserve raised rates a total of 10 times between 2015 and 2018. Included in the toolbox are interest rate swaps, which can be used to lock in historically low funding costs. Not “Money for Nothing,” but close. Let’s party like it’s 2020. The Beat Goes On.  Jim Reber (jreber@icbasecurities.com) is president and CEO of ICBA Securities, ICBA’s institutional, fixed-income broker- dealer for community banks. 2020 webinar series ICBA Securities and its exclusive broker Vining Sparks will again offer a multipart webinar series Community Banking Matters next year. A variety of topics that address balance sheet strategies and risk management will be offered. We will again offer CPE to the participants. Be looking in this space for details or visit icbasecurities.com . As we’ve learned over the decades, bond portfolio management is a give-and-take proposition. If your collection of securities is underwater, at least you have the comfort of knowing that your overall yields are heading “Higher and Higher.”