WASHINGTON — Bankers cannot wait for interest rates to start rising before deciding how they plan to handle it, regulators, executives and others said Friday at a conference devoted to interest rate risk.
With the ultra-low rates due to rise in the near future, participants at a Federal Deposit Insurance Corp. symposium said banks need to plan now for the changing environment.
"Don't wait for the tide to go out to see how your balance sheets and your earnings … hold up to higher interest rates," said Edward Krei, a managing director at the Baker Group, an Oklahoma City investment firm.
As the federal funds rate has hovered near zero for over a year, regulators have warned that some banks — after utilizing the cheap funding and holding on to long-term assets — may be unprepared when rates normalize.
"Some firms have capitalized on" the low rates "by increasingly using shorter-term funding for longer-term assets — I'm afraid that the risks of this business model will become all too clear when interest rates rise, or the yield curve flattens," said FDIC Chairman Sheila Bair.
Three weeks after an interagency advisory on interest rate risk management, the conference was another step by the regulators to highlight the issue.
"It is important now for institutions to have in place sound practices to measure, monitor and control this risk," Federal Reserve Board Vice Chairman Donald Kohn, who declined to give a rate outlook, said at the outset of the conference. "They must not become distracted from this critical task by their efforts to deal with credit problems, nor can they think that assuming greater interest rate risk is a sound strategy for compensating for losses they are taking on their loan portfolio."
Panelists, including other bankers, recommended strategies for mitigating interest rate risk, including an emphasis on core depositors, hedging instruments such as interest rate derivatives and tasking a committee to focus on the duration mix of assets and liabilities.
"If you don't have an" asset-liability-committee "process, you're not going to manage interest rate risk," said Howard Atkins, the chief financial officer at Wells Fargo & Co.
Responding to a question, Christopher Spoth, the senior deputy director in the FDIC supervision division, said interest rate swaps — which can provide institutions with future income to offset losses tied to higher interest rates — can be "appealing" for community institutions, as long as they are used properly.
"It's clearly incumbent on the board of directors and the ALCO committee to truly understand how their derivative instrument works," Spoth said.
But numerous speakers talked about the difficulty in predicting the direction of interest rates. Still, they said, that is no excuse for inaction.
"What do you do when you don't know? Paralysis is not the answer," said Mohamed El-Erian, the chief executive of Pacific Investment Management Co.