Thursday, January 07, 2010

Bizarro Press Release From the Federal Reserve

You'll be reading a lot about this one tomorrow.  A list of regulators, including "the Board of Governors of the Federal Reserve System (FRB), the Federal Deposit Insurance Corporation (FDIC), the National Credit Union Administration (NCUA), the Office of the Comptroller of the Currency (OCC), the Office of Thrift Supervision (OTS), and the Federal Financial Institutions Examination Council (FFIEC) State Liaison Committee (collectively, the regulators)" put out a press release today  urging banks to stress test their interest rate exposure.

"The financial regulators are issuing this advisory to remind institutions of supervisory expectations regarding sound practices for managing interest rate risk (IRR). In the current environment of historically low short-term interest rates, it is important for institutions to have robust processes for measuring and, where necessary, mitigating their exposure to potential increases in interest rates."

There are 11 pages in total, which I find pretty bizarre.  If the Regulators need to lecture the big boys on managing interest rate risk, don't we have a huge problem?  Isn't the job of the banks to know how to manage this risk?  Is the whole press release an effort by the Regulators to "bluff" the market, in the sense that they think they can manage interest rates by threatening to raise them or insinuating that there might be interest rate hikes, rather than by actually raising rates?

In any case, I found the conclusions on page 9 to be the most interesting, among them: "Reduce levels of IRR exposure."  Really?  Great idea!  But... ummm.. how exactly?  By buying interest rate derivatives to shift the exposure to someone else?  I feel like I just discussed that - oh wait - I DID!  GS "hedging" its AIG exposure buy buying protection on AIG from someone else.  Can the system really reduce its interest rate exposure, or just move it around from one bank to another, or from the banks to the Fed!?!  Isn't the whole problem with the system right now that the Fed is increasing interest rate exposure massively by providing near zero cost short term funding for the banks, and that once this funding goes away, the banks will have to actually pay for funds?  Ah hah - maybe the Fed is telling banks to lock up some long term funding by selling corporate debt at relatively low fixed rates - to ween themselves off of the Fed's Free Money Teat..

The final line of the press release wins the "no shit sherlock" award for today:

"IRR management should be an integral component of an institution’s risk management infrastructure."

Totally bizarre...  Really Regulators?  Really?  Interest rate risk management is important for banks?  You don't say!   I guess we'll watch and wait on this one...



EconomicDisconnect said...

Kid you are a betting man, so what do you think the oddd are the FED raises rates in 2010?:
A) holding an ace and flopping one
B) Holding crabs and getting a set on the turn
C) That elusive inside straight draw
D) Phil Ivey winning the WSOP

For my money, there is no chance of a rate hike and that is a drawing dead situation.

Kid Dynamite said...

i'd take B. i don't think there's very much chance of any real rate hike (i mean, does 25 bps really do anything?) because the Fed knows the truth - that things are not really getting better, despite all the bs that spews forth about improvement

EconomicDisconnect said...

agree, if there is a token 25bps hike that does not count in my book.

On the Phil Ivey option; not to dig against him but the WSOP is full of crazies and a great player like him will be hard pressed to beat out some thousands of nuts. Play Phil for limit 300k/600k high stakes and see how that goes though!

Anonymous said...

I read your January 3 reply to my inquiry concerning Oscar. It's my understanding that, if the gland becomes infected, vets normally recommend removing it. Hopefully, that won't be necessary.

Anyway, keep up the good work. Any comment I might make on your analysis would be nothing but a distraction.

Kid Dynamite said...

the gland is abscessed but is hopefully healing. the vet never mentioned removal as an option - which i clearly would try to avoid - but if it doesn't heal then it may be a necessary remedy.

But What do I Know? said...

Right on, KD! What do you expect from a bunch of regulators who have never done much work in the banking business. The best Fed chairman are bankers (Eccles, Martin, Strong, Volcker) not toadying academics and lickspittles (Burns, Greenspan, Bernancke).

Anonymous said...

A much more interesting question is how much interest rate risk would be taken out of the system (if any) if the Federal government stopped guaranteeing the credit risk on 30 year mortgages.

In theory, the investors are aware of the interest rate risk and willingly accept it and the borrowers are aware of the premium and willingly pay it.

But we've all seen how well that theory has done lately...