Investments Asset / Liability Risk Management Federal Home Loan Bank of Indianapolis Symposium Municipal Securities August 2017
Taylor Advisors We are not a Broker/Dealer $3.6 Billion Assets Under Management $1.1 Billion Municipals Under Management Investment Consultant to US Department of Energy $40 Billion in Invested Assets Balance Sheet Management for financial institutions Capital, Interest Rate Risk, Liquidity, Funding, Investments, etc. Balance Sheet Management Investment Advisors Asset / Liability Specialists Risk Managers 2
Types of Municipal Bonds Tax Status (Federal) Taxable Tax Exempt Bank Qualified Bank Eligible General Market (bank permissible) Source of Repayment General Obligation Limited Taxing Authority Unlimited Taxing Authority Revenue Essential Services (water & sewer) Transportation (roads, bridges) Hospital Certificates of Participation Leases Double-Barrel Combination of Taxes and Revenues Credit Enhancements Monoline Insurance AMBAC, FGIC, etc. State Programs ST-INTERCEPT, Q-SBLF, PSF etc. 3
Concerns with identifying and monitoring credit risk in the municipal portfolio 4
Illinois Historical Credit Default Swaps Aa3 AA AA- A1 A+ A A2 A A A3 A- A- Baa1 A- BBB+ Baa2 BBB BBB+ Baa3 BBB- BBB 5
Regulatory Focus Previous non-investment grade and non-rated standards now apply to all securities Institutions should utilize a credit scoring model to assess credit worthiness Agency Reference Effective Published Title Dodd Frank 7/21/2010 Section 939A OCC OCC Bulletin 2012-18 FIL-48-2012 7/21/2012 Final rule establishing alternatives to the use of external credit rating in OCC regulations FDIC FIL-34-2012 7/21/2012 Final rule and Guidance - Permissable investments for Federal and State Savings Associations FDIC FR 77 43155 7/21/2012 Guidance on due diligence requirements FIL-34-2012 FDIC Summer 2013 Supervisory Insights - Credit Risk Assessment of Bank Invesmtent Portfolios OCC FR 77 35259 1/1/2013 Final guidance on due diligence requirements in determining whether investment securities are eligible for invesment 6
OCC Supports Prudent Investments in Municipal Securities Comptroller of the Currency Issues Statement Regarding Bank Investment in the Municipal Securities Market WASHINGTON Comptroller of the Currency Thomas J. Curry today issued the following statement regarding investments in municipal securities made by national banks and federal savings associations: The Office of the Comptroller of the Currency recognizes the importance of the $3.6 trillion municipal securities market as a source of infrastructure funding for states, cities, and localities in the United States. The agency considers bank investments in municipal securities a prudent activity when part of a safe and sound investment strategy. Banks historically have invested in municipal securities for a variety of purposes, including yield and community support. Bank ownership of municipal securities represents approximately 10 percent of all outstanding issuances as of mid-2014. Banks continue to be active participants in this market. In fact, since the interagency Liquidity Coverage Ratio Rule became final in October 2014 banks have increased their overall holdings of municipal securities, and the OCC will continue to monitor activity in the market. The OCC supports banks prudent investments in municipal securities. 7
Municipal Credit Risk is Much Lower vs. Corporates 8
Yield On Investments Declining Long Term 6.0 Yield on Investments (%) 5.5 5.0 4.5 4.0 3.5 3.0 2.5 2.0 2007Y 2008Y 2009Y 2010Y 2011Y 2012Y 2013Y 2014Y 2015Y 2016Y Source: SNL. Median for all Michigan Insurance Companies. 9
If You Can t Lend It, You Have to Invest It 55.0 54.0 53.0 52.0 51.0 50.0 49.0 48.0 47.0 46.0 Fixed Income Investments / Total Assets (%) 45.0 2007Y 2008Y 2009Y 2010Y 2011Y 2012Y 2013Y 2014Y 2015Y 2016Y Source: SNL. Median for all Michigan Insurance Companies. 10
Allocation to Municipals Increasing 12.0 Municipals / Investments (%) 10.0 8.0 6.0 4.0 2.0 0.0 2007Y 2008Y 2009Y 2010Y 2011Y 2012Y 2013Y 2014Y 2015Y 2016Y Source: SNL. Median for all Michigan Insurance Companies. 11
If You Can t Lend It, You Have to Invest It 20.0 19.0 18.0 17.0 16.0 15.0 14.0 13.0 12.0 11.0 Investments / Total Assets (%) 10.0 2015Q1 2015Q2 2015Q3 2015Q4 2016Q1 2016Q2 2016Q3 2016Q4 2017Q1 2017Q2 Source: SNL. Median for all Michigan commercial banks. 12
Yield On Investments Flat-Lining 3.0 Yield on Investments (%) 2.8 2.6 2.4 2.2 2.0 2015Q1 2015Q2 2015Q3 2015Q4 2016Q1 2016Q2 2016Q3 2016Q4 2017Q1 2017Q2 Source: SNL. Median for all Michigan commercial banks. 13
What Have Banks Been Doing in Securities? 40.00 Bank Securities Allocations - $100 Million to $10 Billion in Total Assets Michigan Banks 35.00 Percent Allocation 30.00 25.00 20.00 15.00 10.00 Muni Other MBS CMO Agency 5.00 0.00 2010 2011 2012 2013 2014 2015 2016 MBS 26.91 28.53 29.38 28.82 27.42 26.67 27.20 Municipals 20.50 21.33 21.73 22.64 23.62 24.97 25.86 Agencies 25.25 21.89 20.28 20.75 20.47 19.22 16.64 CMOs 17.34 19.04 17.94 15.97 15.77 14.89 14.18 Other 9.77 9.03 10.51 11.47 12.32 13.71 15.45 14
Asset Stratification est. FHLB Lendable Value Liquidity Liquidation Time Frame Probability of Default Asset Quality Loss Given Default Provision Expense NET Yield 15yr MBS 95% 3 days 0.0% 0.0% 0.0% 2.25% Agency 10yr NC 1yr 95% 3 days 0.0% 0.0% 0.0% 2.98% AAA Bank Qualified Muni GO 90% 3 days 0.0% 0.0% 0.0% 3.69% 1-4 Family 1st Lien Mtg 75% months -> maturity 1.5% 10.0% 0.2% 4.23% Commercial Real Estate Loan 60% months -> maturity 8.4% 20.0% 1.7% 4.51% AAA General Market Muni GO 90% 3 days 0.0% 0.0% 0.0% 4.69% 15
New Issue Municipal Official Statement What To Look For 16
FEDERAL HOME LOAN BANK OF INDIANAPOLIS BUILDING PARTNERSHIPS. SERVING COMMUNITIES. Municipal Bonds Increasing Your Borrowing Capacity John D. Bingham Vice President, Credit Risk Manager August 23, 2017
Selection Criteria Overview General Obligation or Special Revenue Bonds Proceeds have been or will be used to finance the acquisition, development and/or improvement of real estate (Real Estate Improvements) Eligible balance is limited to that portion which finances Real Estate Improvements Rated A- to AAA by Municipal Fitch, Bonds Moody s and/or Over-Collateralization Requirements (OCR) Standard & Poor s OCR Lending Rate AAA rated 110% 91% AA rated 115% 87% A rated 120% 83%
What are we looking for Taken from 2016 Arlington Independent School District refunding bond Purpose is outlined in the Official Statement, along with both the Sources of Funds and Uses of Funds The inclusion of school buses, without additional detail or an itemized use of funds indicating how much of the issue is earmarked for non Real Estate Improvements, results in this issue being declared ineligible.
What are we looking for Taken from a Covington Community School Corporate bond (Fountain City, Indiana) Purpose is sufficient; however, statement also included a more detailed overview in the Use of Funds Section Uses of Funds Section is used to ascertain the Real Estate Improvements factor
Arriving at the Lendable Value Original Balance for Pledge $5,000,000 Real Estate Factor 0.8294 Eligible Balance for Pledge $4,146,917 Market Value Price 0.9876 Market Value $4,095,495 Lendable Value (AAA - 110% OCR) $3,723,178 Lendable Value (AA - 115% OCR) $3,561,300 Lendable Value (A - 120% OCR) $3,412,913
Pledging Your Municipal Bonds Additional Consideration when Pledging Your Municipal Bonds State Housing Finance Agencies Pre-screen if possible Allow time for the bonds to be reviewed Market pricing FHLBICollateralValuation@fhlbi.com