Study Finds 75 Percent of U.S. Banks Didn’t Hedge Interest Rate Risk; Unrealized Losses on Securities $516 Billion at End of First Quarter

wallstreetonparade.com ^ | September 6, 2023 | Pam Martens and Russ Martens

[elpadre]

A group of academics have conducted a study that found that during the fastest pace of Fed interest rate hikes in 40 years, the majority of U.S. banks failed to hedge their interest rate risk. The report’s findings include the following:

“Over three quarters of all reporting banks report no material use of interest rate swaps.”

“Only 6% of aggregate assets in the U.S. banking system are hedged by interest rate swaps.”

“Banks with the most fragile funding – i.e., those with highest uninsured leverage — sold or reduced their hedges during the monetary tightening. This allowed them to record accounting profits but exposed them to further rate increases. These actions are reminiscent of classic gambling for resurrection: if interest rates had decreased, equity would have reaped the profits, but if rates increased, then debtors and the FDIC would absorb the losses.”

The use of the phrase “classic gambling” to describe 75 percent of the U.S. banking system by highly credentialed academics might be something that the U.S. Senate Banking Committee might want to hold a hearing about with some sense of urgency.

Not to put too fine a point on it, but this is the year in which banking regulators were left scratching their heads at the dizzying speed at which multiple banks collapsed. In the span of seven weeks this spring, running from March 10 to May 1, the second, third, and fourth largest bank failures in U.S. history occurred. In order of size, those were: First Republic Bank (May 1), Silicon Valley Bank (March 10) and Signature Bank (March 12). The largest bank failure in U.S. history, Washington Mutual, occurred in 2008 during the financial crisis.

[Alberta's Child]

What your posted is true, but what you’re describing isn’t a “refinancing” in the context of my post. A 5-year ARM is a five-year loan, even if the amortization is for 30 years. At the end of the five years the rate is reset for the next term.

A true “refinancing” is when the customer pays off the loan and replaces it with a new one before the term of the loan (30-year fixed rate, 5-year ARM, etc.) expires.

[Political Junkie Too]

True, but your point was that the bank can't raise the rates and an ARM allows them to raise the rates without the customer initiating a refinance. The bank can lower the rates, too.

-PJ