Enhance yield with swaps
Excess liquidity in the financial system creates challenges for financial institutions. Balance sheets demonstrate greater sensitivity to short-term rates and NIM compresses.
As a result, management teams search for yield in the loan and bond portfolio; however, when loan demand is tepid, fixed rates required to win business are unattractive, and returns on bonds are unappealing, it leaves bankers with few options. Are there alternatives?
Swaps provide financial institutions a tool to enhance yield and reduce asset sensitivity
- Identify a pool of floating-rate assets to hedge
- Use a receive-fixed swap to convert the pool of floating-rate loans to fixed
- The swap can start today or in the future, allowing the financial institution to customize the risk mitigation to its risk profile
- Hedged exposure must remain outstanding and probable through the life of the hedge
- Loans with embedded caps/floors in loans should be evaluated and factored into the hedge accounting considerations
- Synthetically fix the rate on floating-rate loans or securities which reduces asset sensitivity and increases current earnings
- Monetize the shape of the yield curve by bringing forward future interest income
- Create more flexibility — swaps can be quickly and easily implemented and allow you to bifurcate the rate risk from traditional assets and liabilities
- Produce a smoother net income stream
- Utilize a hedging strategy with low capital requirements and minimal impact on capital ratios
- Add a tool to your ALCO process — enhance yield with receive-fixed swaps or protect against rising rates with pay-fixed swaps when needed
Chatham’s end-to-end Balance Sheet Risk Management solution provides the tools needed to manage interest rate risk. Our experts collaborate with clients to identify the best strategy given their unique risk profile, views, and desired outcomes.
- Led by a client relationship manager who provides hedging advisory guidance and delivers the deep resources of our Financial Institutions team.
- Supported by a hedge accounting team with each client having a dedicated hedge accountant who helps with all the required initial documentation and ongoing testing.
- Backed by a regulatory/ISDA team to help negotiate derivatives documentation and keep our clients up to date on regulatory changes.
- A collaborative approach to hedging decisions from strategy identification to execution to accounting.
- A proven ERM framework covering controls, processes, and regulatory compliance including SSAE-18 audit.
Subscribe for weekly market updates.
We'd like to hear from you
Contact us to understand how your financial institution can use interest rate swaps as a tool to enhance yield and reduce asset sensitivity.
Chatham Hedging Advisors, LLC (CHA) is a subsidiary of Chatham Financial Corp. and provides hedge advisory, accounting and execution services related to swap transactions in the United States. CHA is registered with the Commodity Futures Trading Commission (CFTC) as a commodity trading advisor and is a member of the National Futures Association (NFA); however, neither the CFTC nor the NFA have passed upon the merits of participating in any advisory services offered by CHA. For further information, please visit chathamfinancial.com/legal-notices.
Transactions in over-the-counter derivatives (or “swaps”) have significant risks, including, but not limited to, substantial risk of loss. You should consult your own business, legal, tax and accounting advisers with respect to proposed swap transaction and you should refrain from entering into any swap transaction unless you have fully understood the terms and risks of the transaction, including the extent of your potential risk of loss. This material has been prepared by a sales or trading employee or agent of Chatham Hedging Advisors and could be deemed a solicitation for entering into a derivatives transaction. This material is not a research report prepared by Chatham Hedging Advisors. If you are not an experienced user of the derivatives markets, capable of making independent trading decisions, then you should not rely solely on this communication in making trading decisions. All rights reserved.21-0230
Our featured insights
Hawkish FOMC meeting sends yields higher
In yet another eventful week, the major U.S. equity indices ended flat to modestly higher while Treasury yields saw significant increases on the back of strong economic data and a hawkish FOMC meeting.
Debt ceiling talks take center stage in Washington
The major U.S. equity indices moved lower for the second consecutive week and long-term Treasury yields increased modestly as market participants digested the latest inflation readings, political wrangling on Capitol Hill, and the continued spread of the COVID-19 delta variant.
Supply chain disruptions send prices higher
In a holiday-shortened week, the major U.S. equity indices moved lower while long-term Treasury yields ticked modestly higher as signs of firming inflationary pressures, hawkish comments from Federal Reserve officials, and the latest legislative developments in Washington dominated headlines and investors’ attention.
August employment report misses expectations
In the lead-up to the holiday weekend, the major U.S. equity indices ended the week mixed with the S&P 500 and Nasdaq Composite Index setting new intraday highs as market participants dissected the latest economic data, most notably the August nonfarm payroll report, and comments from Federal Reserve officials.
Increase lending capacity
Many financial institutions have excess liquidity due to the global pandemic and resulting economic stimulus. Management can deploy this liquidity into new loan originations or the investment portfolio. Although bond returns are better than cash, a more attractive return may be provided from mortgage loans.
Going up? Elevating loan yields with swaps
Rather than simply accepting their fate and holding onto low-yielding floating-rate assets, financial institutions can use swaps to improve their net interest margin.
Managing excess liquidity
Excess liquidity is a challenge currently facing many financial institutions. Some are deploying this liquidity by extending duration via the bond and loan portfolio. In the process, they are introducing additional rate risk, but accepting this risk isn’t necessary.
Could a resurgence of inflation be around the corner?
After years of stubbornly low inflation, markets and economists expect prices to remain stable for the foreseeable future. But there are warning signals from various parts of the global economy that suggest a resurgence of inflation is more likely than many anticipate.