Independent Banker - February 2019 - 31

Next: How to make sense of transaction compliance
with them. Furthermore, a side effect of serving as a complement
to the rest of the balance sheet is that the actual
composition of the portfolio may need to change over time.
This can help to improve the diversification of risk and
cash flows of your community bank.
Recent history
For proof that portfolio managers have to remain current
and nimble, not to mention thick-skinned on occasion,
let's look at how the investment landscape has changed in
just barely over a year. On Dec. 22, 2017, the Tax Cuts and
Jobs Act became law. Immediately, community bankers
had to get in touch with their tax and bond accountants
to recalculate variables such as tax-equivalent yields and
deferred tax assets for their 2017 tax years, and they had
to be quick about it.
For much of 2018, community banks attempted to
right-size their holdings of tax-free securities. Many of
them chose to lessen their exposures, mainly because the
tax-equivalent yields of the bonds they owned prior to tax
reform declined significantly. For example, a municipal
bond owned by a C corporation that had a tax-free yield of
2.5 percent before tax reform saw its tax-equivalent yield
drop from about 3.75 percent to about 3.1 percent.
New favorites
It's therefore no surprise that between September 2017 and
September 2018, the average community bank's municipal
bond weighting decreased from about 28 percent of the pie
down to 23 percent. That is a significant recast.
What have investors bought to replace the munis? Again,
the ever-resourceful portfolio manager has heard how the
needs of his or her community bank have
evolved and has responded. In large part,
the proceeds have been reinvested into
some type of amortizing security.
The logic is sound: Monthly cash flows
can be used to fund the still-increasing
loan demand and/or deposit needs, and
the buyer can pretty accurately choose the
new duration, perhaps to mimic the risk
profile prior to the disposal of the munis.
Tax-free bonds are usually the longest in
the portfolio, so duration maintenance
could be a motivating factor in reinvesting
the proceeds.
3.50%
3.00%
2.50%
2.00%
1.50%
1.00%
0.05%
0.00%
So, portfolio managers of the world, it
looks like you continue to serve your community
banks very well. Risk-adjusted
returns are consistent with prior periods,
Education on Tap
Webinar series tips off
ICBA Securities and its exclusive broker Vining
Sparks will begin their 2019 webinar series
Community Banking Matters on Feb. 19 at 10
a.m. CST. Daniel Anderson of Vining Sparks will
present Positioning the Investment Portfolio for
Performance. Free CPE is available. To register,
visit www.viningsparks.com
Visit us at the Expo
ICBA Securities and Vining Sparks
will be prominently positioned
at The Expo at ICBA LIVE 2019,
March 18-22. Vining Sparks will be
in Booth 430, which is adjacent
to ICBA Central. For more details,
see icba.org/events/2019-icba-liveconvention/expo
especially
considering the decline in effective muni yields.
Durations and cash flows are very stable. Net unrealized
losses, which virtually all institutions have at this point in
the rate cycle, are manageable. Portfolio managers continue
to prove their worth to their institutions-and the
community banking industry.
Community bank investment portfolios
TEY
Spread
COF
Source: Vining Sparks
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http://www.viningsparks.com http://www.icba.org/events/2019-icba-live http://www.independentbanker.org
Independent Banker - February 2019

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