WASHINGTONDerivatives held by U. S. commercial banks
increased $1.3 trillion in the third quarter, to $67.1 trillion, the Office of
the Comptroller of the Currency reported today in its quarterly Bank
Derivatives Report.
The strong growth in derivatives notionals that we have
seen for the past few quarters took a bit of a breather in the third quarter,
said Kathryn E. Dick, the OCCs Deputy Comptroller for Risk Evaluation. Ms. Dick noted that notional contracts
increased only 1.9%, the smallest percentage increase since a decline in such
contracts in the fourth quarter of 2001.
Much of the risk management actions in response to the sudden and sharp
rise in interest rates in the second quarter appears to have occurred prior to
the start of the third quarter, Ms. Dick said. When used properly, derivatives are a valuable risk management
product to help bank institutional customers manage a broad array of different
risks arising from common business activities such as securing long-term
funding or protecting the value of importing or exporting commercial
goods.
Ms. Dick noted that the notional amount of derivatives
outstanding, notwithstanding modest third quarter growth, is a new record. While notional amounts are a reasonable
reflection of business activity, they do not represent the amount at risk for
commercial banks. The risk in a
derivatives contract is a function of a number of variables, such as whether
counterparties exchange notional principal, the volatility of the currencies or
interest rates used as the basis for determining contract payments, the
maturity and liquidity of contracts, and the creditworthiness of the
counterparties in the transaction.
The OCC also reported that earnings attributable to the
trading of cash instruments and derivatives activities decreased by $150
million in the three-month period, to $3 billion. Commercial bank trading revenues reflect profit and loss from
derivatives and cash trading.
The third quarter revenue numbers were reasonably strong,
particularly given the soft growth in notionals and the continued tightening of
credit spreads, said Ms. Dick. Ms.
Dick noted, The ongoing tightening in credit spreads, which began late last
year, reflects the general market sentiment of improving asset quality. However, when credit spreads tighten, banks
lose value in the contracts they own that hedge credit risks in their loan
portfolios and this serves to depress trading revenues. This headwind continues to exert a negative
impact on trading revenues, but its impact appears to be diminishing.
The report also noted that total credit exposure, in the
third quarter decreased. There are two
pieces to the total credit exposure number.
The first piece is current credit exposure, which represents the
mark-to-market gain on contracts with clients, net of losses on contracts to
those same clients where the bank has legally enforceable netting
agreements. The rise in interest rates
finally checked the growth in current credit exposures, which fell $30
billion. The second piece is potential
future exposure, or PFE, which is a function of the type of derivative contract
and its maturity. Because notional
volumes continued to increase, this PFE increased $24 billion, leaving a net $6
billion reduction in total credit exposure, said Ms. Dick. The concentration of interest rate contracts
in bank trading portfolios results in credit exposure calculations that are
highly sensitive to changes in interest rates.
Credit risk performance indicators confirmed the positive
view of credit quality as reflected by narrowing corporate credit spreads. The report noted that only a small fraction
of derivatives contracts were 30 days or more past due. For all banks, the fair value of contracts
past due 30 days or more totaled only $56 million, or .008 percent of total
credit exposure from derivative contracts.
Derivatives charge-offs for the quarter were $32 million, and represent
.0045 percent of total derivative exposures, well below the .31 percent for
C&I loans.
During the third quarter, the notional amount of interest
rate contracts increased by $1.3 trillion, to $58.3 trillion. Foreign exchange contracts decreased by $181
billion to $6.9 trillion. This figure
excludes spot foreign exchange contracts, which increased by $43 billion, to
$652 billion. Equity, commodity and
other contracts increased by $47 billion, to $1.1 trillion. Credit derivatives increased by $67 billion,
to $869 billion.
The derivatives business remains largely concentrated in
interest rate contracts. Overall, 87
percent of the notional amount of derivatives positions was comprised of
interest rate contracts, with foreign exchange accounting for an additional 10
percent. Equity, commodity and credit
derivatives accounted for only three percent of the total notional amount.
The number of commercial banks actively engaging in
derivatives remains small. The top
seven commercial banks account for almost 96 percent of the total notional
amount of derivatives in the commercial banking system, with more than 99 percent
held by the top 25 banks. These large
players have the most sophisticated risk management systems, high caliber
management, and are subject to close supervision from bank regulators, said
Ms. Dick.
The OCC third quarter derivatives report also noted that:
Interest rate revenues decreased by $266 million in the
third quarter to $1.2 billion. Revenues
from foreign exchange positions decreased by $78 million, to $1.4 billion. Revenues from equity trading positions
decreased by $1 million, to $299 million in the third quarter. Revenues from commodity and other trading
positions increased by $195 million to
$78 million, reversing a net loss of $117 million in the second quarter.
The number of commercial banks holding derivatives increased
by 42, to 572.
A copy of OCC Bank Derivatives Report: Third Quarter 2003
is available on the OCC Web site: www.occ.treas.gov.
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The OCC charters, regulates
and examines approximately 2,100 national banks and 52 federal branches of
foreign banks in the U.S., accounting for more than 55 percent of the
nations banking assets. Its mission is to ensure a safe and sound and
competitive national banking system that supports the citizens, communities
and economy of the United States.
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