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Rate shock hits bank bond portfolios, dents capital

Surging interest rates have hammered the market value of banks' bond portfolios, eating into capital ratios and crimping the outlook for share repurchases.

Bond prices move inversely with rates, and banks have to mark holdings in available-for-sale, or AFS, portfolios quarterly. The marks are reflected in other comprehensive income, or OCI, which can add to or subtract from equity, and impacts regulatory capital for the largest and most systemically important banks. OCI at the 15 largest U.S. banks that reported it plummeted $46.62 billion from the fourth quarter to negative $54.14 billion in the first quarter, according to data from S&P Global Market Intelligence.

Banks continue to shift bonds into held-to-maturity, or HTM, portfolios to shield themselves from the impact. But they also argue that the effect is mostly an accounting mirage that will reverse as the securities mature, and that masks the true economic value of balance sheets as cheap deposits, which aren't marked, generate sharp increases in net interest income.

Pressure on buybacks

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JPMorgan Chase & Co. said OCI accounted for about 45 basis points of a roughly 120 basis point drop in its common equity Tier 1 ratio sequentially to 11.9% in the first quarter. A jump in risk-weighted assets, partly because of exposure to volatile markets, was the biggest source of pressure at 82 basis points.

"The rate of buybacks is clearly going to be less than it was" in 2021, CFO Jeremy Barnum said on the bank's earnings call.

At Citigroup Inc., OCI explained 35 basis points of a net drop of about 80 basis points in the bank's CET1 ratio sequentially to 11.4%. Still, executives said earnings and business divestitures help create a path to build capital ahead of an anticipated increase in Citi's regulatory requirement early next year, and the bank expects a "modest level" of share repurchases in the second quarter. "Given where we're trading, it makes a lot of sense to be doing buybacks," CFO Mark Mason said.

TBV impact

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OCI does not impact regulatory capital at Truist Financial Corp., but it did hit tangible equity per share, which fell 14.1% sequentially in the first quarter.

The bank moved about 40% of its securities to HTM during the period, but CFO Daryl Bible observed that other parts of the balance sheet are not marked to market. The increase in the economic value of deposits "has well exceeded the adjustment [that] you saw on the securities portfolio," he said.

Further rate increases

Tangible book value per share fell 11.6% sequentially at Regions Financial Corp., and CFO David Jackson Turner Jr. said the bank would likely take another hit to OCI in the second quarter, though smaller because of hedging and since the move in rates is not likely to be as sharp.

But the bank has no plans to move securities into HTM and restrict its ability to manage its investment portfolio, Turner said, calling OCI "irrelevant."

"The fair value of our deposits are shooting through the roof," which will become apparent in strong net interest income growth, he said. "This is the time period we've been waiting for, for rates to rise. So the fact that OCI is working against tangible book value, we could care less."