In the early months, the access to liquidity is weighted towards a reliance on the available borrowing capacity — in this example assumed to be 97% of market value. Earnings are being supplemented now, and the asset quickly begins to see an accelerated return of principal. The member can utilize advances to manage any interim cash flow needs in excess of what is returned from the investment, and there is the potential for margin expansion when loan demand reverts to stronger levels.
Depending on market conditions and balance sheet positioning at the time of the future funding need, the variety of advance solutions and ease of execution can afford members great flexibility to dynamically manage their risk. Funding options exist whether a member is inclined to align with the Fed’s guidance by funding short, but mitigating liquidity risk, extend liability duration ahead of a steepening curve, or opportunistically benefit from elevated market volatility and capture margin relief with structured advances.
If the market value risk of investments in a rising-rate environment is a concern, there are a couple of ways to address that.
First, in this article and case study, we discussed how members can utilize advance restructures to mitigate interest-rate risk without adding incremental funding.
Secondly, members can align the base case and rate-shocked average life of any asset purchases with their specific risk tolerance.
Lastly, utilizing the Held-to-Maturity (HTM) classification may offer relief from unrealized changes in market value flowing through Other Comprehensive Income (OCI). With the drop in loan-to-asset ratios over the last few quarters, one might have expected to have seen greater usage of HTM. Conversely, an analysis of FHLBank Boston depository members shows that the percentage of banks and credit unions who are using the HTM classification has dropped from the fourth quarter of 2019 to the third quarter of 2020 as illustrated in the table below.