This past July, the regulatory environment for thrifts changed drastically as a result of the consolidation of their primary regulator, the Office of Thrift Supervision, and several other government agencies. This change, which placed thrifts under the watch of a number of new regulators, was mandated by the Dodd-Frank Act, passed by Congress in July 2010 as a part of its financial regulatory reform efforts. The act went into effect July 21, 2011, and the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, and the Federal Reserve became the new thrift supervisors.
Although thrifts have had ample notice to digest the fact that they are now being supervised by a new regulator, many might not have given sufficient consideration to the significant changes that will result in areas such as interest rate risk management. We see two major issues that now confront thrifts: the first is complying with new interest rate risk regulations, and the second is having the necessary tools and expertise to revamp the institution’s ALCO process. The objectives of this article are first to briefly review the current state of the thrift industry, and then to discuss how the changes may affect interest rate risk management requirements, particularly Thrift Bulletin 13a.
Current State of the OTS
As a result of the Dodd-Frank Act, the OTS was consolidated and several different organizations took on its role. Foremost among them was the Office of the Comptroller of the Currency (OCC), which is now responsible for overseeing thrifts with federal charters (approximately 670 of the nation’s 750 thrifts). Also assuming the OTS’s former responsibilities is the FDIC, which now administers state chartered thrifts, and the Federal Reserve, which now administers thrift holding companies and mutual holding companies.
It can be argued as to whether the OTS and the OCC merged or whether the OCC effectively acquired the OTS. OTS employees will be trained to examine banks and OCC employees will be trained to examine thrifts. Nevertheless, some industry experts view this as an acquisition that will result in significant changes to the thrift industry. Because the OCC is currently the chief regulator of nationally chartered banks, and is now responsible for overseeing the majority of the existing thrifts, differences between banks and thrifts may begin to blur. A likely consequence is that that the OCC will treat thrifts in a similar manner to the way they treat banks, which includes regulatory expectations.
Impact of the Dodd-Frank Act on Regulatory Compliance
The Dodd-Frank Act has brought uncertainty as to what reporting and regulatory requirements thrifts will be expected to follow now that they are under the watch of the OCC. One important change that has already been confirmed is that the Thrift Financial Report (TFR) will be eliminated and thrifts will be required to file a Call Report. The timetable for this transition is less than one year away, as the objective is to have this conversion done by March of 2012. OTS and FDIC employees already began the process of collecting and transferring data in the second quarter of 2011 to prepare for this transition. Also, the Uniform Thrift Performance Report will be replaced with the Uniform Bank Performance Report, which is additional evidence that suggests that thrifts may be treated along the same lines as banks.
One major question that remains to be answered is whether or not the OCC will allow thrifts to continue to comply with Thrift Bulletin 13a (TB13a), which has been in place since 1998. TB13a is a model created and provided quarterly by the OTS whose purpose is to provide guidelines for thrifts to help identify, measure, and monitor interest rate risk. According to the OTS regulation, the boards of directors are responsible for specifying the interest rate risk (measured by Net Portfolio Value) that their institution is willing to accept. In the bank universe, Net Portfolio Value is similar to the Economic Value of Equity analysis. Unlike banks, smaller and mid-size thrifts have not been required to run short- and long-term earnings simulations to effectively measure earnings-at-risk.
If the differences between banks and thrifts continue to shrink, all of this may change. Banks, for example, are not given a model by the OCC in the same way that thrifts are given TB13a by the OTS. Instead, they are largely responsible for measuring risk on their own. Specifically, banks run net interest margin simulations that focus on the earnings-at-risk over both short and long term periods (12-24 months) and different interest rate scenarios (interest rate changes of up to +/- 400 basis points, non-parallel shocks and ramps, etc.)
Interest rate risk management is not just a tool or a report, but is best viewed as one integral part of an institution’s entire ALCO process. The essence of an effective process lies in developing policies and strategies to improve profitability while managing risk. With a better interest rate risk management tool such as net interest income simulation that focuses on earnings, thrift management teams will be able to evaluate strategies in terms of both risk and reward.
Conclusion: It is likely that TB13a will be modified or eliminated. Although the merger officially occurred in July 2011, any changes to TB13a will probably not be finalized until the months following the merger, and the process of converting to a new method/model may take several months more. Regardless of what the OCC ultimately decides, it is expected that thrifts need to be prepared for examinations that focus much more strongly on interest rate risk management and the ALCO process, as the OCC is considered a stricter regulator than the OTS in these areas. Complying with any new rules has the potential to add significant headaches to thrifts, including hiring outside help and training employees to become familiar with new reporting systems/models and a revamped ALCO process. However, by preparing for these changes now, thrifts can potentially avoid even greater headaches in the future.
* This article was previously published in the Spring 2011 edition of the Ohio Record, published quarterly by the Ohio Bankers League.
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