Essay on Bank One / Rabobank

912 Words4 Pages
Bank-one / Rabobank

1. What is the problem? Why might investors be so concerned about the bank’s derivative use?

The problem is that Banc One’s stock price has gone down nearly 25% due to analyst and investor concern that increased derivative use has inflated key accounting margins and ratios. The derivatives (interest-rate swaps) do not show up on the balance sheet as assets/liabilities, but do show up on the income statement. Therefore, metrics such as ReturnOnAssets may not accurately reflect the underlying business.

Derivative use was concerning to investors mainly because they did not fully understand the complex swaps, and saw them as risky. Banks had not typically invested so heavily in swaps, so investors felt that Banc
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3. Why is Banc One liability-sensitive? Should it be?

Banc One is liability sensitive in that earnings are impacted conversely to interest rate movement. They chose to balance this way because CIO Dick Lodge felt that banks, due to a normally upward-sloping yield curve, are paid to be liability-sensitive.

The decision to position itself as liability-sensitive does make sense. As interest rates fall, the banks tend to lose revenue (due to prepayment of loans), even though this is when the more people will want to take loans and fewer will want to purchase CDs. So to put itself in a position to increase earnings in this case is correct to me. But the bank should not leave itself exposed to major interest rate risk, so should be close to neutral.

4. What are the bank’s alternatives for managing interest-rate exposure?

Then bank could:
a) Add fixed-rate assets to it books. For example, they could purchase fixed-rate municipal bonds or Mortgage Backed Securities.
b) Add floating-rate liabilities to its balance sheet. This may be in the form of offering floating rate bonds to customers.
c) Invest in interest swap derivatives. These synthetic investments would allow Banc One to receive fixed-rate payments, while paying out floating-rate.
d) Structure its acquisitions incorporate more liability-sensitive banks to
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