AnyBank, USA
Quarterly Investment Strategy
2ndQuarter 2009
Quarterly Investment Strategy
2ndQuarter 2009
(Sample)
Table of Contents
I. Overview of Environment
A. National Economic Profile...... 3
Economic Statistics Table...... 4
B. Fed Watch...... 5
C. Current Interest Rates...... 5
D. Quarterly Treasury Note & Bond Performance...... 6
E. Economic Outlook...... 6
F. Local Economic Profile...... 6
G. Asset/Liability Position, Balance Sheet Structure, Liquidity...... 7
II. Investment Portfolio
A. Current Position...... 7
B. General Strategy...... 7
C. Strategies According To Specific Sector...... 8
1. Treasuries...... 8
2. Fixed Rate Agencies...... 8
3. Municipals...... 9
4. Fixed-Rate MBS...... 9
5. Fixed-Rate CMOs...... 9
6. Floating Rate Securities...... 9
Quarterly Investment Strategy
2ndQuarter 2009
(Sample)
______
I. OVERVIEW OF ENVIRONMENT
A. National Economic Profile:
With the deterioration of market conditions in the latter half of 2008, the lead into the first quarter of 2009 marked a new era of quantitative easing in order to stem further decline in the global market arena. Since 1987 when Chairman Greenspan took the reins, the Fed has generally fought inflation by adjusting the Fed Funds target rate. In today’slow rate environment of zero to 0.25% Fed Funds, this tool has effectively reached its usefulness, thus forcing the hand of the Fed to use the next weapon in their arsenal - quantitative easing. By stimulating growth through the massive purchasing of securities (up to $1.5 trillion in agency debt, agency MBS, & even Treasuries), the Fed seeks to inject money into markets which have seen credit and liquidity for that matter freeze up during this economic downturn. The latest plan from the Treasury Department is to create an auction market for what has been coined as toxic assets on bank balance sheets, namely bundled securities tied to assets with declining values (i.e. home values). Even thought participants in the auction get the benefit of market established prices and even joint investment from the government with private enterprises, some analysts fear that sellers might be reluctant to execute trades if prices are discounted below their expected returns. Regardless of the outcome of the Fed’s latest plan (the Public-Private Investment Program), the Fed continues to be out in front of the amounting issues burgeoning from the global retrenchment.
At the heart of the problem has been the general decline in global spending, from businesses and individuals alike. In simplest of terms, the recent changes in spending habits have forced companies to reduce their labor inputs (employees)in order to survive the waning demand. As a result, unemployment has been on the rise, with current levels (-8.5%) topping the last two recessions in 1990-1991 and 2001. Payrolls declines have risen dramatically in the last four months, accounting for over 50% of the total 5,133,000 lost jobs since the beginning of 2008. With consumer spending accounting for over two-thirds of our nation’sgrowth, the loss of jobs and increase in consumer savings (or lack of spending) has caused GDP to fall 6.3% in Q4, the largest economic decline since 1983.
Housing issues have obviously been at the top of the list for affecting the decline in personal wealth over the last two years. Since its peak in the summer of 2006, housing prices in the major 20 U.S. metropolitan cities have fallen 29%. Housing starts and existing home sales both fell to record lows in January of this year, but the latest read in February indicated a rebound that many analysts hope might mean that the bottom of the housing crisis has been reached.
The latest minutes from March 18’s Federal Open Market Committee, where the Fed indicated they would buy over to $1.5 trillionin markets securities to “help improve conditions in private credit markets”, revealed their concerns relating to the risk to growth assessment. Fed Board Members “expressed concern that inflation was likely to persist below desired levels, with a few pointing to the risk of deflation. Even without a continuation of outright price declines, falling expectations of inflation would raise the real rate of interest and thus increase the burden of debt and further restrain the economy.” Currently, January’s year-over-year consumer prices, or moreover, the cost of living was flat, marking the first time this has occurred since 1955. The Fed’s favored gauge for inflation, the personal consumption expenditure index, has trended downward since the summer of 2008 and is now well within the once stated preferred range of 1.0%-2.0%.
Economic Statistics
The Economy
GDP / (6.3) / (0.5) / 2.8
Unemployment Rate / 8.5 / 8.1 / 7.6 / 7.2 / 6.8 / 6.5 / 6.1 / 6.1 / 5.7 / 5.5 / 5.5 / 5.0
Non-Farm Payrolls (000’s) / (663) / (651) / (741) / (681) / (597) / (380) / (321) / (175) / (128) / (161) / (137) / (160)
Manufacturing
Industrial Production / (1.5) / (2.0) / (2.4) / (1.3) / 1.4 / (4.0) / (1.1) / 0.1 / 0.2 / (0.1) / (0.5)
Capacity Utilization / 70.2 / 71.3 / 72.7 / 74.6 / 75.5 / 74.5 / 77.6 / 78.6 / 78.7 / 78.9 / 79.2
ISM / 36.3 / 35.8 / 35.6 / 32.9 / 36.9 / 38.7 / 43.4 / 49.3 / 49.5 / 49.5 / 49.3 / 48.6
ISM Prices / 31.0 / 29.0 / 29.0 / 18.0 / 25.5 / 37.0 / 53.5 / 77.0 / 88.5 / 91.5 / 87.0 / 84.5
The Consumer
Consumer Confidence / 57.3 / 56.3 / 61.2 / 60.1 / 55.3 / 57.6 / 70.3 / 63.0 / 61.2 / 56.4 / 59.8 / 62.6
Retail Sales / (0.1) / 1.8 / (3.1) / (2.4) / (3.4) / (1.6) / (0.7) / (0.6) / 0.1 / 1.0 / (0.2)
Durable Goods / 3.5 / (7.8) / (4.6) / (4.0) / (8.5) / 0.0 / (5.5) / 0.7 / 1.4 / 0.1 / (1.0)
Personal Income / (0.2) / 0.2 / (0.3) / (0.5) / (0.1) / 0.1 / 0.3 / (0.8) / 0.1 / 1.8 / 0.0
Personal Spending / 0.2 / 1.0 / (1.1) / (0.7) / (1.2) / (0.4) / (0.2) / (0.1) / 0.5 / 0.7 / 0.3
Housing
Housing Starts (Mill) / 0.58 / 0.48 / 0.56 / 0.66 / 0.77 / 0.82 / 0.85 / 0.95 / 1.09 / 0.98 / 1.01
Existing Home Sales (Mill) / 4.72 / 4.49 / 4.74 / 4.54 / 4.94 / 5.10 / 4.93 / 4.99 / 4.90 / 4.95 / 4.85
New Home Sales (Thou) / 337 / 322 / 371 / 387 / 404 / 434 / 448 / 505 / 499 / 515 / 542
S&P/CS Home Price (YoY) / (19.0) / (18.6) / (18.2) / (18.1) / (17.4) / (16.6) / (16.3) / (15.9) / (15.8) / (15.2)
Inflation
Consumer Price Index* (CPI)* / 0.2 / 0.0 / 0.1 / 1.1 / 3.7 / 4.9 / 5.4 / 5.6 / 5.0 / 4.2 / 3.9
CPI Core (Ex Fd & Engy)* / 1.8 / 1.7 / 1.8 / 2.0 / 2.2 / 2.5 / 2.5 / 2.5 / 2.4 / 2.3 / 2.3
Producer Price Index (PPI)* / (1.3) / (1.0) / (0.9) / 0.4 / 5.2 / 8.8 / 9.7 / 9.9 / 9.1 / 7.3 / 6.4
PPI Core (Ex Fd & Engy)* / 4.0 / 4.2 / 4.3 / 4.2 / 4.7 / 4.0 / 3.7 / 3.3 / 2.9 / 3.0 / 2.9
PCE Core (Ex Fd & Engy)* / 1.8 / 1.7 / 1.8 / 2.0 / 2.1 / 2.3 / 2.4 / 2.4 / 2.3 / 2.2 / 2.2
Employment Cost Index / 0.3 / 0.8 / 0.7
GDP Price Deflator / 2.1 / 2.5 / 2.0
* Year-Over-Year % Change
B. Fed Watch
Recent & Upcoming FOMC Meetings
Date / Fed Funds / Change / Bias / Date / Fed Funds / Change / BiasOct 31, 2007 / 4.50 / -0.25 / Balanced / Dec 16, 2008 / 0 - 0.25 / -1.00 / Risk to Growth
Dec 11, 2007 / 4.25 / -0.25 / Balanced / Jan 28, 2009 / 0 - 0.25 / - - / Risk to Growth
Jan 22, 2008 / 3.50 / -0.75 / Inter-Meeting / Mar 17, 2009 / 0 - 0.25 / - - / Risk to Growth
Jan 30, 2008 / 3.00
3. / -0.50 / Risk to Growth / Apr 29, 2009
Mar 18, 2008 / 2.25 / -0.75 / Downside Risk / Jun 24, 2009
Apr 30, 2008 / 2.00 / -0.25 / Omitted / Aug 11, 2009
Jun 25, 2008 / 2.00 / - - / Inflation Risk / Sept 22, 2009
Aug 5, 2008 / 2.00 / - - / Inflation/Growth / Nov 4, 2009
Sept 16, 2008 / 2.00 / - - / Inflation/Growth / Dec 15, 2009
Oct 8, 2008 / 1.50 / -0.50 / Inter-Meeting
Oct 29, 2008 / 1.00 / -0.50 / Risk to Growth
C. Current Interest Rates:
During the first quarter of 2009, the Treasury yield curve not only shifted up from record lows set in late December 2008, but has seen a general steepening of the curve since then. At the short-end of the Treasury yield curve, 3Mo & 6Mo T-Bills are up just 13bps & 16bps to 0.20% and 0.42% respectively. The 2Yr Treasury Note was relatively unchanged, though did see the yield in latest quarter up3bps from 0.77% to 0.80%. The long-end of the curve experienced the majority of the steepening with the 10Yr Treasury Note rising 45bps to 2.66% and the 30Yr Treasury Note surging 86bps to close the quarter at 3.53% yield. Lately the 2’s/10’s spread has been range bound between 180bps and just shy of 200bps for the latter half of Q1. Still, current 2’s/10’s spread are not as wide as they were in mid November (262bps), or even the previous peak set back in mid August 2003 (274bps).D. Quarterly Treasury Note & Bond Comparison
Yield ChangeIn Basis Points / Holding Period
Total Return / Annual-Total Return
3-Month / 13 / -0.13 / -0.52
6-Month / 16 / 0.08 / 0.33
2-Year / 3 / 0.24 / 0.96
5-Year / 11 / 0.19 / 0.77
10-Year / 45 / -2.80 / -11.10
30-Year / 86 / -13.39 / -50.23
Note: Total Return is calculated using the current On-The-Run Treasury as of the beginning of the quarter and a reinvestment rate equal to the yield of the 3-Month T-Bill at the beginning of the quarter
E. Economic Outlook (Bloomberg Economic Survey):
Current / 2Q 2009 / 1Q 2010Fed Funds / 0 – 0.25% / 0.50% / 0.50%
10 Year T-Note / 2.21% / 2.89% / 3.45%
GDP / (6.3)% / (2.0)% / 0.9%
Jobless Rate / 8.5% / 8.7% / 10.0%
CPI / 0.2% / (0.7)% / 1.5%
The table above is taken from a survey of economists conducted monthly by Bloomberg Financial Markets. The forecasts shown are from a third party and do not reflect the ideas of The Baker Group.
F. Federal Reserve District ProfileSummary – December 2008:
For additional District profiles, please visit the Fed’s web site:
Reports from the twelve Federal Reserve Districts suggest that national economic conditions deteriorated further during the reporting period of January through late February. Ten of the twelve reports indicated weaker conditions or declines in economic activity; the exceptions were Philadelphia and Chicago, which reported that their regional economies "remained weak." The deterioration was broad based, with only a few sectors such as basic food production and pharmaceuticals appearing to be exceptions. Looking ahead, contacts from various Districts rate the prospects for near-term improvement in economic conditions as poor, with a significant pickup not expected before late 2009 or early 2010.
Lending activity fell further on net, with mixed results across Districts and loan categories. Demand for commercial and industrial loans was reported to be lower in most Districts, although Philadelphia reported recent growth in this category. Consumer loan demand also fell in general, although Cleveland reported that it was "stable to up" during the reporting period. Demand for new mortgages remained depressed, but New York, Cleveland, and Richmond noted that refinancing activity continued at high levels or increased further. Boston and Cleveland reported that loan demand and the availability of funds were more favorable for community banks than for institutions with a national scope.
The availability of credit generally remained tight. Lenders continued to impose strict standards for all types of loans, with scattered reports of further tightening and particular scrutiny focused on construction projects and commercial real estate transactions. Despite stringent standards, Atlanta and Chicago noted that funds were available for well-qualified applicants, and Dallas cited contacts who reported that capital has become more readily available. Credit quality fell for all loan categories, with declines cited by most Districts with the notable exception of Kansas City, where current loan quality was unchanged and expectations for future quality improved modestly. New York reported that the deterioration in quality was most pronounced for consumer loans, while Chicago emphasized deterioration in the quality of business loans as a result of rising bankruptcies. Scattered reports suggested improved liquidity in some credit markets and reductions in interest spreads, with Chicago noting that conditions for the commercial paper and corporate bond markets "improved significantly."
G. Asset/Liability Position, Balance Sheet Structure, and Liquidity:
The Loan/Deposit ratio is:
The current Fed Funds position is:
Liability accounts in greatest demand are:
The Overall Bank liquidity position is:
The Bank's Effective GAP ratio (RSA/RSL) in the 1-year time frame is approximately _____%, (compared to our policy limits of 70% to 120%.)
The projected change in net interest income over the next 12 months is:
Rate Environment:Net Interest Change:
+200 BP
Unchanged
-200 BP
II. INVESTMENT PORTFOLIO
A.Current Position: (See Attached Portfolio Analysis):
The Bank portfolio yield is currently %. The Bank’s 4thQuarter strategy to slightly extend the portfolio duration has pushed the Banks Effective Duration to . The portfolio shows a current loss of $______or ______% of book value.
B.Market Comments:
As we enter 2009, economic conditions remain extremely fragile and it is clear that the course of interest rates, asset valuations and economic expectations will now, more than ever, depend to a huge degree on political considerations. The Obama administration has hit the ground running, having implemented large fiscal stimulus packages, bailouts, and security investment programs since taking office. All in all, in an effort to pull the country out of a deepening recession, the Obama budget dictates that government spending in the coming fiscal year will approach 30% of GDP, after hovering near 20% since World War II. The government has also become a major shareholder in a significant portion of larger US financial institutions and has made it clear that several of these institutions are too large and/or too important to fail. The result has been a multi-faceted approach to quantitative easing and the implementation of numerous funding mechanisms. To support these programs, and the market as a whole, the Federal Reserve and the Treasury have announced they will purchase more than $1.5 Trillion in Agency MBS, Agency debt, and Treasury securities, combined, over the course of 2009. Additionally, the government is looking to lessen the impact of declining home prices and a weak employment market by setting forth its Homeowner Affordability and Stability Program (HASP). This program is designed to grant friendly credit terms to economically distressed borrowers and/or those whose homes have been devalued to a certain degree. The Fed has also continued its’ steadfast battle to support the economy. After signaling it would pull out all stops by lowering the funds rate from 2% to zero or near zero at the Dec. 2008 FOMC meeting, the Fed stated they expect “conditions that warrant exceptionally low levels of the fed funds rate for some time”. In the first stages of 2009, the Fed has continued to “shock” the markets, by stating their intention to buy up to $300 Billion longer-term Treasury securities in an effort to directly increase money supply. Fed Funds futures currently project the Target rate to remain below ½% for the remainder of 2009. In response to the vigilant Fed, short-term Treasury rates stayed near historic lows over the 1st quarter and the 2-year Note ended the Quarter at 0.80%, just 3 basis points higher than the end of the year. Longer-term inflation fears, resulting from the massive easing, have pushed 10-year and 30-year maturity Treasuries 45 and 85 basis points higher over the quarter, to 2.66% and 3.53%, respectively.
General Strategy
Government buying of Agency (FNMA and FHLMC) MBS and debt has proved to be very buoyant to the markets as we enter 2009. It appears the Fed and Treasury will be a significant buyer in these markets throughout the year. As such, the Bank will continue to buy these core Agency securities that are now being aggressively purchased by the government and avoid the temptation of high yielding, illiquid assets like certain corporate bonds or private-label MBS. The yield curve steepened another 40bps (2yr vs. 10yr) over the quarter and should remain quite steep as the Fed has stated its’ intent to remain accommodative for some time. To take advantage of the steep curve, the Bank will continue to focus on the intermediate sector of the curve and maintain the current above average portfolio duration. The mix of the portfolio has continued to shift out of Agency securities and into fixed-rate Agency MBS/CMO and municipal bonds to take advantage of historically wide spreads. As the market normalizes and volatility drops, the Bank will look for opportunities to replenish the Agency sector. With the fiscal stimulus increasing the supply of “bank qualified” issues and high quality municipal bonds continuing to remain extremely undervalued, the Bank will attempt to add quality General Obligation bonds or Essential Purpose Revenue bonds with good underlying ratings/financial with maturities in the 5-15 year range. With cash earning virtually zero, the Bank will make efficient deployment of all idle funds and evaluate all options for enhancing income through the portfolio and continue to look to replace securities at market losses that can be recovered by the end of the year.
C.Strategies According To Specific Portfolio Sector:
- Treasuries:
The Bank anticipates no Treasury holdings at this time.
- Fixed-Rate Agencies:
Additional government support of the Government Sponsored Entities (GSEs) and direct buying of Agency debt by the Federal Reserve and Treasury continue to push spreads in from historically wide levels seen in late 2008. While the Bank continues to hold a lower percentage of Agencies than in the past, a less volatile and potentially more range bound rate environment would push the Bank to seek additional opportunities in callable instruments. Sector duration will be maintained by buying securities with at least one year of call protection, while favoring premium one-time callable securities with at least 1 year to call and 3 to 10-year maturities. The Bank will continue to look for opportunities to swap out of short instruments and deploy the proceeds out on the curve.
3. Municipals:
Municipal bonds continue to trade at their widest spread levels ever, as they failed to keep pace with the recent rally in Treasuries. Unlike the GSE MBS and debt sectors, the municipal market has not been supported by government purchases. To the contrary, bank qualified municipal supply has actually increased dramatically under the recently released government stimulus package. Specifically, the bank qualified issuance limit has been raised from $10 million to $30 million and non-refunding, non-bank qualified municipal issues brought to market in 2009 or 2010 will be treated as bank qualified for tax purposes. Preferred insurers will be the Texas Permanent School Fund, FSA and Assured Guarantee, though the Bank will carefully review the creditworthiness of all underlying municipal issuers in addition to assessing the strength of the bond insurer. Given prudent credit analysis, the turmoil continues to offer excellent opportunities to add to the Municipal sector. Under the current steep Municipal yield curve environment, the Bank will continue to purchase Municipal bonds in the 10 to 15 year range and maximize holdings. Additionally, as opportunities become available, the Bank will look for opportunities to swap out of short maturities and deploy the proceeds out on the curve.
4. Fixed-Rate MBS:
Government purchasing of Agency MBS has been quite strong and is expected to continue through the end of 2009. With the Fed stating its’ intention to purchase $1.25 trillion of Agency MBS by the end of the year, and just over $400 billion in expected supply, it is clear there will be a massive shortage of MBS this year. Government purchases have driven the FHLMC primary 30-year fixed rate to a historic low of 4.85% (0.7 points) just last week. While weak housing markets and tight credit restricted mobility and refinancibility throughout 2008 and early 2009, the recent government announcement of the HASP program should lead to a wave of prepayments in the Summer of 2009. The refinance index has recently jumped from the 3,000 to 4,000 range up to almost 6,500. This is still much lower than the peak of 9,997 in the refinancing index during Summer 2003. Additionally, recent data continue to suggest less responsiveness in prepayments to the index of applications. However, given the historically low mortgage rates and government intervention, it is expected that speeds should pick up significantly over the next several months. Given the success of the government subsidy program, it is predicted that prepayment speeds should approach 80%-90% of 2003 levels. Specific security selection will be more crucial now than ever. To combat the ultimate temporary nature of the governments support through direct MBS purchases and precarious prepayment environment, the Bank will focus on Agency MBS pools with one or more of the following characteristics; 1) seasoned underlying mortgages (e.g. 2006 and earlier origination), 2) higher coupon pools (5.5%+) with particular loan attributes that should provide prepay protection (e.g. low loan balance, low FICO, geographic, etc.), and 3) GNMA pools which are largely unaffected by the HASP.