Pub. 3 2012 Issue 2

summer 2012 9 is to make sure that the reward is commensurate with the risk. What may look tame in today’s world might take on a complete- ly different set of risk characteristics once rates begin to rise. The hidden culprit in such cases is often the presence of high degrees of embedded optionality. The source of that undesirable characteristic can usually be traced back to a security’s underly- ing structure. Agency debentures with long maturities and call features that never go away can expose an investor to massive levels of market risk, even if rates rise only slightly. Some tranch- es of collateralized mortgage obligations with “tipping-point” payment schedules can lead to similar kinds of risk exposure. These structural deficiencies are not always easy to discern when only a cursory review is performed, nor do they show up when only the current rate environment is evaluated. As bad as it is to be blindsided by unseen market risk, it is not the most egregious sacrifice made in the quest for higher yield. One does not need a particularly long memory in order to recall what happens when yield takes precedence over prudence and credit quality becomes a casualty. Whether it be municipal bonds, mortgage related securities, or any of the other investment options available to community banks, low- ering one’s credit quality standards in order to squeeze out a few more basis points is just not worth it. Most community bankers already have all the credit risk they care to have in their loan portfolios; adding to it in the investment portfolio is not a wise choice. Balancing Act Before one begins to think that managing a portfolio in today’s environment has become a “doomed if I do, doomed if I don’t” proposition, it hasn’t. As it is with many endeav- ors, successful results can be achieved if the chosen course of action is able to strike a proper balance. For portfolio managers, evaluating the appropriate amount of return for the acceptable level of risk is the primary key. To achieve that balance, there are other variables that have to be bal- anced. Among these are liquidity, yield, and cash f low. The creation and maintenance of stable, predictable cash f low is a community bank’s best defense against the deleterious effects of rising rates. A blend of the right kind of agencies, mortgage-backed securities, and tax-free municipal bonds can provide that defense while still producing an acceptably high rate of return. If care is taken throughout the security selection process, the right blend will result. And the best thing is, you won’t step in a hole.  For more information, contact Lester Murray at The Baker Group: 800-937-2257 www.GoBaker.com , or email: lester@GoBaker.com . New Name. Familiar Service. Converge is CenterState Bank’s innovative web-based online banking platform and is the access point for our Clearing/Cash Management Solution. Converge services include: For more information regarding Converge, please contact your Business Development Officer. 120 Club Oaks Court, Suite 150 Winston-Salem, NC 27104 336.659.7100 y 877.604.8282 www.csbcorrespondent.com Account Information Domestic Wires OFAC Email Notification ACH Services FRB Services International Services