WASHINGTON The notional
amount of derivatives held by U.S. commercial banks increased by $2.7 trillion
in the fourth quarter of 2005, to a record $101.5 trillion, the Office of the
Comptroller of the Currency reported today in its quarterly Bank Derivatives
Report.
The notional amount of
a derivatives contract is generally only used to determine cash flows on the
contract and is not a measure of the amount of risk, said Deputy Comptroller
for Credit and Market Risk, Kathryn E. Dick.
Ms. Dick noted that net
current credit exposure is the metric most representative of credit risk in
derivatives portfolios, and this figure is derived by applying the benefit
banks achieve from having legally enforceable netting contracts to the gross
positive fair value. As of year-end,
the gross positive fair value was $1.22 trillion and the netting benefit was
84.4%, resulting in a net current credit exposure of $190 billion, which is
down 10% from the end of the third quarter, she said.
The large dealer banks
have many contracts with each other and legally enforceable netting agreements
are a useful risk mitigation technique, allowing a dealer to use the negative
value it owes a counterparty to offset the positive value owed to it by that
same counterparty, Ms. Dick said.
The OCC also reported
that revenues attributed to trading of cash instruments and derivative
activities in the three-month period totaled $3.13 billion.
When you hit a record
in revenues, as in the third quarter, the path of least resistance is down, Ms.
Dick said. Overall, 2005 was a good
year for bank trading results, but it was a bit of a bumpy ride. The top 5 banks earned a record $11.9
billion in 2005, compared to $7.3 billion in 2004, and an average of $8.9
billion over the past four years.
Ms. Dick pointed to the
continued strong growth in credit derivatives, which increased 14% to $5.8
trillion in the fourth quarter, as an area receiving close attention from OCC
examiners on-site at the large dealer banks.
Credit derivatives can
be a very effective credit risk hedging tool, but they can also be used to
create some very complicated investment structures, Ms. Dick said. Some of
the products lack price transparency, so they present a real challenge from a
valuation standpoint.
Ms. Dick underscored
that two key aspects of the OCCs supervision program for credit derivatives
activities in the large dealer banks are the evaluation of risk management
systems used to ensure that products they sell to clients are appropriately
marketed and that middle and back-office functions are keeping pace with
innovations in product structures.
The OCC fourth quarter
derivatives report also noted that:
- Foreign exchange revenues increased by $311
million, to $1.76 billion; equity revenues decreased by $400 million, to
$845 million; interest rate revenues decreased by $837 million, to $813
million; and commodity/other revenues decreased by $799 million, to a loss
of $292 million.
- Potential future exposure (PFE) increased 8
percent to $915 billion. Total credit
exposure, the sum of net current credit exposure and potential future
exposure, increased 4 percent to $1.11 trillion.
- The 25 largest banks account for more than
99 percent of the total notional amount of derivatives. The largest 5 banks account for 96% of
the total notional amount of derivatives.
- The notional amount of short-term contracts
(those with maturities of less than one year) increased by 9 percent,
medium-term contracts (maturities of one to five years) increased by 1
percent and long-term contracts (over five years) increased by 5 percent.
- The number of commercial banks holding
derivatives increased by 31 to 836 banks.
A copy of the OCC Bank
Derivatives Report: Fourth Quarter 2005 is available on the OCC Web site: www.occ.treas.gov.
# # #
The Office of the
Comptroller of the Currency was created by Congress to charter national banks,
to oversee a nationwide system of banking institutions, and to assure that
national banks are safe and sound, competitive and profitable, and capable of
serving in the best possible manner the banking needs of their customers.