OCC Reports Fourth Quarter 2013 Trading Revenue of $2.9 Billion

WASHINGTON — Insured U.S. commercial banks and savings institutions reported trading revenue of $2.9 billion in the fourth quarter of 2013, down $1.5 billion or 34 percent, from $4.5 billion in the third quarter. Trading revenues in the fourth quarter were $1.4 billion or 32 percent, lower than in the fourth quarter of 2012, the Office of the Comptroller of the Currency (OCC) reported today in the OCC's Quarterly Report on Bank Trading and Derivatives Activities.

"We expected to see trading revenue decline in the fourth quarter because of seasonal effects,” said Kurt Wilhelm, Director of the Financial Markets Group. “But, it’s important to note that trading revenue was also much lower than in the year-earlier quarter. Trading revenue, particularly for interest rate products, has trended lower.” Mr. Wilhelm noted that weak client demand showed up most clearly in interest rate and foreign exchange products. The combined revenue in interest rate and foreign exchange was $2.0 billion during the 2013 fourth quarter, $1.6 billion lower than in the 2013 third quarter and $2.9 billion lower than in the fourth quarter of 2012.

For the full year, banks reported trading revenue of $22.2 billion, $4.2 billion or 24 percent, higher than 2012, but $3.1 billion or 12 percent lower than in 2011. In explaining the stronger performance in 2013, Mr. Wilhelm noted that in 2012, trading revenue was suppressed by two significant events: well-publicized credit derivative losses at one large bank and material losses from valuation adjustments. “Core trading revenue was actually higher in 2012 than in 2013,” Mr. Wilhelm said. “The narrowing bank credit spreads in 2012 led to large losses from adjusting the fair value of derivative payables, an accounting risk that banks often do not hedge.” He also noted that interest rate and foreign exchange revenue of $16.9 billion in 2013 was $5.5 billion lower than in 2012.

Credit exposures from derivatives fell for the sixth consecutive quarter. Net current credit exposure, the primary metric the OCC uses to measure credit risk in derivatives activities, decreased $7 billion, or 2 percent, to $298 billion during the fourth quarter of 2013. “Changes in both gross and net fair values were among the smallest we’ve ever seen,” said Mr. Wilhelm. “Rates have been so low for so long now that the historical relationship between interest rate changes and credit exposure has weakened.” In the past, Mr. Wilhelm noted that rises in interest rates would cause gross receivables from interest rate contracts to fall. Receivables from interest rate contracts were flat at $2.8 trillion in the fourth quarter.

The report shows that the notional amount of derivatives held by insured U.S. commercial banks declined $3 trillion, or 1 percent, from the third quarter to $237 trillion. “The notional decline in the fourth quarter isn’t particularly surprising, given weak client demand,” said Mr. Wilhelm. “It’s too soon to tell whether the decline is the resumption of a trend we had witnessed in 2012.” Prior to the first quarter of 2013, derivatives notionals had fallen in five of the six prior quarters, because of ongoing trade compression activities, which allow banks to reduce regulatory capital requirements and operational risk in their derivatives portfolios. Trade compression involves aggregating a large number of trades with similar factors, such as risk or cash flow, into fewer trades. Contracts for each market sector fell in the fourth quarter, led by a $1.6 trillion decline, or 12 percent, in credit contracts.

OCC also reported:

• Banks hold collateral to cover 82 percent of their net current credit exposure. The quality of the collateral is very high, as 75 percent is U.S. dollar and non-dollar cash.
• Trading risk exposure, as measured by average value-at-risk totaled $381 million across the top five dealer firms during 2013, 29 percent lower than $534 million in 2012. Derivatives contracts are concentrated in a small number of institutions. The largest four banks hold 93 percent of the total notional amount of derivatives, while the largest 25 banks hold nearly 100 percent.
• Derivative contracts remain concentrated in interest rate products, which represent 82 percent of total derivative notional values, up from 81 percent in the third quarter. On a product basis, swap products represent 64 percent of total derivatives notionals, up from 63 percent in the third quarter.
• Credit default swaps are the dominant product in the credit derivatives market, representing 97 percent of total credit derivatives.
• The number of commercial banks and savings associations holding derivatives was 1,383 in the fourth quarter, down from 1,417 in the third quarter.

Related Link

• OCC's Quarterly Report on Bank Trading and Derivatives Activities: Fourth Quarter 2013 (PDF)