Overview
This series explains why liquid U.S. bank securities were difficult to use as a shock absorber during the 2022–23 rate surge. Rising rates cut bond values and extended callable mortgage-backed securities, while deposit pressure increased the value of cash. Selling underwater available-for-sale bonds could reduce duration and raise liquidity but realize losses; qualified hedging required documentation, effectiveness testing, and operating capacity; held-to-maturity classification reduced selected reporting volatility without removing market risk or preserving full flexibility. Philadelphia Fed position-level evidence from roughly 30–35 U.S. banking organizations with at least $100 billion in assets shows these margins moved unevenly. The OCC’s Spring 2026 report, based on later observations from 2024–25, provides a broader modeled benchmark, not a matched comparison. The series separates economic exposure from accounting visibility and keeps policy conclusions conditional.
Learning outcomes
- Market liquidity did not make underwater bonds easy for banks to mobilize: selling could crystallize losses and pressure earnings and, for some banks, regulatory capital.
- Rising rates can extend callable MBS as prepayments slow, increasing both duration and sensitivity to further rate moves.
- HTM can reduce selected accounting volatility without reducing a bond’s market value or economic rate exposure, and it can narrow future flexibility.
- In the Philadelphia Fed’s 2022–23 sample, banks bought less and reclassified more readily than they sold underwater bonds or expanded qualified hedges.
Keywords
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PlansFAQ
Why didn’t U.S. banks simply sell liquid bonds when rates rose?
Because selling an underwater bond could raise cash and reduce duration but also realize a loss, affecting earnings and, for some banks, regulatory capital and confidence. Holding preserved short-term accounting treatment while leaving market risk in place.
How can rising rates make an MBS more exposed to further losses?
Rising rates slow mortgage refinancing and prepayments, extending the MBS’s expected cash flows. Its duration can therefore rise as its market value falls, and its convexity can become negative.
Does moving a bond to HTM reduce a bank’s economic interest-rate risk?
No. HTM can reduce selected book-equity volatility and, for some banks, regulatory-capital volatility, but the bond’s market value, duration, and sale cost remain rate-sensitive; it also prevents qualified hedge accounting for interest-rate risk.
What did the 2022–23 evidence show about banks’ bond sales and hedges?
In the Philadelphia Fed’s sample of roughly 30–35 large banking organizations, underwater AFS securities had about a 1% quarterly sale propensity versus about 9% for above-water securities; qualified hedges offset about 61% of AFS Treasury duration but about 11% of AFS MBS duration. These findings do not prove every bank’s motive.