Bonds Are Risky

Insurance Pro Blog Podcast

For the first time in over a decade, we're all getting reacquainted with the adverse consequences of interest rate risk. To better explain to you what that actually means, we went on a Google search for a simple definition. But in doing so, found one from the FDIC, and in light of the recent turmoil in the banking industry, it seems to be the most appropriate one to share.

So here it is straight from the FDIC website: Interest rate risk is the exposure of a bank’s current or future earnings and capital to adverse changes in market rates. This risk is a normal part of banking and can be an important source of profitability and shareholder value; however, excessive interest rate risk can threaten banks’ earnings, capital, liquidity, and solvency. Therefore, it is important to effectively identify, measure, monitor, and control interest rate risk exposure through effective policies and risk management processes.

Sadly, it seems that some banks did not effectively identify, measure or monitor their exposure to interest rate risk. Instead, they closed their eyes, and held their breaths as the Federal Reserve raised rates sharply through 2022. The net effect is that all of the long-term bonds in their asset portfolios declined in market value.

That's not necessarily a problem if a bank isn't forced to sell the bonds on the open market. But when a whole bunch of depositors show up at once demanding their money, problems ensue. The bank is forced to sell bonds at a loss that is realized on their balance sheet, and the problem snowballs.

We've been talking about interest rate risk here on this podcast for over ten years. Now, we didn't predict this particular outcome. Still, knew that artificially suppressing interest rates for an extended period would cause pain and so it begins.

To hear more about how this affects the life insurance industry in particular, please listen to the full episode.

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The upside of rising interest rates is that, you now have an opportunity to lock in guaranteed income streams, the likes of which we haven't seen in over a decade. If you're interested in exploring how that might benefit you, please click here to contact us for help.