Lumesis-MMA FAQ: Are Your Municipal Holdings Ready for the OCC & FDIC?

Categories: Commentary |

Do recent regulatory changes stemming from Dodd-Frank affect banks’ municipal holdings?

Yes, Section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) requires any regulation – including bank regulation –to use an “appropriate standard of creditworthiness” instead of a requirement of or reliance on rating agency ratings.

Over the summer, the Office of the Comptroller of the Currency (“OCC”) released its final rules and guidance related to Dodd-Frank. These provisions impact how banks select, purchase, and monitor investment securities—including municipal bonds. Federal Deposit Insurance Corporation (“FDIC”)-supervised institutions are generally expected to follow the same investment rules and guidance as OCC-supervised banks.

What are the primary requirements of the OCC’s rules and guidance?

The rules and guidance call for:

  • An appropriate risk management framework for the investment portfolio;
  • Subjecting investment securities to
    • an initial credit assessment at the time of purchase (“pre-purchase”); and
    • ongoing review, consistent with the risk characteristics of the securities and the investment portfolio;
  • Reducing undue reliance on external credit ratings when determining the creditworthiness of a security.

What is the effective date for compliance with the rules and guidance?

January 1, 2013.

What is expected of an OCC-supervised bank on January 1?

Banks should have a framework in place to address the rules and guidance and questions that may arise in examinations. Banks making progress towards compliance will likely be looked upon more favorably than banks still lacking a course of action.

Do banks have flexibility when implementing the rules and guidance?

Yes. The OCC has made clear that there is no set standard. New procedures (pre-purchase and ongoing review) should be consistent with the risk characteristics of the bonds and the overall risk of the portfolio.

Has the OCC provided direction on factors to consider when reviewing securities?

Banks can review their existing municipal holdings at the institutional, portfolio, or individual instrument level. In other words, banks can use risk-based tools that estimate a portfolio’s aggregate threat to bank capital.

For pre-purchase reviews, the OCC provided a matrix that can serve as a guide for the credit risk assessment process. However, the OCC also stated that the depth and scope of the analysis required will depend on the security’s risk characteristics; high quality investments generally will not require as much analysis as investments with an elevated risk profile. The OCC matrix included elements such as:

  • Confirming the spread to Treasuries and risk of default is consistent with bonds of similar credit quality
  • Confirming capacity to pay, assessing operating and financial trends, evaluating soundness of budget positions and tax revenues, and considering debt profile, unfunded liabilities, diversity of revenue sources, taxing authority and management experience
  • Understanding the local demographics/economics (unemployment data, income and home value data)

However, banks are allowed to use risk-based tools here as well, focusing on key attributes of the bond being considered for purchase and what those attributes imply about potential default risk for the bond itself and the portfolio in which it will be placed. For example, a well-rated general obligation bond may require less analysis than an unrated multifamily housing project given the disparity in default experience for these types of securities. For this approach to credit selection, it is still important to have a framework for reviewing other factors that can influence the fiscal well-being of the issuer.

I thought external credit ratings had to be ignored to comply with the guidance. Is that true?

No. Ratings can be considered in making a pre-purchase decision or when deciding whether to continue to hold a security. However, the rating cannot be the sole factor in the decision making process. If an external credit rating is considered, it should be one of several elements in the decision making process.

Can banks delegate the analysis of municipal securities to a third-party provider?

Yes. However, it is important to point out that the OCC guidance reminds Boards of Directors of their responsibility to oversee management to assure appropriate processes are in place and that Management, even where it relies on third party research or analytics, is responsible for decision-making.

The guidance states that institutions can perform the pre-purchase and ongoing reviews themselves or utilize third-party research and analytics. However, where an institution relies on third-parties for analytical support, management still retains the responsibility for decision-making and ensuring that resources are independent, reliable and qualified. Moreover, the Board has the responsibility to oversee management with regard to its decision-making process.

What options are available to banks that don’t have a municipal credit department?

There are a variety of tools to assist banks that don’t have a team of qualified municipal analysts. Municipal Market Advisors (MMA) and Lumesis (DIVER) offer cost-effective solutions to help banks address their new regulatory responsibilities.

The requirement for conducting ongoing reviews of municipal portfolios can be met using MMA’s Portfolio Credit Benchmark (PCB) solution. MMA, the leading independent provider of municipal market research, has developed a highly effective, risk of default model that identifies which holdings in a portfolio correlate with more than a minimal risk of payment default and therefore, warrant further review. PCB is powered by MMA’s real-time dataset of municipal bond default trends. PCB shows a 99% success rate in identifying the current universe of municipal bonds in payment default as “needing further review” at least a year prior to default.

Pre-purchase analysis of municipal securities can be supported through the use of the DIVER platform which references a database of more than 225 data sets focusing on demographic and economic information. DIVER Advisor Muni Bond Report (Ambr) is a CUSIP-based report that aggregates critical and timely information about every municipal bond and delivers sector-based demographic and economic data, default events, ratings and trade history and location-based news links that can be accessed at or prior to a trade and any time thereafter. DIVER Analytics leverages the DIVER database and offers access to five analytical modules and a continuing disclosure service for municipal holdings.

To learn more about MMA’s Portfolio Credit Benchmark (PCB) or other MMA products please, call (978)287-0139 or email

To learn more about DIVER Ambr or Analytics please visit, call (203)276-6500 or

Municipal Market Advisors (MMA) is an independent research and consulting firm based in Concord, Massachusetts. MMA’s core business is providing strategic analysis on historical and quantitative conditions of the US municipal market, commentary on major credit events and trends, a dynamic catalog of municipal issuer default and impairment activity, and research on Federal regulatory trends that affect market participants. MMA has introduced its newest service, the Portfolio Credit Benchmark (PCB), an enterprise risk solution for bank portfolios to meet their regulatory needs pertaining to the ongoing review of municipal bond portfolios.

Lumesis, Inc., is a Software-as-a-Service (SaaS), cloud-based financial technology company dedicated to delivering simple to use, powerful technology for the Fixed Income Municipal Marketplace. DIVER, by Lumesis, offers software solutions and comprehensive data on more than 54,000 issuers within the municipal fixed income market. The DIVER platform includes DIVER Analytics, DIVER Advisor and DIVERAmbr.

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