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BAM WfB&m&t'k H MURICIFAL OBLIGATIONS ß % üty&mà g. Bengrea, Assistant e&ief Bivision of Research and Statistics ïfeâeraX Deposit Insurance Corporation ccm rn m m ô? b a m amb a s s i d u t o ™ I ® g FIDERAI, DEPOSIT UfôUBÂBCg DISTRICT CHICAGO, ILLINOIS September IO, I956 Xatro&uctlaa X» the cowroe of tileee rmmxkm it ie «y intMttott first to sketch the bítóKgrouM of bank lavsetaeat lo sftmlcipal» over the paoi 15 ye&rs* the startiag poiat 1» thle discussíca vi II be a brief deeerlptlea o f the sltuatioa prevailiag at the begiaalag of kfcrld War XX follona* by «a ouiliae of tlio developrnento la the postear periodo 3ecoadlyf X «hall reviev the statistlee regardiag immicipel portfolio» of State aonsaeaber beako la the 2i#ith Diatrlct. attention oo the queetiaat Flnally, it 1® s^y plaa te foseo ymat Bev ohoolá the ex m im r hundía the aunieipal segjaoat of the oeoet atzructure of e beak uader m m ám & ím t the cooolderatloo of thle ^oeotloa « ü l afford ea ©pportuaity to dt#c«*#e varióte aspecto of the problea etseh ae the beak9o hasie inveetneat poUcy* the role of rawaicipal oecuritie* la the lavaotasat progresa, and the ftiaUty of theee crédito* \ the priaary ©fejective of theoo reaarks lo to oetliae the subject la eoapnhiiiiivi toras • Xt le m heg» that the reaarfce aey ouggeat opeclflo queotloao to a m ae a haeis for e m e n t o la our diocuooion perlod. Treado la léate goldlaao of liialctpots At the feeginaing of Iftarld War XX #11. - i&sured o<MMSifeial bw>irf held ahoot hlllloa of eeeurltlee* Of thle total about three*fourtho eae laves ted la United States U om rm m t obligatioos. the reaalader consiste* of ether oecuritie*, principally the obligatleoe of State» and subdivisión» of p u m e s t aad the letue* of prívate Corporation», Seearltlee la the aualeipal mgsumt «oouated to ahoot #3*7 bllUoa* - 2 During the war the securities portfolio grew with extreme rapidity. Total holdings in 19^5 amounted to $96 billion of which federal obligations made up $09 billion and the holdings of municipal and other obligations remained virtually unchanged. Three facts characterise the bask investment situation in the postwar period. In the first place» the securities portfolio has declined to the $77 billion level. Secondly» holdings of federal obligations have stabilised at about $61 billion. Thirdly» there has been a sharp increase in the municipal segment of the bank investment portfolio. This has climbed from a total of almost $3 .6 billion to about $1 2 .5 billion. Poring the sene period the Investment in obligations of private corporations» the ensealled other bonds» notes and debentures» has remained practically stationery at about $2 .5 billion. Some increase has occurred in holdings of the obligations of federal agencies not guaranteed by the United States Government but even at pressnt this category of securities accounts for less than $1 billion. To sun up» then» in the postwar period all insured commercial banks have added to their commitments in municipal securities at an exceedingly rapid rata* fourfold. DoiXand.se the amount has increased almost Horeover» the banks have changed markedly the fraction of their total securities account committed to municipals. At the beginning of the period about k percent of the total portfolio was so invested but now the amount is 16 percent. In contrast throughout the period» the dollar amount invested in the obligations of private corporations remained virtually 3 te» «hifb ia til» charneta* of tea bsak portfolio la fraaght vite iag?ortoat «m m i m b i m «a ragards te© w t a*»«te»r. Xt i# of te» baafe a fact test étsrlag te» parlad befar» terld ter XX e a m l a m i w r w «20a ta aovar a w r y teportaat m ^urnt af te» M t iavaalMat portfolios tergaty by te» ai^Uc&ticm of iba pufeXiafaod eiadit rattega lar corporat® ismies« m í a sao tro» booa^aa federal obUsatieos presentad a© precian craditvia* *má eorporat» koi&lpga m m á&mwt m Imtm m tha cctaaitarnta ia anaialpal cfeUgattens. to ba «ara, tea te» Msaieipal eredit» vaa thaa# «a aorf a difficuU ©ovarage of pt&Ushad eradtt ratlag» w Job beeaaee liaited m é. of tha tha antear of ismsers asta la*®»« ihnrld ’í&r IX tha wwfjftw *1 » »arfe has ’ ^ #a teadanad by te» v»*y mibataatial gronte ia «uaicipal holdln^a botd doUerntae and relativa to total baak ixxvaatamta» Xb» matear m& vsriaty of teas« tees»» and te» eenplaxltlaa af tea eradit siteattoas basa iaaraaaaá wiy «uibataatiaUy. álthougfc tea Invastaont aanrlea» bav» ©apandad 'te® aovara®» of tetir ratiaga f&r awnicip&l evadita aonaubat# at baat tto? ara of limitad oaefuiaaaa la appraising tea qp&itp of eradits* Sha», ia han&llng tea atsaiolpal portfolio tea ammiaar bao a varíete of mm problama tbat ara aasarviag of aoaaidemtion* Intiatwwat Hetera ia Sistrlct Slght Xa Slstriet S# aa for tea Ustión m ssa&ieipeX baldía®» bao bam te» saoat laportaat tevaatetet pie ture ovar tea parlad atea» I 9h j . a abóla* tea arante of adagio ehaa®» te te» Curraat atatiatioal information pertaining to District S has recently been compiled for insured coasaerci&l banks, chartered bhe federal Became* Illinois and Iowa, that are not mmbars of During this period municipals held by such banks in Iowa grew fro» approximtaly $25 a U M o n to $8? million. At the beginning of the period the municipals equalled about k percent of the total investment account as cocgsared with 16 percent in 1955. reveal substantially the same picture in Illinois, These statistics There the growth was in the order of $21 million to $122 million, respectively, and percentagewise the figures were shout the same. Thus, it is apparent that the federal Deposit Insurance Corporation examiners in this District are called upon to review a very much larger volume of municipal securities and these investments are relatively much more important in the total Investment portfolio« Furthermore, the recent statistical tabulations show that holdings of obligations floated by private corporations are now relatively uniaportaat in the investment portfolio of Iowa banks. amount to about $lb million. Altogether they now Dollarwise such securities held by b*»ka in Illinois is substantially higher than in Iowa: about $5® million in 1955 ms compared with $2b million in 19^5 , but they continue to be relatively The Bank Examiner and the Municipal Stortfolio The recent increase in the amount of municipal securities held by the insured commercial banks has substantially changed the character of the examiner*s task with respect to this segment of the asset structure* In many banks there has been a notable growth in the relative importance of municipals as an element of the asset structure* Taken in the aggregate, * 5 * f c 0 w w , municipale aocount for cnly a sligbtly larder proportion of tbc total m o t s of the insured commercial banks boit than la the p r m r period. lfsvsrtbelesa, tbs inoreeae la tbs dollar «uaount of seeurltlee bas by Itsslf aâdsd to tbs worfc of rsvlsirlea tbs aunlelpal holdings. evexywhere are fassd vitb tbs assd to devote sors So examinera - tlae to tbis part of tbs baak essaination vork. ffos your vlsspolat sa an exaalner it vould be v t U to orient tba tlaa aad effort you devote to tbs wwleipal holding« of tbs benk under examination arouad tbs central question: tbs bank ia its présent cireuastaeosaf necessary for tbs examiner to callsd a good portfolio. la thia portfolio appropriais for To answer tbia question it la bas» in sind sons notion of vhet s&ght be Somtïma tbs momimr will find tbat tbs portfolio of tbs bank ander mmmimtkm poeeecaee all of tbs dealred cbaracteristics f bot for tbs s û t paît tbere vill be a a a fsirly obvions atotcosinga. These shortcocaings may rsault froa defeeta ta tbs bn k * i investaent policy or fréta accident end aiafortune in ita Implementation. Sov f tb»a# dosa tbc examiner go about it to eaviaag* a asmicipal portfolio vith tbc eharacteriaücs beat suiied for an individual backt Stad: a portfolio should possess a vsrlcty of désirable ebaraeteristies, but for tbc purpoac of tbia discussion attention will first be dlrected to Ucpidlty* Oac abould ne ver forget tbat banks arc primarily cuatodiana of a community*» liquid resoureea. % s y are not Investment institution® cvsn t bou^ they do hold a substantiel aaount of aceurltics. Accordingly # in developing tbs m s t structure of a bank tbs controlisig factor la tbc cbb and fleur of its deposit liabilitlea. fili* i* not m appropriate accasi« for s discussi« of hoefanigpee to detonine cash flows within a henk under enenlaatleo« ¡iewrtheleea, it is a feet that a had: a m « ha *■«««<w»d with such dieesnsent unies# the t m i n u r has a reasonably clear piati»« In hla own miad of the turnover of deposit liabilities. Related ta this picture is the desi«» of the asset etroeture to meet «tese flam. Owing to the else of bank holdings of municipals ant the aste» of the nnrteet, Ihr ell practical purposes, the only dependable source of cash tram tbsse obligations is through payroat at acfeurlty, Facilities for tha distribution of nunicipal obligations are designed primarily to plasa new offerings in the heads of tomatero. At best, the secondary market is stripped to handle only a cœçaratirely anali velie» of well-known issues. T h n e is, of «auree, nothing ooopnn b lo to the shiftahility that has develan* over the deeadaa in the n u k e t for U s t e d hands. She lash of a good secondary market to r remtcipals is net a fatal defeat fron the point of view of bank investment because these securities ere offered in serial fore, and as a consequence the individual hank can select a set of »ferities that w U l próvida a ready flow of cash. She host and simplest nethod to obtain cash fron tbs municipal portfolio is by adhereiiee to eaaething like a fire or seven-year turnover program. In accordance with such a progne the heck hae, far esempla, a definita fraction a t the total partfbUe »taring in sardi year. Funds obtained fren the » t u r a d honda thon nay ha reinvested In «be longeât tarn Obligatio» contemplated by the pregna, get only dees this plan of Investment afford a steady flow of cash but in addition it gives the h o l e r an opportunity to ~f m of n t t t m on his ffifflicipsl boldliigi, Thus# he o s b 1yww on^ the fluctuations that occur is yields f t can year to year. la the selection of Issues for the municipal portfolio of a beak aeat in importance are considerations of Investment quality. Especially is this true la prosperous times because then practically all obligations appear to be good even though the margins of protection are small, nevertheless, it is inappropriate for a bank to hold assets of inferior quality. Such obligations cannot be depended upon to perform according to the teras of the contract in times of adversity. Banks now hold almost one-third ©f all the municipal securities outstanding. grade. Accordingly, one cannot expect them all to be of the very top However, the issues suitable for bank holdings are only the ones that are strong enough creditsetse to rule cut any doubts as to pffT*foTwaaiw' ?*f> either with respect to payment of interest or principal at maturity. financial literature stresses the fact that municipal securities have seldom eventuated in losses to investors, loss frequently is mentioned the fact that over long periods of time holders of inferior quality issues have been unable to collect principal or interest, in view of these facts it Is quite evident that a great many municipal obligations may be good enough fear the portfolios of noahsnk investors. Such holder® can afford to assume the credit risks because they know that ultimately the likelihood of Idea is small. Bank investors, however, are not in a position to wait fear batter times. As a consequence they must limit their commitments to issues whose debt service is protected by substantial margins. a Mortiteli* Umm li little differeaee betvaen high spolltgr ' miniclpol eecuritles m d tb&m o f mrgiiUìJL or business 1« m U m * Fresa thè eactóBiaer1» polat of vlei# ttiia li both « dlsadvantss© «Qà «a sámatele, j m iqr a y j gysd* Uto® It li dìffloult far hi» t© convinse a baak to buy seeuritles ©a a y i e M basii that a flight differeatial la r e t o » ought to be surreadered m m to obtoia a b t ò quolity lavoitatat» O» thè other ha&d, It li a faci tm b sa&rket qpotatloai reflect ooly inoaspletsly thè vide m&rgias o f proteetioo m %£libia to iavaotor» 1» aaat issues. Accordingly, biabare frafaestly oso laprava thè quality of their portfolios hy « k l © s only t s U eooeeüloaa la assonate of líteos*« Ibis le m t alvoy* thè cese. borlas thè parlad of thè Groat baproMlao thè y i © M differentials batosta top sraie litoti end thoot of ìaferlor quelity aere «Ida» A&sitte&ly* aar&lsg posar li a fiatar of iaportaace la guldlag thè toltotion of ianas far inclusión la a benk't mmfeip&X portfolio. Hososor, It li ta uafortunste fast that otar thè patinar yaars »uoh of thè discussi©** ragar&lgtg baak holding« of raalolpalt hm ceatozod oc thè sÉireatasei of asso^t laccasi* Beakers #y* securitiet dosiers bove beoo ahaott empietela preoccupiti wlth thè «flirt to fiad a bassa of rafuge froa toxatloa* This prooceupatioa hm divariai attenti©» fra» thè centrai probi*«, vhieh ls thè appropriatane»® of thè seourltias far thè ìarsotsaot portfolio of thè bsafc* j§®y# ubai osa thè boti #y¡ftaiaaff »do ìyy fiado sfesrp dlffsraaoii batate» thè ctoaoteristies of to» eeouritlsi aatualiy held bgr a hqmis. tmñ thè ©nea that uoutd #owpr|.ffe a |pyfr4 portfollot At tolo potai it - 9 * should be noted that the examiner has a number of tool# at hie eonsnand. For exaaple, the investment section of the examination report raises questions shout the bank1* investment policy* If the examiner pursues these questions vigorously, the answers will disclose any serious weaknesses that may exist In the basic policy car the management of the Investment program, fhus, the stage will be set for a genuine remedial effort and a detailed comment on page £ of the examination report is the appropriate place, in ay opinion* for the examiner to present hie views as regards the situation the possible remedies. To the extent that a bsnk*s investment portfolio suffers from weaknesses of a policy character, the difficulties can be isolated readily enough. Sometimes, for example , a portfolio has undesirable characteristics simply because the bank follows no specific investment policy. are acquired for vague reasons or virtually none at all. be appropriate, It is an accident. Securities If they to On the other hand, the *'**mirm* occasionally finds a bank with a fundamentally unsatisfactory investment policy. ®m bank may be committed to acquire securities with relatively high yields, irrespective of quality or the appropriateness of the maturity* Such a situation requires clear-cut comment by the examiner. Deviations from a sound investment policy in most instances can only be corrected by means of a rather long educational program* Sot coaly must the examiner identify the weaknesses in the situation but thereafter a concerted effort on his part is needed to encourage the adoption of an investment policy that is suitable for the Individual bank. - IO - Bmmtimtm m mumtemr w ill fixté th*t m bm k km adopted * m tiéfm to ry «tetaneat e t immfommt v o lley bai «» a practtoal amtter thè ifupleoratatloa* i# pera. 2t Mty be* fra «miopie# ihai thè recami««« thè importane« of libidi ty «ad mtahliehra thè Crostò m U lm & e t v o lley with rasard to thi» fratta« of thè portfolio. f r e m e r , tbere m y b« rule» ln thè pollar staieraat for deteraining th» «mariti«« to be ralmied for iaveetnaent porpora«* depari widely trm m om à peUey. of Bui «ctoni presile# m y fà « emotner era bo of g m t «orfica to thè beate in rerleviog thè eraposiUea e t %he portfolio m à ealXiag attenuo« to «ridasi makmaees» Teste of Credit (ìuality Tkm mmmt of thè eo asim r'e tir a arailafele fo r «M irino thè bea**« jmmicipal portfolio depaode Sm goal paart open lt» ¿scortone* lo thè ra te i « tritu re « Thm# thè my eora l uda freu hi« psnilialooxy m rm y th at b rie f etudy 1« «u ffieieat fo r thè purpo««« o f bl« «m staetioo* Qo thè oiher heod# io «eoe e««*« thè portfolio ì M « J o r iapertaom 1« thè beate operistico» i osti «« «o olamnt of %bi« 1« «erteiniy M i i m m i n e n t « «orami for « Xerpr perecntage of total «««et«* if maioipal Boi li «leo m y he i m o io thè evm t that thè portfolio «rideste*« « look of eoovdlaotlao with thè ««ah refelrmots of thè M or if «brlatte wtòraaaea io credit guality ragp»t thè ae*& for inteneire «lady* Ara eoo thè aometner irai thè ranliW of basite portfolio wiitete thè llaitotion» of hi« rarfe schedala? trarae io « Strafar m poratble thè uee of Bublished sotto«« ter tmsieralal iareetaaeii eanrf nie fhroishra «eoe eira m to raoUtir* le he rare# thè standard« «ore deralcped fra «¡«ite « different fiold# mnely# corporato itera«# Imi they rap be « i t a helpfui* * XI *> B» D I M M ef a lare» auafter a i oscuriti«» tbat bave not basa rata« aa «e « * U t y by tba reeogaieed sonrosa af tawetment tatensatlce la a eigaal far tba aaelyeta af individuai credit lf ti» mmfelpal portfolio la taportaat ta thè teak, b w w , a tina-oonauaing eadeavor. ti» «atamlaatlon af credit quality is Aa a stortine pela* ti» •»«■rt— i. a a subetaatial amaunt af Internatigli abe«t eaeh lodividual credit befen« fa« em undertake any oaalyUeal varie. »a batik «xeataina eutherltles bava always adfaero« «a tbat a properly amagad tank « d atali» adequato aaaata Includins thè aaaurltlaa partitila. credit m e a Credit data ave thè rula aa all af Ita rwedily avallable ta thè pubiiehed »auree» af tavaataaat tafanaattaa snob aa itoa^r*a Manual ter all of ti» taauaa that anjoy a satianal aarfeet aa vali aa aaay ether obligatisn» af mstaaal taportaaee. ìtotertunately, tee a«m inar la Ukaly te ftad tbat thè tee«a «sardtag tba eradita af anali »«aamlttaa ara aat avellani» ta any pubUohed aoureaa. tafenwttaa neeeooary te datarata» thè quality ef « o h eredita m a oaly ba obtataed temi coplee ef eudlt reporta and aomttaaa tema effariags circulara. Uba lattar« benaver« tevquenUy gloaa aver potate af importano« ta aaelyttaai wwfc# Zf aa examinar ftada tbat a baldi bea contatta« a sUbstaattal parti«« ef ita tenda te anatelpel iaaue* that ara aat aovan« by reporte ta tba aaiaiala, ba aheuld inalai aa aattetaatary credit fllaa. eeaaattal ta a metter eupport qualitative Judgneats m t h teak data i n neyaet ta aaceritlaa. Aa af flaet, t e n e ta n a a o a ta bellave tbat tba » * ■ «itb adagiata credit fllaa tea« to ba «ora sensitiva to « I f f a n e a M ta tba quality af - It ~ seeuritiea available for investment. too often, X feel, the notes the shortcomings of credit file« covering the items in the investment account and then neglects to comment on the seriousness of this lack of information. Xh analysing the credit quality of ssonicipal securities the required data depend basicly upon the type of security under consideration. j® for this reason the examiner»« first task in analysis is to divId© the issues into appropriate groups* Obligations carrying the pledge of the full faith and credit of the issuer are, generally speaking, the easiest to appraise vith respect to credit ratings* Fortunately the securities in tM-m group comprise the bulk of all outstanding municipal obligations. $he exigencies of municipal finance have given rise to a group of securities floated to finance enterprise of a business type* securities do not carry any unqualified pledge of credit. fltese On the contrary, Mi© funds available for debt service are derived solely fro© revenues earned by the project. For all practical purposes these enterprises resemble public utilities although there is no ownership protection. of She examiner may find it difficult to Judge the credit worthiness of these projects kit in any event it is of a nature that does not present any novelties in finance* Xn general the techniques for ascertaining the credit worthiness of securities floated by a privately owned utility ere applicable in m s situation. Probably the most troublesome areas of Mmicipal finance are cliaraeteriied by the issuance of securities that have some of the characteristics of general obligations and at the seme time embody * 13 * features that ordinarily om «Quid expect in revenue projects* Because of the tremendous expansion in the demand for municipal facilities there has in recent years been a grant deal of inventiveness in the field. As a consequence many flotation® near present problems to the analyst that cannot bs handled by m e m of the conventional techniques* Analysing Credit worthiness of general Obligations Broadly speaking, it Is not difficult for an examiner to satiety himself that the obligation of a community that has pledged its f U U faith and credit to service the debt measures up to high qualitative standards* Likewise, the obviously inferior credits are readily identified by the application of a few simple testa* However, there is always a residue of issues— which in good times tends to be sisabie— that is character* in About these issues one can speak with assurance that debt service will be met as long as the economy is in an expending phase. But it is problematical that the credits could withstand a great deal of adversity* l&at, then, are the tests of a good credit! In the first place such securities are Issued by a community with sound economic whose physical facilities are in good shape. Ttm bank examiner in the course of his work has an opportunity to visit a great many municipalities whose obligations are found in the banks he examines* He can detect the evidences of a thriving couasaiaity with weU-maiatalaed public facilities adequate to serve current needs» By contrast, he is aware of the fact that some municipalities are- literal3y down-at-the-»heels ► the obligations of such issuers are rarely better than the physical appearance of the community* m 3& <*» Svideace« of good finaacial raaaagaaent charastaris© tha mxmá siualeipal «rsdita. of the obligor. Thia s»o&g©»eat la reflectad la the financia! stateansat® The aceouata aeasure up to approved standards of reportlagj the dabt structure la aiapla; «id tha record of reeeipta and axpandltaraa reveala a aargia of proteetlon for dabt aerrtae that vllX help to abaorb tha «hrlnkage in tas coUswstiena when tía». are bed. *j¡f . Sot ooly la goo& manageaxmt reflectad la aa orderly atata of currant financea but thsre la alao a hiatory of performance that testifica to tha ooawmlty1# ability to aama^e Ita affairs. «hila it la uaraaaooahla to laalat oa so-caUed unblasiisbed debt record« rúñalas baek fres* 50 to 100 years, it asesta to ase that evidcnces of good should heve aceumulatad orar a parlad of at Xaaat 10 ¿reare befare there la aay m w m m ee that tha operatlng conditico* rest oa a aound basis* Tha burdas of dabt la m iaportaat measure of eredit vorthiaeae «id it la relatlvely U # i t la a coaounlty atoase ©redil la ¿señad to be h l # tuallty. As a setter of fact, thare la no simple test of dabt burdas. The hietorical ono, nan»ly, the ratlo of dabt to aaaeaaed valúa la atill widely acoepted bacanas aioat oonaunltlos continua to rely heavily m the general property taje aa a sotares of lacena, «han tha dabt anounta to oitfy 2 peroeai or 3 percent of tha aaaaaaad valúa, It eertadaly reata Hgbtly en a conaualtar* Bowever, la saay States the general property tea la OaeXining ia isportaaee aa a souree of revean® and aaaieipalitlea are plaeing «a lacreasing m a l of rellane© o© salas tama, feas, Uceases, and charges for «pecific serviees to support their activltlea. Moreover, federal and State aUoeatioos of fbada are a very subatautlal part of tha total available to finance the activities of many municipalities. Warn, munleipalities are not obliged to rely solely upon the general property tax to service the burden of debt* When the general property tax v u virtually the only source of income for debt service the analyst was justified in placing great reliance on the ratio of debt to assessed value* however, this measure is much less useful* lov# In any case, It must be interpreted in terms of the total revenue picture of the community under consideration* •So facilitate the interpretation of the ratio of debt to assessed value sometimes it is desirable also to determine the per capita debt. Shis ratio has the advantage of ruling out of consideration the varying dependence of e a m m l t i e s upon the general property tax end the vagueness of assessment practices, However, it also can be misleading* For exas^le, a wealthy agricultural community that is thinly populated may very well have a high per capita debt* Such a measure of debt burden would not be as helpful as a computation of the «mount of debt per acre of land* diversity of practices with respect to the assessment of property Is one of the serious weaknesses in any ratio that endeavors to relate the obligations of a municipality to the assessment rolls. From time to time there have been efforts to estimate the so-called "true" values of property from assessments in a municipality* As a practical matter it seems to me such efforts are fuite unlikely to be successful merely because it is so difficult to arrive at any defensible measure of true or fair market values* fhe credits that fail by a wide margin to measure up to high qualitative standards can easily be Identified by the examiner as bad *■ Io m baiikii, $he lusk of psXity 1# readlly i q p n i l to ^ ygywp vìba vili look at t e data» Aceordingly, it la set difflcult t e tha ex&atner to prepare M s a m m t for thè leeone» But reai iroubla le eneouatercà vhen thè exaainer 1« de&Iing *iith thè borderline quality of credit» In euch casce it le difflcult to aake a eonvineing arsaaeat that thè obligation ie uasulted t e tank i s v u M » * dejr sunielpal portfoiio ie llkely to bave a t e leeuee of ¿»arginai izroatsient quality, 1bea» holding® oould result fra© aecident nietake or beeause of difteeaoee in credit indiente* a®seiat ie esali it need aot Occaeiooally thè teever# if the ìm of auch conce» to thè m m i m r * mtmimr vili find a tank that s h o w a dispositi©» to iavest *• eubetantial porti©» of Ite t e d e in ©unleip&l aecuritiee vhoee quallty le ©arginai in char&oter» la theee Gironsa tanoes it is euggeette that t e exazainer etrike definitela that ie reeponsible far thè trouble* thè eacamlaation report at thè investsaent pollar Time* e polnted eoement on page 2 of vmlA ìm appropriate» To thè eaetet that it ie poaalble thie eoesaant should he supportcd with a H a t identifying thè ©arginai quality leeuee» Bevete lasuea Municipal cbligattee dependlng t e credit vorthteea upon thè rev^mee of a specific projcct are not objectioaable in a battile portello if thè bondholder hae a good sargia of protette. leeuee ere not too hard to analyae» M a ©atte of faci, theee Ueuelly thè prosante follov etrelgfrt tewerd aacounting ©ethods end e reriov of thè operatine date qpoiekly diseloeee t e sargia of protette t e debt Service, li t e margin le # 17 m scSaquafce, one eannot object to the obligation æ r e l y because debt servie© dépends ou revenues rather than tasses» tn analyaiag the financia! opérations of business**type enterprisee to aacertain the mægin of protection for bondholâers, the «piestiea of dépréciation alvays presents a knotty problem. For purpoaes of comparisoa there 1s m e h to be mi& in favor of eosputing debt servie# coverage befare & * dépréciation charges» Sfaese items ears&ark cash that say be used to eugswtnt the property euppartiag the crédit» levertfceless, it shouid be aoted th&t cash incoase after It has been iacorporated in the is^roveaeat of property vill m t aleo be availabla as a zsargin of protection for debt service» An operatiag property may bacana caspia iely uabalaneed if the proJect follows the practice of flaanciog extensions frasa dépréciation and negleetlag to replace voraout equlpeaeat. A rapld asaortisatlixi schedia# is in itaelf good protection for the bondholder. Xdhevise, the bondholdar is proteo ted ehea a substancial «wouat of income is aegregated to cover dépréciation evea thou#ï the smortisatio» of debt is modérate» So deprecíate property and at the smm tiae amortis# debt, generaUy speaking, is evidence of a strong crédit but it is unreallstic to e^ e c t suoh performance trm *aaay provecta« Analysis of gybrid Crédits Beceat years hâve wttnessed the ries of a vasi number of municipal issues that do not fall into the m a t catégories of either gourai obligation® or revenue iseues» Financial oxigéneles hâve forcea the invention of uaay securities that poesese sme but xsot ail of the m JjS m characteristics of general obligations ana some but not all of the characteristics of securities depending primarily upon business-type activities to support the credit* It is extremely difficult to analyse the credit quality of hybrid issues by any of the customary patterns of credit analysis* suggestions, however, can be made. A few In the first place, the examiner should satisfy himself that he has in fact a hybrid issue under consideration. Then it is necessary to study all of the facts and circumstances which have a bearing on credit worthiness and to develop the analytical approach, bearing in mind that the crucial question is simply this; Can the community service the debt in accordance with the terms of the bond? Summary and Conclusion To sum up, then, the examiner ®s task has changed materially in recent years as a result of the growth in the else of the municipal portfolios held by the insured commercial banks. The performance of this task calls for a measurement of the actual portfolio of the bank under examination in terms of appropriate standards. investment standards is difficult. However, the development of Generally speaking, to determine the standards for a portfolio best suited to a bank under examination It is necessary to consider liquidity and qualitative requirements. In analysing the quality of securities in the municipal portfolio the examiner is confronted with a number of perplexities. It is a fact that only a small portion of all of the outstanding municipal issues have been rated by the recognised investment advisory services. Accordingly, the examiner is obliged to form his own credit judgment as regards the hulk of thè lamie* that cose to hi» attenti©». Thla zepiires a kaovledge of appropriate techniquee far credit analyois and ®ay impose heavy upoa thè tlae of thè exaainer. ®*e resulta of thè exanlner’a vork oa thè baak*s holding» of municipale are brouggit to focus In hls tsammnt* m page 8 of thè report* Thla seotion of thè report affords thè esaminar aa opportunità to »1 ■$ : polat out evldences of poor Icpleaentatloa vfeea thè basic investaent policy la sound and to cali attenti*» to aerloua veaknease» that mey exlst in thè pollcy Itaelf* It la aJUsoat iapoaaible to over aaph&sise thè laportsaee of diacemlag condente oa page 2 of thè report becauae thia la thè pari of thè dociaaent that laya thè groundwork for rtsmOfing ueak situations.