Managing of Bank Investment Portfolio [18 Factors]

bank investment portfolio strategy

Investment officers should not purchase those investment portfolios that bring losses to the bank. Now the question is whether the investment officer purchases the portfolio which offers neither profit nor loss or little profit while they have the opportunity of purchasing profitable investments.

The answer is; if there is a high possibility of profit from investment and the bank misses the opportunity due to the negligence of the investment officer, the investment officer will be held personally liable. Bank’s Investment manager should consider certain aspects of security selection.

Paramount among these factors are income tax consideration, profit-making, the advisability of taking capital losses to be offset against capital gains to increase future yields to the bank, and the desirability of acquiring tax-free municipal issues in place of corporate obligations of similar quality.

Bank management should consider the relative merits of all these factors and give each factor its proper place in a well-planned, profitable, and safe portfolio of income from investments.

The buying and selling securities is an extremely specialized and intricate business with many dangers for the inexperienced.

However, a shrewd bond trader can increase a bank’s earnings through advantageous purchases, sales, and investment in securities offering the best yields commensurate with a minimum risk.

In placing bank funds at risk, the funds should be employed most advantageously to the bank from the standpoint of loans and not investments.

Investment officers must consider the following factors while selecting the investment portfolio to maximize the wealth of the bank:

18 Factors For Managing of Bank Investment Portfolio

12 General Factors To Be Considered For Managing Of Bank Investment Portfolio

The general factors which an investment officer should consider while selecting the investment portfolio are given below in brief:

Expected Rate of Return

The investment officer must evaluate the optimal investment based on the bank’s profit planning. Every investment program should provide for a steady runoff of maturing securities.

A sound investment policy should always include the regular spacing of maturities. In general, volatile deposits, or hot money, should be used to acquire short-term, relatively risk-free securities, as they are frequently called.

Conversely, deposits known to be stable can be invested in longer-term issues, which can be expected to earn a higher rate of return.

Tax influence

The most attractive securities class for income-producing purposes are the “tax-exempts,” which are obligations of the state and local governments.

Since World War II, these have grown in importance in bank investment portfolios as banks have become increasingly exposed to federal taxes on income.

Nevertheless, tax-exempt securities must be used with caution. Two major problems exist uneven quality and some marketability risks about which the bank investment personnel should always remain careful. This is an area in which bank management must exercise close and careful control.

Eligibility of collateral

All types of investment portfolios/ financial instruments are not similarly eligible as collateral. So, investment officers must consider the eligibility of debt instruments as collateral before selecting an investment portfolio.


Another criterion for selecting bank investment is quality. Generally, in the USA, any security listed in the top four grades by Moody’s Investors Service, Inc., and Standard and Poor’s Corporation is considered investment quality. The investment classifications of these services are:

 MediumA, A-1A
 Lower mediumBaa, Baa-1BBB
 Marginal speculativeBa BB
 Very SpeculativeB, Caa B
 DefaultCa, CD

In addition, upon request, the comptroller will rule on the eligibility of specific bond issues for bank purchase. These rulings are listed in the comptroller’s Manual.


Investment officers must determine the security’s maturity after considering the fund’s condition, liquidity condition, and the possibility of interest income. Otherwise, the bank may face a liquidity crisis due to small earnings from the investment.

The longer the time period that municipal or corporate security is outstanding, the greater the opportunity for the credit quality of the issue to deteriorate.

The most important aspect of maturity for the portfolio manager is that the money risk is directly related to maturity. The longer the maturity of an issue, the greater the impact that a given change in interest rates has on the security price.

The investment manager must know the relationship between maturity and potential price fluctuations as he selects security for the portfolio.

Adequacy of capital

As we have seen, the primary function of bank capital is to demonstrate to the public and the supervisory authorities a bank’s ability to absorb unanticipated losses.

Although banks shall invest only in high-quality issues, some credit risk is always associated with municipals and corporates.

There is money-rate risk inherent in any intermediate to long-term obligation. Therefore, the extent to which a bank can invest in such securities is a function of its capital position.

Amount of investable fund

Banks determine the number of investible funds after meeting liquidity and reserve requirements. In selecting an investment portfolio, banks need to consider the fund available for investment.


Since it is directly related to the liquidity of the investment, the marketability of any investment must lx? another major consideration of a bank.

In addition to marketing securities in the bank’s portfolio with reasonable promptness, a bank should also realize the importance of the price at which it can expect to sell securities. A market of some kind usually exists for most securities.

However, some issues react more violently to changing business conditions and other situations. The holders of such securities leave themselves liable to the possibility of large losses should they have to dispose of them.

A bank would do well to stay away from these volatile issues and invest its funds in securities that record stability.

Structure of money market and capital market

It is tough to trade securities in an unorganized and undeveloped money market and capital market. So, the investment officers must consider the level of market development for securities while making investments.

Total credit amount

The size of the investment must be determined by considering the amount of loan and risk related to the loan provided by the bank. The more the risk of a loan given by the bank, the more the size of the investment in high-quality securities will be.

Stability of deposit

A deposit is the bank’s liability; stable deposits are less risky than unstable/volatile deposits. The more the amount of deposit, the more the profitability will be. But as it is risky, banks are not so interested in this type of investment.


Diversification plays a vital role in the implementation of an investment program. Through diversification, a bank can minimize the risks that are present whenever funds are placed in investments.

The bank’s investment portfolio is not subjected to narrow specialization, nor does it receive compensating income or deposit balances for absorbing investment risks. The bank buys investment securities only to provide a secondary reserve or to put excess funds to work.

In so doing, it should take every precaution to diversify its holdings so that it does not concentrate its funds on the obligations of one or a few obligatory and certainly so that it does not duplicate the exposure existing in its loans.

6 Risk Factors To Be Considered For Managing Of Bank Investment Portfolio

6 risk factors to be considered for managing of bank investment portfolio

Risk of Rate of Return

An investment officer must analyze the rate of interest on debt instruments while determining an investment portfolio.

That is, the officer must determine the amount of interest income from debentures and the risk of investment in those debentures. The extent of increase and decrease in the interest rate of debentures should be carefully considered.

Repayment risk

Bank regulatory authorities give different instructions to ensure the recovery of the invested fund. Bank investment officers must create portfolios.

Business Risk

Changes in economic conditions and bad business conditions can adversely affect the cost of production and sales of the issuer of securities.

Therefore, the capacity of the issuer of debentures to pay off the value at termination is reduced. Investment officers must consider the business risk of the issuer of debentures while selecting an investment portfolio.

Liquidity Risk

To meet the liquidity demand, banks often liquidate the investment. To the extent that banks are amply fortified with liquid assets, the risk of loss from holding high-grade bonds is minimal. Easily convertible investments are more preferable.

Immediately after World War II, about 80 percent of the investments of commercial banks in US obligations had maturities of under five years, and over 39 percent matured within one year.

From this analysis, one may properly conclude that the average commercial bank possesses sufficient amounts of short-dated investments to meet liquidity requirements without difficulty and loss.

Even after 30-35 years, commercial banks’ bias towards short-dated investments has not changed significantly.

Risk of Inflation

If the possibility of inflation is high, it will reduce the real value of the investment at maturity. Bank investment officers must analyze the risk of inflation while selecting a portfolio.

Risk of Sudden Termination

Often the issuer of debentures wants to terminate the debenture before maturity. Therefore, the purchaser of these instruments may be deprived of profit. The bank should consider the history of such incidents of the issuing companies when selecting debentures.

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