Derivatives and risk: the case of thrifts

ABSTRACT The authors examine the relationship between derivatives use and the interest-rate risk of US savings associations during the period 1993-1997. Advantages of the use of thrift data, as opposed to commercial bank data, include markedly superior detail, a homogeneous industry, the industry's inherent interest-rate risk, interest-rate sensitivity measures derived from a single model (the OTS Net Portfolio Value model), market values, and the lack of distortions in the data owing to the presence of dealers. It is found that, after controlling for firm characteristics, thrifts use derivatives to reduce interest-rate risk and vulnerability to capital compliance problems. Additionally, after controlling for interest-rate risk and credit risk, derivatives users have higher net interest margins. The lack of usage by smaller institutions suggests that a significant segment of the industry is limited in its ability to manage interest-rate risk efficiently.