Mortgage backed securities include items such as

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Mortgage-backed securities include items such as collateralized mortgage obli- gations and mortgage-backed bonds. Other investment securities include investment-grade corporate bonds, foreign debt securities, and securities such as U.S. Treasury securities and municipals held for short-term trading purposes. These trading account securities earn interest for the bank and generate capital gains or losses from changes in the market values of these securities. 6 Loans. Loans (items 13–16 in Table 2B–1) are the major items on a bank’s balance sheet and generate the largest flow of revenue income. However, loans are also the least liquid asset item and the major source of credit and liquidity risk for most banks. Leases (item 17) are used as alternatives to loans when the bank, as owner of a physical asset, allows a customer to use an asset in return for periodic lease payments. Loans are categorized as commercial and industrial (C&I) loans (item 13), loans secured by real estate (item 14), individual or consumer loans (item 15), and other loans (item 16). Foreign loans often carry an additional risk for the bank—called country or sovereign risk (see Chapter 15). 5 Payments of principal and interest on general obligation bonds are backed by the full faith, credit, and taxing authority of the issuer. Payments of principal and interest on revenue bonds are backed only by the revenues generated from the facility or project that the proceeds of the bonds are financing. 6 Investment securities included in the bank’s trading portfolio and designated as trading securities or available-for-sale securities are listed on the balance sheet at their market value. All other items on the bal- ance sheet are listed at their book values.
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Appendix 2B Commercial Banks’ Financial Statements and Analysis 7 Commercial and Industrial Loans. C&I loans are used to finance a firm’s capi- tal needs, equipment purchases, and plant expansion. They can be made in quite small amounts such as $100,000 to small businesses or in packages as large as $10 million or more to major corporations. Commercial loans can be made at either fixed rates or floating rates of interest. The interest rate on a fixed-rate loan is set at the beginning of the contract period. This rate remains in force over the loan contract period no matter what happens to market rates. The interest rate on a floating-rate loan can be adjusted periodically according to a formula so that the interest rate risk is transferred in large part from the bank to the borrower. As might be expected, longer-term loans are more likely to be made under floating- rate contracts than are relatively short-term loans. In addition, commercial loans can be made for periods as short as a few weeks to as long as eight years or more.
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