UK charity lender amasses steep paper losses on bond portfolio

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The UK bank that serves more than 14,000 charities has amassed significant paper losses on its bond holdings in the wake of rising interest rates.

The unrealised losses echo recent problems at US regional banks including the now defunct Californian lender Silicon Valley Bank.

The value of CAF Bank’s bond holdings were £33.4mn lower than their book value as of April 30, according to details disclosed in the bank’s annual report released this week. The paper losses were equivalent to nearly two-thirds of the bank’s capital of £51.5mn.

CAF Bank, whose directors include former executives from Lloyds, Santander, GE Capital, HSBC and Barclays, plans to hold the bonds to maturity “in all but the most extreme scenarios”, it said in its annual report.

“The Directors consider it remote that the Bank would need to realise any of these unrealised losses,” the board said in the report.

CAF Bank said on Friday: “We are entirely comfortable that the theoretical mark-to-market position is a technical issue and not a reflection of the capital strength of the bank. Our policy is that we maintain a very strong liquidity position at all times. This is set out in our annual accounts, which have been recently signed off by independent auditors.”

The bank said that because its policy was to hold bonds until redemption, the impact of interest rate movements “is not anticipated to affect the bank’s level of capital and viability”.

The lender said that about a quarter of its depositors had balances above £85,000, the maximum amount insured by the Financial Services Compensation Scheme in case of a bank failure.

The Prudential Regulation Authority, the lead regulator responsible for the bank’s financial strength, declined to comment.

CAF Bank is a wholly owned subsidiary of Charities Aid Foundation, an organisation that helps charities raise money and manage their finances, and advises companies on their donation policies. It holds £1.5bn in customer deposits across 16,000 current accounts and employed an average 166 people in the 12 months to April 30. Most of its customers are small and medium-sized charities based in the UK.

Charities Aid Foundation is the UK’s largest charity by income. It lists AstraZeneca, Marks and Spencer and Schroders among the large corporates it has advised.

Accounting rules allow banks to ignore paper losses on bonds they do not intend to sell. However, the situation can become problematic in case of liquidity crunch. Silicon Valley Bank was seized by US regulators after it sold bonds at a loss and failed to raise new equity, prompting customers to rush to take their money out.

According to CAF Bank’s annual report, liquidity stress tests had shown that it “is able to survive an outflow of deposits exceeding 77 per cent of balances”. 

If CAF Bank were forced to sell its entire bond portfolio, its capital ratio — reserves as a percentage of its risk-weighted assets — would dip below its 14 per cent regulatory requirement.

“If a bank can access liquidity at an affordable cost, that can buy time before it has to consider firesales,” said Nicolas Véron, a financial stability expert at think-tank Bruegel.

The bank’s auditors PwC said in the annual report that there were no circumstances that would “cast significant doubt on the company’s ability to continue as a going concern for a period of at least twelve months from when the financial statements are authorised for issue”.

The UK charity sector is already under pressure. Many charities are facing a rise in requests for help from people struggling with a higher cost of living. Private charitable donations halved last year, according to Benefact Group, and corporate donations stagnated.

A Charities Aid Foundation survey in autumn 2022 found that more than half of charities were worried about their ability to survive, up from 35 per cent six months earlier.