Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
As a financial institution, our primary component of market risk is
interest rate volatility. Our interest rate risk policy provides management with the guidelines for effective funds management, and we
have established a measurement system for monitoring our net interest rate sensitivity position. We have historically managed our sensitivity
position within our established guidelines.
Fluctuations in interest rates will ultimately impact both the level
of income and expense recorded on most of our assets and liabilities, and the market value of all interest-earning assets and interest-bearing
liabilities, other than those which have a short term to maturity. Interest rate risk is the potential of economic losses due to future
interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market
values. The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk while
at the same time maximizing income.
We manage our exposure to interest rates by adjusting our balance sheet
assets and liabilities in the ordinary course of business. Based upon the nature of our operations, we are not subject to foreign exchange
or commodity price risk. We do not own any trading assets.
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Our exposure to interest rate risk is managed by ALCO in accordance
with policies approved by the board of directors of the Bank. ALCO formulates strategies based on appropriate levels of interest rate
risk. In determining the appropriate level of interest rate risk, ALCO considers the impact on earnings and capital of the current outlook
on interest rates, potential changes in interest rates, regional economies, liquidity, business strategies and other factors. ALCO meets
regularly to review, among other things, the sensitivity of assets and liabilities to interest rate changes, the book and market values
of assets and liabilities, commitments to originate loans and the maturities of investments and borrowings. Additionally, ALCO reviews
liquidity, cash flow flexibility, maturities of deposits and consumer and commercial deposit activity. Management also employs methodologies
to manage interest rate risk, which include an analysis of the relationships between interest-earning assets and interest-bearing liabilities
and an interest rate risk simulation model and shock analyses.
We use interest rate risk simulation models and shock analyses to test
the interest rate sensitivity of net interest income and fair value of equity, and the impact of changes in interest rates on other financial
metrics.
Contractual maturities of and re-pricing opportunities for loans are
incorporated in the models. The average lives of non-maturity deposit accounts are based on decay assumptions and are incorporated into
the models. All of the assumptions used in our analyses are inherently uncertain and, as a result, the models cannot precisely measure
future net interest income or precisely predict the impact of fluctuations in market interest rates on net interest income. Actual results
will differ from the models’ simulated results due to the timing, magnitude and frequency of interest rate changes as well as changes
in market conditions and the application and timing of various management strategies.
On a quarterly basis, we run a simulation model for a static balance
sheet and other scenarios. These models test the impact on net interest income from changes in market interest rates under various scenarios.
Under the static model, rates are shocked instantaneously and ramped rates change over a 12-month and 24-month horizon based upon parallel
and non-parallel yield curve shifts. Parallel shock scenarios assume instantaneous parallel movements in the yield curve compared to a
flat yield curve scenario. Non-parallel simulation involves analysis of interest income and interest expense under various changes in
the shape of the yield curve. Our internal policy regarding internal rate risk simulations currently specifies that, for parallel shifts
of the yield curve, estimated net interest income at risk for the subsequent one-year period should not decline by more than 10% for a
100 basis point shift, 20% for a 200 basis point shift, 30% for a 300 basis point shift, and 35% for a 400 basis point shift.
The following tables summarize the simulated change in net interest
income over a 12-month horizon as of the dates indicated:
As of December 31,
2025
2024
Percent Change in Net Interest Income
+400
26.40 %
27.37
+300
19.76 %
20.49 %
+200
13.08 %
13.61 %
+100
6.81 %
7.17 %
-100
(4.15 )%
(4.32 )%
-200
(6.79 )%
(10.20 )%
-300
(6.16 )%
(11.30 )%
-400
(8.95 )%
(15.43 )
Inflation and increases in interest rates may result from fiscal stimulus
and monetary stimulus, and the Federal Reserve has indicated it is willing to permit inflation to run moderately above its 2% target for
some time. Increases in interest rates may cause consumers to shift their funds to higher-interest-bearing instruments and increase the
competition for and cost of deposits. If customers move money out of Bank deposits and into other investment assets or from transaction
deposits to higher-interest-bearing time deposits, our funding costs may increase. Additionally, any such loss of funds could result in
lower loan originations and growth, which could materially and adversely affect our results of operations and financial condition. Increases
in market interest rates may reduce demand for loans, including residential mortgage loan originations. At the same time, increases in
rates will increase the rates we charge on variable rate loans and may increase our net interest margin. Higher interest rates would decrease
the values of our existing fixed rate securities investments and could potentially adversely affect the values and liquidity of collateral
securing our loans. The effects of increased rates will depend on the rates of changes in our costs of funds and interest earned on our
loans and investments and the shape of the yield curve.
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