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Assets liability management
- 8. CAMEL RISKS • Capital Adequacy • Asset Quality • Management • Earnings • Liquidity ALM bsenver@superonline.com 8
- 9. Assets Liability Management It is a dynamic process of Planning, Organizing & Controlling of Assets & Liabilities- their volumes, mixes, maturities, yields and costs in order to maintain liquidity and NII.
- 10. Significance of ALM • • • • Volatility Product Innovations & Complexities Regulatory Environment Management Recognition
- 11. Purpose & Objective of ALM An effective Asset Liability Management Technique aims to manage the volume, mix, maturity, rate sensitivity, quality and liquidity of assets and liabilities as a whole so as to attain a predetermined acceptable risk/reward ration. It is aimed to stabilize short-term profits, long-term earnings and long-term substance of the bank. The parameters for stabilizing ALM system are: 1. 2. 3. Net Interest Income (NII) Net Interest Margin (NIM) Economic Equity Ratio
- 12. Liquidity Management Bank’s liquidity management is the process of generating funds to meet contractual or relationship obligations at reasonable prices at all times. New loan demands, existing commitments, and deposit withdrawals are the basic contractual or relationship obligations that a bank must meet.
- 13. Adequacy of liquidity position for a bank a. b. c. d. e. f. g. h. Analysis of following factors throw light on a bank’s adequacy of liquidity position: Historical Funding requirement Current liquidity position Anticipated future funding needs Sources of funds Options for reducing funding needs Present and anticipated asset quality Present and future earning capacity and Present and planned capital position
- 14. Funding Avenues a. b. c. d. e. To satisfy funding needs, a bank must perform one or a combination of the following: Dispose off liquid assets Increase short term borrowings Decrease holding of less liquid assets Increase liability of a term nature Increase Capital funds
- 15. Types of Liquidity Risk • Liquidity Exposure can stem from both internally and externally. • External liquidity risks can be geographic, systemic or instrument specific. • Internal liquidity risk relates largely to perceptions of an institution in its various markets: local, regional, national or international
- 16. Other categories of liquidity risk • Funding Risk - Need to replace net outflows due to unanticipated withdrawals/non-renewal • Time Risk - Need to compensate for non-receipt of expected inflows of funds • Call Risk - Crystallization of contingent liability
- 17. ADDRESSING THE MISMATCHES • Mismatches can be positive or negative • Positive Mismatch: M.A.>M.L. and Negative Mismatch M.L.>M.A. • In case of +ve mismatch, excess liquidity can be deployed in money market instruments, creating new assets & investment swaps etc. • For –ve mismatch,it can be financed from market borrowings (Call/Term), Bills rediscounting, Repos & deployment of foreign currency converted into rupee.
- 18. STRATEGY • To meet the mismatch in any maturity bucket, the bank has to look into taking deposit and invest it suitably so as to mature in time bucket with negative mismatch.
- 19. SUCCESS OF ALM IN BANKS : PRE - CONDITIONS 1. Awareness for ALM in the Bank staff at all levels–supportive Management & dedicated Teams. 2. Method of reporting data from Branches/ other Departments. (Strong MIS). 3. Computerization-Full computerization, networking. 4. Insight into the banking operations, economic forecasting, computerization, investment, credit. 5. Linking up ALM to future Risk Management Strategies.
- 20. Interest Rate Risk Management • Interest Rate risk is the exposure of a bank’s financial conditions to adverse movements of interest rates. • Though this is normal part of banking business, excessive interest rate risk can pose a significant threat to a bank’s earnings and capital base. • Changes in interest rates also affect the underlying value of the bank’s assets, liabilities and off-balance-sheet item.
- 21. Interest Rate Risk • Interest rate risk refers to volatility in Net Interest Income (NII) or variations in Net Interest Margin(NIM). • Therefore, an effective risk management process that maintains interest rate risk within prudent levels is essential to safety and soundness of the bank.
- 22. Sources of Interest Rate Risk • Interest rate risk mainly arises from: – Gap Risk – Basis Risk – Net Interest Position Risk – Embedded Option Risk – Yield Curve Risk – Price Risk – Reinvestment Risk