What is Bank Asset Liability Management?
Bank asset liability management refers to the various risks found in a bank’s balance sheet, including:
- Interest rates
- Foreign exchange
- Operational risk
From a regulator’s viewpoint, a specific focus must be placed on the identification, measurement, monitoring, and controlling of these risks. While it is not an exact science, asset liability management is a process that, if executed properly, is built into the culture of a bank. Interest rate risk tends to dominate the risk category, with models running from simple static gaps to the more complex models of income simulation and economic value of equity. These models, along with scenario analysis, will be reviewed with specific attention to their assumptions.
Basel III changed things by introducing a global liquidity standard – specifically the liquidity coverage ratio and net stable funding ratio. How banks manage liquidity is addressed along with liquidity contingency plans. How are credit risks and default probabilities integrated into a bank’s asset liability management process? Particular importance is emphasized on a transparent transfer pricing system, such that profit and loss are appropriately attributed to the respective department. Performance measurements, such as risk adjusted return on capital, are explored. This is followed by an attribution analysis, so that management may determine where P&L is derived; included in transfer pricing should be a cost for liquidity capital. An examination of the boundary between the trading book and bank book is explored.
Bank Asset Liability Management Course Objectives
By the end of this course, participants will be able to:
- Explain a bank’s asset liability management process
- Identify and apply the different interest rate risk models used in the bank’s asset liability management process
- List the different assumptions used in the various models
- Describe how a bank manages liquidity
- Analyze how to identify, measure, monitor, and control the various risks that banks are exposed to
- Differentiate between bank asset liability management and risk management
- Describe the differences between qualitative and quantitative issues
- Determine what, if any, other measures are used for guidance
- Explain the price of liquidity and capital to the bank
Program Level: Foundation
Advance Preparation: None
Recommended CPE Credits: 7
This course is taught in five sessions:
- Session 1: Introduction to ALM will teach participants to define Asset Liability Management (ALM) and to identify the risks banks are exposed to. They will also learn about the structure, function, and role ALCO has at a bank.
- By the end of Session 2: ALM Risk Metrics, participants will be able to describe a gap report and the components of an income simulation. Economic Value of Equity (EVE) will be discussed, as well as typical limit structures for IRR risk metrics.
- Session 3: Managing Liquidity Risk will define liquidity for participants and explain how a bank measures its liquidity (in ratios and limits). A description of the components of a liquidity contingency plan will also be given.
- Session 4: Hedge Strategies Case Study will explain and analyze the methods to hedge earnings at risk and economic value.
- The final session of the course, Session 5: ALM Model Validation Procedures will describe the different factors for vendor versus internal models, as well as risks that are measured by models. The inputs and results of ALM models will be identified, as well as the red flags in the modeling process.