Asset liability management
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This document discusses asset liability management (ALM) in banks. It defines ALM as a mechanism to address risks from mismatches between bank assets and liabilities due to liquidity or interest rate changes. The ALM framework focuses on profitability and viability. It aims to match asset and liability maturities across time horizons. The objectives of ALM include managing liquidity risk, interest rate risk, and currency risks to stabilize profits and the bank's financial position. Tools used in ALM include information systems, organizational structure, and processes to identify, measure and manage various risks.
Asset liability management
- 1. ASSET LIABILITY MANAGEMENT IN BANKS Presented by: Teena George
- 2. Asset Liability Management Asset Liability can be defined as a mechanism to address the risk faced by a bank due to mismatch between assets and liabilities either due to liquidity or change in interest rates. ALM policy framework focuses on bank profitability and long term viability. Maturity matching of assets and liabilities across various time horizons.
- 3. `ALM aims to manage the volume, mix, maturity, rate sensitivity, quality and liquidity of assets and liabilities as a whole so as to attain predetermined acceptable risk/reward ratio. 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. Net Interest Income (NII) 2. Net Interest Margin (NIM) 3. Economic Equity Ratio
- 4. Evolution Pre liberalisation Very less competition in banking sector Main focuses on asset management Post liberalisation Deregulation of interest rates Non recognition of income on accrual basis High off balance sheet exposure High Competition
- 5. Need for ALM Globalization of financial markets Deregulation of interest rates Diversification of ALM products’ Healthy competition in banking sector Multi-currency Balance Sheet Integration of markets Narrowing of NIM/NII
- 6. Components of a Bank Balance Sheet
- 7. ALM Objectives Liquidity Risk Management. Interest Rate Risk Management. Currency Risks Management. Profit Planning and Growth Projection.
- 8. Tools used by banks for ALM ALM information systems ALM Organization ALM Process
- 9. ALM Information Systems Usage of Real Time information system to gather the information about the maturity and behavior of loans and advances made by all other branches of a bank ABC Approach : analysing the behaviour of asset and liability products making rational assumptions The data and assumptions can then be refined
- 10. ALM Organization The board should have overall responsibilities and should set the limit for liquidity, interest rate, foreign exchange and equity price risk The Asset - Liability Committee (ALCO) ALCO, consisting of the bank's senior management (including CEO) should be responsible for ensuring adherence to the limits set by the Board The role of ALCO includes product pricing for both deposits and advances, desired maturity profile of the incremental assets and liabilities, It should review the results of and progress in implementation of the decisions made in the previous meetings
- 11. ALM Process Risk Parameters Risk Identification Risk Measurement Risk Management Risk Policies and Tolerance Level
- 12. Categories of Risk Credit Risk Market Risk Operational Risk Transaction Risk Commodity risk Process risk Portfolio risk Interest Rate risk Infrastructure risk Settlement risk Forex rate risk Model risk Equity price risk Human risk Liquidity risk
- 13. But under ALM risks that are typically managed are…. Currency Risk Liquidity Risk Interest Rate Risk
- 14. Liquidity Risk The risk that the institution might not be able to generate sufficient cash flow to meet its financial obligations EFFECTS OF LIQUIDITY CRUNCH Risk to bank’s earnings Reputational risk Contagion effect Liquidity crisis can lead to runs on institutions
- 15. Statement of Structural Liquidity All Assets & Liabilities to be reported as per their maturity profile into 10 maturity Bucket i. 1 day ii. 2-7 days iii. 8-14 days iv. 15-28 days v. 29 days and upto 3 months vi. Over 3 months and upto 6 months vii. Over 6 months and upto 1 year ‘ viii. Over 1 year and upto 3 years ix. Over 3 years and upto 5 years x. Over 5 years
- 16. RBI GUIDELINES ON STRUCTURAL LIQUIDITY STATEMENT Main focus should be on the short-term mismatches viz., 1day,2-7 days,7-14 days and 15-28 days. Maturing Liability: Cash Outflow Maturing Assets : Cash Inflow The negative gap during 1day,2-7 days,7-14 days and 15-28 days time-buckets should not exceed 5%,10%,15% and 20 % The SSL may be reported to RBI, once a month, as on the third Wednesday of every month.
- 17. Liability mismatch Outflows are more than inflows. Managing the situation is based on time availability. Short term borrowing Availing finances and discounting facilities from other banks, RBI etc. Sell securities, shares etc Asset mismatch It occurs when inflows are more than outflows. The excess money should be deployed in profit generating avenues like: Government bonds and securities Shares of good companies Any other legal investments
- 18. Structural liquidity statement Time bucket 1 day 2-7 days 8-14 days 15-28 days 29 days - 3m 3m-6m 6m-1yr 1yr-3yr 3yr-5yr Over 5 yr Inflows 403.84 319.22 348.58 362.52 751.79 630.27 645.81 2281.06 731.66 2530.76 Outflows 96.72 378.22 307.3 218.01 669.71 1358.9 1124.37 3053.03 469.22 1015.84 Cumulative Outflow 96.72 474.94 782.24 1000.25 1669.96 3028.86 4153.23 7206.26 7675.48 17664.63 Gap 307.13 -59.01 41.28 144.51 82.08 -728.63 -478.56 -771.96 262.44 1514.92 Cumulative gap 307.13 248.12 289.4 433.91 515.99 -212.63 -691.19 -1463.16 -1200.72 0 Gap as % to outflow 317.56 -15.6 13.43 66.29 12.26 -53.62 -42.56 -25.29 55.93 149.13 Cumulative gap as % of cumulative outflow 317.56% 52.24% 37% 43.38% 30.90% -7.02% -16.64% -20.30% -15.64% 0% Limit by RBI(%) -5% -10% -15% -20% Internal tolerance limit(%) -25% -30% -35% -35% -35% -10%
- 19. Analysis of liquidity risk position Gap =Inflow-Outflow Value of Gap<0 is called negative gap Mismatch = (Negative gap/Outflow)x100 Decision Rule Mismatch in the time buckets 1day,2-7ddays,8- 14days greater than 5%,10% and 20% implies liquidity risk is higher Mismatch in any time buckets is greater than bank’s internal tolerance limit in the corresponding time buckets implies existence of liquidity risk in those time buckets.
- 20. Interest Rate Risk (IRR) The risk where changes in market interest rates might adversely affect a bank's financial condition. Excessive interest rate risk can pose a significant threat to a bank’s earnings and capital base Interest rate risk refers to volatility in Net Interest Income (NII) or variations in Net Interest Margin(NIM) NIM = (Interest income – Interest expense) / Earning assets
- 21. Sources of Interest Rate Risk Interest Rate Risk Basis Re-pricing Yield Options
- 22. Interest rate risk Analysis Traditional Gap analysis is considered to be a suitable method to measure the Interest Rate Risk. Gap analysis measures mismatches between rate sensitive liabilities and rate sensitive assets (including off-balance sheet positions). An asset or liability is normally classified as rate sensitive if: within the time interval under consideration, there is a cash flow; the interest rate resets/reprices contractually during the interval; it is contractually pre-payable or withdrawable before the stated maturities; It is dependent on the changes in the Bank Rate by RBI
- 23. Interest rate risk statement The interest rate gaps may be identified in the following time buckets: i. 1-28 days ii. 29 days and upto 3 months iii. Over 3 months and upto 6 months iv. Over 6 months and upto 1 year v. Over 1 year and upto 3 years vi. Over 3 years and upto 5 years vii. Over 5 years
- 24. IMPACT ON NII Gap Interest rate Change Impact on NII Positive Increases Positive Positive Decreases Negative Negative Increases Negative Negative Decreases Positive
- 25. Findings Liquidity Risk Management There are no mismatches above the prudential limit in the short term buckets i.e. 1st day, 2-7days and 8- 14days in all the years from 2010 to 2014. These are the critical time buckets as per RBI norms In 2010 and 2011, bank has enough assets to meet customer demands while in 2012,2013 and 2014 outflows are greater than inflows. Negative mismatches are there in some time buckets of all the years. Since they are within the internal tolerance level set by bank ,these mismatches are manageable.
- 26. Interest Rate Risk Management The bank would benefit from falling interest rates in some time buckets while others, the bank would benefit from rising interest rates. The interest rate analysis shows that some of the time buckets are liability sensitive which shows an increase in NII if the interest rate goes down.The bank is asset sensitive when interest rate goes down.
- 27. Suggestions If assets are more, Repay high cost call money and creditors Government bonds and securities Shares of good companies Any other legal investments If liabilities are more, Short term borrowing Diminish excess cash balance at the branches Availing finances and discounting facilities from other banks, RBI etc. Sell securities, shares etc
- 28. Conclusion ALM technique aims to manage the volume mix, maturity, rate sensitivity, quality and liquidity of assets and liabilities as a whole to attain a predetermined acceptable risk or reward ratio. The ALM system of Dhanlaxmi bank is found to be effective one as the liquidity risk and the interest rate risks are maintained within the RBI limits. In short, ALM helps in enhancing the asset quality, quantifying the risk associated with assets and liabilities and controlling them. So a proper ALM system must be implemented in every banks for the effective functioning of a bank which reduces the exposure of risk chances in banks.
- 29. THANK YOU