Treasury Mngt in Banks

8/12/2019 Treasury Mngt in Banks

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Hiral Ved 28

Kripa Agarwal 39

Nikhita Garodia 54

Nikita Vedak 55


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Treasury Management in Banks

Part I Part II Part III

IntroductionTreasury Mgt. in Banks,

Integrated Treasury

Functions of TreasuryDept. of Banks

Structure of a Treasury

Dept.

Basic Concepts

NII, NIS, NIM, HTM,HFT, AFS, Banking Book,

Trading Book, Off B/S

Exposures, NDTL, CRR,

SLR, PSL, CRAR,

Bucketing

Treasury Products

Money Market Instruments:Call Money, T-Bill, Term Money,

Certificate of Deposit,Commercial Paper, Repo,

Commercial Bill.

Debt Market Instruments:Govt. Securities, Bonds,

Debentures

Forex Market Instruments:Spot, Forward, Swap

Risk

What is risk?

Types of risks:

Liquidity, InterestRate, Market,

Credit,

Operational risks

Mgt.of IRR:

GAP ModelDuration Gap

Model (DGAP)

VAR

ALM: 3 Pillars of

ALM, ALCO, Functionsof ALCO


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Treasury management is the management of anorganizations liquidity to ensure that the right amount

of cash resources are available in the right place in the

right currency and at the right time in such a way as to

maximize the return on surplus funds, minimize the

financing costs of the business, and control interest rate

risk and currency exposure to an acceptable level.

In other words, Treasury Management deals with

ways and means of deploying surplus funds and

raising funds to meet any shortage.


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ConventionalTreasury

Independent

Domestic Treasury

Role

Independent Forex

Role Domestic TreasuryRole

Forex

Role

IntegratedTreasury

+


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Reserve Management and Investment

Liquidity and Funds Management

Asset Liability Management and Term Money Transfer Pricing

Arbitrage

Derivative products Risk Management


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Basic Concepts

= Interest IncomeInterest Expenses

E.g. Bank A

NII = Interest Earned Interest Expanded1786 = 7516 5730

= Nominal Avg. Lending Rate Nominal Avg. Borrowing Rate

E.g. A bank takes deposits from customers and pays 1% to those customers. The

bank lends its customers money at 6%. The bank's net interest spread is 5%.


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Basic Concepts

= Net Interest Income (NII) X100Interest Earning Assets

E.g. A bank has Net Interest Income (NII) of Rs. 5 on outstanding average

loans of Rs. 100. The bank's net interest margin is 5/100 = 5%


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Held-to-Maturity

Held-for-trading

Available-for-sale


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Basic ConceptsBasic Concepts

Trading Book

Assets &Liabilities arenormally helduntil maturity

Accrual system

of accounting isapplied

Banking Book

Assets &Liabilities arenormally helduntil maturity

Accrual system

of accounting isapplied

Off BalanceSheet Exposure

These arecontingent innature such asletter of credit

Exposed to

liquidity risk,interest raterisk and marketrisk.


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For measuring and managing liquidity risks,the banks determine the future cash

inflows and cash outflows for various time

periods (maturity profiles).

Each time period is known as a time

bucket.

Bucketing is the process of determining

the net funds requirement for each time

bucket


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Next Day (Day 1) 2 to 7 days

8 to 14 days

15 to 28 days

29 days and up to 3 months

Over 3 months and up to 6 months

Over 6 months and up to 1 year

Over 1 year and up to 3 years

Over 3 years and up to 5 years

Over 5 years


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Liabilities of the banks may be towards bankingsystem or towards others in the form of Demandand Time deposits or borrowings or othermiscellaneous items of liabilities.

Demand Liabilities

liabilities which are payable on demand (E.g. currentdeposits, balances in overdue fixed deposits, etc.)

Time Liabilities which are payable otherwise than on demand (E.g. fixed

deposits, cash certificates, etc.)


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Other Demand & Time Liabilities(ODTL): It includes interest accrued on deposits,

bills payable, unpaid dividends,

suspense account balances representingamounts due to other banks or public,

net credit balances in branch adjustmentaccount,

any amounts due to the "Banking System" whichare not in the nature of deposits or borrowing.


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Certain portion of NDTL is to be depositedwith RBI.

Maintenance of CRR

Current CRR is 6 % of NDTL

Maintenance of Incremental CRR Currently no incremental CRR to be maintained

Maintenance of CRR on daily basis Minimum CRR balances upto 70 per cent of the

total CRR requirement on all days of the fortnight


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Payment of interest on eligible CRR balances No interest is paid with effect from the fortnight

beginning June 24, 2006

Penalties:

Penal interest to be charged from the fortnight

beginning June 24, 2006 in case of:

Default in maintenance of CRR on daily basis

Default in maintenance of CRR on fortnight basis


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Certain portion of total DTL to be parked inliquid investments

Currently an amount equivalent to 24 % of

total DTL is to be maintained as SLR

The amount is to be maintained in India in Cash Gold valued at a price not exceeding the current

market price, Unencumbered Approved Securities valued at a

price as specified by the RBI from time to time.


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Banks are allowed to invest in non-SLRsecurities with prior approval of RBI as under:

Bonds of public sector undertakings

Bonds/equity of All India Financial Institutions (AFIs)

Total investment in (a) and (b) above should not exceed 10 %

of the banks total deposits as on March 31 of the previous

year, with a sub-ceiling of 5 per cent for investments

covered under (a).

Penalties


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Presently, the broad categories of prioritysector for all SCBs are as under:

Agriculture (Direct and Indirect finance)

Small Enterprises (Direct and Indirect

Finance)

Retail Trade

Micro Credit

Education loans Housing loans


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State Financial Corporations (SFCs) / StateIndustrial Development Corporations (SIDCs)

Small Industries Development Bank of India

(SIDBI) The National Small Industries Corporation

Ltd. (NSIC)

Rural Electrification Corporation (REC)

NABARD

National Housing Bank (NHB)

Housing & Urban Development Corporation

(HUDCO)


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A bank should have sufficient capital toprovide a stable resource to absorb any

losses arising from the risks in its business.

Capital Adequacy Ratio

CAR= Tier 1 + Tier 2

Risk Weighted Assets

Banks are required to maintain a minimum

CAR of 9 % and NBFC CAR of 15%


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Example:

National Bank ofAdoes some transactions (loans,foreign exchange, etc.) in USD, but banks inAwillonly handle payments in INR. So NB ofAopens aUSD account at foreign bank, and instructs allcounter-parties to settle transactions in USD at

"account no. 123456 in name of NBA, at Bank B".NBA maintains its own records of that account, forreconciliation; this is its nostroaccount. Bank Bsrecord of the same account is the vostroaccount.


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Extensive use of the latest developments in telecommunications fortransmitting as well settling forex transaction

Society for Worldwide Interbank Financial Telecommunication

Co-operative society owned by About 250 banks in Europe

and North AmericaCommunication network for International financial market

transactions linking effectively more than 25,000 Financial

institution throughout the world who have been allotted

bank identifier codesEnables to transact : - International Payments

- statements

- other messages connected with

International Banking

SWIFT


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Treasury ProductsTREASURY

PRODUCTS

Money MarketInstruments

Debt MarketInstruments

FOREX MarketInstruments

Call

T- Bills

GovernmentSecurities

Bonds

DebenturesTerm Money

Certificate ofdeposit

CommercialPaper

Repo

Commercial Bill

Spot

Forward

Swaps


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Money Market

A mechanism whereby on one handborrowers manage to obtain short termloanable funds and on the other hand,lenders succeed in getting credit worthy

borrowers for their money.

Call Money

Treasury Bills

Certificates of Deposit Commercial Paper

Repo & Reverse Repo

Commercial Bills

Term Money


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Call Money

Transactions are carried out for one day

Temporary cash surpluses of banks are

made available to cash deficit banks.

Maturity of call loans varies between 1 to

14 days.


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Call Money

Call Rates

-Calculated on daily basis

-Rates vary from day to day

Purpose

-Cover up for short-term mismatches

-To meet the CRR requirements-To discount commercial bills.


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Call Money

Limits For borrowing :

Fortnightly basis : Cannot exceed 100 per

cent of their capital funds.

Daily basis : Cannot exceed 125 per cent.

For lending :

Fortnightly basis : to 25 per cent of theircapital funds

Daily basis : 50 per cent.


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Call Money

Participants Scheduled commercial Banks (private

sector, public sector and cooperative banks)

Discount and Finance House of India (DFHI)

Securities Trading Corporation of India

Limited (STCI)

Primary Dealers

Financial Institutions Mutual Funds


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Treasury Bills

Issued in the form of promissory notes by

the government to meet its deficits

Issued at discount and redeemed at par

It has distinct features like zero defaultrisk, assured yield, highly liquid and easy

availability

Types: 91-day,182-day and 364-day

Amount: Minimum amount of Rs.25,000and in multiples of Rs. 25,000


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Treasury Bills

Issued in 2 different forms: Physical form

Dematerialized form

Investors: Primary Dealers Financial Institutions (for primary cash

management) Provident Funds (PFs) Insurance Companies

Non-banking Finance Companies (NBFCs) Foreign Institutional Investors (FII) State Governments NRIs are allowed to invest only on non-repatriable

basis


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Certificate of Deposit

Promissory notes issued at a discount tothe face value

Issued by scheduled commercial banks

Maturity period: 14 days to 1 year

Amount: Minimum amount of Rs.5 lakhand in multiples of Rs.5 lakhs.


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Certificate of Deposit

Investors-Individuals

Corporates

Companies

AssociationsTrusts

NRIs

Features-Highly liquid and less risky

It is issued at a discount to the face value.


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Discount Calculation:


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Commercial Paper

Promissory note with fixed maturity,issued at a discount to face value.

CPs are issued by corporates.

Actively traded in the secondary market Maturity:15 days to1 year.

Amount: Denomination of Rs. 5 lakh and

multiples of 5 lakh and a minimum

investment is Rs. 5 lakh per investor.


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Commercial Paper

Features:

Involve much less paper work.

Have high liquidity.

Types of Commercial Papers:

Direct paper

Dealers paper


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Commercial Paper

Investors: Individuals,

Banking companies,

Other corporate bodies

Non-Resident Indians (NRIs) and

Foreign Institutional Investors (FIIs) etc

Issuers: Private sector Co.,

Public sector unit,

Non-banking Co.,

Primary dealers

Participants have to obtain credit rating to beeligible to issue CPs


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Commercial Paper

Discount Calculation:


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Repo & Reverse Repo

Two parties agree to sell and repurchase

the same security

The seller sells with an agreement torepurchase the security called as Repo

The buyer purchases with an agreementto resell called as Reverse Repo


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Trade date: 1stAug 2004

Trade price: 108.5

Total Face value:

Rs.100 *1000 = 100000

Security: 9.5 %, maturing on 22ndMarch 09

Repo rate: 4.5 % Repo term: 2 days

Repo & Reverse Repo


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Debt/Securities Market

Debt Markets are markets for the issuance,

trading and settlement in fixed income

securities of various types and features

Government securities

Bonds & Debentures

Corporate Debt paper


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Government Securities

Issued by the Reserve Bank of India on behalfof Government of India

Purpose: Finance its Fiscal deficit

Eligibility:

All entities registered in India like banks,financial institutions, Primary Dealers, firms,companies, corporate bodies, partnershipfirms, institutions, mutual funds, ForeignInstitutional Investors, State Governments,Provident Funds, trusts are eligible


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Government Securities

Nomenclature: E.g. 12.25% GOI 2012

Availability:Available in primary as well as secondary markets

Repayment:

SGL account holders

Gilt Account Holders

Entities having a demat account


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Types

Dated Securities

Zero Coupon bonds

Partly Paid Stock

Floating Rate Bonds

Capital indexed Bonds

B fi f i i i


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Benefits of investing in

government securities:

No tax deducted at source

Additional Income Tax benefit u/s 80L of

the Income Tax Act for Individuals Zero default risk

Highly liquid


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G-Sec

Eg:A client purchases 7.40% GOI 2012 for

face value of Rs. 10 lacs.@ Rs.101.80, i.e.

the client pays Rs.101.80 for every unit of

government security having a face value ofRs. 100/- The settlement is due on October

3, 2002. What is the amount to be paid by

the client? The security is 7.40% GOI 2012

for which the interest payment dates are3rd May, and 3rd November every year.


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Corporate Debt Paper

Medium and long term bonds issuedby corporate and financialinstitutions

Yields are higher than Gsec

Fairly active secondary market,hence they are liquid.


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Forex Market

It is the most liquid market

Currencies, which are not fully

convertible, have limited demand

Information dissemination is very

fast through electronic media such as

Reuters, money line and Bloomberg.


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Spot Contracts

Mostly bought and sold in spot trades

Settlement happens on a T+2 basis

Settlement can happen on the same day

(TOD) or the next day (TOM).


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Forward Contracts

Refers to purchase or sale of currency on a futuredate.

The exchange rate of settlement is called as forwardrate.

Forward rate is the spot rate adjusted for the

premium / discount

Forward Rate = Spot Rate + / - premium or discount

Treasury gets into forward contracts with customers.

Treasury may get into forward market to makespeculative gains.


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Forwards

The contracts are illiquid. If a party to aforward contract wants to reverse itsposition, the options are:

Re-negotiate with the counter party / partiesto the contract and seek their consent. If theydo not agree, the contract cannot be reversed.

Enter into another forward contract for the

opposite position with any party. In this case,the earlier contract and the new contractwould be independent contracts that wouldneed to be settled independently.


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Swaps

A Swap is in its simplest form an exchange of a series of cashflows between 2 parties. Swap is a Combination of spot andforward transaction.

Swap route is generally used for funding requirements, butthere is also a profit opportunity from interest rate arbitrage.

E.g. If one has dollar funds, but needs rupee funds to invest in acommercial paper for 3 months, he may enter into a USD/INR swap dealto sell USD at spot rate (converting into rupee funds) and buying backthe USD 3 months forward (with rupee funds on the maturity of theCP). If the interest earned on CP is higher than the cost of USD funds,the swap results in a profit.


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What is Risk?

Classification of Risks


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Risk :-

It is the chance that an investment's

actual return will be different thanexpected. This includes the possibility

of losing some or all of the original

investment

Risk management:-

It is a systematic process ofidentifying, analyzing and responding

to project risk


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Liquidity Risk

Market RisksCredit Risks

Interest Rate RisksOperational Risks

Types of Risk


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Liquidity Risk isthe risk of a

funding crisis

It is potential that a bank will be unable to

meet its obligation as they come due

because of inability to liquidate assets or

obtain adequate funding, without incurringunacceptable losses


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Funding Risk- It arises due to inability to

raise funds at normal cost.eg: Unanticipated Withdrawal of Deposits

Time Risk- It arises due to the need tocompensate for non-receipt of expectedinflows of funds

eg: performing assets turning into non-performing assets

Call Risk- It arises when bank is unable toundertake profitable business opportunities

2] Interest Rate Risk


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2] Interest Rate Risk

It is the exposure of a banks financial

conditions to adverse movements of interest

rates

Associated with both funding and lending

activities Measured from two perspective:-

Earning perspective

Economic Value perspective

Interest rate risk affects the value of

bonds directly than stocks

(a) Gap Or Mismatch Risk


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(a) Gap Or Mismatch Risk

It arises from holding assets and liabilitiesand off balance sheet items with differentprinciple amounts & maturity dates

In turn creating unexpected changes inmarket interest rates

For e.g.-There is a chance of gap riskwhen a stock's price closes at $50 andopens the following trading day at $40 -even though no trade has happened inbetween.

(b) Yield Curve Risk


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(b) Yield Curve Risk

The risk of experiencing an adverse shift in market

interest rates associated with investing in a fixedincome instrument.

Risk associated with either a flattening orsteepening of the yield curve

In a floating rate scenario, banks may price theirassets and liabilities based on different benchmarks.Any non parallel movement in curve would affectthe NII

Eg:- Suppose liability raised at a rate linked to say91 days T bill is used to fund an asset linked to 364days T bill. Due to non parallel shift in yield curvewould affect in net interest income

(c) Basis Risk


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(c) Basis Risk

It can be defined as the change in the valueof different assets, liabilities and off

balance sheet items in different magnitude

due to change in interest rates.

For e.g.- Asset interest rate may rise in

different magnitude than the interest rate

on corresponding liability creating a

variation in NII.

( )


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(d) Embedded Option Risk

It means possibility of alteration of cashflows due to the products offered with

embedded options.

Changes in interest rates results in

encouraging prepayments of cash credit

loans, term loans and exercise call/put

option on bonds/debentures.


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(e) Reinvestment Risk

The risk that future proceeds will have tobe reinvested at a lower potential interest

rate

Generally associated in the context of

bonds

It is evident during periods of falling

interest rates


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Effect on Bank

Change In Net Interest Income

Change In Value of assets and Liabilities

Change in the economic value of a bank

3] k i k


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3] Market Risk

Risk of adverse deviations of the mark tomarket value of the trading portfolio, due

to market movements

Risk of losses due to movements in

financial markets variables such as Interest

rates, Foreign exchange rates, security

prices, etc.

Market risk is also referred as Price Risk


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(a) Foreign Exchange Risk

It is the risk that a bank may suffer losses

as a result of adverse exchange rate

movements during a period

All assets and liabilities denominated in

foreign exchange are exposed to foreign

exchange risk


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(b) Market Liquidity Risk

Arises when a bank is unable to

conclude a large transaction in

particular instrument near thecurrent market price.

4] Credit/ Default Risk


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4] Credit/ Default Risk

It is defined as the potential of bank

borrower or counterparty to fail to meet its

obligation in accordance with agreed terms

Three types: Counterparty Risk : Arises due to

Counterpartys refusal or inability to

perform

Country Risk: Arises due to constrains or

restrictions imposed by a country

Credit Spread Risk: Arises due to non-

recovery of regular installment repayment


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5] Operational Risk

It is the risk of loss resulting from

inadequate or failed internal processes,

people and systems or from external

events.

It can be summarized as human risk i.e. a

risk of business operations failing due to

human error.

]


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5] Operational Risk

(a) Transactional Risk: Risk arising fromfraud, both internal and external, failedbusiness processes and the inability tomaintain business continuity and manage

information

(b) Compliance Risk: Risk of Financial and

Reputation loss due to failure to complywith necessary Laws, Rules andRegulation.


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Measurement of Risk

Interest rate risk:

Gap Model

Duration Gap Model

Market Risk:

VaR


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What is Gap Model?

Interest rate risk is measured by calculating GAPover different time intervals based on aggregate

balance sheet data at fixed point in time

GAP = RSA(inflows)RSL (outflows)

Assets And Liabilities Are Sensitive If And Only If

There is a cash flow

Interest rate resets

Regulatory changes

Pre Payment/Withdrawal before the Maturity

Classification of Rate Sensitive


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1. Cash 1. Capital, R&S

2. Current a/c bal with other banks. 2. Current Deposits

3. Shares or units of MF 3. Other Liabilities & Provisions

4. Other Assets

Non Rate Sensitive Assets Non Rate Sensitive Liabilities

1. Balance with RBI 1. Savings Bank Deposit.

2. Money at Call & short notice, Term 2. Term Deposits

deposits with other banks.3. Investments fixed, floating, zc 3. Borrowings fixed, floating, zc

4. Advances 4. Refinance from Others.

5. Leased Assets 5. Repos

6. Reverse Repo

Rate Sensitive Assets Rate Sensitive Liabilities

1. Cash 1. Capital, R&S

2. Current a/c bal with other banks. 2. Current Deposits

3. Shares or units of MF 3. Other Liabilities & Provisions

4. Other Assets

Non Rate Sensitive Assets Non Rate Sensitive Liabilities

1. Balance with RBI 1. Savings Bank Deposit.

2. Money at Call & short notice, Term 2. Term Deposits

deposits with other banks.3. Investments fixed, floating, zc 3. Borrowings fixed, floating, zc

4. Advances 4. Refinance from Others.

5. Leased Assets 5. Repos

6. Reverse Repo

Rate Sensitive Assets Rate Sensitive Liabilities

Assets and Liabilities

St f GAP A l i


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Management develops the interest rate forecast. Management selects the series of sequential time

intervals for determining what amount of assets arerate sensitive within each time interval.

Assets and liabilities are grouped into these timeintervals or buckets according to time until the firstpricing. The effects of any off balance sheet itemspositions are also added to the balance sheet positionwhether the item effectively represents the rate

sensitive assets or rate sensitive liability. Management forecasts net interest income given the

interest rate environment and assumed repricingcharacteristics of underlying instruments.

Steps for GAP Analysis

GAP M d l


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GAP = RSA(inflows)RSL (outflows)

Example

GAP Model


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Calculation of GAP


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1000010000Total

800Equity

9200Total

10001500Nonpaying/NonEarning

6%220011%3500Fixed Rate

4%60008%5000Rate Sensitive

Int. CostLiabilitiesYieldAssetsDescription

1000010000Total

800Equity

9200Total

10001500Nonpaying/NonEarning

6%220011%3500Fixed Rate

4%60008%5000Rate Sensitive

Int. CostLiabilitiesYieldAssetsDescription

GAP = RSARSL = 50006000= -1000

Here the GAP is negative i.e RSLs are more than RSAs.

Calculation of GAP

Link between GAP and Net


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Link between GAP and Net

Interest Margin (NIM)

Target GAP = Allowable % change In NIM * (Expected NIM)

Earning Assets Expected % change in interest rates

Given :

Earning Assets : 50 million

Expected NIM : 5%

Allowable change in NIM : 20%

Expected change in interest rate : 4%

This means that as bank is willing to pay 20 percent

variation in NIM sets the limit on GAP which would be

allowed to vary from Rs. -12.5 million to Rs 12.5 million.

Ad d Di d


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Advantages and Disadvantages

Advantages Of GAP Simple to analyze

Easy to implement

Helps in future analyses of the interest rate

risk Helps in projecting NII for the further

analysis

Disadvantages Of GAP Ignores the time value of assets & liabilities

Doesnt consider the embedded options

D ti GAP M d l (DGAP)


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Duration GAP Model (DGAP)

Concept of Duration

Duration is defined as the weighted

average maturity of a resource (assets

or liabilities), where the NPV of the cashflows is used as weights

D ti


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Duration

Duration is a function of

Term To Maturity

Earning Capacity

Current interest

It is always shorter than Maturity

Its a Weighted Average Its Additive

C l l ti Of D ti


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Calculation Of Duration

The duration of a 3 year loan with12% as a rate of simple interest &

market value of Rs.700 is calculated

as follows.



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C l l ti Of D ti


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Duration = Total cumulative returns/Market Value of loan

= 1883.04/700

= 2.69 years

Calculation of DGAP


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Par Years1000 % Coup Mat. Dur.

Assets

Cash 100

Earning assets

3-yr Commercial loan 700 12.00% 3 2.69

6-yr Treasury bond 200 8.00% 6 4.99

Total Earning Assets 900

Non-cash earning assets 0

Total assets 1000 2.88

Liabi l i t ies

Interest bearing liabs.

1-yr Time deposit 620 5.00% 1 1.00

3-yr Certificate of deposit 300 7.00% 3 2.81

Tot. Int Bearing Liabs. 920

Tot. non-int. bearing 0

Total liabilities 920 1.59

Total equity 80

Total liabs & equity 1000

Calculation of DGAP

Calculation of DGAP


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DA = (700 * 2.69 + 200 * 4.99)/1000 = 2.88 yrs

DL = (620 * 1.00 + 300 * 2.81)/920 = 1.59 yrs

DGAP = DA - [(TL/TA)* DL] DGAP = 2.88 - (920/1000) * 1.59 = 1.42 years

What does 1.42 years mean?

The average duration of assets > liabilities, hence in case of change inthe interest rate, asset values change by more than liability values.

Long term assets are funded through short term liabilities

Calculation of DGAP


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Formula for calculating VAR


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Formula for calculating VAR

Daily volatility (Vd) = Annual Volatility (Va)

sqrt t

VAR = Asset value * Vd *

is calculated using the level of confidence

Example


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Example

Data:Holding period:1 day

Asset value: Rs.100000

Confidence levels:95%= 1.645Annual Volatility = 6%

Vd = 6/ 252 = 0.377 %

VAR= 100000 * 0.377%* 1.645= Rs.620


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Asset Liability Management

Introduction


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Introduction

Asset liability management is thepractice of managing risks that arisedue to mismatches between the assetsand liabilities (debts and assets) of the

bank.

It is a dynamic process of Planning,Organizing & Controlling of Assets &

Liabilities- their volumes, mixes,maturities, yields and costs in order tomaintain liquidity and NII.

Significance Of ALM


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Significance Of ALM

Basic significance banks should have enough assets topay off its liabilities. Thus ALM is required to match theassets and liabilities and minimise liquidity and marketrisk. In a way you ensure that for every liability, there isan equivalent tenure and amount matching asset

Reasons for growing significance of ALM :-

Volatility

Rapid Innovations

Regulatory Environment

Management Recognition

Purpose & Objective of ALM


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Banks need to achieve acceptable risk/reward ratio. Banks need to manage the volume, mix, maturity, rate-

sensitivity, quality and liquidity of assets and liabilities as a

whole.

It primarily aims to stabilize the short- term profits, long-termearnings

Following parameters are generally used for stabilizing the

Asset Liability Mismatch of banks:

Net Interest Income (NII) Net Interest Margin (NIM)

Economic Equity Ratio

Purpose & Objective of ALM

Price Matching


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Table I Table I (Rearranged)Liabilities Assets Liabilities Assets

Amt Rate(%)

Amt Rate(%)

Amt Rate(%)

Amt Rate(%)

Spread(%)

15 0 10 0 10 0 10 0 0

25 5 20 12 5 0 5 12 12

30 12 50 15 15 5 15 12 7

30 13 20 18 10 5 10 15 10

30 12 30 15 3

10 13 10 15 2

20 13 20 18 5

100 8.75* 100 13.5* 100 8.75* 100 13.5* 4.75*

Price Matching

Maturity Matching


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Table II Table II (Rearranged)

Liabilities Maturingwithin(mnths)

Assets Maturingwithin(mnths)

Liabilities Assets Gap CumulativeGap

10 1 15 36 20 >36 8 20 -12 0

100 100 100 100

Maturity Matching

Three Pillars of ALM


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1) ALM Information System

Management Information System Information availability, accuracy, adequacy & expediency

2) ALM Organization

The Board should decide the risk management policy of the bank and set limits forliquidity, interest rate, foreign exchange and equity price risks.

ALCO consisting of the bank's senior management including CEO should be responsiblefor ensuring adherence to the limits set by the Board as well as for deciding the businessstrategy of the bank in line with the bank's budget and decided risk managementobjectives.

The ALM desk should be responsible for analysing, monitoring and reporting the riskprofiles to the ALCO. The staff should also prepare forecasts (simulations) showing theeffects of various possible changes in market conditions related to the balance sheet andrecommend the action needed to adhere to bank's internal limits.

3) ALM ProcessRisk parametersRisk identificationRisk measurementRisk managementRisk policies

Three Pillars of ALM



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Committee

ALM is the most important aspect for theFinancial Institutions to manage Balance SheetRisk, especially for managing of liquidity risk andinterest rate risk.

The ALCO is a decision making unit responsiblefor balance sheet planning from risk -returnperspective including the strategic managementof interest rate and liquidity risks.

Failure to identify the risks associated withbusiness and failure to take timely measures ingiving a sense of direction threatens the veryexistence of the institution.



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Committee

Functions Of ALCO


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Functions Of ALCO

Balance sheet planning from risk returnperspective

Desired maturity profile & mix of incremental

assets & liability

Articulating, reviewing the funding policy &interest rate view of the bank

Approving the pricing of various deposits &

advances products.

Monitoring the implementation of the policies Reviewing the results


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Treasury Mngt in Banks

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