Asset-Liability Management

The objective of this seminar is to give you a good understanding of Asset-Liability Management as a tool for managing an institution’s balance sheet in pursuit of the optimal balance between revenues and risks.

We start with an introduction to ALM, and we discuss the objectives and means of ALM. We also give an example of how ALM is organized in a typical bank.

Next, we explain important concepts such as margin, spread, leverage, surplus, and balance sheet risk. We look at the balance sheets of “typical” institutions and discuss the funding/investment requirements and constraints that arise from the business nature of these institutions.

We then look into how interest rate risk can be measured and managed within the ALM framework. We explain and discuss measures such as Net Interest Income (NII), GAP, and Duration GAP. We also present and explain models for measuring interest rate risk on non-maturing assets and liabilities (e.g. demand deposits) and for measuring “Value-at-Risk” of trading assets and liabilities.

Further, we explain how interest rate risk can be managed using derivative instruments such as FRAs, swaps and interest rate options. We explain how “macro swaps” are used by banks to hedge interest rate risk at the balance sheet level, and we show how caps, floors and swaptions can be used to manage the explicit and embedded option risks of a bank’s assets and liabilities.

We then present and explain tools for assessing liquidity risks, including liquidity ratios, cash flow projections and the “liquidity curve”. We look in detail into liquidity risk measurement within a financial institution using liquidity modelling, liquidity stress testing and long term liquidity profiling. We explain how liquidity risk can be managed in an ALM context. We review the latest regulatory developments for liquidity risk management, and we present liquidity management tools, including “contingency planning” and financing instruments such as repos and money market facilities.

Finally, we look at liquidity costs and liquidity pricing factors, and we explain the process of “liquidity transfer pricing” in an ALM context.

 

Day One

09.00 - 09.15 Welcome and Introduction

09.15 - 12.00 Introduction to ALM

• ALM – a Strategic Management Tool
• The Use of ALM in Banks
• The ALCO and the ALCO process
• Case Study: ALM Organization, Policies and Procedures in a Large Bank

Interest Rate and Spread Analysis

• Profitability and Interest Rate Risk
  • Margins, leverage and ROE
  • Maturity transformation risk
  • Spread risk
• Interest Rate Risk in the Banking Book
  • Basel Pillar II requirements
  • NPV Risk vs. “Re-pricing” Risk
• GAP Analysis
  • Static GAP
  • Dynamic GAP
  • Case: GAP analysis in “NoHope Bank “
• Exercises

12.00 - 13.00 Lunch

13.00 - 16.30 Interest Rate and Spread Analysis (continued)

• Simulation Method
  • Simulating NII
  • Simulating effect of product mix and pricing
  • Monte Carlo simulation
• Duration Analysis
  • The economic value of assets and liabilities
  • Duration explained
  • Duration GAP and duration of equity
  • Case study: Duration analysis in “NoHope Bank”
• Measuring Interest Rate Risk of Non-Maturing Assets and Liabilities (NoMALs)
  • Types and characteristics of NoMALs
  • The annuity-margin approach
  • Stochastic programming model
  • Calculating duration and convexity of NoMals
  • Constructing replicating portfolios
  • Case study: NoMALs in “NoHope Bank”
• Analyzing Prepayment Risk
• Exercises

Day Two

09.00 - 09.15 Recap

09.15 - 12.00 Measuring Interest Rate Risk in the Trading Book

• Basel Pillar I Requirements
• General vs. Specific Interest Rate Risk
• The Maturity and Duration Approaches
• Value-at-Risk Analysis
  • Value-at-Risk for bonds and other primary instruments
  • Value-at-Risk for interest rate derivatives
• Yield Curve Analysis
  • Key rate duration
  • Principal components analysis
  • Diversified Value-at-Risk
• Case: Value-at-Risk in “NoHope Bank”
• Exercises

Managing Interest Rate Risk

• Structural Management
  • A/L mix and pricing
  • Balance sheet re-engineering
• Portfolio Strategies
  • Matching, immunization, active management

12.00 - 13.00 Lunch

13.00 - 16.30 Managing Interest Rate Risk (Continued)

• Using Derivatives for Interest Rate Risk Management
  • Using FRAs and futures to manage re-pricing risk
  • Using interest rate swaps to hedge cash flow risk
  • Using interest rate swaps to hedge fair value risk
  • Using “macro swaps” to hedge assets/liabilities at the bank level
  • Using interest rate options to cap funding costs
  • Using interest rate options to hedge explicit and embedded optionality of assets and liabilities
  • Managing pre-payment risk
  • Managing multi-dimensional and contingent IRR
• Accounting Issues
  • Accounting treatment of derivatives under IFRS/US GAAP
  • Hedge accounting: cash flow vs. fair value hedges
  • Treatment of macro hedges
• Case Study: Using Derivatives in “NoHope Bank”
• Exercises

Day Three

09.00 - 09.15 Recap

09.15 - 12.00 Liquidity Management

• An ALM Framework for Assessing Liquidity Risk
• Factors that Affect Bank Liquidity
  • Financial market access
  • Balance sheet structure and earnings
• Balance Sheet Analysis
  • Core vs. non-core deposits
  • Available-for-sale vs. held-to-maturity securities
• Sources of Cash Flow Uncertainty
• Assessing Liquidity Risk Using Balance Sheet Ratios
• Assessing Liquidity Risk Using Stochastic Cash Flow Mismatch Analysis
• Basel III Regulatory ratios
  • Liquidity coverage ratio
  • Net stable funding ratio
• Managing Liquidity Risk
  • A framework for managing liquidity risk
  • Managing market access
  • Contingency planning
  • Foreign currency liquidity management   
• Practical Case Studies and Exercises

12.00 - 13.00 Lunch

13.00 - 16.30 Liquidity Pricing and Fund Transfer Pricing

• Reasons for Liquidity Costs
• Defining Liquidity Costs and the Pricing Factors
  • Structural liquidity costs
  • Contingent liquidity costs
• Liquidity Traders View
  • Long vs. Short cash
  • Rate paid vs. Rate achieved
• Balancing the Costs of Overfunding/Underfunding
• Liquidity Cost Curves
• Fund Transfer Pricing
  • Transfer prices for liquidity
  • Liquidity pricing for specific asset and liability classes
  • The role of ftp in economic capital allocation and risk adjusted performance measurement
• Practical Case Studies and Exercises

Evaluation and Termination of the Seminar