Description
how to manage the liquidity risk and interest rate risks. It also explains the factors that affect the net interest income of a financial intitution.
Management of Liquidity Risk
&
Management of Interest Rate Risk
Liquidity risk management
• Ability to meet its liabilities as they become due
• Probability of an adverse situation developing.
• Systemic interlinkages
– Importance of liquidity transcends individual institutions
– Repercussions on the entire system
• Management
– Sensitivity analysis : examine how liquidity requirements
are likely to evolve under different assumptions
– assets commonly considered to be liquid could become
illiquid
– Gap analysis
• maturity ladder
• cumulative surplus or deficit of funds
– Assess the risk and evaluate wrt the risk taking capacity
Liquidity risk management
• lack of depth in the secondary market
– investments illiquid
– generally shown as per their residual maturity
• Trading Book’
• composition & volume should be clearly
defined
• Restricted maximum maturity/duration
• Holding period should not exceed 90 days
• Cut-loss limit(s) should be prescribed
• Product-wise defeasance periods to be
prescribed
Liquidity risk management
• Such securities should be marked-to-market on a
daily/weekly basis
• Revaluation gain/loss should be charged to the profit
and loss account
• Permitted to show the trading securities under 1-14
days, 15-28 days and 29-90 days buckets on the basis
of the defeasance periods
• The negative gap during 1-14 days and 15-28 days
time-buckets, in normal course, should not exceed 10
per cent and 15 per cent respectively, of the cash
outflows in each time bucket
Liquidity risk management
• Time buckets, may be distributed as under:
– 1 to 14 days
– 15 to 28 days
– 29 days and upto 3 months
– Over 3 months and upto 6 months
– Over 6 months and upto 1 year
– Over 1 year and upto 3 years
– Over 3 years and upto 5 years
– Over 5 years and upto 7 years
– Over 7 years andupto 10 years
– Over 10 years.
Liquidity Matrix
1-14d 14-28d 1-3m 3-6m 6m-1yr 1-3yrs 3-5yrs >5yrs
Capital
Deposits
Borrowings
Others `
OUTFLOW
Cash etc
Investment
Loans&Adv
Lendings
INFLOW
MISMATCH
Liquidity Risk Management - E I Ratio
Expected Cash Flows
• E I Ratio = --------------------------------------------------
Interest,Maturity + Investment commitments
Non-Treasury Cash Flows
= ---------------------------------------
Treasury Cash Flows
Liquidity Risk Management - E I Ratio
E-I Ratio E I Remarks
> 0 + ve +ve large inlows
- ve - ve large outflows (liq probs)
< -1 - ve + ve outflows > maturities
+ ve - ve inflows > commitments
> -1 - ve + ve outflows < maturities
< 0 + ve - ve Inflows < commitments
Liquidity Matrix
Period Non-Try Flows E I Ratio Remarks
< 1m + 100 crs +2 plan investments
1m
2m
3m 100 crs - 2 liquidity probs
6m
1yr - 200 crs - 1 comfortable
2yr
3yr
Interest rate risk
• Changes in market interest rates might adversely affect a
FI's financial condition.
• Net Interest Income (NII)
– earnings perspective’
– Interest received - Interest paid out
– Increase in NII = ( RSA - RSL ) * change in interest rate
• Long-term impact of changing interest rates
- Market Value of Equity (MVE) or Net Worth as the
economic value of bank’s assets, liabilities- economic
value’
Interest rate risk
• Gap analysis
– measured by calculating Gaps over different time intervals
– mismatches between Rate Sensitive Liabilities (RSL)
and Rate Sensitive Assets (RSA)
• 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
• residual maturity or next re-pricing period, whichever is earlier
• floating rates of interest
– assets and liabilities are rate sensitive at the time of re-pricing.
Deposits Loans
3 yrs 9 100 10 yrs BR+3 650
5 yrs 10 200 G-Secs
10 yrs BR+2 500 5yr 9.25 50
10 yrs 9.5 50
15 yrs 9.75 50
800 800
Interest paid Interest received
27.00 9.00 300 9.00 27.00 44.00 11.00 400 10.00 40.00
40.00 10.00 400 10.00 40.00 18.50 9.25 200 9.25 18.50
10.00 10.00 100 9.00 9.00 9.50 9.50 100 9.50 9.50
9.75 9.75 100 9.75 9.75
77.00 76.00 81.75 77.75
NET change from 4.75 to 1.75
Interest rate risk
• The interest rate gaps may be identified in the
following time buckets:
• 1-28 days
• 29 days and upto 3 months
• Over 3 months and upto 6 months
• Over 6 months and upto 1 year
• Over 1 year and upto 3 years
• Over 3 years and upto 5 years
• Over 5 years and upto 7 years
• Over 7 years and upto 10 years
• Over 10 years
• Non-sensitive
Interest Rate Sensitivity Gaps
1 m 1-3m 3-6m 6m-1y 1-5yr >5yr Non-Sen
Capital
Deposits
Borrowings
Others
LIABILITIES
Cash etc
Investment
Advances
Lendings
Assets
FRA/Swap
GAPS
Interest rate risk - factors affecting NII
• Yield curve shifts
– + ve gap - increase in NII
• Short-term interest rate changes
– NII increases with increase in spread b’n yields and costs
• Changes in volume of assets
– NII proportional to volume of earning assets
– growth results in increase in NII
• changes in portfolio mix
– floating rates & short maturities =>more rate sensitive
– fixed rates & long maturities => less rates sensitive
Interest Rate Risk - Evaluation and Management
• Evaluation
– Rate Sensitivity Reports
– Variation of NII analysis
– Forecasting changes in Net Interest Income
• Management
– Targeting NII
• NII change = Gap * Interest rate change
=> positive gap when rates are expected to firm up
negative gaps when rates are expected to fall
• Size of the gap is measure of the risk assumed
– Targeting Gaps
• Gap Ratio = RSA / RSL
ARBL Ladder
• Rates expected to go up : + ve ARBL
• Rates expected to go down : - ve ARBL
• Rates unpredictable : zero ARBL
Maturity To be 'repriced' ARBL
Bucket Assets Liabilities A-L
< 1m
1m
2m
3m
1yr
> 1yr
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doc_434205758.pptx
how to manage the liquidity risk and interest rate risks. It also explains the factors that affect the net interest income of a financial intitution.
Management of Liquidity Risk
&
Management of Interest Rate Risk
Liquidity risk management
• Ability to meet its liabilities as they become due
• Probability of an adverse situation developing.
• Systemic interlinkages
– Importance of liquidity transcends individual institutions
– Repercussions on the entire system
• Management
– Sensitivity analysis : examine how liquidity requirements
are likely to evolve under different assumptions
– assets commonly considered to be liquid could become
illiquid
– Gap analysis
• maturity ladder
• cumulative surplus or deficit of funds
– Assess the risk and evaluate wrt the risk taking capacity
Liquidity risk management
• lack of depth in the secondary market
– investments illiquid
– generally shown as per their residual maturity
• Trading Book’
• composition & volume should be clearly
defined
• Restricted maximum maturity/duration
• Holding period should not exceed 90 days
• Cut-loss limit(s) should be prescribed
• Product-wise defeasance periods to be
prescribed
Liquidity risk management
• Such securities should be marked-to-market on a
daily/weekly basis
• Revaluation gain/loss should be charged to the profit
and loss account
• Permitted to show the trading securities under 1-14
days, 15-28 days and 29-90 days buckets on the basis
of the defeasance periods
• The negative gap during 1-14 days and 15-28 days
time-buckets, in normal course, should not exceed 10
per cent and 15 per cent respectively, of the cash
outflows in each time bucket
Liquidity risk management
• Time buckets, may be distributed as under:
– 1 to 14 days
– 15 to 28 days
– 29 days and upto 3 months
– Over 3 months and upto 6 months
– Over 6 months and upto 1 year
– Over 1 year and upto 3 years
– Over 3 years and upto 5 years
– Over 5 years and upto 7 years
– Over 7 years andupto 10 years
– Over 10 years.
Liquidity Matrix
1-14d 14-28d 1-3m 3-6m 6m-1yr 1-3yrs 3-5yrs >5yrs
Capital
Deposits
Borrowings
Others `
OUTFLOW
Cash etc
Investment
Loans&Adv
Lendings
INFLOW
MISMATCH
Liquidity Risk Management - E I Ratio
Expected Cash Flows
• E I Ratio = --------------------------------------------------
Interest,Maturity + Investment commitments
Non-Treasury Cash Flows
= ---------------------------------------
Treasury Cash Flows
Liquidity Risk Management - E I Ratio
E-I Ratio E I Remarks
> 0 + ve +ve large inlows
- ve - ve large outflows (liq probs)
< -1 - ve + ve outflows > maturities
+ ve - ve inflows > commitments
> -1 - ve + ve outflows < maturities
< 0 + ve - ve Inflows < commitments
Liquidity Matrix
Period Non-Try Flows E I Ratio Remarks
< 1m + 100 crs +2 plan investments
1m
2m
3m 100 crs - 2 liquidity probs
6m
1yr - 200 crs - 1 comfortable
2yr
3yr
Interest rate risk
• Changes in market interest rates might adversely affect a
FI's financial condition.
• Net Interest Income (NII)
– earnings perspective’
– Interest received - Interest paid out
– Increase in NII = ( RSA - RSL ) * change in interest rate
• Long-term impact of changing interest rates
- Market Value of Equity (MVE) or Net Worth as the
economic value of bank’s assets, liabilities- economic
value’
Interest rate risk
• Gap analysis
– measured by calculating Gaps over different time intervals
– mismatches between Rate Sensitive Liabilities (RSL)
and Rate Sensitive Assets (RSA)
• 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
• residual maturity or next re-pricing period, whichever is earlier
• floating rates of interest
– assets and liabilities are rate sensitive at the time of re-pricing.
Deposits Loans
3 yrs 9 100 10 yrs BR+3 650
5 yrs 10 200 G-Secs
10 yrs BR+2 500 5yr 9.25 50
10 yrs 9.5 50
15 yrs 9.75 50
800 800
Interest paid Interest received
27.00 9.00 300 9.00 27.00 44.00 11.00 400 10.00 40.00
40.00 10.00 400 10.00 40.00 18.50 9.25 200 9.25 18.50
10.00 10.00 100 9.00 9.00 9.50 9.50 100 9.50 9.50
9.75 9.75 100 9.75 9.75
77.00 76.00 81.75 77.75
NET change from 4.75 to 1.75
Interest rate risk
• The interest rate gaps may be identified in the
following time buckets:
• 1-28 days
• 29 days and upto 3 months
• Over 3 months and upto 6 months
• Over 6 months and upto 1 year
• Over 1 year and upto 3 years
• Over 3 years and upto 5 years
• Over 5 years and upto 7 years
• Over 7 years and upto 10 years
• Over 10 years
• Non-sensitive
Interest Rate Sensitivity Gaps
1 m 1-3m 3-6m 6m-1y 1-5yr >5yr Non-Sen
Capital
Deposits
Borrowings
Others
LIABILITIES
Cash etc
Investment
Advances
Lendings
Assets
FRA/Swap
GAPS
Interest rate risk - factors affecting NII
• Yield curve shifts
– + ve gap - increase in NII
• Short-term interest rate changes
– NII increases with increase in spread b’n yields and costs
• Changes in volume of assets
– NII proportional to volume of earning assets
– growth results in increase in NII
• changes in portfolio mix
– floating rates & short maturities =>more rate sensitive
– fixed rates & long maturities => less rates sensitive
Interest Rate Risk - Evaluation and Management
• Evaluation
– Rate Sensitivity Reports
– Variation of NII analysis
– Forecasting changes in Net Interest Income
• Management
– Targeting NII
• NII change = Gap * Interest rate change
=> positive gap when rates are expected to firm up
negative gaps when rates are expected to fall
• Size of the gap is measure of the risk assumed
– Targeting Gaps
• Gap Ratio = RSA / RSL
ARBL Ladder
• Rates expected to go up : + ve ARBL
• Rates expected to go down : - ve ARBL
• Rates unpredictable : zero ARBL
Maturity To be 'repriced' ARBL
Bucket Assets Liabilities A-L
< 1m
1m
2m
3m
1yr
> 1yr
| |
( )
( )
( )
1
*
D duration * ... * 3 * 2 * 1
1
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1
* * ... * 3 * 2 * 1
*
) 1 (
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Liability Assets Equity
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doc_434205758.pptx