Asset Liability Management By Indian

Banks
Guided By: Presented
Prof. Suryanarayan By:
Group No-1
 WHAT IS ALM?
An attempt to match:
Assets and Liabilities
In terms of:
Maturities and Interest Rates Sensitivities

To minimize:
Interest Rate Risk and Liquidity Risk
 Asset Liability Management

Asset Management Liability

Management

How Liquid are the How easily can

assets of the Bank the Bank generate
loans from market
 Asset Liability Management

• ALM is an integral part of the financial management

process of any bank.
• ALM is concerned with strategic balance sheet
management involving risks caused by changes in the
interest rates, exchange rates and the liquidity
position of the bank.
• While managing these three risks forms the crux of
ALM, credit risk and contingency risk also form a
part of the ALM
Asset Liability Management
• ALM can be termed as a risk management technique
designed to earn an adequate return while
maintaining a comfortable surplus of assets beyond
liabilities.
• It takes into consideration interest rates, earning
power, and degree of willingness to take on debt and
hence is also known as Surplus Management
 Regulatory Environment –
Risk Management Guidelines in India
• ALM Guidelines - February,1999
• Operating Guidelines on Risk Management, October 7,
1999 covering broad contours for management of credit,
liquidity, interest rate, foreign exchange and operational
risks.
• December 2000 : Capital Adequacy Guidelines for
Primary Dealers covering Credit and Market Risk
• On September 20, 2001, two Working Groups were
constituted in Reserve Bank of India drawing experts
from select banks and FIs for preparing detailed
Guidance Notes on Credit Risk and Market Risk
Management by banks.
 Risk Regulation in India
• Identified further steps to be taken by banks for
improving their existing risk management framework,
suiting to Indian conditions

• 2005 – Detailed Capital Adequacy guidelines for Banks

to move towards Basel II, 2007- final guidelines

• 2006 – April 17, the ALM framework of 1999 updated.

• 2007- Pillar II guidelines being issued

 RBI revised guidelines 2007-08
• Issued on Sept 05, 2007
• Feb 10, 1999 guidelines covered Interest Rate and
Liquidity Risk Management
• Cumulative mis-matches in first bucket to be reported in
Statement of Structural Liquidity
• -ve Gap in 1-14 and 15-28 days buckets not to exceed 20
% of the cash flows
• Need for revising this position – Hence revised the first
bucket to 1, 2-7 & 8-14 days
 RBI Revised ALM
• Cumulative negative mismatches / Gap in new buckets –
Next day, 2-7, 8-14 and 15-28 days not to exceed 5, 10,
15 and 20 % respectively of cash flow
• Format of Statement of Structural Liquidity has been
revised accordingly
• Guidance instructions have been furnished
• Banks given time to fine-tune MIS by 1 Jan’08
• Reporting frequency to continue as monthly
• Supervision will be fortnightly – April 01,2008
• Financing of gaps above norms to be indicated
 ALM - Introduction
Banks
Economic Factors Economic Policies
Balance Sheet of a Bank

Liabilities Assets

Capital Cash and Balances at RBI

Reserves and Surplus Balance with banks and money
Deposits at call and short notice
Borrowings Investments
Other Liabilities and Provisions Advances
Contingent Liabilities Fixed Assets
Other Assets
Com Bkg 2008 ALM 2008 11
Com Bkg 2008 ALM 2008 12
Com Bkg 2008 ALM 2008 13
 Risks

• Various Risks
– Interest Rate Risk

– Foreign Exchange Risk

– Liquidity Risk

– Credit Risk

– Contingency Risk
Liquidity Risk Profile of a Bank
(Rs in crores)
 International Initiatives in Managing Risks

• Till the 1980s, a professional risk manager was

unheard of
• Late 1980s, US Financial Firms started using VaR
• Basel I ;1988
• Risk Metrics, 1995
• Bank for International Settlement (BIS) - a series of
risk management guidelines for Banks worldwide
• Market Risk Guidelines of Basel, 1996
• Basel II process ( November 2005 Document)
 Risk Management

• How to bring it (Risks)

down to manageable
levels?
The 5-step process
1. Identification of risks
2. Quantification
3. Policy formulation
4. Strategy formulation
5. Monitoring
 GAP Analysis
• One way to measure the direction
and extent of asset-liability mismatch
is by using gap analysis. The analysis
derives its name from the “gap”
which is the difference between the
amounts of Rate Sensitive Asset
(RSA) and Rate Sensitive Liabilities
(RSL).

18
 SUCCESS OF ALM PROCESS

The ALM process rests on Three Pillars:

1. ALM Information Systems

2. ALM Organisation

3. ALM Process
 1. ALM INFORMATION SYSTEM
• Decision Support and Reporting Tool
• Comparison between different Branches
• Product Analysis
• Duration Gap Analysis
• Risk Planning and Management
• Flexible Design
• Strategic Planning of the Asset-Liability Mix
• Simulation Analysis
• Transfer- Pricing Mechanism
 2. ALM ORGANISATION
• Strong Commitment of Senior Management

• ALCO should comprise the Senior Management

( including the CEO)

• A Support Group of Operational Staff

 Board of Directors(Rana
Kapoor)

Management Committee(35
Employees)

Asset Liability Committee (ALCO-18)

Asset Liability Management Cell

Finance Planning Department

Credit Analysis Credit Risk Management Treasury

Department Department

ALM 2008
Investment and Loan Departments
 3. ALM PROCESS
• The scope of ALM function can be described as
follows:
• Liquidity Risk Management
• Management of Market Risks
• Trading Risk Management
• Funding and Capital Planning
• Profit Planning and Growth Projection
 Price Matching
(Rs. cr.)
* Average cost/return on liabilities/assets.
Table 1 Table 1 (Rearranged)
Liabilities Assets Liabilities Assets
Amount Rate Amount Rate Amount Rate Amount 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*
 Table II Table II
Maturity Matching (Rearranged)
Maturing Assets (Rs. cr.)
Maturing Assets Gap Cumulative
within within (period in months) Gap
(months) (months)
Liabiliti Liabilit
es ies

10 1 15 <1 10 15 -5 -5
5 3 10 3 5 10 -5 -10
8 6 5 6 8 5 3 -7
4 12 10 12 4 10 -6 -13
45 24 30 24 45 30 15 2
20 36 10 36 20 10 10 12
8 >36 20 >36 8 20 -12 0
100 100 100 100
 Risks in ALM
• Interest Rate Risk: It is the risk of having a negative
impact on a bank’s future earnings and on the market
value of its equity due to changes in interest rates.
• Liquidity Risk: It is the risk of having insufficient
liquid assets to meet the liabilities at a given time.
• Forex Risk: It is the risk of having losses in foreign
exchange assets and liabilities due to exchanges in
exchange rates among multi-currencies under
consideration.
 MANAGEMENT OF
LIQUIDITY RISK
• Availability of funds as & when liabilities are due

• Liquidity through maturity & cash flow matching

• Maturity ladder & calculation of cumulative

surplus/deficits at selected dates
 MANAGEMENT OF
LIQUIDITY RISK
Construction of time buckets:
1 to 30/31 days
Over 1 month and upto 2 months
Over 2 months 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
 MANAGEMENT OF
LIQUIDITY RISK
• Main focus on Short Term mismatches
• Mismatches during 1-30 days < 20 % of cash outflows in
the same bucket
• For higher limits, special sanction from the Board
• Statement of Structural Liquidity (maturity ladder)
 MANAGEMENT OF
Interest Rate Risk
• Impact on Net Interest Income (NII)
• Long term impact on market value/ net worth
• Techniques:
1. Gap Analysis
2. Duration Gap Analysis
3. Simulation
4. Value at Risk
 1. GAP ANALYSIS
• Calculating Gap over different time intervals at a
given date
• Mismatches between RSL and RSA
• ∆ GAP = RSA(∆ i) - RSL(∆ i) = NII(∆ i) for each
time bucket
• Positive GAP ( RSA > RSL )
– Increasing Interest Rates would be beneficial for a
Bank
• Negative GAP ( RSL > RSA )
– Falling Interest Rates would be beneficial for a
Bank
 9. 1.
Control
Framework
Strategic
8. Framework
Regulatory 2.
Organizational
Compliance
Framework
Framework
ASSET AND
7. LIABILITY 3.
Performance MANAGEMENT Operational
Measurement
Framework
Framework
4.
6. Analytical
Information Framework
Reporting 5.
Framework Technology
Framework

ALM 2008