Post on 10-Feb-2018
Measuring & Monitoring Interest Rate Risk
Lisa Boylen VP ALM Services
First Carolina Corporate Credit Union
• Lisa Boylen • First Carolina Corporate Credit Union
VP, ALM Services - 6 years • Community Banking accounting/finance/ALM – 20 years • North Carolina Licensed CPA
Introduction
Session Outline
• Risk Measurement Methods • Gap • Income Simulation • Net Economic Value
ALM Process
Policy & Limits
Implement Measurement
Systems
Monitor Compliance
Revise Strategy as
Needed
ALM Measurement Basics Interest Rate Risk Measurement Tools
• Gap Analysis • Measures the impact of repricing risk on earnings
• Income Simulation Model • Measurement of short-term risk • Earnings Perspective
• Net Economic Value Model • Measurement of long-term risk • Value Perspective
GAP Analysis
• Calculate the difference between rate-sensitive
assets (RSA) and rate-sensitive liabilities (RSL) at various time periods.
• The difference is called the “gap”.
GAP: Rules of Thumb
If GAP is greater than Zero: (RSA>RSL) “Positively Gapped”
• If rates é, then net interest income will most likely é
• If rates ê, then net interest income will most likely ê
GAP: Rules of Thumb
If GAP is less than Zero: (RSL>RSA) “Negatively Gapped”
• If rates é, then net interest income will most likely ê
• If rates ê, then net interest income will most likely é
GAP: Rules of Thumb
If GAP is close to zero: (RSA=RSL) “Evenly Gapped”
• If rates é or ê then net interest income will most likely not change as much
Gap Measurement CU
(MILLIONS) REPRICING INTERVAL
0-30 days
31-60 days
61-90 days
4-6 months
6-12 months
Rate-Sensitive Assets
$5 $10 $5 $4 $16
Rate-Sensitive Liabilities
$10 $20 $10 $10 $10
GAP $(5) $(10) $(5) $(6) $6 Cumulative Gap $(5) $(15) $(20) $(26) $(20) If market rates increase by 100 bp or 1%. Using simple assumptions, net interest income would decline $200,000 ($20 million x 1%)
10
Income Simulation Modeling • Income simulation models project future
net interest income and how it changes as interest rates move.
• The amount that it changes from current
market rates to higher and lower market rates determines the level of risk.
Income Simulation (000’s) Rates Down 100 Flat Rates Rates Up 300
+ Interest Income $2,900 $3,000 $3,100
- Interest Expense $940 $1,300 $1,620
= Net Interest Income $1,960 $1,700 $1,480
$ Change from Flat $260 - $-220
% Change from Flat 15.3% - -12.9%
Policy Limit 20% 20%
NCUA Limits Earnings at Risk
Low Moderate High
Net Interest Income (After shock change over
any 12 month period)
<20%
20-30%
>30%
Net Income (After shock change over
any 12 month period)
<40%
40-75%
>75%
Net Economic Value (NEV) Models
• Measurement of the future (long-term) earnings potential of today’s balance sheet.
• Risk is measured by the change in value of the
credit union’s assets and liabilities due to interest rate movements and the impact these changes have on the capital position.
Net Economic Value Formula
+ The value today (present value) of future amounts the credit union will receive, such as loan principal and interest payments, and investment principal and interest.
- The value today (present value) of future amounts the credit union will pay for its funds, such as deposit principal and interest payments.
= Net Economic Value
Value Changes With Interest Rates
Period Cash Flow 5% 6% 7%
1 60.00 57.14 56.60 56.07 2 60.00 54.42 53.40 52.41 3 60.00 51.83 50.38 48.98 4 60.00 49.36 47.53 45.77 5 1.060.00 830.54 792.09 755.77
Total 1,300.00 1,043.29 1,000.00 959.00 %
Change 4.33% -4.10%
Amount: $1,000 | Coupon: 6% | Life: 5 years | Payments: Annual
Price Sensitivity
70
80
90
100
110
120
130
-‐300 -‐200 -‐100 0 100 200 300
Assets
Liabili3es
Price Sensitivity & Maturity
• For a Given Rate Change:
• Shorter Maturities Have Smaller Value Changes
• Longer Maturities Have Larger Value Changes
NEV Impact of Changes in Interest Rates
Change in Interest Rates Increase /Decrease in PV Impact on NEV
Asset - Decrease
Liability - Decrease
Unfavorable L
Favorable J
Asset – Increase
Liability – Increase
Favorable J
Unfavorable L
Net Economic Value (000’s) Rates Down 100 Flat Rates Rates Up 300
+ PV Assets $148,500 $146,400 $139,600
- PV Liabilities $125,000 $123,400 $119,200
= Net Economic Value $23,500 $23,000 $20,400
$ Change from Flat $500 - $(2,600)
% Change from Flat 2.1% - (11.3)%
Policy Limit 25% 25%
NEV Ratio 15.8% 15.7% 14.6%
Policy Limit 6.0% 6.0% 6.0%
NCUA Limits – Value at Risk
Low Moderate High Net Economic Value
(After shock change in market value net worth)
< 25%
25-50%
> 50%
Net Economic Value (After shock value
of net worth)
> 6%
4-6%
< 4%
Interest Rate Risk Red Flags • Noncompliance with risk limits
• No risk limits
• Frequent exceptions to the interest rate risk policy
• Significant changes in the level and trends of interest rate risk exposure
• Reports are not provided by management that identify and quantify the level of interest rate risk
Review Questions • Match each measurement method to the
appropriate attributes
Measurement Tool Attribute
Income Simulation Long-term perspective Earnings perspective
Net Economic Value Short-term perspective Value perspective
Summary • Changes in market interest rates can have a
significant impact on the credit union’s earnings and capital.
• Policies and risk limits are the framework for managing interest rate risk
• Interest rate risk models are used to measure interest rate risk
• Board monitors compliance with policy and risk limits through reports
Contact Information
Lisa Boylen VP, ALM Services First Carolina Corporate Credit Union Email: lboylen@firstcarolina.org Phone: 336-217-4906