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ASSET LIABILITY MANAGEMENTINTRODUCTION Asset and liability management(often abbreviated ALM) is the practice of managingrisksthat arise due to mismatches between theassetsandliabilities. Initially pioneered by Anglo-Saxon financial institutions during the 1970s

In India it was introduced on 1st April 1999

2EVOLUTIONSCOPE OF ALMThe parameters for stabilizing ALM system are:1. Net Interest Income (NII)2. Net Interest Margin (NIM)3. Economic Equity Ratio

ALM Information Systems Usage of Real Time information system to gather the information about the maturity and behavior of loans and advances made by all other branches of a bank

ABC Approach : analysing the behaviour of asset and liability products in the top branches as they account for significant businessthen making rational assumptions about the way in which assets and liabilities would behave in other branchesThe data and assumptions can then be refined over time as the bank management gain experience

The spread of computerisation will also help banks in accessing data.ALM Organization The board should have overall responsibilities and should set the limit for liquidity, interest rate, foreign exchange and equity price risk

The Asset - Liability Committee (ALCO)ALCO, consisting of the bank's senior management (including CEO) should be responsible for ensuring adherence to the limits set by the BoardIs responsible for balance sheet planning from risk - return perspective including the strategic management of interest rate and liquidity risksThe role of ALCO includes product pricing for both deposits and advances, desired maturity profile of the incremental assets and liabilities,It will have to develop a view on future direction of interest rate movements and decide on a funding mix between fixed vs floating rate funds, wholesale vs retail deposits, money market vs capital market funding, domestic vs foreign currency fundingIt should review the results of and progress in implementation of the decisions made in the previous meetings

Liquidity Risk ManagementLiquidity TrackingBanks liquidity management is the process of generating funds to meet contractual or relationship obligations at reasonable prices at all times

Liquidity Management is the ability of bank to ensure that its liabilities are met as they become due

Liquidity positions of bank should be measured on an ongoing basis

A standard tool for measuring and managing net funding requirements, is the use of maturity ladder and calculation of cumulative surplus or deficit of funds as selected maturity dates is adopted

ALM PROCESSTime Buckets1 to 14 days15 to 28 days29 days and up to 3 monthsOver 3 months and up to 6 monthsOver 6 months and up to 1 yearOver 1 year and up to 3 years Over 3 years and up to 5 years Over 5 years

CRR/SLR RequirementEvery financial institute is required to maintain a Cash Reserve Ratio (CRR) and Statutory Liquidity reserve (SLR)Banks are given freedom to place the mandatory securities in any time buckets as suitable for them.Time Bucket Mismatchthe main focus should be on the short-term mismatches viz., 1-90 days.The cumulative mismatches (running total) across all time buckets shall be monitored in accordance with internal prudential limits set by ALCO from time to time.The mismatches during 1-90 days, in normal course, should not exceed 15% of the cash outflows in this time buckets.Statement of Structural LiquidityIs prepared by placing all cash inflows and outflows in the maturity ladder according to the expected timing of cashflows.

A maturing liability will be a cash outflow while a maturing asset will be a cash inflow.

The ALCO must ensure that the tolerance levels are determined keeping all necessary factors in view like asset-liability base, nature of business, future strategies, etcGap AnalysisDifference between Rate-sensitive Assets (RSA) and Rate-sensitive Liabilities (RSL) for each time-bucket.RSA > RSL indicates a Positive Gap.RSA < RSL indicates a Negative Gap.RSA = RSL indicates Zero GapGap AnalysisIndicates whether the company is in a position to benefit from rising interest rates by having a positive gap or from declining interest rates by having a negative gap.Thus, the Gap Report can be used as a measure of Interest-rate Sensitivity.Duration Gap AnalysisMeasures the sensitivity of a banks current year net worth to changes in interest rates.Requires determining the duration for assets and liabilities, items whose market value will change as interest rates change.% Change = - Duration x change in int. rates( 1 + int. rate)Duration Gap AnalysisLets assume the Duration is 2.7, Interest rates rise from 10% to 11%.Therefore,% change in asset value = -2.7 x .01(1+.01) = -2.5%Duration Gap AnalysisAssume duration for Liabilities is 1.03% change in liability = -1.03 x .01 = - 0.9% (1+.01)Net Worth:% change in NW = % change in assets - % changein liabilities= -2.5% - (-0.9%)= -1.6%THANK YOUComponents of a Bank Balance Sheet LiabilitiesAssetsCapitalReserve & SurplusDepositsBorrowingsOther Liabilities Cash & Balances with RBIBal. With Banks & Money at Call and Short NoticesInvestmentsAdvancesFixed Assets6. Other Assets18