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Understanding Asset Liability Mismatch

Asset Liability Mismatch or ALM is considered to be a

comprehensive and dynamical framework for measure-ment, monitoring and managing the market riskof the

Banks.

ASSETLIABILITY MISMATCH ARISES IN THE:

FOLLOWING SITUATION:

The Primary source of funds for the banks is deposits, and most deposts have a short- tomedium-term maturities, thus need to be paid back to the investor in 3-5 years. In comparison

the banks usually provide loans for a longer period to borrowers. Out o f them, the home loans

and Infrastructure projects loans are of longest maturity. So when a bankprovides the long

term loans from much shorter maturity funds, the situation is called asset-liability mismatch.

ALM creates Risk and Risk has to be managed. This is called Asset Liability Management.

What is Asset Liability Mismatch CONCEPT OF ASSET LIABILITY MANAGEMENT andCONSEQUENCES

CONSEQUENCES OF THE ASSET LIABILITY MISMATCH

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The Interest rate risks (due to fluctuation) and Liquidity Risk (due to long maturity of loans) are

two typical conse quences of Asset Liability Mismatch.

1. Interest Rate Risk: The banks would require to reprice the deposits faster than the loans and

during this process if the bank has to pay a higher rate, the adjust ment is difficult.

2. Liquidity Risk: The banks would have to repay the depositors when their funds mature. But

when they repay, the cannot recall their loans. In this situation, bank would require the new

deposits. This may create a acute situa tion if there are no deposits available. In some cases

the bank may also need to be paying higher interests on new deposits.

CONCEPT OF ASSET LIABILITY MANAGEMENT (ALM)

This is basically management of the structure of the balance sheet (which comprises the

assets and liabilities) in such a way that interest gain is maximized and risk is minimized. Most

of the banks have an elaborate institutional arrangement to manage the Asset liability

Mismatch. They manage the above as follows:

1. Pricing large percentage of loans at variable (Floating Rate Regime) interest rates which

actually move in tandem with the markets.

2. Pricing the fixed interest rate loans at a huge markup, this is usually done so that borrowe

is enticed to go for floating rate regime.

The above two generally take care of the Asset liability mismatch situation.

ALM LATEST DEVELOPMENTS :

In April 2010, the RBI has expressed a deep concern over the asset-liability mismatches (ALMs)

in banks which mainly arising out of lending to the infrastructure- projects.

According to bankers present in a meeting, the main concern of the regulator is the huge

pipeline of sanctions

BANKING AWARENESS

an which banks are sitting, mostly for core sector projects.

Infrastructure loans are of 10-15 years duration, while most bank deposits have a tenure of

one-two years .. ln the last financial year, not much disbursement took place,-and now every

bank is sitting on huge sanctions waiting to be disbursed. This is going to create a majo

problem, as banks wont have deposits of equal maturity.

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