Unit 7

RBI Guideline on ALM

A Statement of Structural Liquidity

to capture maturity structure of the cash inflows and outflows

A Statement of Short-term Dynamic Liquidity

A Statement of Interest Rate Sensitivity

Credit Risk Rating CRR is a systematic classification of loans and

investments into standardized grades on the basis of the risk involved in each loan or investment.

risk in loan and investment portfolios alphabetical (A, B, C) numerical (a grading scale of 1 to10) alphanumerical (A1, A2, A3) mathematical signs of + and minus (A+, A-, B, B+,

B++) comprehensible, widely used and widely popular

Three Pillars of ALM Process

ALM Information Systems

ALM Organisation

ALM Process

ALM Information Systems

Management Information Systems Information Availability Accuracy Adequacy Expediency

ALM Organisation Structure ResponsibilitiesLevel of Top-Management Involvement.

ALM Process

Risk Parameters Risk Identification Risk Measurement Risk Management Risk Policies and

Tolerance levels

Liquidity Risk Management Maturity Profile as given in Appendix-1for measuring

the future cash flows of banks in different time buckets

-main focus should be on the short-term mismatches, viz., 1-14 days and 15-28 days

-mismatches upto one year would be relevant since these provide early warning signals of impending liquidity problems

-The mismatches (negative gap) during 1-14 days and 15-28 days in normal course may not exceed 20% of the cash outflows in each time bucket

Interest Rate Risks The Gap or Mismatch risk Gap analysis measures mismatches between

rate sensitive liabilities and rate sensitive assets An asset or liability is normally classified as rate

sensitive within the time interval under consideration, if there is a cash flow or

The interest rate resets/reprices contractually during the interval, it is contractually pre-payable or withdrawal before the stated maturities.

Objectives of Credit Risk Rating

internal parameters third party credit

rating enabling analysis at

two levels

At micro-level, evaluating every single loan

At the macro-level, determining, the risk-weighted capital as per Basel Norms

Interest Rate Risks..contd The Gap Reports should be generated

by grouping rate sensitive liabilities, assets and off balance sheet positions into time buckets

The Gap is the difference between Rate Sensitive Assets (RSA) and Rate Sensitive Liabilities (RSL) for each time bucket

Interest Rate Risks contd….The positive Gap indicates that it has

more RSAs than RSLs negative gap indicates that it has more

RSLs having a positive Gap (RSA>RSL)

benefits from rising interest ratesnegative Gap (RSL>RSA) benefits from

declining interest rates

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CRR Methodology

Developing the SystemWorking out operational Details Post Rating Functions

Credit Rate Portfolio Management Credit Rate Portfolio management involves

designing, operating, monitoring and churning the portfolio (of a bank or any other entity) of investment or loans on the basis of credit rating tagged on to the products contained in the portfolio.

managing the portfolio on the basis of credit rating assigned

credit rating should help in determining the asset quality

credit rating is dynamic standard deviation and correlation analysis

Asset – Liability Management in Banks

Information Infrastructure for ALMAsset Liability Management

Committee

-top-level committee operating under the Board of Directors with the CEO as a Member

Asset Liability Management Committee senior level management compositions and the size of the ALCO depend

upon the organisation Executive Chief heading ALCO major role in balance sheet planning setting the risk- return matrix and profile of the

organization determining the interest rates on deposits and loans determining the interest rates on deposits and loans

the sale of investments or purchase of securities.

Components of a Bank’s Balance Sheet Bank’s Liabilities Capital Reserves and

surplus Deposits Borrowings other Liabilities,

Provisions & Contingencies

Bank’s Assets Cash and Balances with

RBI Balances with other

Banks Money at Call and at

Short Notice Investments Advances Fixed Assets other Assets