Workshop AFGAP-ALMA
Professional training in ALM
11 May 2012
ALM Professional training in France
 As of now, only in-house ALM training programs do exist in France
 For example, Société Générale and BNPP have developed their in-house programs
exclusively dedicated to their own employees
 As far as we are aware, there is no academic-based training specifically oriented
toward asset-liability management
 Nevertheless, many academic programs on asset management, risk management,
mathematical finance, actuarial sciences etc. do actually exist
 AFGAP has been working on a comprehensive training program in ALM under
the following guidelines:
 mostly oriented towards banks (versus insurance companies)
 sponsored by AFGAP and its stakeholders
anchored in one (or more) academic institution, for example ENSAE which is
one of the leading graduate school in economics, finance and quantitative
analysis
 delivering both academic and professional certification
ALM Professional training in France: An example
Level 1 (2-3 days)
Level 2 (2-3 days)
Level 3 (2-3 days)
• Intoduction to banking book
risks
• Focus on balance-sheet / off
balance sheet main exposures
• Definition,
economic
and
regulatory
context,
main
challenges about Liquidity Risk
• Modeling of maturing / non
maturing products
• Option modelling in ALM:
interest-rate-capped
loans,
fixed/variable rate loans, early
repayment/termination etc.
• Definition,
economic
and
regulatory
context,
main
challenges about Interest Rate
Risk
• Definition,
economic
and
regulatory
context,
main
challenges about Currency Risk
• Organisation,
and risk policies
• Liquidity gap, interest rate
gap, risk measurement
• Main risk indicators: gaps,
duration analysis, interest rate
margin
sensitivity,
present
value, Earnings-at-Risk
• Static liquidity gap and ongoing concern gaps
gouvernance
• Hedging and Funding Transfer
Prices
• Regulatory context: ratios,
accountancy rand prudential
requirements
• Off-balance sheet and nonplain vanilla hedging products:
swaptions
• Non-linear risk modeling
• Advanced hedging
• Economic capital and capital
management
ALM Professional training in France: An example
Employees targeted :
• ALCO members
• ALM employees in F/O and B/O departments
• Risk managers
• Internal auditors / Accountants
• Quants
• Budgeting and Capital planning executives
• All employees in Finance divisions, Retail and Corporate management units etc.
ALM Professional training in France: AFGAP objectives
AFGAP Objectives
 Extending in-house program to set up a 80-hour program aimed at training any
employee from AFGAP stakeholders
 Providing trainees with a common and unified package of skills and core
competences
 Enhancing ALM culture in France to strengthen banks position when discussing
with French and foreign regulators
 Developing an international english-based training program in the coming years
 Enrolling supervisory bodies’ and regulators’ employees in the program
 Connecting ALM with academic curriculum in order to develop academic
research in this field
Example of a training program - 4 modules
08/04/2015
1. Fundamentals of structural risks management
 E-learning of 80 slides.
2. Level 1 - Introduction to structural risks management
 2-day training in a classroom with exercices
3. Level 2 – Advanced practice for the management of structural
risks
 2-day training in a classroom with exercices and a case study
4. Level 3 – Management of implicit and explicit options in ALM
 2-day training in a classroom with exercices
6
I. Fundamentals of structural risks management
08/04/2015
Summary
•
•
•
•
•
•
•
Introduction.
The yield curve.
Intermediation activity and the ALM perimeter.
The schedule and gap principles.
Liquidity, interest rate and foreign exchange risks.
Fund transfer pricing.
ALM function regulation and organization.
7
II. Level 1 - Introduction to structural risks management
08/04/2015
Summary – 1st Part
• Introduction to structural risks and their management
–
–
–
–
Banking intermediation
2012
2013
2014
2015
2016
The bank balance sheet
Origins and impact of structural risks
Principles and tools for structural risks management
2011
2017
2018
• Liquidity risk and its management
–
–
–
–
–
–
Origins and impact of liquidity risk
Liquidity spread
Illustration: the 2007-2008 and 2009-2011 financial crises
Measuring liquidity risk: indicators
Managing liquidity risk
Regulatory guidelines regarding liquidity risk
8
II. Level 1 - Introduction to structural risks management
08/04/2015
Summary – 2nd Part
• Interest rate risk and its management
– Origins and impact of interest rate risk
– Interest rate risk illustrations
2011
2012
2013
2014
2015
2016
– First interest rate risk measurement: the interest rate gap
– Building the interest rate gap: illustrations
– Second interest rate risk measurement: sensitivity.
– Managing interest rate risk
– Fund transfer pricing
– Regulatory guidelines regarding interest rate risk
• Currency risk and its management
– Origins and impact of currency risk
– Scope and measurement of currency risk
– Managing currency risk
• How risk management is organised in a bank
– Regulatory guidelines and their transposition to banks
– The role of ALM within a bank
– The parties involved in risk management
2017
2018
9
III. Level 2 - Advanced practice for the management of structural risks
08/04/2015
Summary – 1st Part
• Reminders about the basics
– 2011
Reminders2012
on structural
risk 2014
2013
– Reminders about the yield curve
2015
2016
2017
• Scheduling of balance sheet items
–
–
–
–
–
Contract Maturities and modeling principle
Prepayments
Non scheduled deposits and modeling principles
Off Balance sheet commitments
Reserve requirements
– Overdrafts
10
III. Level 2 - Advanced practice for the management of structural risks
08/04/2015
Summary – 2nd Part
• Indicators and hedging of structural risks
– Interest rate risk
2011
2012
2013
2014
– Liquidity risk
– Fund Transfer Price
• External Regulation
2015
2016
2017
2018
• Special Cases: the shareholders' equity in the management of structural risks
– Definitions
– Group Principles on the reinvestment (re-investment) of Shareholders’ Equity
Case study: preparing and conducting of the ALM Committee
11
IV. Level 3 - Management of implicit and explicit options in ALM
08/04/2015
Summary
•
•
•
•
•
•
Part 1 - Modeling prepayments
Part 2 - Modeling of home-buyer's savings plan
2011
2012
2013
2014
2015
2016
2017
Part 3 - Review of the notions of convexity, duration and sensitivity
Part 4 - Pricing of a cap
Part 5 - Calculation of optional ITR
Part 6 - Value at Risk
2018
• Part 7 - Economic Capital required for the interest rate risk
12
08/04/2015
Illustrations
13
Banking intermediation
•
The fundamental role of a commercial bank is to:
– Raise funds from its customers (resources);
– Grant loans to various customers (uses).
– Examples:
deposits
salaries
•
This is a bank's intermediation role.
loans
14
The bank balance sheet
ASSETS
LIABILITIES
CUSTOMER
USES
CUSTOMER
RESOURCES
MARKETS
SHORT-TERM
FINANCING
Balance sheet
FINANCING
LONG-TERM
FINANCING
FIXED ASSETS
SHAREHOLDERS’
EQUITY
COMMITMENTS
GIVEN
COMMITMENTS
RECEIVED
MARKET
TRANSACTIONS
MARKET
TRANSACTIONS
Off-Balance sheet
15
Principles and tools for risk management
•
In order to guarantee that the Commercial Department receives its due share of the
margin, the bank has set up the ALM Department, which matches every customer loan
and every customer deposit at the market rate by going through the bank’s Treasury.
4.5% over
5 years
3% over
3 months
2% over 3 months
5% over
5 years
3% over 3 months
ALM Department
4.5% over 5 years
16
Principles and tools for risk management
•
Transformation and anti-transformation
– Two words with opposite meanings:
• Transformation: short-term resources of funding matched by long-term uses
• Anti-transformation: means borrowing long to lend short
• The transformation margin: is the gain realised on the difference between short
and long-term rates.
Transformation:
margin if the curve is positive
5
Anti-transformation:
margin if the slope is negative
3,9
3,8
4,5
3,7
3,6
4
3,5
3,4
3,5
3,3
3,2
3
3,1
2,5
3
0
1A
2A
3A
4A
5A
6A
7A
8A
9A
10A
11A
12A
13A
14A
15A
16A
17A
18A
19A
20A
0
1A
2A
3A
4A
5A
6A
7A
8A
9A
10A
11A
12A
13A
14A
15A
16A
17A
18A
19A
20A
17
Interest rate risk hedging
• Example 1: Hedging by term borrowings starting spot (if there is no swap market )
Limit = 1
A0
Interest Rate Gap
-
Sensitivity before hedging = -2.7
FR Interbank borrowing
FR Interbank borrowing
FR Interbank borrowing
Interest Rate Gap after hedging
A1
-
73
A2
-
67
100
100
100
-
27
33
A3
A4
A5
A6
A7
A8
A9
A10
-
56
-
45
-
45
-
28
-
7
19
-
33
-
-
56
-
45
-
45
-
28
-
7
19
-
33
-
Sensitivity after hedging = 0
40
Interest Rate Gap
Passifs
Interest Rate Gap after hedging
20
A0
A1
A2
A3
A4
A5
A6
A7
A8
A9
-20
-40
-60
A10
Sensitivity of an operation
of notional 100 and of maturity :
A1
1,0
A2
1,9
A3
2,7
A4
3,5
A5
4,3
A6
5,1
A7
5,8
A8
6,5
A9
7,1
A10
7,7
Actifs
-80
18
Building the liquidity gap: illustrations
•
Example: Fixed term loan falling due in 10 years (a kind of repayment loan with constant
payment intervals).
Constant payment amortisation profile
Y0
Y1
Y2
Y3
Y4
Y5
Y6
Y7
Y8
Y9
Y10
19
Building the liquidity
gap: illustrations
Liquidity
risk
Example: building a liquidity gap - Assets
450
Assets
400
Commitments given
Fixed assets
350
Indexed rate loans
FR loans
300
Securities
250
200
150
100
50
0
A1
A9
A8
A7
A6
A5
A4
A3
A2
A1
0
A0
•
20
Origins and impact of interest rate risk
 Market rate volatility.
Inversion of the
yield curve
6,00%
5,00%
Flattening of the
yield curve
Steepening of the
yield curve
4,00%
3,00%
2,00%
1,00%
ar
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4
3M
0,00%
21
Internal transfer rate
• Principle of notional backing within ALM
– Example with a loan customer.
ALM
Branch
Virtual Loan
same characteristics
as the loan customer
Client
Loan to the client
– Example with a client term deposit.
ALM
Branch
Virtual Placement
same characteristics
as the customer deposit
Client
Customer deposit
22
Internal transfer rate
• The internal transfer rate (ITR) intervenes in the interest margin breakdown :
– Example for a loan that the Branch performs with his client:
Markets
Treasury
Branch
ALM
Interes
Gross Margin
t
Net interest
income credit
ALM margin
Cash margin
MARKETS
REFUNDING
RATE
Client
ALM
REFUNDING
RATE
CUSTOMER
RATE
ITR
Margin = Sales
+ structure +
costs + Credit
costs Cost of
Equity ...
23
Internal transfer rate
•
Example 1: Indexed rate loan
Commercial margin:
1.1%
Liquidity: 0.4%
Customer rate
3M EURIBOR +
Margin : 3.5%
FTP 2.4%
3M EURIBOR: 2%
24
Internal transfer rate
• Example of calculation for a profile depreciable/amortizing profile? (non-linear).
amount
75
ITR 1 year
= 2.5%
ITR 2 years = 3.55%
ITR 3 years = 4.15%
ITR 4 years = 4.75%
ITR 5 years= 5%
1 year
Width W (years)
2 years
3 years
4 years
5 years
1
2
3
4
5
Height H (amount)
17.2
16.1
14.9
13.9
12.9
Area = W  H
17.2
32.2
44.7
55.6
64.5
ITR
2.5%
3.55%
4.15%
4.75%
5%
ITR  Area
0.43
1.14
1.86
2.64
3.22
Period
Sum ( ITR  Area)
= 4.34%
Sum ( Area)
25
Calculation of the sensitivity within SRC
• ALM has tried to approach the sensitivity formula for a variation of 1%.
• We can write that the value of a loan of a nominal 1 and of annual coupon C is equal (with a
single discount rate) to:
C
1
C 
1 
1



1



p
n
n
n
(
1

r
)
(
1

r
)
r
(
1

r
)
p 1
n
n
n
n

 (1 rnrn )
n
V (C , rn )  
• The change in value of the loan to an increase of 1% is written as:
V  V (rn , rn  1%)  V (rn , rn )
 V (rn , rn  1%)  1
• For a loan, we recall that if rates rise, its value decreases.
• The cash flows Gap represents the trades to be set up to immunize the position.
26
Calculation of the sensitivity within ALM
• If the trade to be set up is a loan and is not hedged, the entity will realize a gain if rates rise.
• To characterize this gain, we will write that the change in value of the loan must be positive and
will be calculated as follow :
 V  1  V (rn , rn  1%)  1 


rn
1
1
 1 


rn  1%  (1  rn  1%)n  (1  rn  1%)n
(rn  1%)  (1  rn  1%)n  rn  (1  rn  1%)n  rn  (rn  1%)

(rn  1%)  (1  rn  1%)n
(1  rn  1%)n  (rn  1%  rn )  1%

(rn  1%)  (1  rn  1%)n
(1  rn  1%)n  1
 1% 
(rn  1%)  (1  rn  1%)n



1%
1
 1 

rn  1%  (1  rn  1%)n 
27
Prepayment modelling:
• Step 1 - Calculation of the outstanding loan balance
• Step 2 - Calibration of the seasonality parameters by stratification
• Step 3 - Calibration of the parameters of seasoning by stratification
• Step 4 - Calibration of the dependence on interest rate
• Step 5 - Validation : consistency & predictive power
28
Step 2 - Modeling of the seasonality
 Stratification :
To avoid rate effect on seasonal coefficients, we sort the couples (i,t) of loan i and date t
in 10 divisions that we call “strate”.
 Prepayment rate by division
 Minimization
29
Step 4 – PP Dependence on interest rates
•
•
In theory, there is a level of interest rates at which all rational agents would have to
prepay. Thus we seek a function with a “threshold effect" to illustrate the
dependence of PP on interest rates.
Arctangent function with rate dependent coefficients
•
Minimization
30
Exercice
Sensitivity of the NAV
The NAV of the 5-year bond paying a 4% yield is the following :
Year
Rate
Cash Flow
Df « Rate"
Discounted Cash
Flow
Notional :
1
1,30%
4
0,987
3,9
100
2
1,60%
4
0,969
3,9
Coupon :
3
2,10%
4
0,940
3,8
4%
4
2,50%
4
0,906
3,6
5
2,80%
104
0,871
90,6
Total
105,8
Goal. Compute the NAV of the bond after an increase of the yield curve of 0.5%.
Step 1. Compute the new discount factors.
Year
Rate
Rate +0.5%
Cash Flow
Df « Rate+0.5%"
Notional :
1
1,30%
1,80%
4
0,982
100
2
1,60%
2,10%
4
0,959
Coupon :
3
2,10%
2,60%
4
0,926
4%
4
2,50%
3,00%
4
0,888
5
2,80%
3,30%
104
0,850
Total
Discounted Cash
Flow