Asset Liability Management Tool – Price Sensitive Gap

The first Asset Liability Management Tool that we will look at is the Price
Sensitive Gap report. The report evaluates the impact on the economic value of
balance sheet items of shifts in a given term structure.

Step 1: Slot each asset and liability item of the balance sheet into their
respective maturity buckets.

Step2: Calculate the marked to market value of each item on the revaluation
date. This is will be denoted as the initial market value.

Step3: Recalculate a new marked to market value assuming shifts in the

underlying term structure.

Step4: Calculate the difference between the initial and new market values (and
the % change in the market value) to assess the gain or loss resulting from a
shift in the term structure.

Asset Liability Management Tool – Liquidity Gap

The liquidity gap report which evaluates the liquidity gap and assesses the
overall concentration of assets and liabilities across the maturity buckets.

The methodology followed is similar to rate sensitive gap however, here the
focus is on liquid assets and liabilities rather than rate sensitive assets and
liabilities.

Asset Liability Management Tool – Net Interest Income (NII) at Risk

The NII at risk report shows the impact of interest rate shocks on cumulative
gaps for on-balance sheet and off-balance sheet items for different maturities.
These gaps are as calculated for the Rate Sensitive report.

Asset Liability Management Tool – Duration Gap Analysis

The vulnerability of an institution towards the adverse movements of the

interest rate can be gauged by using the duration GAP analysis. This is carried
out using the following procedure:
Step 1:    Identify Interest rate sensitive assets and liabilities. Additionally, non –
interest rate bearing items can also be included in the calculation.

Step 2: Calculate the MTM value for all the rate sensitive assets.

Step 3: Calculate the MTM value for all the rate sensitive liabilities.

Step 4: Calculate the duration for each asset and liability of the on-balance
sheet portfolio. This is calculated using Macaulay Duration.

Step 5:    Calculate the aggregate weighted average duration of assets and

liabilities.

 Weighted Average Duration of Assets (DA) = åWaDa

 Weighted Average Duration of Liabilities (DL) = åWlDl
Where,

W a = market value of the asset ‘a'(MTM) divided by market value of all the assets
(Net MTM)

W l = market value of the liability ‘l'(MTM) divided by the market value of all the
liabilities (Net MTM)

Da = duration of asset ‘a’

Dl = duration of liability ‘l’

Step 6:    Calculate the duration GAP using the following formula:

DGAP = DA – DL * MVL/MVA

Where,

DA is the weighted average duration of assets,

DL is the weighted average duration of liabilities,

MVL is the total MTM of liabilities,

MVA is the total MTM of assets.

Step 7:    Calculate the change in the market value of equity for a Di % rise in
interest rates.

This is approximated using the following formula:

DMVE @ (-DGAP) * Di * MVA / (1 + y)

Where,

Di = The change in the interest rate,

y = The effective yield to maturity of all the assets.