Question

a) What is Asset Liability Management? Enumerate the roles and responsibilities of the various governance structures available to a bank with regard to its interest rate risk management. b) What is Interest Rate Risk? Mention and explain the various sources of interest rate risk in a typical banking book. c) A bank has the following balance sheet extract as at 31st March 2018. Using the table above, i) Calculate 1-year; (a) Rate Sensitive assets (RSAs) (b) Rate Sensitive Liabilities (RSLs) (c) 1-year re-pricing Gap of the bank ii) What is the gap ratio of the bank? iii) What is the impact of 2% increase in interest rate on the bank’s net interest income over 1-year period? iv) Suppose interest rate increase by 2.5% on assets and 2% on liabilities over the next 1-year. Calculate the cumulative impact on the 1-year Net Interest Income of the bank. Question 2 The Treasurer of Esabelle Company Ltd has forecasted that the company will have excess cash in the next 12 months and is therefore looking for a place to invest. As a treasury consultant advise the treasurer with regard to the following: a) The things to consider before investing b) The available Investment products on the Ghanaian financial market c) The various investment strategies he can adopt and considerations that should be made before adopting such strategies. Question 3 a) Explain what is meant by Bank Credit Creation and Cash Reserve Requirement b) Ansaba Bank Ltd received GHS 1m deposit from one of its trusted customers who had hidden the cash under his pillow since 1st July 2007 on 15 November 2017. The bank is required by law to keep 10 % of all its customer deposit with the Central Bank in a non-interest bearing current account. i) Calculate the maximum loan Ansaba Bank can grant with this loan if the bank does not keep any excess reserve ii) Suppose the number of banks in the economy is 5, how much loans can be created? What if the number of banks in the economy is infinite? iii) Explain two mechanisms the central bank can use to influence credit creation in the economy. iv) The Bank of Ghana’s Monetary Policy Committee (MPC) has reduced the Policy rate cumulatively by 300 basis points since the beginning of the year. Explain briefly the impact the reduction in the policy rate will have on the economy of Ghana. Question 4 a) The following extracts were taken from the Bank of Ghana websites as at 23rd June 2018: 91-Day Treasury Bill Rate-13.3251% Interbank Rate-16.23% Monetary Policy Rate-17% Using the above information and the new model, calculate the Ghana Reference Rate as at 23rd June 2018. The current Cash Reserve Requirement (CRR) is 10% and the industry agreed Cash in Vault (CIV) limit is 2%. b) The following extracts were taken from the balance sheet for the month ended 31st March 2018 for Bank XYZ which has been operating in Ghana for the past 20 years. Products Balances (GHS m) Customer Rate Personal Loans (Floating) 350 GRR + 5% Corporate Loans (Floating) 565 GRR+4% Time deposits(1yr maturity) 300 GRR-3% Savings 500 GRR-10% In addition the following data is available: 91-day Treasury bill rate is forecasted to reduce by 200bps over the next 1 year, whilst the Monetary Policy and the Interbank Overnight Rates are forecasted to decline by 300bps and 250bps respectively. i) State the various interest rates on the bank’s products. What is the Bank’s Net Interest margin? ii) Suppose the forecasted interest rates are true, calculate the impact on the bank’s net interest margin in the next 1 year. iii) Repeat (ii) assuming the bank is able to pass on only 50% and 75% of the rate change to its liability and assets customers respectively. iv) The bank’s internal funds transfer pricing to the Corporate Banking unit is 18.5%. At a management meeting held recently, the Corporate Director was not happy with the internal funding rate as he claims it is making pricing unprofitable. Do you agree with his complain? Explain your answer. a) What is Asset Liability Management? Enumerate the roles and responsibilities of the various governance structures available to a bank with regard to its interest rate risk management. b) What is Interest Rate Risk? Mention and explain the various sources of interest rate risk in a typical banking book. c) A bank has the following balance sheet extract as at 31st March 2018. Using the table above, i) Calculate 1-year; (a) Rate Sensitive assets (RSAs) (b) Rate Sensitive Liabilities (RSLs) (c) 1-year re-pricing Gap of the bank ii) What is the gap ratio of the bank? iii) What is the impact of 2% increase in interest rate on the bank’s net interest income over 1-year period? iv) Suppose interest rate increase by 2.5% on assets and 2% on liabilities over the next 1-year. Calculate the cumulative impact on the 1-year Net Interest Income of the bank. Question 2 The Treasurer of Esabelle Company Ltd has forecasted that the company will have excess cash in the next 12 months and is therefore looking for a place to invest. As a treasury consultant advise the treasurer with regard to the following: a) The things to consider before investing b) The available Investment products on the Ghanaian financial market c) The various investment strategies he can adopt and considerations that should be made before adopting such strategies. Question 3 a) Explain what is meant by Bank Credit Creation and Cash Reserve Requirement b) Ansaba Bank Ltd received GHS 1m deposit from one of its trusted customers who had hidden the cash under his pillow since 1st July 2007 on 15 November 2017. The bank is required by law to keep 10 % of all its customer deposit with the Central Bank in a non-interest bearing current account. i) Calculate the maximum loan Ansaba Bank can grant with this loan if the bank does not keep any excess reserve ii) Suppose the number of banks in the economy is 5, how much loans can be created? What if the number of banks in the economy is infinite? iii) Explain two mechanisms the central bank can use to influence credit creation in the economy. iv) The Bank of Ghana’s Monetary Policy Committee (MPC) has reduced the Policy rate cumulatively by 300 basis points since the beginning of the year. Explain briefly the impact the reduction in the policy rate will have on the economy of Ghana. Question 4 a) The following extracts were taken from the Bank of Ghana websites as at 23rd June 2018: 91-Day Treasury Bill Rate-13.3251% Interbank Rate-16.23% Monetary Policy Rate-17% Using the above information and the new model, calculate the Ghana Reference Rate as at 23rd June 2018. The current Cash Reserve Requirement (CRR) is 10% and the industry agreed Cash in Vault (CIV) limit is 2%. b) The following extracts were taken from the balance sheet for the month ended 31st March 2018 for Bank XYZ which has been operating in Ghana for the past 20 years. Products Balances (GHS m) Customer Rate Personal Loans (Floating) 350 GRR + 5% Corporate Loans (Floating) 565 GRR+4% Time deposits(1yr maturity) 300 GRR-3% Savings 500 GRR-10% In addition the following data is available: 91-day Treasury bill rate is forecasted to reduce by 200bps over the next 1 year, whilst the Monetary Policy and the Interbank Overnight Rates are forecasted to decline by 300bps and 250bps respectively. i) State the various interest rates on the bank’s products. What is the Bank’s Net Interest margin? ii) Suppose the forecasted interest rates are true, calculate the impact on the bank’s net interest margin in the next 1 year. iii) Repeat (ii) assuming the bank is able to pass on only 50% and 75% of the rate change to its liability and assets customers respectively. iv) The bank’s internal funds transfer pricing to the Corporate Banking unit is 18.5%. At a management meeting held recently, the Corporate Director was not happy with the internal funding rate as he claims it is making pricing unprofitable. Do you agree with his complain? Explain your answer.

Answer 1

a.) What is Asset Liability Management?

Answer : Asset Liability Management (ALM) It is a method to identify the risk faced by a bank/financial Institutions due to a mismatch between assets and liabilities either due to liquidity or changes in interest rates. Liquidity is an institution's ability to meet its liabilities either by borrowing or converting non liquid assets into liquid assets.

The concept of asset/liability management focuses on the timing of cash flows because company managers need to know when liabilities must be paid. It is also concerned with the availability of assets to pay the liabilities as they come due, and when the assets or earnings can be converted into cash. The asset/liability management process can be applied to different categories of assets on the balance sheet.

b.) What is Interest Rate Risk ?

Bank must pay interest on deposits, and also charges a rate of interest on loans. To manage these two variables, bankers track the net interest margin, or the difference between the interest paid on deposits and interest earned on loans. Assume, for example, that a bank earns an average rate of 6% on three-year loans and pays a 4% rate on three-year certificates of deposit. The interest rate margin the bank generates is 6% - 4% = 2%. Since banks are subject to interest rate risk, or the risk that interest rates increase, clients demand higher interest rates on their deposits to keep assets at the bank.

The Asset Coverage Ratio

An important ratio used in managing assets and liabilities is the asset coverage ratio which computes the value of assets available to pay a firm’s debts. The ratio is calculated as:

Asset Coverage Ratio = [(BV Total Assets - Intangible Assets) – (Current Liabilities - ST Debt Obligations)] / Total Debt Outstanding

where BV is short for book value, and ST is short term.

Tangible assets, such as equipment and machinery, are stated at their book value, which is the cost of the asset less accumulated depreciation. Intangible assets, such as patents, are subtracted from the formula, because these assets are more difficult to value and sell. Debts payable in less than 12 months are considered short-term debt, and those liabilities are also subtracted from the formula. The coverage ratio computes the assets available to pay debt obligations, although the liquidation value of some assets, such as real estate, may be difficult to calculate. There is no rule of thumb for what a good or poor ratio is, since calculations vary by industry.