Industry's Losses Prove Sound ALM Judgment Cannot Be Overlooked
Bowers is vice president of client services at Charlotte, N.C.-based ZM Financial Services Inc., which offers asset-liability management solutions for credit unions, banks, broker-dealers, mortgage lenders and real estate investment trusts. The financial analyst spoke on everything from defining interest rate risk to the changing scope of net economic value.
"Liquidity clearly still remains an issue. The component to interest rate risk is a four-legged stool," Bowers said. "I should be asking, 'Am I looking at all levels of exposure?'"
That interest-rate risk stool consists of repricing, embedded options, basis and yield curve risks. Bowers said basis risk, which is offering rates between assets and liabilities at the same term point on the curve changed by different amounts, "can be a crucial oversight" by many financial institutions.
If threats occur that may hint at a change in market rates, it may adversely imbalance asset and liability cash flows, Bowers said. There could also be a reduction in near- or long-term net income and impair liquidity if asset values depreciate.
Bowers said some components of sound ALM discipline include concentration limits on investments and borrowings and report verifications. In other words, "Is the board being properly and regularly informed on actual exposures?"
"One of the common questions I hear is 'How do I get my board to wrap their hands around this?'" Bowers said, referring to a credit union or bank's board of directors' governance of interest-rate risk. "Examiners do not validate ALM models. The board has to set an appetite for the amount of risk they want to be in."