Asset And Liability Management (ALM)

In most of the bank's assets and liabilities management aims to manage interest rate risk on bank balance sheets and ensure that the interest rate risk inherent in the bank's business does not disturb the stability of bank earnings.
Source of bank income is reflected from the Net Interest Income is the difference between lending rate and interest rate funds. Current Value / Net Present Value of the NII is the main contributor of the goal to stabilize the NII can be said also to stabilize the business value (this description commonly used in America).
The emphasis of a bank on both goals often depends on accounting management conducted → whether the report reflects the bank's management primarily from income or value. Management accounting consists of a reporting structure based on financial information that reflects the way the business at the bank management. On the other hand reports as provided by law like the report Income statement and balance sheet must be in accordance with the standards and laws of national accounting standards. Management accounting, are often influenced by the standards of financial reporting where the bank stands.
The main risks that can occur in ALM are: interest rate in the banking book and liquidity risk.

Interest Risk in the Banking Book
Banking book market risk: the risk of losses faced by banks to changes in market prices as a result of the bank's business structure, such as: activity and accumulation fund loans.
Interest rates in the banking book: the risk of loss due to changes in interest rates, generally the result of the bank conducted business with commercial and retail customers.
Interest risk in the banking book are not tercover in detail on Basel II. But in July 2004, a month after the Basel Committee published the "International Convergence of Capital Measurement and Capital Standards: a Revised Framework", Basel Committee published the "Principles for the Management and Supervision of Interest Rate Risk".

Activities assets and liabilities management
ALM is not just to manage risk and stabilize the business value, but also:
- Maintaining the desired liquidity structure of the bank's business
- Other things that may affect the shape and structure of bank balance sheets
- Things that can affect the stability of income every time
There are many things that can cause it needs a balance between structure and form of a bank's balance sheet, where it is a lot to do with the problems caused by international banks that have a capital structure that is dominated by the currency of their country, but income and assets and the form of eye pasivanya Other money. This led to foreign exchange risk to the bank earnings.
ALM managers should be aware that:
- Balance of a commercial bank does not consist of assets and liabilities are stable (because there are deposits and new loans or maturing)
- Repricing assets and liabilities on the bank's balance sheet is not always contractual (often there is a significant time difference between the market price changes and changes in interest rates applied to customers)
- Almost no correlation between retail product and wholesale prices to assess the assets and liabilities (a lot of marketing issue, which affects the assessor retail product but does not affect wholesale products)
- Retail products often things that are not rational (retail customers often have the right to decide the contract in different conditions than the wholesale market)
Some of the reasons why commercial banks with a number of retail customers are more difficult to manage the form and structure of its balance sheet, such as:
- Commercial banks usually consider good relations with customers, not only based on just kontral → customer focused
- Features of retail products are often different from the wholesale products that are hard to sell products in the wholesale market or difficult to manage risks by using wholesale products

The Nature Of Treasury Risk

Treasury Risk is defined as the risk of loss on the bank treasury activities that depend on the risk management function of the treasury itself. Generally include the role of treasury risk management such as interest rate risk in the banking book and liquidity risk.

In practice includes treasury functions of the bank's trading activities themselves, so it is excluded in the definition of treasury risk. At some banks trading activities divorced from financing activities and liquidity management. Treasury model is called the 'Corporate Treasury'.

Actual role of the Treasury (although if the treasury is not included in trading activity) depends on the business model does. Example: Treasury may also manage the risk as the exchange rate risk from subsidiaries abroad, both in the profit and loss and capital management.

So that the Treasury can manage the risks, but the discussion was:
- Interest rate risk in the banking book → form of market risk in the banking book of the most common
- Liquidity Risk
- Management of capital / Capital Management

Mark to Market Process

Because the trade position is always changing all the time, it is important that the bank's senior management has clear procedures regarding the mark-to-market traders to monitor performance.

Mark-to-market is a daily process in which a department (which is independent from the traders), obtain and verify the market price for all instruments in the trading book. For markets where trading is done directly with the opposition, closing price obtained from brokers active in the market, independent of the bank and find out current market price.

Some prices can be obtained from the official fixing rates such as LIBOR is determined daily (by the British Bankers' Association in London). This rate is used as a reference for many derivatives contracts as well as historical analysis.

In addition to brokers and official fixing, closing rates for some instruments obtained from official exchanges. Example:
- The closing price of shares determined by the stock exchanges where the shares traded.
- Futures contracts and options for future trading at future exchanges around the world. Each stock's closing price of each set should be used to re-evaluate all positions. Futures contracts are traded for interest rates, foreign exchange, bonds, komodiri, energy and stock index.

Procedure mark-to-market procedure consists of finding and verifying the price and put it into the bank revaluation system. The system will calculate the value of each instrument to be recorded on the bank's balance sheet. Current replacement value is also called value because they reflect the value that will pay the bank if the bank intended to make transactions at current market prices. Often the system also calculates the current risk positions resulting from the instruments which were revalued, or can be produced by a system of its own risks.

Current value of a transaction is used for:
- The calculation of profit - and loss - by comparing current values against original values
- The calculation of counterparty credit risk - by analyzing the current values of all transactions with the same counterparty (see chapter 2)
- Calculation of collateral for OTC transactions - count the current value of the instrument which is used as collateral to ensure that collateral mencover exposures from counterparty
- Margin calls by future exchanges are based on current market value. 'Margin' is the same as collateral payments on OTC transactions
- Cash settlement instruments - the end of the market value is used to complete the transaction with the counterparty

Option Pricing

Option pricing is based on the probability of an option will have value at maturity. The main key of the option value is:
- Compare the strike price with the current market price. If the same, diekspektasikan option has a chance to 50% diexercise, because there are equal chances whether the exchange rate or an increase on the due date
- Term time. The longer the period the higher the premium because the longer time required by the option to have value. The longer period of time → higher risk
- Market price volatility. The more volatile the market price of the higher premium.

Strike price and option period chosen by the buyer. Volatility is a statistical calculation can be obtained from the historical price movements. Since the history data is not always a good predictor for the future, the expected volatility using market rates. Bervaraisi depending Volatilitias maturity and described as a curve with the same period as the yield curve.

Bonds, Equities, Commodities and Foreign Exchange

- Bonds, stocks, spot foreign exchange and commodity spot judged by the difference between the original value of the traded market price at the moment.
- Forward was created by adjusting the current spot rate with the corresponding forward margins. The average margin can be calculated by the following formula:

Forward margin = Spot x Interest Differential x Time / (Days in year x 100)

o Interest Differential is the absolute difference between the base currency with foreign currency
o Time is a period of time (in days)
o Days in year = 360

- Forward margin:
actively traded on the interbank market
have quoted the standard margin for the period as the yield curve
Margins for the period in addition to the standard is obtained by interpolation
Forward assessed by comparing the original margin of the current margin.