Q1: List main components of the balance sheet and give examples.
Which is the most important com
Ans: (slides 4-14)
This item, advances- loans and leases
yields a fixed income to the banks.
Assets
1. Cash & balances with SBV
2. Balances with banks; money at call
and short notices
3. Investments The third item compresses both the ti
4. Advances deposits. Deposits are the debts of th
customers.
5. Fix assets They are the main source from which
6. Other assets funds for investment and are indirect
income. By keeping a certain percent
demand deposits in cash the bank len
amount on interest.
les. Which is the most important component on the asset side and which one on the liability side? Explain why

Liabilities & Equities

1. Capital

2. Reserves & Surplus

3.third
The Deposits
item compresses both the time and demand
deposits.
4. Borrowings are the debts of the bank to its
Deposits
customers.
5. Other
They are theliabilities
main source from which the bank gets
funds for investment and are indirectly the source of its
income. By keeping a certain percentage of its time and
demand deposits in cash the bank lends the remaining
amount on interest.
ility side? Explain why.
Q2: It is said that ALM in banking is a Liability driven process. Discuss the reason

Ans: Definition: It is “a risk management technique designed to earn an adequate return while maintaini
beyond liabilities. It takes into consideration interest rates, earning power and degree of willingness
surplus- management”.

Objectives of ALM:
The broad objectives of the ALM Policy are profit planning, organizing, controlling of assets % liabiliti
yield.. to maintain liquidity .
Additionally, it also concerns about interest risk management, FOREX risk management, equity risk m
risk management. .

 ALM implementation process:

1. Decide on interest rate and product pricing on both assets and liabilities and to optimize Net Inte
Income (NII) and mix of incremental Assets and Liabilities.
2.Measure and monitor liquidity risks, interest rate risk, currency risks,operational/trading risks and

3.Decide on the funding mix (Fixed or floating rate funds, wholesale or retaildeposits, money marke
or foreign currencyfunding).

4. To decide maturity profile of assets and liabilities.

5.To permit and monitor the use of derivative instruments to manage risks, inaccordance with applic

https://www.linkedin.com/pulse/asset-liability-management-etinosa-aca-acfe-amscce-clrmp-ifrs-cert
 return while maintaining a comfortable surplus of assets
d degree of willingness to take on debt. It is also called

olling of assets % liabilities - volumes, mixes, maturities,

anagement, equity risk management and commodity price

nd to optimize Net Interest Margin (NIM) / Net Interest

tional/trading risks and equity price risk.

deposits, money market or capital market funding, domestic

naccordance with applicable regulatory norms and guidelines

mscce-clrmp-ifrs-cert
Q3: Why is capital reserve important? Under Basel Accord, explain the difference between Tier 1 &

Ans: A capital reserve is an account on the balance sheet to prepare the company for any unforeseen events like inflati
As an example, we can talk about profit on the sale of fixed assets, profit on a sale of shares, etc.

* It works in quite a different way. When a company sells off its assets and makes a profit, a company can transfe
*Since a company sells many assets and shares and can’t always make profits, it is used to mitigate any capital los
*It has nothing to do with trading or operational activities of the business. It is created out of non-trading activiti
*Another thing that is important is nature. It is not always received in the monetary value but it is always existent

Tier 1
The primary funding source of the
bank- Core Captial

Consists mainly of share capital and

disclosed reserves.

Under the Basel Accord, a bank has to maintain a certain level of cash or liquid assets as a ratio of its ris
of three sets of banking regulations that help to ensure financial institutions have enough capital on ha
capital adequacy ratio (CAR) to define these holdings for banks. Under Basel III, a bank's tier 1 and tier
assets. Basel III increased the requirements from 8% under Basel II.

In 2019, under Basel III, the minimum total capital ratio is 12.9%, which indicates the minimum tier 2 ca
1 capital ratio. Assume that same bank reported tier 2 capital of $32.526 billion. Its tier 2 capital ratio fo
= 2.62%. Thus, its total capital ratio was 16.8%(14.18% + 2.62%). Under Basel III, the bank met the mini
https://www.wallstreetmojo.com/capital-reserve/
ifference between Tier 1 & Tier 2. Give examples

or any unforeseen events like inflation, instability, need to expand the business, or to get into a new and urgent project.
ale of shares, etc.

es a profit, a company can transfer the amount to capital reserve.

t is used to mitigate any capital losses or any other long-term contingencies.
created out of non-trading activities and thus it can never be an indicator of the  operational efficiency of the business.
etary value but it is always existent in the book of accounts of the business.

Tier 2

Supplementary Capital.
Including revaluation reserves, hybrid
capital instruments and subordinated
term debt, general loan-loss reserves, and
undisclosed reserves.
Less reliable than Tier 1

h or liquid assets as a ratio of its risk-weighted assets. The Basel Accords are a series
tutions have enough capital on hand to handle obligations. The Accords set the
er Basel III, a bank's tier 1 and tier 2 assets must be at least 10.5% of its risk-weighted

ch indicates the minimum tier 2 capital ratio is 2%, as opposed to 10.9% for the tier
526 billion. Its tier 2 capital ratio for the quarter was $32.526 billion / $1.243 trillion
er Basel III, the bank met the minimum total capital ratio of 12.9%.
gent project.

he business.
Q4: List the 7 sources of Interest rate risk and give example on each of them.
Ans:
Source

1 Gap risk

2 Basis risk

3 Net interest position risk

4 Embedded option risk

5 Yield curve risk

6 Price risk

7 Reinvestment risk
ive example on each of them.

Example

RSA<RSL
 4-year 8.50%
1-year 4.50%
Spread 4.00%

a. What is the bank's one year gap? RSA 0

RSL $ 10,000
$GAP $ (10,000)

b. What'd happen to bank's balance sheet if Interest rate rises/falls in 1 year?

* If interest rate rises, the NII will fall and vice versa
Q6:
Assets Yield Liabilities Cost
Rate sensitive $ 500 8% $ 600 4%
Fixed rate $ 350 11% $ 220 6%
Non earning $ 150 $ 100
$ 920
Equity
$ 80
Total $ 1,000 $ 1,000

NII $ 41.30
NIM 4.9%
GAP $ (100)
Q7

Chang in Interest Change in Interest

GAP Interest rate Income In relation with Expense
Positive Increase Increase > Increase
Positive Decrease Decrease > Decrease
Negative Increase Increase < Increase
Negative Decrease Decrease < Decrease
Zero Increase Increase = Increase
Zero Decrease Decrease = Decrease
Change in
NII
Increase
Decrease
Increase
Decrease
None
None
 1-14 days 15-28 days 30days-3m 3m-6m 6m-1y 1y-3y
Capital
Liab-fixed int 100 300 300 600 600 300
Liab-floating int 650 450 350 550 700 450
Others 50 0 50

Total outflows 800 750 650 1200 1300 750

Investments 300 250 250 400 300 100

Loans-fixed int 50 0 0 100 150 150
Loans-floating int 250 350 400 350 350 150
Loans BPLR 20 50 200 300 350 500
Linked others 50 0 0 30 0 0

Total inflows 670 650 850 1180 1150 900

Gap -130 -100 200 -20 -150 150

Cumulative Gap -130 -230 -30 -50 -200 -50
Gap % to Total -16.25% -13.33% 30.77% -1.67% -11.54% 20.00%
Outflow
3y-5y Over 5y Total
300 300
200 200 2600
450 450 4050
0 200 300

650 850 7250

350 300 2250

100 500 1050
150 50 2050
100 100 1620
0 200 280

700 1150 7250

50 300 0
0 300 300
7.69% 35.29% 0.00%