Managing Liquidity and Stress Testing

Arizona AFP, May 18, 2016

Brian Peterson, CTP
Treasury Strategist, Arizona Federal Credit Union
 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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 My Background
• Arizona Native

• Chess Champion

• Favorite Game: Acquire

• Newly Created Positions

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 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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ALM = Balance Sheet Management
• Adequate earnings in changing interest rate
environments (Managing Risk).

• Stable or increasing net interest margin.

• Adequate liquidity.

• Acceptable level of net worth.

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 ALM Policy Design
• Pros/Cons of one versus multiple policies.

• Static versus Dynamic Metrics.

• Asset Liability Committee (ALCO).

• Board Presentations and Minutes.

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 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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 Interest Rate Risk (IRR)
• Impact on earnings and net worth from
changes in interest rates.

– Timing differences in asset and liability repricing.

– Prepayments and rate caps.

– Unexpected changes to the yield curve.

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 IRR Metrics
• Earnings at Risk (EaR)
– Instantaneous Rate Shocks (i.e., +/- 300 bps).
– No more than 15% changes to earnings.

• Net Economic Value (NEV) at Risk

– Incorporates all cash flows over estimated life of
all balance sheet positions.
– No more than 30% changes to NEV.

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 Interest Rate Sensitivities
• GAP Ratio = Rate Sensitive Assets/Rate
Sensitive Liabilities.
• Deposit pricing and sensitivity assumptions
are critical.
• > 1 = Assets are more sensitive than liabilities.
Revenues likely to increase as interest rates
increase.
• < 1 = opposite of the above.

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 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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 Liquidity Risk
• Regular monitoring of

– Current and future cash flows.

– Balance Sheet Mix.

– Borrowing Capacity.

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 Increasing Liquidity
• Increase deposit balances.

• Increase available credit lines.

• Sell assets, including investments and loans.

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 Key Liquidity Ratios
• Borrowed Lines/Total Assets < 15%

• Total Loans/Total Assets < 60%

• Total Loans/Total Deposits < 80%

• Total Deposits/Total Assets > 60%

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 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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Contingency Funding Plan for Risk of Crisis

• Sufficient funding available in crisis situations.

– Inability to fund asset growth.

– Inability to renew or replace liability funding.
– Unexpected deposit withdrawals.
– Market value changes to certain asset classes.
– Operational or local disasters.

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 Liquidity Severity Levels
• Strong (Level I)

• Adequate (Level II)

– Short Term Funding Event

• Weak (Level III)

– Long Term Moderate Funding Crisis Developing

• Critical (Level IV)

– Long Term Severe Funding Crisis

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 Stress Test Scenarios
• Deposit Runoff

• Prepayment Speeds

• Interest Rate Shock

• Available Borrowing Lines

• Increased Loan Defaults

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 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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 Concentration Risk
• Risk of a significant loss due to concentrating
entirely on one or a few issuers, or concentrating
on a single type of investment or loan product.
– Asset Classes.
– Member Business Loans (MBLs).
– Loan Participations.
– Loans to single borrower.
– Investments with high credit risk (i.e., private label).

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 Concentration Risk Limits
% of Assets or multiple of Net Worth
• Auto Loans
• 1st Mortgage Loans
• 2nd Mortgage and HELOC
• Unqualified Mortgage Loans
• Unsecured Loans
• Credit Cards

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 Agenda
1. My Background
2. Asset Liability Management
3. Interest Rate Risk
4. Liquidity Risk
5. Contingency Funding Plan
6. Concentration Risk
7. Q&A

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