| What is the goal or purpose of Asset/Liability Management (ALM)? |
| To ensure that the credit union's spread and pricing policies are sufficient over the full interest rate cycle to achieve capital goals and to avoid undue interest rate risk by managing the rate sensitivities of interest earning assets and interest bearing funding sources. |
Who is responsible for managing interest rate risk? |
| Ideally this would be the Asset/Liability Management Committee (ALCO). This would include at a minimum; the president/CEO, vice-president finance/CFO, and one or two members of the board of directors. |
How can interest rate risk (IRR) be measured? |
There are three methods as defined below:
- GAP: adding all interest earning assets that re-price or mature within a specified time frame and subtracting the interest bearing liabilities that re-price or mature in the same time period.
- Income Simulation: projecting income over a specified time frame and computing the change in income over rising and declining interest rate scenarios.
- Net Economic Value (NEV): computing the cash flows of all interest earning assets and interest bearing liabilities, then discounting or deriving a market value of these assets and liabilities. The result would state the impact changes in interest rates would have on equity.
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| Why should a credit union be concerned about interest rate risk? |
| Changes in interest rates can have a material impact on earnings and capital. A simple example is: A credit union has one 15 year fixed rate mortgage loan earning 7.00% that is funded with six month share certificates (SCs) currently paying a dividend of 5.50%. If interest rates rise in six months and the credit union increases the dividend rate on the SCs to 7.50%, interest expense would then be greater than interest income. |
