Bank Analysis School September 2023 - Presentations & Resources

APPENDIX F – HOW ECONOMIC VALUE OF EQUITY WORKS

Volatility is a function of duration . Longer-term = greater changes in economic value.

Assets

Liabilities

For assets and liabilities, economic value will drop with rising rates

Economic value of liabilities declines because these are more valuable in relation to new higher-cost products (since equity is calculated as assets minus liabilities, a reduction in the volume of liabilities results in a higher amount of equity)

Rates ↑

Assets become less valuable compared to new higher-yielding products.

For assets and liabilities, economic value will rise with falling rates

Rates ↓

Assets are more valuable when rates decline because new products are lower-yielding.

Economic value of liabilities increase because these are less valuable compared to new lower-cost products.