Bank Analysis School September 2023 - Presentations & Resources

SENSITIVITY TO MARKET RISK ACTIVITY

INSTRUCTIONS: Read the following report comment and then answer the questions below.

SENSITIVITY TO MARKET RISK – 3 Sensitivity to market risk is primarily limited to the impact of potential changes in market interest rates on earnings and capital. There is significant potential that the earnings performance and the capital position will be adversely affected in a rising rate environment, and current levels of earnings and capital may not adequately support the degree of interest rate risk present on the balance sheet. Management needs to improve practices related to measuring, monitoring, and controlling risk. Long-term assets represent a high 47 percent of total assets, primarily due to the very long- term securities portfolio which has a duration of more than 10 years. On the funding side of the balance sheet, short-term and highly rate sensitive time deposits and wholesale borrowings represent a high 57 percent of total assets. Management's reliance upon short term, highly rate sensitive liabilities to fund long-term securities contributes to the elevated interest rate risk exposure. Economic Value of Equity (EVE) results reflect the elevated long-term exposure to rising interest rates, as EVE is shown to decline substantially with increasing interest rates. Earnings at Risk measurements indicate there is also risk to rising interest rates over the short-term, with net interest income projected to decline in all rising rate scenarios over both one and two years. QUESTIONS:  What balance sheet changes could management make to reduce interest rate risk exposure?

 What assumptions could management change to get the model to showmore favorable results?

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