Repricing Model
Interest Rate Risk Management
•
The Repricing Model
A simple balance sheet has been classified for a 6 month maturity bucket below:
Assets
Rate Sensitive Assets
(RSAs)
Fixed Rate Assets
(FRAs)
Nonearning Assets
(NEAs)
Total
$100
$200
Liabilities
Rate Sensitive Liabilities
(RSLs)
Fixed Rate Liabilities
(FRLs)
$ 50
$250
$ 40
Equity
$ 40
$340
Total
$340
1. Classify each asset on the balance sheet as either:
RSA
FRA
NEA
2. Classify each liability/equity account:
RSL
FRL
Equity
3. Group assets and liabilities into the following groups:
RSAs financed by RSLs
FRAs financed by FRLs
NEA financed by Equity
Gap: Positive dollar RS Gap: Indicates that excess RSAs financed by remaining FRLs
Negative dollar
RS Gap: Excess FRAs financed by remaining RSLs
The leftovers:
Whatever is leftover financed by equity OR Equity financing whatever is leftover
This analysis highlights the idea that the quantity of interest rate risk depends upon the size of the gap.
4. Calculate the average annual % rate of return on each asset category and the average annual % cost rate on each liability category and then calculate the spreads. Spreads are the difference between the income rate and the cost rate per dollar invested in the category.
5. Calculate the dollar contribution to profit from each category as the product of the amount times the spread.
6. Add up the profits. The banker is now in a position to both understand the major sources of profitability and compare pricing with other institutions. One can also easily forecast changes in profitability for various projected changes in interest rates.
Cumulative GAP and Spread Effects:
Dollar GAP
Spread Effect
R
Direction of NII
Positive
Positive
Increase
Increase
Negative
Increase
Ambiguous
Positive
Decrease
Ambiguous
Negative
Decrease
Decrease
Negative
Positive
Negative
Positive
Negative
Increase
Increase
Decrease
Decrease
Ambiguous
Decrease
•
The Repricing Model
A simple balance sheet has been classified for a 6 month maturity bucket below:
Assets
Rate Sensitive Assets
(RSAs)
Fixed Rate Assets
(FRAs)
Nonearning Assets
(NEAs)
Total
$100
$200
Liabilities
Rate Sensitive Liabilities
(RSLs)
Fixed Rate Liabilities
(FRLs)
$ 50
$250
$ 40
Equity
$ 40
$340
Total
$340
1. Classify each asset on the balance sheet as either:
RSA
FRA
NEA
2. Classify each liability/equity account:
RSL
FRL
Equity
3. Group assets and liabilities into the following groups:
RSAs financed by RSLs
FRAs financed by FRLs
NEA financed by Equity
Gap: Positive dollar RS Gap: Indicates that excess RSAs financed by remaining FRLs
Negative dollar
RS Gap: Excess FRAs financed by remaining RSLs
The leftovers:
Whatever is leftover financed by equity OR Equity financing whatever is leftover
This analysis highlights the idea that the quantity of interest rate risk depends upon the size of the gap.
4. Calculate the average annual % rate of return on each asset category and the average annual % cost rate on each liability category and then calculate the spreads. Spreads are the difference between the income rate and the cost rate per dollar invested in the category.
5. Calculate the dollar contribution to profit from each category as the product of the amount times the spread.
6. Add up the profits. The banker is now in a position to both understand the major sources of profitability and compare pricing with other institutions. One can also easily forecast changes in profitability for various projected changes in interest rates.
Cumulative GAP and Spread Effects:
Dollar GAP
Spread Effect
R
Direction of NII
Positive
Positive
Increase
Increase
Negative
Increase
Ambiguous
Positive
Decrease
Ambiguous
Negative
Decrease
Decrease
Negative
Positive
Negative
Positive
Negative
Increase
Increase
Decrease
Decrease
Ambiguous
Decrease