Liquidity Risk - Bank Management - Lecture Slides, Slides of Banking and Finance

Download Liquidity Risk - Bank Management - Lecture Slides and more Slides Banking and Finance in PDF only on Docsity! Liquidity Risk Docsity.com Accounting Ratios in Liquidity Management • Loans and Advances to Total Assets. • Desirable maximum level from the liquidity management angle – 60% to 65%. • Implications • If greater than desirable, bank’s funds could be over tied-up in loans and advances. • Liquidity position would be comfortable when banks hold within the desired limits. Docsity.com Accounting Ratios in Liquidity Management • Bank liabilities without deposits to total assets. • All liabilities except customer deposits – Proceeds of rediscounting of bills/ instruments – Refinance funds – Inter bank call money borrowings • Desirable maximum level from the liquidity management angle – 10% to 15% • Implications • Indicates the temporary source of fund for the bank. • High level may indicate excessive dependence on this source for managing the assets. Docsity.com Accounting Ratios in Liquidity Management • Cash Ratio • Cash and balances with RBI / other banks and short term investments to total liabilities. • Desirable minimum level from the liquidity management angle – 30% to 40% • Implications • Safety signal for the banks. • Very high holding would reduce profitability. Docsity.com Accounting Ratios in Liquidity Management • Loan losses to net loans. • Desirable maximum level from the liquidity management angle – 1% to 2% • Implications • Indicates the quality of assets held by the banks. Docsity.com Portfolio return (mean) Rr Sharpe Ratio Efficient Frontrier with a risk- free asset Efficient Frontier with only risky assets Portfolio risk Docsity.com Sharpe Ratio • In the absence of capital-adequacy requirements or market imperfections, banks optimally choose their exposures to banking activities so that they are on the efficient frontier. • This assumes that banks have complete information about the risks and return characteristics of their activities and that deviations of bank portfolios from the efficient frontier are not caused by errors resulting from an incomplete information set on the part of banks. Docsity.com Sharpe Ratio • The higher the ratio, the better the return per unit of risk taken. • A Sharpe ratio of 1:1 indicates that the rate of return is proportional to the risk assumed in seeking that reward. Docsity.com Liquidity Management (Example) With 10% desired reserve ratio, bank will have no reserves. Hence change in balance sheet position is necessary for the bank. Reserve Requirement 10%Excess Reserves 0 Assets Liabilities Reserves 10 million Deposits 100 million Loans 90 million Bank Capital 10 million Securities 10 million Deposit outflow of  10 million Assets Liabilities Reserves 0 million Deposits 90 million Loans 90 million Bank Capital 10 million Securities 10 million Docsity.com Liquidity Management (Example) Possible alternatives of changing the balance sheet for the bank 1. Borrow from other banks or corporations Assets Liabilities Reserves 9 million Deposits 90 million Loans 90 million Borrowings 9 million Securities 10 million Bank Capital 10 million 2. Sell Securities Assets Liabilities Reserves 9 million Deposits 90 million Loans 90 million Bank Capital 10 million Securities 1 million Docsity.com Liquidity Management (Example) Possible alternatives of changing the balance sheet for the bank 3. Borrow from Market Assets Liabilities Reserves 9 million Deposits 90 million Loans 90 million Debt 9 million Securities 10 million Bank Capital 10 million 4. Call in or Sell off Loans Assets Liabilities Reserves 9 million Deposits 90 million Loans 81 million Bank Capital 10 million Securities 10 million Docsity.com