How much does a bank's asset-liability management (ALM) system fit into a bank's COVID-19 response strategy?

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16 March 2020
Cubillas Ding

How much does a bank's balance sheet asset-liability management (ALM) systems fit into a bank's COVID-19 response strategy?

Apparently a lot. And the short answer to that question is that it can determine how severe corporate, small business and personal financial balance sheets will be impacted. Let me elaborate.

As the number of cases of the Coronavirus (COVID-19) increases, the focus of companies must be on limiting the direct impact on employees and customers while also supporting efforts to limit the spread of the virus. The healthcare sector, airlines, travel firms, and supermarkets are experiencing the immediate impact, and face a huge challenge over the coming weeks to respond effectively to the emerging crisis.

Banks in particular, by virtue of their important intermediation role, sit at the hub of global, national and local enterprises to ensure the economic health and well-being of societies, employees and their clients. Against this backdrop, banks are already starting to see early impacts of COVID-19 as individual clients experience cash flow pressures. As the outbreak becomes more severe, banks will see covenant breaches, sharp increases in provisions, and falling investment demand. All on top of the pre-existing commercial challenges for banks brought about by low interest rates.

I am currently working on a series of reports on balance sheet and asset-liability management technology for financial institutions. That may initially seem a little far away from the grave (and growing) alarm that is characterizing governments, markets and citizens; but how and where banks make decisions on their client relationships (e.g. associated with corporate lines of credit, business loans or retail mortgages, etc) will be dependent on the quality of the information modelled and produced from a bank's multitude of risk systems, including their ALM, liquidity, credit risk, market risk and stress testing IT applications. These applications are employed to generate regular, business-as-usual reports to steer daily and monthly decisions, and to deliver to regulatory reporting obligations across finance, treasury, risk and frontline business units.

COVID-19, of course, is not a business-as-usual situation. From a balance sheet risk and asset-liability management (ALM) standpoint, this will test the organization's capabilities to be responsive and agile, which in turn is also dependent on a bank's balance sheet risk management infrastructure -- in terms of the fidelity of data, adaptability of modeling activities, and the sophistication of the balance sheet 'information ecosystem' to be able to dynamically simulate the state of financial affairs on a forward-looking basis (which are among the factors that characterize state of the art ALM and balance sheet management solutions in our upcoming technology study). You could say that this COVID-19 scenario could turn out to be the 'ultimate killer app' that could make, break or confirm the perception of efficacy associated a bank's enterprise risk management infrastructure (figuratively speaking).

However, the real acid test for banks will not be around developing capabilities, but the agility by which they can divert their resources from already existing books of work. This will not merely be a test for individual banks but the financial ecosystem as a whole, including supervisors and other market players, who need to work together closely to ensure stability of the financial system.

Practically speaking, sound decisive actions from regulators and individual banks under their supervision are very much needed in the coming months. Banks (and other companies) should be evaluating their financial outlook, modelling supply and demand across a number of scenarios, identifying potential interventions and contingency plans for subsequent impacts and/or sustained challenges (e.g. strategies for managing variable costs, cash flow, liquidity).

In a bank's context, based on perspectives by Oliver Wyman, the following actions apply (as a minimum):

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Asia-Pacific, EMEA, LATAM, North America