Balance sheet risks: What they are and how to address them
Banks and credit unions face a seemingly never-ending array of financial risks, as shown by the pandemic, subsequent inflationary pressures, and the fastest increase in interest rates in more than 30 years.
As a result, regulators are keenly focused on how unexpected circumstances can affect financial institutions’ balance sheets. They continue to highlight—in exams and commentary— the risks to financial resilience —the importance of sufficient capital and asset/liability management (ALM) to ensure adequate liquidity.
“We’re not going to get rid of risk,” notes Dave Koch, Director of Advisory Services at Abrigo. “And we don’t want to get rid of risk. In fact, we make money by taking risk.”
Good asset/liability management, he says, “is knowing how much risk do we take.”
Banks and credit unions that use their ALM models to manage risk and plan strategically will generate sustainable earnings that allow them to maintain capital to grow, add shareholder return, or continue bringing value to their communities in other ways. And as interest rates decline, asset/liability committees (ALCOs) that utilize ALM strategically will have an advantage over competitors because they will be able to make data-backed decisions.