While reports using immediate and permanent rate shock fill a regulatory need, they are not very useful or don’t provide much insight for the bank or credit union. Rates change over time and not all rates move by the same amount or in some case in the same direction, and their impact on the balance sheet, income statement, and economic value of equity (EVE) can be difficult to discern.
For example, if an institution has a $1 million bottom line in a flat-rate environment and interest rates run up 20 or 30 bp over the course of a year, will I see what’s happening if I run a one-year forecast? Not really. I need the ability to look out two or three years to see what the full impact of those rate changes might be. What if the rates moved differently than this? I need the ability to run a forecast that shows what would happen in multiple environments with different interest rate changes and different shapes of yield curves so that no matter how interest rates unfold there is a level of comfort that the results will be within the different rate environments that have been run.
Another example of how a balance sheet and income statement alone are insufficient to provide helpful insight would be the impact of Paycheck Protection Program loans on financial institutions. Banks and credit unions are making those loans and collecting the fees, but those PPP loans are not impacting those financial institutions much right now. But if those loans are not forgiven, wouldn’t it be helpful to see the impact on the income statement and balance sheet?
Several reports in your ALM model can provide valuable insight that will help assess the impact of changes before they hit the balance sheet or income statement. An institution can use these reports to give the management and board results by making adjustments in their business plan to ward off big hits in their bottom line and to seize opportunities competitors might miss.