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Generic Cash Flows: A Building Block of Asset/Liability Forecasts

Any discussion on Asset/Liability Management (ALM) should begin with a discussion on the underlying foundation required to accurately model forecasts. One of the most important building blocks for that foundation is “generic” cash flows. It’s crucial to understand the importance of cash flows, the different types (immediate, amortizing, ballon and bullet), their characteristics, and how they perform or act in a forecast. Cash flows are the foundation of ALM modeling and understanding them helps to understand the results when attempting to model interest rate risk through reporting.

This paper will focus on the typical characteristics of generic cash flows that can be found on most balance sheets and how they perform or act in a forecast. Generic cash flow characteristics haven’t changed over time, so the concepts here are not new. However, they will serve as a refresher and an appropriate introduction to any discussion on ALM and interest rate risk in general.