The roadmap for an accurate Asset Liability Management (ALM) model.
If the data is the foundation for an accurate model, then the assumptions are the map that makes sure it is heading in the correct direction. Inaccurate and/or incomplete assumptions can result in a misleading or completely incorrect representation of your risk profile. Making decisions based on that inaccurate assessment can be detrimental to your financial institution.
DCG’s “Wholistic” ALCO approach incorporates an ongoing assumptions assessment process. The model assumptions need to be reviewed every quarter, not set annually and forgotten. All parties need to be involved in this process including senior management, lending, retail deposit and finance. The assumptions need to be based on data analysis and a review of past activity.
This is not a beauty contest; rather, you should be incorporating current products and rates as replacement assumptions and reasonable, defensible deposit pricing into your ALM model – not what you hope to get in the market. The ongoing process has to challenge and test the assumptions developed, and everything needs to be documented. If it’s not documented, how will you be able to prove to the regulators that this is part of your comprehensive approach?
A dedicated DCG analyst goes through this process with our Advisory clients each quarter – analyzing, discussing and challenging assumptions to ensure they are as accurate as possible. If you haven’t already incorporated this into your ALM modeling process, it may be time to reconsider your approach.