Capabilities requirements for liquidity and funding management in a post-crisis world

Capabilities requirements for liquidity and funding management in a post-crisis world

Steve, can you tell the Risk Insights readers about yourself and your professional experiences?

I have been in the financial services industry for over 25 years as both a bank treasurer and as a consultant to the industry.  Much of my work has involved measuring and managing capital, interest rate, and liquidity risks for banks in the US, Canada, UK, and EU.  Some highlights of my career related to liquidity and funding are:

  • Leading my bank through a significant liquidity crisis brought on by a collapse of the bank’s commercial real estate portfolio. Over six months, I led the bank’s efforts to reassure funds providers of the safety of their funds, restructure the bank’s balance sheet, and create new liquidity sources.  I have leveraged this experience managing liquidity in stressed situations to prepare clients for managing liquidity and funding in stressed situations and to provide real time advice required to survive in stressed situations
  • Creating new liquidity measures for a top UK bank post crisis to meet the stringent measurement principles which their regulator had adopted. I guided this bank-wide effort that required multiple separate business units to agree to new ways to measure their liquidity and, ultimately, to manage their businesses within these new liquidity metrics.  The end result was a complete revamping of their liquidity measurement and management processes
  • Supporting a US bank’s responses to the LCR draft proposal during its commentary period. This required building analytical arguments for adjustments to the draft rules, meeting with key regulators, and contacting peers.  Within this context, I maintain regular contacts with US, Canada, and UK regulators and I have been an invited speaker to their forums to share my views on liquidity management


At our Liquidity & Funding Risk Management Congress you provided insights into capabilities requirements for liquidity and funding management in a post-crisis world. Why do you feel this is a key talking point in the industry?

Regulatory changes around liquidity, capital, and interest rate risk have materially changed the environment within which bank treasurers must operate.  These new regulations have created tiered valuation of deposits; increased term funding requirements, including creating negative maturity transformations for some balance sheet items; and have changed how the money and capital markets operate, to name just a few of the implications.

To be effective in this environment, bank treasurers must negotiate this interrelated labyrinth of rules by projecting future balance sheet profiles, isolating implications, and identifying optimal strategies for treasury and business lines.


How can bank treasuries better monitor and prepare for the potential impact of rising interest rates on the balance sheet, and what other scenarios should be considered?

Banks have been in a benign interest rate environment with moderate economic growth for approximately eight years.  This likely has led to buildups of imbalances within the balance sheet, particularly in regard to deposits, which could be disrupted by a range of environmental changes including interest rate increases, FX relationship changes, EU interest rates changes, and a shift in economic growth, to name a few.

Bankers also should be looking at regulatory changes outside of those that directly apply to banks.  For example, the new MMMF rules which become effective mid-October this year have the potential to change the way that corporations manage their non-operational funds.

Treasurers should be evaluating their balance sheets and corresponding offer rates for potential changes that could occur from these events, identifying the financial implications, and where appropriate establishing contingency plans.


How can banks prepare for a more complex funding management environment?

There are three primary actions which banks should be taking to prepare for a more complex funding environment:

  1. Establish comprehensive data models which support the interrelated regulations that affect bank treasury actions, so that there is confidence in the supporting decision information. The interrelated regulations and reporting include LCR, NSFR, 2052a (US only), NCCF (Canada only), Leverage Ratio, IRRBB, TLAC, and stress testing.
  2. Upgrade metrics and reporting. All banks need to change ALM models, funds transfer pricing, and planning models to reflect the financial impacts of these changed rules.  Banks will need to develop robust modeling of the forward positions over a reasonably long planning horizon – ideally three to five years.  In many cases, the impacts are significant and will materially change strategic and tactical actions taken by banks.
  3. Complete a tactical and strategic assessment of these impacts and reset balance sheet and business lines strategies based on these assessments. That is:
  • Assess the impacts on each banking segment. Executive management will face dilemmas on cross-subsidization, as overall corporate returns may benefit if NSFR resources are shunted to one business line when in excess at another
  • Model forward results to assess binding constraints. Bank treasuries will need to think forward three or four years to establish funding strategies that are balanced, within regulatory constraints, and optimize market opportunities and balance sheet resources
  • Develop strategic options that reflect business line and corporate impacts. A shareholder perspective may imply different strategies from those set at the business line level.


How can Novantas assist FIs with these challenges?

Novantas is supporting changes to financial institution treasury management approaches in our clients today.  This is especially important given the complexity of balancing complex regulatory constraints with management and shareholder objectives.  In regard to changing treasury practices, Novantas is assisting our clients to:

  • Establish an optimal future target funding profile for the bank, balancing multiple (and sometimes conflicting) regulatory constraints; the bank’s risk appetite; and growth and profitability objectives
  • Develop a funding plan to move toward the optimal profile
  • Evaluate how each product / business line is currently being funded and assess changes required for NSFR
  • Incorporate NSFR and the new funding profile into funds transfer pricing to support business evaluations and decisions
  • Model forward results to assess binding constraints
  • Optimize the funding plan within regulatory limits, risk appetite and bank objectives


How do you see the role of the liquidity risk professional changing over the next 6-12 months?

We are already seeing changes in the role of the liquidity risk professional today which will continue over the next 12-18 months.  Specifically,

  • Planning for liquidity stress. The concept of “liquidity stress” is changing to include outflows of deposits in the normal course of business in response to changing market and economic conditions.  This is the proximate risk to which treasurers and liquidity managers should be prepared to respond
  • Providing insight into new business line strategies. Business line economics are being radically changed by NSFR in isolation and in combination with other new regulations.  This, in turn, will require product, pricing, and strategy responses by consumer, commercial, and corporate business lines which will require input from treasury
  • Developing new balance sheet management strategies. NSFR requires funding strategies that meet long-term regulatory hurdles while optimizing the balance sheet value of these strategies.  Treasurers and liquidity managers will need new tools and new ways of managing the balance sheet to meet these needs