Bank Management.docx.docx

CHAPTER 3
1. What are the major categories of depository institution
assets and their approximate percentage contribution to
total resources? What are the major categories of depository
institution liabilities? What are the fundamental differences
between them?
For a large bank, assets consist approximately of marketable
securities (20%), loans (70%), and other assets (10%). Liabilities
consist of core deposits (40%-60%), noncore, purchased liabilities
(20%-40%), and other liabilities (5 %-10%) as a fraction of assets.
Small banks typically obtain more funds in the form of core deposits
and less in the form of noncore, purchased liabilities. Small banks
often invest more in securities as well. Of course, the actual
percentages for any bank depend on that bank’s business strategy,
market competition, and ownership.
2. Depository institutions typically differentiate between
interest and noninterest income and expense. What are the
primary components of each? Define net interest income
(NIM) and burden. What does a bank’s efficiency ratio
measure?
A bank's interest income consists of interest earned on loans and
securities while noninterest income includes revenues from deposit
service charges, trust department fees, fees from nonbank
subsidiaries, etc.
- Interest expense consists of interest paid on interest-bearing core
deposits and noncore liabilities while noninterest expense is
comprised of overhead costs, personnel costs, and other costs. A
bank’s net interest income equals its interest income minus interest
expense. Note that interest income may be calculated on a
tax-equivalent basis in which tax-exempt interest is converted to its
pre-tax equivalent.

- A bank’s burden is defined as its noninterest expense minus
noninterest income. This is often quoted as a fraction of total assets.
- A bank’s efficiency ratio is calculated as noninterest expense
divided by the sum of net interest income and noninterest income.
The denominator effectively measures net operating revenue after
subtracting interest expense. The efficiency ratio measure the
noninterest cost per $1of operating revenue generated. Analysts


often interpret the efficiency ratio as a measure of a bank’s ability to
control overhead relative to its ability to generate noninterest
income (and overall revenue).
3. Using PNC (in Exhibit 3.2) as a typical large depository
institution, which balance sheet accounts would be affected
by the following transactions? Indicate at least two accounts
with each transaction.
a. Arturo Rojas opens a money market deposit account with
$5,000. The funds are lent in the overnight market for one
week.
b. Just as a real estate developer pays off a strip shopping
mall loan, a new resident optometrist takes out a mortgage
on a home.
c. The bank hires an investment banker to sell shares of
stock to the public. It plans to use the proceeds to finance
additional commercial loans.
a)
Aturo Rojas opens a money market deposit account with
$5000. The funds are lent in the overnight market for one week.
Liabilities: money market deposit accounts +5,000
Assets: LN & LS in domestic off +5,000

b)
Just as a real estate developer pays off a strip shopping mall
loan, a new resident optometrist takes out a mortgage on a home.
No transaction because both of these are related to real estate
loans.
c)
The bank hires an investment banker to sell shares of stock to
the public. It plans to use the proceeds to finance additional
commercial loans.
No transaction is made
4. Arrange the following items into an income statement.
Label each item, place it in the appropriate category, and
determine the bank’s bottom-line net income. a. Interest
paid on time deposits under $100,000: $78,002
b. Interest paid on jumbo CDs: $101,000


c. Interest received on U.S. Treasury and agency securities:
$44,500
d. Fees received on mortgage originations: $23,000
e. Dividends paid to stockholders of $0.50 per share for
5,000 shares
f. Provisions for loan losses: $18,000 g. Interest and fees on
loans: $189,700
h. Interest paid on interest checking accounts: $33,500
i. Interest received on municipal bonds: $60,000
j. Employee salaries and benefits: $145,000
k. Purchase of a new computer system: $50,000
l. Service charge receipts from customer accounts: $41,000
m. Occupancy expense for bank building: $22,000

n. Taxes of 34 percent of taxable income are paid
o. Trust department income equals: $15,000

Income statement
Interest on U.S. Treasury & agency securities
$44,500
Interest on municipal bonds
Interest and fees on loans
Interest income =

Interest paid on interest-checking accounts
Interest paid on time deposits
Interest paid on jumbo CDs
Interest expense =
Net interest income =

60,000
189,700
$294,200

$33,500
78,002
101,000
$212,502
$81,698


Provisions for loan losses =

$ 18,000

Net interest income after provisions =

$63,698

Fees received on mortgage originations

$23,000

Service charge receipts

41,000

Trust department income

15,000

Non-interest income =

Employee salaries and benefits
Occupancy expense
Non-interest expense =

Income before income taxes

$79,000

$145,000
22,000
$167,000

-$24,302

Income taxes

8,263

Net income =

-$16,039

Cash dividends declared
Retained earnings =

2,500
-$18,809

5. What are the primary sources of risk that depository
institution managers face? Describe how each risk type
potentially affects performance. Provide one financial ratio
to measure each type of risk and explain how to interpret
high versus low values.
The primary risks faced by banks are credit risk, liquidity risk,
market risk (as interest rate risk and foreign exchange risk),
operational risk, reputational risk, and legal risk. In general,
promised, or expected, returns should be higher for banks that
assume increased risk. There should also be greater volatility in
returns over time.
a. Credit risk: Net loan charge-offs/Loans
High risk - high ratio; Low risk - low ratio

High risk manifests itself in occasional high charge-offs, which
requires above average provisions for loan losses to replenish the
loan loss reserve. Thus, net income is volatile over time.
b. Liquidity risk: Core deposits/Assets
High risk - low ratio; Low risk - high ratio
High risk manifests itself in less stable funding as a bank relies more
on noncore, purchased liabilities that fluctuate over time. These
noncore liabilities are also higher cost, which raises interest
expense.
c. Market risk in the form of interest rate risk: (|Repriceable
assets-repriceable liabilities|)/Assets
High risk - high ratio; Low risk - low ratio
High risk banks do not closely match the amount of repriceable
assets and repriceable liabilities. Large differences suggest that net
interest income may vary sharply over time as the level of interest
rates changes.
d. Market risk in the form of foreign exchange risk: Assets
denominated in a foreign currency minus liabilities denominated in
the same foreign currency.
High risk – a large difference; Low risk – a small difference
High risk manifests itself when exchange rates change adversely
and the value of the bank’s net position of assets versus liabilities
denominated in a currency changes sharply.
6. Bank L operates with an equity-to-asset ratio of 6 percent,
while Bank S operates with a similar ratio of 10 percent.
Calculate the equity multiplier for each bank and the
corresponding return on equity if each bank earns 1.5
percent on assets. Suppose, instead, that both banks report

an ROA of 1.2 percent. What does this suggest about
financial leverage?
a) EM of Bank L = Assets/Equity = 1/6% = 16,67 EM of Bank S =
1/10% = 10
b) ROE Bank L = ROA*EM = 1,5% * 16,67= 25% ROE Bank S =
ROA*EM = 1,5%*10 = 15%


c) ROE Bank L = 1,2%*16,67 = 20% ROE Bank S = 1,2%*10 = 12%
JUNIOR FINANCE TBS 2013-2014
d) We notice that the EM of Bank L > EM of Bank S, Bank L has a
lower capital to assets as cushion for any loss risk, hence it
represents a higher risk of insolvency than Bank S.
Bank L offers a better a return on investment to its stockholders
25% than Bank S does (15%). Although the same return on assets,
the 2 banks offer different ROE because of EM. The bank with higher
EM so with higher financial leverage offers a better ROE but presents
a higher risk of insolvency
We notice that the decline of ROA of 0,3% had a larger impact on
the difference between the 2 banks ROE about 8% (20%-12%)
because of the EM magnified this ROA decline.
In sum, with high financial leverage, a bank offers a better return on
investment for its stockholders but do not preserve them from
insolvency risk. Moreover, with a high financial leverage, any change
in ROA will be amplified in the ROE.
7. Define each of the following components of the return on
equity model and discuss their interrelationships:
a. ROE
b. ROA
c. EM

d. ER
e. AU
a)
ROE – return on any dollar invested in the company
b)
ROA – return on any dollar of assets
c)
EM – the assets financed by one dollar of equity
d)
ER – the expenses generated per one dollar of assets
e)
AU – income revenue generated per one dollar of total assets
8. Explain how and why profitability ratios at small banks
typically differ from those at the largest money center
banks.
Profitability ratios differ across banks of different size as measured
by assets. The primary reasons are that different size banks have


different asset and liability compositions and engage in different
amounts of off-balance sheet activities. Typically, small banks report
higher net interest margins because their average asset yields are
relatively high while their average cost of funds is relatively low.
This reflects loans to higher risk borrowers, on average, and
proportionately more funding from lower cost core deposits. ROEs,
in turn, are often lower because small banks operate with more
capital relative to assets, that is with lower equity multipliers, so
that even with comparable ROAs the ROEs are lower. Large banks
ROAs are increasing faster over time because large banks operate
with lower efficiency ratios as they have been more successful in

generating fee income.
9. Regulators use the CAMELS system to analyze bank risk.
What does CAMELS stand for and what financial ratios might
best capture each factor?
CAMELS
C = Capital adequacy: equity/assets
A = Asset quality: nonperforming loans/loans; loan charge-offs/loans
M = Management: no single ratio is good, although all ratios indicate
overall strategy
E = Earnings: aggregate profit ratios; ROE, ROA, net interest
margin, burden, efficiency
L = Liquidity: core deposits/assets; noncore,
liabilities/assets; marketable securities/assets

purchased

S = Sensitivity to market risk; |repriceable assets-repriceable
liabilities|/assets; difference in assets and liabilities denominated in
the same currency; size of trading positions in commodities, equities
and other tradeable assets
10. Rank the following assets from lowest to highest
liquidity risk:
a. Three-month Treasury bills with one-year construction
loan
b. Four-year car loan with monthly payments
c. Five-year Treasury bond with five-year municipal bond


d. One-year individual loan to speculate in stocks
e. Three-month Treasury bill pledged as collateral

a. Three-month Treasury bills
e. Three-month Treasury bill pledged as collateral
b. Four-year car loan with monthly payments
d. One-year individual loan to speculate in stocks
f. one-year construction loan
g. five-year municipal bond
c. Five-year Treasury bond
11. In each pair below, indicate which asset exhibits the
greatest credit risk. Describe why.
a. Commercial loan to a Fortune 500 company or a loan to a
corner grocery store
b. Commercial loans to two businesses in the same industry;
one is collateralized by accounts receivable from sales, while
the other is collateralized by inventory as work-in-process
c. Five-year Baa-rated municipal bond or a five-year agency
bond from the Federal Home Loan Bank system
d. One-year student loan (college) or a one-year car loan
a)
Commercial loans to a Fortune 500 company or a loan to a
corner grocery store.
The grocery store poses a greater credit risk because the Fortune
500 company has proved its ability to make capital while the
grocery store may have a harder time due to big name retailers.
b)
Commercial loans to two businesses in the same industry; one
is collateralized by accounts receivable from sales, while the other is
collateralized by inventory as work-in-process.
The business collateralized by inventory poses a higher risk because
there is the chance that the inventory it possesses won’t be turned
into capital.

c)
Five-year Ba-rated municipal bond or a five-year agency bond
from the Federal Home Loan Mortgage Corporation.


The five-year agency bond poses a greater credit risk because
anything relating to a home loan mortgage corporation can be risky
d)
One-year student loan or a one-year car loan
The student loan is riskier because the loan can be given to an
individual with no previous credit while a car loan is generally given
prior to a credit check to ensure repayment.
12. What ratios on common-sized financial statements would
indicate a small bank versus a large, multibank holding
company? Cite at least five.
The largest banks generally employ fewer people per dollar of assets
than smaller banks.
The largest banks are generally offering very standardized loans and
deposit products, hence competition is steep and margins small
Smaller banks generally operate with proportionately more core
deposits and fewer volatile liabilities as compared with the largest
banks.
Largest banks report much higher net charge-offs than smaller
banks
Larger banks operate with less equity and more debt
13. In some instances, when a depository institution
borrower cannot make the promised principal and interest
payment on loan, the bank will extend another loan for the
customer to make the payment.
a.

Is the first loan classified as a nonperforming loan?
b.
What is the rationale for this type of lending?
c.
What are the risks on this type of lending?
a. The new loan is typically not classified as nonperforming because
no payments are past due.
b. Often a bank recognizes that the loan is in the problem stage and
the borrower renegotiates the terms in its favor; rationale is that the
borrower may default if the loan is not restructured. Note that this
restructuring gives the appearance that asset quality is higher.
c. The primary risk is that the bank is throwing more money down a
sink hole and will never recover any of its loan.


14. Suppose that your bank had reported a substantial loss
during the past year. You are meeting with the bank’s board
of directors to discuss whether the bank should make its
traditional (25 years straight) dividend payment to common
stockholders. Provide several arguments for why the bank
should authorize and make the dividend payment. The,
provide several arguments for why it should not make the
payment. What should decide the issue?
Dividend payment: For: the loss is temporary and stockholders
expect the dividend payment. Failure to make the payment will
sharply lower the stock price because stockholders will be alienated.
Against: the bank has not generated sufficient cash to make the
payment from normal operations. By paying the cash dividend, the
bank is self-liquidating. The cash dividend will lower the bank’s
capital. What normally decides the issue is whether the loss is truly

temporary or more permanent. Management typically errs by
assuming that losses are temporary, and thus continues to make
dividend payments when it should be reducing or eliminating them.
15. . Explain how each of the following potentially affects a
bank’s liquidity risk: a. Most (95 percent) of the bank’s
securities holdings are classified as held-tomaturity.
b. The bank’s core deposit base is a low (35 percent) fraction
of total assets.
c. The bank’s securities all mature after eight years.
d. The bank has no pledged securities out of the $10 million
in securities it owns.
a. Securities that are classified as held-to-maturity typically cannot
be sold for liquidity purposes unless a release is issued. Therefore it
is more difficult for this bank to meet financing needs should a
liquidity crunch occur, and liquidity risk is higher.
b. A low core deposit base means that the bank is relying more on
noncore, volatile liabilities that are more likely to leave the bank if
rates change. The bank’s funding resources are then less reliable,
subjecting the bank to higher liquidity risk.
c. Even if the securities are capable of being sold quickly (as they
are classified as available-for-sale), these securities are subject to


more interest rate risk and may decrease in value should interest
rates increase. This means that the bank is subject to higher
liquidity risk.
d. No pledged securities means that the bank has more securities
that it can sell should a liquidity crisis occur, indicating that this
bank has lower liquidity risk.

CHAPTER 4
1. When confronted with runaway noninterest expense,
management’s first impulse is to cut costs. What are the
advantages and disadvantages of this approach? What other
approaches are possible?
If a bank doesn’t have a set up plan to control expenses, then
cutting costs is the correct approach. However, cutting costs often
means releasing employees which can have a negative impact on
service. Improving technology around the firm is one good way of
improving efficiency while cutting costs.
2. What are the primary sources of noninterest income for
both a small community bank and a large bank with many
subsidiaries and global operations?
The primary sources of noninterest income for a community bank
are generally deposit fees, trust fees, mortgage fees, fees and
commissions and fees from insurance produces, credit card fees and
investment product fees. The primary sources of noninterest income
for large Global, Nationwide, and Super Regional Banks are deposit
fees, investment banking fees, asset management fees, mortgage
servicing fees, and trading profits.
3. What are the components of noninterest expense?
Personnel expenses, occupancy expenses, goodwill, intangible
amortization, and other operating expenses.
4. Describe why the efficiency ratio is a meaningful measure
of cost control. Describe why it may not accurately measure
cost control. What are the three primary parts of the
efficiency ratio? Are there any trade-offs among these three
components? Explain.
The efficiency ratio is stated as non interest expenditure divided by

the total sum non-interest income and net interest income.
The costs in overhead are measured for generating $1 of revenue.
A figure that is less shows that a bank is more proficient as it takes
less overhead for producing $1 revenue.
The efficiency ratio of a bank is a quick and easy way to measure
the ability of bank to turn resources into revenue.
Actually the lower the lower the better.


When the efficiency ratio increases, is an indication that the costs
are increasing or the revenues are decreasing.
Efficiency ratio may not accurately measure cost control.
This is because cost control is the practice of identifying and
reducing expenses of the business so as to increase profit.
This starts in the budgeting process.
Efficiency ratio only measure accurately the costs incurred as the
bank turns resources into revenue.
Efficiency ratios have proven inaccurate in measuring cost controls.
The three parts of the efficiency ratio
Calculation of turn over of receivables.
Repayment of liabilities the quantity and usage of equity.
The general use of inventory and machinery.
A trade off is expressed as an opportunity cost.
It involves the sacrifice that must be made to gain a certain product
or experience.
Among the three components there are trade offs.
For instance in the general use of inventory, sacrifice must be made
so as to gain fully from the product in terms of generating revenue.
5. Which of the following banks evidences better
productivity? Both banks have $700 million in assets and

conduct the same volume and type of business offbalance
sheet.
Tri-Cities Bank
per $1,530,000

Assets
employee
Personnel expense $33,750
per employee

Pacific Rail Bank
$1,880,000
$42,600

The assets per employee ratio suggests that Pacific Rail Bank (PRB)
is more productive because it can manage more assets per
employee. Of course, this ratio ignores the volume of a bank’s offbalance sheet activity. The average personnel expense ratio
indicates that Pacific Rail Bank pays its employees more, on
average, that Tri-Cities Bank. This may indicate high cost – and
hence lower productivity – but it may also reflect the fact that PRB
simply pays its people more because they are more productive.


Many high performance banks have the profile that PRB has with
these ratios.
6. Southwestern Bank reports that just 20 percent of its
customers were profitable. Assuming that this applies to
individuals’
account
relationships,

make
three
recommendations to increase the profitability of these
accounts.
Recommendations:
1) identify which accounts are unprofitable and which products or
services are most commonly used by these individuals; reprice
these accounts to encourage individuals to bundle their products
and services to avoid charges;
2) increase minimum deposit balances for customers to avoid
service charges, while maintaining access to the most basic banking
services at reasonably low cost;
3) offer accounts with minimum fees and balances as long as the
customer agrees not to enter the bank or branch and thus conducts
all business electronically.
7. Suppose that your bank imposes the following fees and/or
service charges. Explain the bank’s rationale and describe
how you would respond as a customer.
a. $1.50 per item for use of an ATM run by an entity other
than your own bank
b. $4 per transaction for using a live teller rather than
making an ATM or telephone transaction
c. Increase in the charge for insufficient funds (where a
customer writes a check for an amount greater than the
balance available in the account) from $25 per item to $30
per item
d. A 1 percent origination fee for refinancing a mortgage
a)
$1.50 per item for use of an ATM run by an entity other than
your own bank.

This is the equivalent of the bank paying a teller to process your
withdrawal, although this is much cheaper. It is merely a
convenience fee, which is understandable.


b)
$4 per transaction for using a live teller rather than making an
ATM or telephone transaction.
It is costlier for the bank to provide a teller rather than an ATM, and
although this fee is poor practice, it may be an incentive to use the
less costly ATM they provide.
c)
Increase in the charge for insufficient funds from $25 per item
to $30 per item
The bank is simply trying to reduce the chance of a customer writing
a false check and reducing their credit. As a customer it would be
understood as a rational decision by the bank.
d)
A 1% origination fee for refinancing a mortgage.
This is a way for the bank to increase their noninterest income in a
slight way. Although it’s only 1% it adds up. As a customer this
shouldn’t pose an issue unless it is a repeated occasion.
8. List the three primary sources of revenue from a
commercial customer’s account. In today’s economic
environment, indicate whether each is growing or declining
in use and explain why.
Expense reduction: strength is the immediate impact as costs
decline; weaknesses include the loss of employee and customer
morale and making cuts that lower service quality.
Revenue enhancement: strength is that revenues grow without

cutting the range of products and services offered; weakness is that
it is difficult to implement in the near term and their may not be an
immediate improvement in burden or the efficiency ratio.
Contribution growth: strength is that this is the best long-term
strategy as service quality improves and employee/customer morale
is unchanged; weakness is that it is a long-term strategy with no
immediate payoff.
9. For each of the following accounts, evaluate the
profitability of the customer’s account relationship with the
bank. Did profits meet expectations? The expense figure
includes the cost of debt but not the cost of equity. Figures
are in millions of dollars.
Class
Corp

Expenses
Action $11.45

Revenue
$12.98

Target Profit
$1.50


Zisk Drive
Gonzo Ltd.

$131.81
$88.35

$130.27
$93.77

$4.66
$6.58

Class Action Corp. – exceeded target profit analysis by $0.03
showing slight margins
Zisk Drive – Showed a shortage in profit of -$6.20 grossly missing
expectations
Gonzo Ltd. – Was short of the target profit by -$1.16 not meeting
epectations
10. What impact will online brokerages have on traditional
commercial banks? Why?
Online brokerage accounts are becoming increasingly popular and
represent an alternative delivery vehicle for banking services. Most
banks will need to provide access to banking services over the
internet to keep many of their customers. Whether banks offer
online brokerage accounts depends on the costs and benefits to the
bank’s customers. Clearly, markets are headed toward where more
customers are demanding this type of access.
11. Describe the strengths and weaknesses of expense
reduction, revenue enhancement, and contribution growth
strategies.
Expense reduction can have a tremendous impact on a business. As
a positive, it can emphasize the profit margin due the expense
reduction, but it can also harm a business by the possibility of those
reductions coming from the release of employees, thus reducing
efficiency and profit. Revenue enhancement can provide an easy

stream of income for a business by adding subtle fees to common
transactions or services, but it may come at the cost of reduced
customer satisfaction. Contribution growth strategies are an
excellent way for a business to set a planned path for success and
growth; however, if the strategy planned is determined to be
unsuccessful a new one must be formulated quickly.
12. Your bank has just calculated the profitability of two
small business customers. In both instances, the bank
earned a monthly profit of $375 from both Detail Labs and
The Right Stuff. Detail Labs had a large loan with the bank


and small account balances. Its principals bought no other
services from the bank. The Right Stuff had only a small
loan, but used the bank for payroll processing and the firm’s
checking account transactions. The principals also had
checking and CD accounts with the bank.
a. What additional services or products would you suggest
that the bank market to each of these customers?
b. Discuss how the source of profitability will influence the
choice of services and products that you recommend.
a. The bank should sell credit-related services to Detail Labs and its
principals. Perhaps credit and debit cards might serve as the
relationship medium. The principals might also want cash
management services for the business to help the firm best use its
cash. The bank should sell noncredit services to The Right Stuff,
including cash management services, trust services, etc. because
the principals are likely not in the borrowing stage of their business
or personal lives.
b. If profits come from loans, the bank must ensure that the loans

are priced at a reasonable spread over the matched maturity
(duration) cost of funds. Additional products and services might be
tied to those required by borrowers. If profits come from the deposit
processing side or investment services side, loans might be used as
a way to maintain the account relationship with profits coming from
fees.


CHAPTER 7
1. List the basic steps in static GAP analysis. What is the
objective of each?
a. Develop an interest rate forecast; the objective is to estimate
whether specific assets and liabilities can be expected to reprice and
when they will reprice in this rate environment.
b. Select a series of sequential time intervals for determining how
many assets and liabilities are rate sensitive within each interval;
the objective is to identify the timing of expected repricings.
c.
Classify assets and liabilities as either rate sensitive or
fixed-rate within each time interval; from this information, calculate
static GAP by comparing RSAs with RSLs. If a bank has off-balance
sheet commitments, impute the balance sheet impact on cash flow
rate sensitivities.
d. Forecast net interest income and net income given the
assumed repricing characteristics of the underlying assets and
liabilities; the objective is to assess the amount and variation in
earnings.
2. Are the following assets rate sensitive within a six-month
time frame? Explain.
a. Three-month T-bill

b. Federal funds sold (daily repricing)
c. Two-year
payments

Treasury

bond

with

semiannual

coupon

d. Four-year fully amortized car loan with $350 monthly
payments including both principal and interest (for the first
six months, principal payments total $448)
e. Commercial loan priced at the bank’s prime rate plus 2
percent
a)
Three-month T-bill
yes – matures.
b)
Federal funds sold (daily repricing)
yes - matures daily.
c)

Two-year Treasury bond with semiannual coupon payments

no - principal is received in 2 years.
d)
Four-year fully amortized car loan with $350 monthly
payments including both principal and interest (for the first six
months, principal payments total $448)
yes, a portion is rate sensitive each month - the partial principal
payments during the first
6 months are rate sensitive.
e)
Commercial loan priced at the bank’s prime rate plus 2 percent
yes/no – depending on whether the prime rate changes within 6
months. If the prime rate
changes within 6 months, the full amount of loan principal is rate
sensitive. If the prime
rate does not change, nothing is rate sensitive. Looking forward, the
analyst must
forecast whether prime will change to assign the principal amount to
a specific time
interval.
3. Consider the following bank balance sheet and associated
average interest rates. The time frame for rate sensitivity is
one year. Figures are in thousands.
Assets

Amount

Rate

Rate
sensitiv

e
Fixed
rate
Nonearn
ing

$103,30
0

3.3%

161,400

4.5%

Total

$292,20
0

27,500

Liabilitie
s
&
Equity
Rate
sensitiv
e
Fixed

rate
Nonpayi
ng
liabilitie
s
&
Equity
Total

Amount

Rate

$ 91,600 0.8%

181,850
18,750

$292,20
0

2.1%


a. Calculate the bank’s GAP, expected NII, and NIM if
interest rates and portfolio composition remain constant
during the year. This bank is positioned to profit if interest
rates move in which direction?
b. Calculate the change in expected NII and NIM if the entire
yield curve shifts 2 percent higher during the year. Is this

outcome consistent with the bank’s static GAP?
c. Suppose that, instead of the parallel shift in the yield
curve in Part b, interest rates increase unevenly.
Specifically, suppose that asset yields rise by 0.50 percent
while liability rates rise by 0.75 percent. Calculate the
change in NII and NIM. Is this uneven shift in rates more or
less likely than a parallel shift?
d. Suppose the bank converts $20,000 of RSLs to fixed-rate
liabilities during the year and interest rates remain
constant. What would the bank’s NII equal compared with
the amount initially expected? Explain why there is a
difference.
a.
Calculate the bank’s GAP, expected NII, and NIM if interest
rates and portfolio composition remain constant during the year.
This bank is positioned to profit if interest rates move in which
direction?
GAP= $400
Expected net interest income = [3,300(.073) + 1,400(.087)] 2,900(.038)+1,650(.061)]
=362.70 - 210.85 =151.85
Expected NIM = 151.85/4,700 = .0323

This bank will likely see its net interest income increase if
interest rates increase.

According the GAP model, $400 more in assets than liabilities
will reprice at higher rates.
b.
Calculate the change in expected NII and NIM if the entire yield
curve shifts 2 percent higher during the year. Is this outcome

consistent with the bank’s static GAP?

Change in net interest income = change in rates x GAP = .02
(400) = 8

NIM would increase to 159.85/4,700 = .0340