Asset and Liability Management: The Banker’s Guide to Value Creation and Risk Control, Second Edition

The control of interest rate risk

We have shown that there are two ways to look at interest rate risk.

• The first one is very much driven by the impact of interest rate on the profit and loss account.

• An alternative is to focus on the economic value of equity of the entire bank.

Since the last approach captures both short-term and long-term risks, it is recommended that both approaches are used.

Volatility of interest rate is a key variable. Two sets of scenarios should be foreseen:

• volatility under ‘normal’ time; and

• volatility at a time of crisis ...