Liquidity Management
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Liquidity Management






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Liquidity Management Liquidity Management Presentation Transcript

  • Legal Reserves
    • Assets That a Central Bank Requires Depository Institutions to Hold as a Reserve Behind Their Deposits or Other Liabilities
  • U.S. Legal Reserve Requirements
    • First $7.8 Million have 0 Legal Reserves
    • 3 Percent of End-of-the-Day Daily Average for a Two Week Period For Transaction Accounts Up To $48.3 Million
    • 10 Percent of End-of-the-Day Daily Average for a Two Week Period For Transaction Accounts For Amounts Over $48.3 Million
    • Transaction Accounts Include Checking Accounts, NOW Accounts and Other Deposits Used to Make Payments
    • The $48.3 Million Amount is Adjusted Annually
  • Sweep Account
    • A Contractual Account Between Bank and Customer that Permits the Bank to Move Funds Out of a Customer’s Checking Account Overnight in Order to Generate Higher Returns for the Customer and Lower Reserve Requirements for the Bank
  • Reserve Computation Period
    • The Period of Time Over Which a Bank Calculates its Legal Reserve Requirement
  • Reserve Maintenance Period
    • The Period of Time Over Which a Bank Must Hold the Required Amount of Legal Reserves that the Law Demands
  • Factors in Choosing Among Different Sources of Reserves
    • Immediacy of Bank’s Needs
    • Duration of Bank’s Needs
    • Bank’s Access to Market for Liquid Funds
    • Relative Costs and Risks of Alternatives
    • Interest Rate Outlook
    • Outlook for Central Bank Monetary Policy
    • Regulations Applicable for Liquidity Sources
  • Liquidity
    • The Availability of Cash in the Amount and at the Time Needed at a Reasonable Cost
  • Supplies of Liquid Funds
    • Incoming Customer Deposits
    • Revenues from the Sale of Nondeposit Services
    • Customer Loan Repayments
    • Sales of Bank Assets
    • Borrowings from the Money Market
  • Demands for Liquidity
    • Customer Deposit Withdrawals
    • Credit Requests from Quality Loan Customers
    • Repayment of Nondeposit Borrowings
    • Operating Expenses and Taxes
    • Payment of Stockholder Dividends
  • A Financial Firm’s Net Liquidity Position
    • L = Supplies of Liquid Funds
    • - Demands for Liquidity
  • Essence of Liquidity Management
    • Rarely are the Demands for Liquidity Equal to the Supply of Liquidity at Any Particular Moment. The Financial Firm Must Continually Deal with Either a Liquidity Deficit or Surplus
    • There is a Trade-Off Between Liquidity and Profitability. The More Resources Tied Up in Readiness to Meet Demands for Liquidity, the Lower is the Financial Firm’s Expected Profitability.
  • Why Banks and Their Competitors Face Significant Liquidity Problems
    • Imbalances Between Maturity Dates of Their Assets and Liabilities
    • High Proportion of Liabilities Subject to Immediate Repayment
    • Sensitivity to Changes in Interest Rates
    • Central Role in the Payment Process
  • Strategies for Liquidity Managers
    • Asset Liquidity Management or Asset Conversion Strategy
    • Borrowed Liquidity or Liability Management Strategy
    • Balanced Liquidity Strategy
  • Asset Liquidity Management
    • This Strategy Calls for Storing Liquidity in the Form of Liquid Assets and Selling Them When Liquidity is Needed
  • Liquid Asset
    • Must Have a Ready Market So it Can Be Converted to Cash Quickly
    • Must Have a Reasonably Stable Price
    • Must Be Reversible So an Investor Can Recover Original Investment with Little Risk
  • Options for Storing Liquidity
    • Treasury Bills
    • Fed Funds Sold to Other Banks
    • Purchasing Securities for Resale (Repos)
    • Deposits with Correspondent Banks
    • Municipal Bonds and Notes
    • Federal Agency Securities
    • Negotiable Certificates of Deposits
    • Eurocurrency Loans
  • Costs of Asset Liquidity Management
    • Loss of Future Earnings on Assets That Must Be Sold
    • Transaction Costs on Assets That Must Be Sold
    • Potential Capital Losses If Interest Rates are Rising
    • May Weaken Appearance of Balance Sheet
    • Liquid Assets Generally Have Low Returns
  • Borrowed Liquidity Management
    • This Strategy Calls for the Bank to Purchase or Borrow from the Money Market To Cover All of Its Liquidity Needs
  • Sources of Borrowed Funds
    • Federal Funds Purchased
    • Selling Securities for Repurchase (Repos)
    • Issuing Large CDs (Greater than $100,000)
    • Issuing Eurocurrency Deposits
    • Securing Advance from the Federal Home Loan Bank
    • Borrowing Reserves from the Discount Window of the Federal Reserve
  • Balanced Liquidity Management Strategy
    • The Combined Use of Liquid Asset Holdings (Asset Management) and Borrowed Liquidity (Liability Management) to Meet Liquidity Needs
  • Guidelines for Liquidity Managers
    • They Should Keep Track of All Fund-Using and Fund-Raising Departments
    • They Should Know in Advance Withdrawals by the Biggest Credit or Deposit Customers
    • Their Priorities and Objectives for Liquidity Management Should be Clear
    • Liquidity Needs Must be Evaluated on a Continuing Basis
  • Methods for Estimating Liquidity Needs
    • Sources and Uses of Funds Approach
    • Structure of Funds Approach
    • Liquidity Indicator Approach
    • Signals from the Marketplace
  • Sources and Uses of Funds
    • Loans and Deposits Must Be Forecast for a Given Liquidity Planning Period
    • The Estimated Change in Loans and Deposits Must Be Calculated for the Same Planning Period
    • The Liquidity Manager Must Estimate the Bank’s Net Liquid Funds By Comparing the Estimated Change in Loans to the Estimated Change in Deposits
  • Structure of Funds
    • A Bank’s Deposits and Other Sources of Funds Divided Into Categories. For Example:
      • ‘ Hot Money’ Liabilities
      • Vulnerable Funds
      • Stable Funds
    • Liquidity Manager Set Aside Liquid Funds According to Some Operating Rule
  • Customer Relationship Doctrine
    • Management Should Strive to Meet All Good Loans that Walk in the Door in Order to Build Lasting Customer Relationships
  • Liquidity Indicator Approach
    • Cash Position Indicator
    • Liquid Security Indicator
    • Net Federal Funds Position
    • Capacity Ratio
    • Pledged Securities Ratio
    • Hot Money Ratio
    • Deposit Brokerage Index
    • Core Deposit Ratio
    • Deposit Composition Ratio
    • Loan Commitment Ratio
  • Market Signals of Liquidity Management
    • Public Confidence
    • Stock Price Behavior
    • Risk Premiums on CDs
    • Loss Sales of Assets
    • Meeting Commitments to Creditors
    • Borrowings from the Central Bank
  • Examples
    • The Double Trouble State Bank has incoming deposits of $2000, revenues from nondeposit services of $200, customer loan repayments of $1000, the sale of assets of $500 and borrowings from the money market of $2000. At the same time they had deposit withdrawals of $1500, acceptable loan requests of $1200, repayments of borrowings for the bank of $1000 and other operating expenses of $500. What is the net liquidity position of this bank?
      • $1500 Surplus
  • Examples
    • A bank currently has $50 million in stable deposits against which they want to keep 10% reserves, $100 in vulnerable deposits against which they want to keep 40% reserves and they have $50 million in “hot money’ deposits against which they want to keep 90% reserves. The legal reserves for this bank are 10% of all deposits. What is this bank’s liability liquidity reserve?
      • $81 million
  • Examples
    • John Camey, the money manager of the First State Bank, has estimated that the bank has a 20 percent chance of a liquidity deficit of $700, a 30 percent chance of a liquidity deficit of $200, a 30 percent chance of a liquidity surplus of $400 and a 20 percent chance of a liquidity surplus of $900 over the next week. What is this bank’s expected liquidity deficit or surplus over the next week?
      • $100 liquidity surplus
  • Examples
    • A bank currently holds $105 million in transaction deposits subject to legal reserves but has managed to enter into sweep account arrangements affecting $55 million of these accounts. Given that the bank must hold 3 percent legal reserves up to $47.8 million of transaction deposits and 10 percent legal reserves on any amount above that, how much has this bank reduced its total legal reserves as a result of these sweep arrangements?
      • $5.5 million