Investment Portfolio and Asset-Liability Management
This domain links the treasury investment book to the balance sheet as a whole. The exam tests whether you can set an investment policy, classify and value securities, and quantify how interest rate movements change both net interest income and the economic value of equity.
Portfolio rules
An investment policy statement sets objectives, permitted asset classes, minimum ratings, tenor limits, concentration limits, liquidity requirements and accounting classification. Held-to-maturity assets are measured at amortised cost and must genuinely be held; fair-value-through-OCI and fair-value-through-P&L portfolios carry mark-to-market consequences. HQLA eligibility constrains what may be counted as a liquidity buffer. Credit losses are recognised under expected credit loss models at origination, not when default becomes visible.
ALM metrics
A repricing gap measures rate-sensitive assets minus rate-sensitive liabilities within a bucket, giving an earnings (NII) view. Duration of equity measures the sensitivity of economic value of equity: D_E = (D_A × A − D_L × L) / E. Earnings metrics capture one year; value metrics capture the full revaluation.
Worked example
Rate-sensitive assets are 900 and rate-sensitive liabilities 760 over one year, so the gap is +140. A 100bp rise adds roughly 1.4 to net interest income. Now value: assets 1,200 with duration 3.0, liabilities 1,000 with duration 1.5, equity 200. D_E = (1,200 × 3.0 − 1,000 × 1.5)/200 = (3,600 − 1,500)/200 = 10.5. A 1% rate rise therefore reduces equity by about 10.5%, or 21. Note the conflict: the same rate rise helps earnings but hurts value, so ALCO must decide which measure governs.
Traps that cost marks
Netting assets and liabilities with different repricing conventions; assuming deposits reprice when they do not; putting trading assets in held-to-maturity to avoid volatility; ignoring embedded options and prepayments; reading one year of NII gain as proof the position is safe.