A Project Report on Asset Liability Management in Andhra Bank

“Asset Liability Management in Andhra Bank”

EXECUTIVE SUMMARY INTRODUCTION The Indian banking can be broadly categories into nationalized [government owned], private Bank and specialized banking institution. The Reserve Bank of India acts a centralized body monitoring any discrepancies and shortcoming in the system. The nationalization of Bank in 1923, gave rise to the public sector Bank to play a prominent role, which led to tremendous progress. The Indian banking has finally worked up to the competitive dynamics of the ‘new’ Indian market and addressing the relevant issues to take on the multifarious challenges of globalization.

INRODUCTION TO ANDHRA BANK Andhra Bank is one of the premier Bank in the country, accredited with distinction. The present statures of the Bank are due to its strong fundamental and quality customer’s orientations. Profit making since inception, the Bank today symbolizes a perfect blend of commercial and social banking. For the year march 2007, the bank clocked the highest net profit [rs.1110 crore] among nationalized Bank, with significant improvement in capital adequacy ratio [12.78%] and assets quality [net NPA of1.88%]

Introduction to ALM Risk Management is the strategic tool, which helps in identifying, qualifying, monitoring and controlling risk. Risk management protects An organization from dying due to insolvency resulting from the adverse effects of risk.

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“Asset Liability Management in Andhra Bank”

Though universally relevant it is of immense to a banking organization or financial institution. In view of the same Risk Management is analyzed here from the banking perspective. However with the larger corporate houses establishing their own independent dealing rooms, risk management systems are no longer limited to banking organizations. A banking organization has to constantly strike a risk & reward balance. A proposal, which ma seem very rewarding in the short term, may wipe out the bank completely in the run due to high risk embedded in it. Risk Management systems are not a solution, but a tool to aid decision-making.

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“Asset Liability Management in Andhra Bank”

TITLE OF THE PROJECT “Asset Liability Management in Andhra Bank”

OBJECTIVES OF RESEARCH 1

To study the efforts of the Bank eliminate gap which difference

between

amount of rate sensitivity asset and rate sensitivity liability. 2

To study risk management technique designed by the bank to Earn an adequate return.

3

To find the overall asset liability management at Bank.

4

To give some tentative observations in the area of asset Liability management.

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“Asset Liability Management in Andhra Bank”

PROJECT DESIGN The project asset liability management was carried At Andhra Bank to find asset liability management in Bank more so in Andhra Bank. The information was collected from various sources like personal discussing with the bankers. Reference was made to the balance sheet and profit and loss account of the Bank as at 31 march 2003, 2004, 2005, 2006 and 2007. I have also referred various materials on the subject published by the Bank. I have also referred various books on the subject matter I have collected information from head office of the Bank which is situated at Hyderabad

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“Asset Liability Management in Andhra Bank”

WHY ALM? This area was chosen mainly because it is of prime concern for Most of the Bank in the present era. In view of the intense Competition prevailing in Bank increasing volatility interest rates there is a strain on spread and profitability. As such this is an Interesting subject for the students to enhance their knowledge. Hence this subject was chosen for the project.

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“Asset Liability Management in Andhra Bank”

FINDINGS 1. Almost the Andhra bank assets are matched with the liability Thereby leaving no gap 2. Better measures of internal rate of return can also be had by Linking gap to net interest income of the Bank 3. Bank deploy their funds to optimize their revenue while Maintaining their liquidity 4. The bank prefer book liability and then look for deployment of Funds 5. The bank usually manages liability in time with asset already Identified thus overcome the risk of idle liability 6. Even though proper mismatch is done the chances of Asset not

been paid on

maturity may effect the bank.

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“Asset Liability Management in Andhra Bank”

RECOMMENDATION 1. It is recommended that bank should manage the liability [Deposit collected from the customer] By proper deploy men into the asset [Loans and advances] of equal maturity 2. Proper hedging of increase and decrease in rate of interest 3. It is recommended that bank should manage funds in such a way that there is no hap 4. It is recommended that by proper deployment of funds Bank should earn revenue and there should not be any Mismatch 5. Better measures of internal rate of return can also be had by linking gap to net interest income of the bank

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“Asset Liability Management in Andhra Bank”

LIMITATION 1. The study I have conducted in Andhra Bank (Branch) at Traffic Island and the available material in the branch says that the Information is restricted to the above center only. 2. The project is conducted based on past performance .As the Past performances may not be the indicator of the future Results. 3. Performance of the Bank mainly depends on the Government policies in respect of investment and Infrastructure development Even though proper mismatch is done the chances of Asset not been paid on maturity may effect the bank

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“Asset Liability Management in Andhra Bank”

BRIF DESCRIPTION Indian banking system has performed exceeding well the various economic and political upheavals but in spite of its consistent performances and strong fundamental one main problem continuous to plug the banking industries that is the management of Assets and Liability with several risk that bank face on regular basis. The problem relating to asset liability has always been a cause of all the bankers “Asset Liability Management is concerned with risk management and provides comprehensive and dynamic framework for measuring, monitoring and managing liquidity, interest rate, foreign exchange and Equity and commodity prices risk of the Bank that needs to be closely integrated with the Bank business strategy. Asset liability management Involves assessment of various types of risk and altering Asset liability portfolio in a dynamic way in order to manage risk” Asset liability management is all about efficient management of balance Sheet dynamics with regards to its size, constituents and quality. It is a process of managing Net Income Margin [NIM] within the overall risk bearing ability of the Bank the entire asset liability process depends on understanding of balance sheet. The availability, accuracy adequacy and expediency of the data and management system of the Bank. One way to measure the direction and extent of Asset Liability mismatch is by using GAP analysis. The analysis derives its name from the gap. This is the difference between the amounts of “Rate sensitivity Asset [RSA] and Rate sensitivity Liability [RSL. Managing this gap is large part what asset and liability

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“Asset Liability Management in Andhra Bank”

management is all about. In order to undertake this in many Bank Asset Liability Committee [Alco] is formed to price and market loan and to deposit in such a way to eliminate gap

INDUSTRY

PROFILE

"Andhra Bank" was founded by the eminent freedom fighter and a multifaceted genius, Dr.Bhogaraju Pattabhi Sitaramayya. The Bank was registered on 20th November 1923 and commenced business on 28th November 1923 with a paid up capital of Rs 1.00 lakh and an authorised capital of Rs 10.00 lakhs. The Bank crossed many milestones and the Bank's Total Business as on 31.12.2007 stood at Rs.75,225 Crores with a Clientele base over 1.65 Crores. The Bank is rendering services through 2046 Business Delivery Channels consisting of 1343 branches, 73 Extension Counters, 592 ATMs and 38 Satellite Offices spread over 21 States and 2 Union Territories as at the end of December, 2007. All Branches are 100% computerized, 1186 units viz., 1101 Branches, 70 Extension Counters, 15 Service Centres networked under Cluster Banking Solution and providing "Any Branch Banking(ABB)". Real Time Gross Settlement (RTGS) Facility and National Electronic Fund Transfer (NEFT) facility has been introduced in 680 Branches. To provide value-added services to Customers, the Bank has set up its own 592 ATMs as on 31.12.2007. Of which 03 Mobile ATMs and two with Biometric access. Besides, ATM sharing arrangements with several Bank including SBI group, IDBI Bank, UTI Bank, HDFC Bank, Indian Bank and others under National Financial Network Switch covering 24856 ATMs.

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The Bank opened its Representative Office in Dubai in May, 2006 and has received permission from Reserve Bank of India for opening Representative Offices at New Jersey (U S A). Our Bank introduced Internet Banking Facility (AB INFI-net) to all customers of cluster linked branches. Rail Ticket Booking Facility is made available to all debit card holders through IRCTC Website through a separate gateway. Our Bank's Corporate Website is available in English, Hindi and Telugu Languages communicating our Bank's image and information. Our Bank has been given ‘BEST BANK AWARD’ a banking technology award by IDRBT, Hyderabad for extensive use of IT in Semi Urban and Rural Areas on 02.09.2006. IBA Jointly with TFCI has conferred the Joint Runner-up Award to the Bank in the Bet Payments initiative in recognition of outstanding achievement of the Bank in promoting ATM Channel. Bank successfully conducted " Bancon 2006", a two day event at Hyderabad, deliberating on Inclusive Growth - A New Challenge. Andhra Bank will open its Representative Office in New Jersey City in United States shortly. Bank feels United States would be an ideal location as Andhra Bank has been a household name among many NRIs there. A foothold in New Jersey is strategic for the 84 year old bank as it has a large number of non resident Indians from Andhra Pradesh. Thus our Bank accords utmost concern to customer satisfaction by offering innovative and need based financial products and services using state-of -the art technology. Founder

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Dr Bhogaraju Pattabhi Sitaramayya was born on 24th November 1880 in Gundugolanu village, West Godavari District in Andhra Pradesh. He was a renowned Freedom Fighter and a very illustrious personality.

Corporate Identity ('Togetherness ') is the theme of the logo of Andhra Bank where the world of banking services meets the realm of ever changing customer needs and establishes a link that is like a chain, inseparable. The logo also denotes a bank that's prepared to do anything, to go to any lengths, for the customer. The blue pointer on the top represents the philosophy of a bank that's always looking for growth and newer, and challenging, more promising directions .The keyhole indicates safety and security. The colours red and blue represent fusion of dynamism and solidity. At a time when the performance of the bank, the prospects of the bank, and even the perceptions of the bank are vibrantly different, and poised as we are at the threshold of a new millennium, this modernized logo is a tribute to the Andhra Bankers who are the true creators of the image of the bank. Babasabpatilfreepptmba.com

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“Asset Liability Management in Andhra Bank”

Dr. K. Ramakrishnan - Chairman & Managing Director

Shri K Ramakrishnan

took charge as Chairman and Managing Director of Andhra

Bank in June,2005. Brief profile of our Chairman and Managing Director is : Shri K Ramakrishnan, B.Com (Spl), MBA (Gold Medalist) (First Class First) has been conferred "Doctorate of Letters" by Acharya Nagarjuna University for contribution in the field of Banking. Dr.K. Ramakrishnan joined Bank of India in 1970. He was appointed Executive Director of Bank of Baroda in 2004 before taking chargeat Andhra Bank as Chairman & Managing Director. During his appointment in Bank of Baroda, he was Chairman, Bank of Baroda(Kenya) Ltd., and Chairman, BOB Housing Fianance Ltd., A widely travelled man with academic bent of mind, Mr. Ramakrishnan attended programmes at National Institute of Bank Management, Pune and Institute for Development Policy and Management, University of Manchester, UK. Dr. K Ramakrishnan is also Chairman, State Level Bankers' Committee, Andhra Pradesh and a visiting faculty at Central University, Hyderabad. Dr. Ramakrishnan will be the Chairman and Managing Director of Andhra Bank until 31st July, 2008.

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“Asset Liability Management in Andhra Bank”

Sri Kalyan Mukherjee - Executive Director

Shri Kalyan Mukherjee B.A.(Hons), MBA joined the Andhra Bank board as Executive Director on 25.03.2006. Before assuming charge as Executive Director, he was General Manager with UCO Bank. In his career with UCO Bank spanning 37 years, held various important assignments which included 10 years experience in Overseas Branches of UCO Bank, namely Singapore & Hongkong. Sri Mukerjee has wide experience in the area of HR. He was a member of Personnel Committee, Indian Bank' Association for around 3 years. Vision & Mission of Andhra Bank:-

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“Asset Liability Management in Andhra Bank”

Awards and Rewards AWARDS RECEIVED, SO FAR IN THE PRESENT YEAR - 2006-07: SAFA award * Received

Best

Presented

Accounts

Award

2005

from

SAFA's

(South Asian Federation of Accountants) Centrein Colombo, Sri Lanka on 16.01.2007. "BEST BANK AWARD" by IDRBT, Hyderabad * Andhra Bank has bagged the "Best Bank Award" in the category of "Use of IT for Customer Service in Semi Urban and Rural areas" for 2005-06. Our Chairman & Managing Director, Sri K Ramakrishnan has received the award from Sri Y V Reddy, Babasabpatilfreepptmba.com

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“Asset Liability Management in Andhra Bank”

Governor, RBI at Institute for Development and Research in Banking Technology (IDRBT) Hyderabad on 2.9.2006. MILESTONES ACHIEVED AND AWARDS RECEIVED DURING 2005-06 FINTECH Asia 2006 Award For "Any Branch Banking (ABB)" Andhra Bank has bagged the FINTECH Asia 2006 Award for its initiatives under "Any Branch Banking (ABB)" service across the Country. Andhra Bank is the only Bank in the Country to receive one of the six Awards announced by the Financial Insights (USA), an IDC Company, which is a Subsidiary of IDG, the World's leading IT Media, Research and Exposition Company. Ranked 683rd among Top 1000 Bank in the World The prestigious 'The Banker' - a Financial Times Business Publication, July 2005 Issue published from London has ranked Andhra Bank as the '683rd Largest Bank Globally', out of the Top 1000 World Bank' Annual Rankings. 2nd Highest Mover in the World having climbed 277 places over previous year Andhra Bank also happened to be the 'Second highest mover in the World and highest mover compared to any other Bank in Asia' having climbed 277 places in the Top 1000 Bank' Rankings based on Tier-I Capital.

Ranked as the Top Number 1 Bank in Asia under the "Return on Capital"

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“Asset Liability Management in Andhra Bank”

'The Banker' Magazine went on to Rank 'Andhra Bank as the Top Number 1 Bank in Asia' under the "Return on Capital" among all the Asian Bank - Rankings being based on Tier-I Capital Business Parameter. Adjudged Best Bank by Analyst Magazine - An ICFAI Publication Our Bank has been adjudged as the "Best Bank under Large Bank Category" by "The Analyst" Magazine - An ICFAI Publication, in its Performance Analysis of Select Indian Bank for 2004-05. The Best Bank as per the Business Standard Annual Banking Survey, 2004-05 The "Best Bank" Status was conferred on our Bank by the Business Standard in its Annual Banking Survey for 2004-05 in terms of Productivity, Profitability, Growth, Safety and Efficiency. Best Bank Rating from Business Today Magazine The Business Today Survey of the Best Bank in India has Ranked Andhra Bank at 5th Place under Largest Bank Category compared to last year where the Bank was Ranked at 15th Place in terms of Size and Strength, Operations, Productivity and Efficiency, Quality of Earnings, Capital Adequacy and Asset Quality. The Bank has also been Ranked No.5 under Slowest NPA Growth Category and Ranked No.2 under Return on Capital Employed Category.

ICRA Rating for Corporate Governance

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“Asset Liability Management in Andhra Bank”

Our demonstrated commitment to vigilant Corporate Governance has been rewarded by ICRA, which assigned us a Corporate Governance Rating of "CGR-2". This denotes high level of assurance on the quality of Corporate Governance. Award of Institute of Chartered Accountants of India for excellence in Financial Reporting The Institute of Chartered Accountants of India (ICAI) has recently awarded our Bank the "Silver Shield" under the category of Banking, Insurance and Financial Institutions, given for excellence in financial reporting in published accounts for the year, 2004-05. Our Bank is the only Public Sector Bank to receive an Award from ICAI. IBA Technology Award Andhra Bank has been conferred the "Runner-Up" Award under” Best Payment Initiative" at the Indian Bank' Association (IBA) Banking Technology Awards, 2005 for having wide ATM Network and highest number of hits per day. Awards for SLBC, as Convenor Bank in the State of AP State Level Bankers' Committee (SLBC) of A.P. (Convenor Bank: Andhra Bank) has been awarded for ensuring excellent performance by all Bank for Kharif 2005. Awards for Best Performance under Kharif Loans Andhra Bank was awarded by the Government of Andhra Pradesh for Best Performance in exceeding Targets under disbursement of Kharif during 2005.

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“Asset Liability Management in Andhra Bank”

Best Bank in lending to Agriculture Government of Andhra Pradesh has instituted for the first time Awards for Best Farmers and Best Bankers at the State Level and District Level. Andhra Bank has bagged the Best Banker Award at the State Level for its overall performance. Best Banker in lending to Unemployed Youth under Rajiv Yuva Sakthi Andhra Bank has been given the Best Banker Award for its performance during the Year, 2005-06 for achieving Targets under the Rajiv Yuva Sakthi Scheme.

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“Asset Liability Management in Andhra Bank”

INTRODUCTION TO ASSET LIABILITY MANAGEMENT On the threshold of new millennium the Indian banking sector is working up to the concept of Asset Liability Management. Asset Liability Management as a practice has been existence for quite Sometimes .It was introduced in the year 1970 in USA. When deregulation of interest rates compelled the bank to undertake an active plan to structure the balance sheet .The uncertainty of interest rates movement gave rise to internal rate of return .Thus there by causing the bank to look for measures to manage the risks. In the Wake of interest rate risk came liquidity risk and credit risk an inherent component of risk for Bank .The reorganization of risk brought Asset liability management to the centre stage of financial intermediation .The Indian economy has witnessed a similar scenario post reform. Banking Scenario is marked by interest rate deregulation entry of new private Bank, gamut of new product and greater uses of information techonology.To cope with the pressure bank are required to evolve with the strategies rather then temporary adhoc solution. These strategies are executed in the Form of asset liability management practices. An effective Asset Liability management technique aims to manage volume mix maturity, rate sensitivity quality and liquidity of asset and liability. Asset liability management framework rest on three pillars

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“Asset Liability Management in Andhra Bank”

1. 2.

Rate Sensitive Asset Balance with RBI Money at call and short notice

Rate Sensitive Liability Saving bank deposit Term deposits

3.

Term deposit with other Bank Investments

Borrowing

4. 5.

Advances Leased asset

Coupon and from RBI Refinancing from others Repose, bills rediscounted,

1) 2)

Non-Rate Sensitive Asset Cash Current account balance in

Non-Rate Sensitive Liability Capital, reserves and surplus Current deposit

3)

Others Bank Shares /units of mutual funds

other liability and provision

-fixed,

floating,

1. Asset Liability Management Organization 2. Asset Liability Management Information 3. Asset Liability Management Process Asset Liability Management Organization The ALCO committee consisting of Bank senior management including Chief Executive Officer should be responsible for adhering to the limit set by the board as well for deciding for the business strategy of the Bank in time with Bank budget and deciding about the risk management objectives .Thus ALCO is a decision making unit responsible for balance sheet planning from a risk return perspective including strategic management of interest and liquidity risk.

Asset liability management system

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“Asset Liability Management in Andhra Bank”

This is for collecting of information accurately and expeditiously. Information is the key of Asset Liability management process. A good information system gives a bank management a complete picture of the bank balance sheet. Asset liability management process The basic Asset Liability Management

process involves identification, measurement

and management of risk parameters. The first step in setting up the Asset Liability Management function in the Bank would be to decide upon the bank measurement framework. That is what would be the risk measure parameter that the management would need to focus on. The appropriate parameters would depend on violability in the operatin environment, availability of supporting data, the expertise available within the market and expected market and business development for instance the introduction of derivate and securitization .The risk parameters chosen should be capable of capturing risk to the immediate profitability as well as risk on the long term viability. I.e. future spread Balance sheet value and economic capital adequacy with changes in interest /exchange rates. Typically, in Bank the word otherwise has two major parameters to measure the balance sheet risk is the first is the risk to the Net Interest Income of the Bank which measures the risks to the Immediate accounting year’s profits that occur from cash flow mismatch occurring in accounting years. The other parameters is the market value of portfolio equity [MVPE] is the difference between the market to the market value of the bank asset and liability. It measures the risk that lies in the bank balance sheet due The maturity mismatch in it Asset and Liability over the future year’s .The two parameters together capture the short term and the long term balance sheet risk.

CLASSIFICATION OF ASSET AND LIABILITY

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“Asset Liability Management in Andhra Bank”

In India there are diverse accounting policies and practices in use, to harmonize these on April 1, 1977 THE INSTITUTE OF CHARTERED ACCOUNTANT OF INDIA (ICAI) constituted the Accounting standard board (ASB) which has issued guidelines of standard since then accordingly the balance sheet of Bank and financial Institution should consist of 12 schedules divided into two Parts A] Asset B] Liabilities Asset: cash and balances with RBI, balances with Bank and money at call and short notice, investments advances, fixed asset and other asset Liability: capital reserves surplus, deposit borrowings other liabilities provision and contingent liability For asset liability management these asset liabilities are classified into different time periods popularly called time or maturity buckets, depending on maturity profile and interest rate sensitivity .As per RBI norms

or

guidelines

issued

for

Asset

Liability

Management

implementation in Bank in 1999 there are 8 times bucket from T -1 to T-8 classified respectively as follows:

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“Asset Liability Management in Andhra Bank”

1. 1 to 14 days 2. 15 to 28days 3. over 29 days up to 3 months 4. over 3 months up to 6 months 5. over 6 months up to 1 year 6. over 1 year up to 3 years 7. over 3 years up to 5 years 8. over 5 years

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“Asset Liability Management in Andhra Bank”

THE BROAD OBJECTIVES OF ASSET LIABILITY SYSTEM IN ANDHRA BANK 1. To control violability of Net Interest Income from changes in Interest rates 2. Optimization of profits by ensuring acceptable balance between profitability, growth and risk. 3. Funding of bank operation through capital planning 4. Product planning and introduction of new product. 5. To control violability of market value of capital from market risk. 6. Suitable period of planning say 1,2 or 3 months ahead 7. Choosing a model that yields a stable net interest income consistently while ensuring liquidity.

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“Asset Liability Management in Andhra Bank”

FUNCTIONS OF ALCO 1. STRATIGIC PLANNING 2. PRODUCT PLANNING 3. RISK MANAGEMENT

The functions of Alco are explained under the following detaile Structure. They are: 1. Balance sheet planning from risk return perspective 2. Desired maturity profile and a mix of incremental Asset and Liability 3. Articulating and reviewing the funding policy 4. Articulating interest rate view of the bank 5. Reviewing transfer policy of the bank 6. Approving pricing of various deposits and advance policies 7. Monitoring the implementation of policies and review of operations with in the limits and parameters set by the board 8. Reviewing the result and progress in implementation of the decision taken in the previous meeting

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“Asset Liability Management in Andhra Bank”

Following information is required to be furnished to ALCO Regularly: 1. Liquidity ratio 2. Profitability ratio 3. Structural liquidity statement of the preceding report date 4. Short term liquidity statement of the preceding fortnight 5. Interest rate sensitivity statement of the preceding report date 6. Analysis of built deposit on monthly basis 7. Analysis of inflow and outflow of retail and bulk deposit on fortnight basis 8. Sources and uses of fund on fortnight basis 9. Duration gap analysis of asset and liability in balance sheet on monthly basis 10. Trend in net interest income on quarterly basis 11. Position of adherence of risk limit in forex operation 12. Economic and political impact in balance sheet

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“Asset Liability Management in Andhra Bank”

ANALYSIS OF ALM IN ADHRA BANK 1. Meeting of Alco is held regularly on a fortnightly and monthly basis 2. They collect asset liability management data on regular or Fortnightly basis 3. Many Bank are conducting behavioral study of saving bank deposit and current bank deposit at a core and volatile proportion 4. Bank are measuring both mismatch risk and basic risk to measure Net interest income 5. Bank are pricing deposit and advance using asset liability system

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“Asset Liability Management in Andhra Bank”

MARKET RISK Market risk related to financial condition which results in adverse Movement in market price. A significant fluctuation in asset holding would adversely affect the balance sheet of the bank. The financial institution acquire the bonds and hold them till maturity and when there is significant increase in interest rate or there is violent fluctuation in rate structure substantial reduces the value of security held LIQUIDITY RISK It is inability of Bank to generate cash to cope with decline in deposit and increase in Asset .The ability in fund increase in Asset and meet obligations as and when due is crucial to the viability of the banking organization hence managing liquidity is most important activity conducted by the Bank. It is the outcome of mismatch in the maturity pattern of asset and liability .The liquidity can be classified under the following broad category 1. The need to replace new outflow of funds whether due To withdrawal of deposit or non renewal of whole sale Funds 2. Need to compensate for the non receipt of the expected inflow of funds i.e. borrowed fails to meet the commitment 3. Need to find new funds when contingent liability becomes due

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“Asset Liability Management in Andhra Bank”

4. The need to undertake new transaction when required i.e. request for fund from important client

INTREST RATE RISK Bank face two kinds of balance sheet risk that is credit risk and Interest rate risk .These risk expose bank business to certain potential lossess.The losses are of three types they are 1. Expected loss 2. Unexpected loss 3. Stress loss Expected loss is always insurable through hedges. Unexpected loss cannot be predicated. It is therefore defined as value at risk [VaR].The third types of loss bank faces under extreme condition occurs rarely it is called stress loss bank mostly use funding and maturity gap analysis model to control internal rate of return. The financial indicator is given below

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“Asset Liability Management in Andhra Bank”

FINANCIAL

SUMMARY

RS (MN) Interest

2003 56183

2004 63706

2005 66577

2006 70634

2007 75719

income Interest

37325

45503

44248

43246

44215

expenses Net interest 18830

18203

22330

27388

31504

income Total other 9187

14285

15121

20729

15438

income Total income Total

28008 16696

32488 15926

37451 17477

47553 18966

46942 21089

Expenses Pre provision 11312

16562

19974

28587

25853

Profit Total

8461

9148

9785

15207

14758

provision Profit after 2851

7414

10189

13380

11095

operating

tax

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“Asset Liability Management in Andhra Bank”

ALL ROUND SPREAD EXPANSION Most off the Bank in the financial Year 2007 have shown modest rise in interest on advances with growth in interest on investment improving interest income. Andhra Bank has also shown modest rise in interest income during the financial year .In the event of any rise in yields the bank will further improve the interest income .The interest on advances has improved by about 10% where as income on investment there is marginal increase. The interest expenses has improved marginally despite the fact that deposit have grown by 12.23% the Bank fee income shows improvement in spite of The Fact that fee income market is heating up as the private Bank are eating away public sector Bank business under these category of commission on guarantees, letter of credit and demand draft Commission.

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“Asset Liability Management in Andhra Bank”

ASSET LIABILITY MANAGEMENT

1. Measuring Interest rate risk 2. Focus is on gap there are three types of gap they are a) Dollar gap ,Fund gap, Reprising gap b) Maturity gap c) Duration gap

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“Asset Liability Management in Andhra Bank”

GAP

The Andhra Bank with asset and liability of different maturity

ASSET LIABILITY GAP(A- L)

0 – 60 10 20 -10

61 – 90 0 5 -5

91 – 120 40 30 10

121 – 180 20 50 -30

GAP (continued) CUMULATIVE GAP =

GAP OVER WHOLE PERIOD

CGAP =

= CGAP

=

-10 -5 +10 -30

-35

NOTE:

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“Asset Liability Management in Andhra Bank”

IF + GAP, THEN LOSE IF RATE FALLS IF – GAP, THEN LOSE IF RATE RISE.

MATURITY GAP BACKGROUND CONSIDER 1-YEAR BOND WITH COUPON AT 10% AND YTM 10% P = 100+0.10*100/1+0.10 = 110/1.10 = 100

IF RATE INCREASES AT 11% p = 100+0.10*100/1+0.11 = 110/1.11 = 99.10

CONCLUSION IF RATE INCREASES AND PRICE DECREASES THEN PRICE BY RATE IS LESS THAN ZERO

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“Asset Liability Management in Andhra Bank”

MATURITY GAP CONSIDER A 2 YEAR BOND P

= 10/1.10+ 110/ (1.10)2

= 100 P

= 10/1.11+ 110/ (1.11) 2

= 98.29 PRICE FELL MORE THAN ONE YEAR BOND

CONCLUSION The longer the maturity the greater the fall in the price for the given level increases in interest rates

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“Asset Liability Management in Andhra Bank”

GAP ANALYSIS The difference between Asset and Liability is called as gap. A zero gap position is the best choice if the bank is not able to speculate interest rate or if its capacity to absorb risk is zero. With zero gap the Bank is fully hedged against increase and decrease in the rate of interest as Net Interest Income will not change in both the case .A summary of gap interrelationship with net interest income is given below

SI NO

TYPE OF GAP

CHANGE IN INTEREST CHANGE IN NII RATES

1 2 3 4 5 6

RSA = RSLS RSA = RSLS RSA >= RSLS RSA >= RSLS RSA 5 years

total

Term deposit

851

613

1835

1858

237

26601

3729

1172

19030

Total outflow (a)

3414

849

2806

3099

2799

8798

4092

4903

40760

Total inflow(b)

3440

752

2105

2636

2630

8036

4481

16501

40581

Net gap (b-a)

26

-97

-701

-463

-169

-10762

389

11589

-179

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Cumulative gap

26

-71

-772

-1235

-1404

-12166

-11777

-179

__

Deposit (d)

Under deposit since saving bank and current account are payable on demand they are further classified into volatile and core portion. Position represents the amount which

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may be with drawn and the Core portion represents that the portion that shall explain with the bank. RBI has prescribed 10% in case of savings bank and 15% in case of current Account deposit likewise asset side in respect of cash credit / overdraft loans Bank should arrive at core and volatile position based on avaliament portion. Volatile portion is to be fitted in shorter time buckets and the core Portion in 1 to 3 years buckets.

MISMATCH OF FLOW AND STRUCTURE LIQUID

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STATEMENT The information from residual maturity profile statement received from the branches and the future cash inflow and outflow of other asset and liability at head office are all consolidated and statement of structural liquidity is prepared. An excess of inflow over outflow indicates positive mismatch and an excess of outflow over inflow indicates negative mismatch .Cumulative positive mismatch indicate shortage of liquidity .The above report indicates that the Bank have positive cumulative mismatch only if the first times bucket of 1 to 14 days in the entire remaining time bucket it has negative cumulative mismatch indicating shortage of liquidity. These statement are prepared once in the fortnight basis and placed before Alco Committee formed at an applex level consisting of top executive Alco goes through the statement and suggest the way to manage liquidity if liquidity shortage is excess they will practically focus on liquidity position within the short term.RBI stipulates that the mismatch in the time bucket up to 28 days should not exceed 20% of the cash outflow in the each time bucket .Andhra Bank has set a tolerance level for each of time buckets based on expererience or occurrence of mismatches in various time bands

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LIQUIDITY MANAGEMENT The logical step that follows after liquidity statement analysis is liquidity management the question the Bank should ask is as follows

1. Is the liquidity mismatch positive or negative for a period under consideration within the tolerance limit as per liquidity policy of Bank 2. If not what are the strategies to be employed to ensure the liquidity is within the manageable limits and sometimes if mismatches are with in tolerance but Alco may still implement strategies to take advantage of prevailing market condition to get maximum benefits 3. Typical strategy employed in liquidity management are availing reference from various sources securitization and asset sale obtaining time of credit from other institutions support from parents canvassing bulk deposit and market borrowings In case of positive mismatch indicating surplus liquidity strategy should be involved to deploy fund judiciously for maximization the result .Alco also analysis each one of the strategy in terms of cost and intended benefits before employing strategy for mismatch management.

Besides managing

liquidity on day to day basis. As per RBI requirements of all Bank have to draw a contingency Funding plan to manage stress scenario and to withstand prolonged adverse liquidity crises.

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A contingent fund plan [CFP] is cash flow that projects the fund needs and funding sources. The liquidity crises may occur without warning. Bank in such situation should appear organize and efficient to the public. Hence contingent fund plan [CFP] should specify how to handle administrative matters in the crises contingent fund plan [CFP] of a bank should be commenced at with the Bank complexity activities risk exposure products and organizational structure.

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ASSET LIABILITY MANAGEMENT Successful

implementation

of

Asset

Liability

process

calls

for

setting of limits for negative mismatch for cash flow for various time bands taking into account the experience gained over past trends .Every Bank should have asset liability committee comprising of Bank Senior representative like chair man and managing director that is responsible for ensuring adherence to limits set by the board and deciding on the strategy to be adopted for managing liquidity optimally. In addition they should set an asset liability management support group consisting of operational staff for collection, consolidation and providing information to Alco in a desired form. INTREST RATE RISK MANAGEMENT Bank mainly performs basic two functions accepting deposits and creating asset through investments and loans. In this process they assume Liability and create Asset which are of different maturity, size and carry different prices i.e. interest rates. That is to say asset and liability mature or fall due for reprising at different point of time .Here by reprising we mean application of fresh interest rates prevailing at the time of maturity of deposit or an asset .Let we take an example of granting a loan (asset) Repayable in 5 years by using funding rose from 1 year deposit (Liability) .At the end of 1 year the deposit will have to be reprised at higher or lower price prevailing then, while the loan will continue to provide fixed return from the remaining period of four years .That is to say There is a reprise mismatch between the loans (5 years) and the deposit (1 Year). If the interest rate increases by the time the deposit matures, Bank will be able to canvass fresh deposits required to funding the loans only at the higher interest rate .This

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will result in the reduction in the interest spread; this in turn affects the Net Interest Income (NII) of the Bank. Interest rate risk management is nothing but extending the above analogy to all the interest rate sensitive items in the balance sheet and working out the impact on net interest.

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METHODS OF MANAGING INTREST RATE RISK Interest rate risk is managed using the following methods 1) Gap analysis or traditional gap method 2) Duration gap analysis 3) Simulation method

TRADITIONAL GAP METHOD It is most common method used in Bank at present for measuring the interest rate risk .The bulletin will confine itself to explaining in detail the traditional gap method .In this method the Following steps are

1. Categorization of balance sheet items into rate sensitivity Asset and rate sensitivity liability. 2. Preparation of rate sensitive asset ( that it is fitting the rate sensitivity asset and rate sensitivity liabilities into various times buckets) 3. Taking a stand on the future movement of interest rates in a fixed .Time horizon usually one year. 4. Estimating the impact of assumed movement in interest rate on the Net Interest Income.

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RATE SENSITIVE ASSET AND LIABILITY Balance sheet consists of rate sensitive and non rate sensitive Asset or Liabilities. An Asset or Liability is classified as rate sensitive if during the time frame and consideration 1. There is cash flow 2. Interest rate gets reset or reprised 3. RBI changes the interest rates that is in case where the interest rates are administrated (SB, DIR, EXPORT REDIT

REFINANCE,

and CRR BALANCE ECT).

CATEGORISATION OF BALANCESHEET ITEMS. The entire balance sheet items are grouped into rate sensitive asset rate sensitivity liabilities by applying the above rules. Those that do not fulfill the criteria are categorized as rate non sensitive Asset and Liability. We are furnishing below how balance sheet Asset and Liabilities are categorized based on interest rate sensitivity.

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PREPARATION OF RATE SENSITITY STATEMENT The asset and liability after categorization into rate sensitive and rate non sensitive segments such as explained above are put under various time brackets based on cash flow maturity pattern. We thus have under each time bracket data representing the cash flow amount reprised both in respect of asset and liability .The summation of items given in asset side gives total rate sensitive assets. Similarly summation of items given in Liability side ahead gives total rate sensitive liability .The difference between two is called reprising gap or rate mismatch gap.

If rate sensitive assets exceed rate

sensitive liability it results in positive mismatch and Reverse rate sensitive liability exceeds Rate sensitive assets results in negative mismatch .Let we take the balance Sheet of Bank with hypothetical data and examine how the reprise gaps Impact net interest income let us take the first time bucket of 0 to 1 month. We can see the rate sensitive asset (A) exceeding the rate sensitive liability (B) by RS 100 cores(C). If interest rate during the time horizons rise both for asset and liability Bank Net Interest Income will increase to the tune of RS 100 Corers will be priced at higher interest rates contrarily in the case of 1 Month to 3 months to 6 months time horizon risk sensitive liability (B) exceeds risk sensitive asset (A) .In these time horizons if interest rate rises both the asset and liability will have negative impact on Net Interest Income since liability to the tune of 100 and 200 corers will be reprised at the higher interest rate .Thus the Net Interest Income is determined by size of mismatch gap and extent of adverse change in interest risk

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INTREST RATE SENSITIVITY STATEMENT ITEMS ASSET Cash Deposit

0-

1M-

>3M-

>6M-

1M

3M

6M

1Y

>1Y

NON SENSITIVE 20

With 20

Bank Investments Loans Premises Total (A)

180 1200

100 300 1400 400

LIABILITY Current deposits Saving deposits Term deposits Borrowings Other liabilities Total (B)

400

100 400 500

500 600 1100

600 620 820

800 100 400

100 300 200

500

1300 600

500

200

200

100 700 1620

-100

300

900

-1000

-200

+100

+1000

INTREST RATE +100 -200 SENSITITE GAP C (A-B) CUMULATIVE

80 320

+100 -100

200

TOTAL

200

20 20 860 2620 900 4420 820 900 1300 700 700 4420

GAP

IMPACT OF REPRICING AND INTREST RATE

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CHANGE ON NET INTREST INCOME We can calculate impact of assumed increase in interest rate (1%)

on Net Interest

Income by making following assumptions 1. Reprising of asset and liability are evenly spread across time buckets 2. Midpoint in each time buckets is taken as a time for which the Interest rate changes are effective 3. Adverse or favorable impact on Net Interest Income resulting from interest rate continuous to be same during the remaining period of performance horizons The absolute amount of Net Interest Income loss based on the above assumptions can be worked out as follows for each of the time buckets

If downward movement of interest rate is predicated in the planned

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time horizon we can work out the impact of such changes on the NII by applying the same formula as explained above for the different times buckets and arrive at the net impact. We can also decide on shorter time horizons like quarterly or half early based on the volatility of interest rate in the market and accordingly work out the impact on Net Interest Income. We can thus summarize the effect reprising gaps and interest rate change on net interest income in the form of the following table

GAP POSITIVE POSITIVE NEGATIVE NEGATIVE

INTREST RATE CHANGE INCREASE DECREASE INCREASE DECREASE

IMPACT ON NII POSITIVE NEGATIVE NEGATIVE POSITIVE

Hence Bank have to fix limits on both individual and cumulative reprising gaps to effectively manage their adverse impact on Net Interest Income .Traditional gap method involves targeting particular Net interest income for the chosen time horizons and fixing limits on Gaps in various time band Accordingly. The policies and product are so formulated so as to help in achieving projected NII. In addition to those money market instruments and derivative products will also be used to bring in desired change in the gap profiles. Gap management

Involves adjustment of gaps to achieve desired financial goals in anticipation change in interest rates.

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If rates are expected to raise the Gap can be widened to take advantage of anticipated returns in Asset Yield. If rates are expected to fall the gap can be narrowed to take advantage of anticipated lower liability costs. The traditional gap analysis does not capture the impact of embedded options that is (the customers exercising the options to close the deposit before maturity or prepay the loan and advance availed) on the interest rate risk profile of Bank. The magnitude of embedded options risk at times of volatility in market interest rate is substantial .Bank should therefore evolve suitable mechanism supported by empirical studies and behavioral analysis estimates the embedded option in the asset and liabilities.

BEST PRACTICES OF ASSETS LIABILITY MANAGEMENT

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It can be diversified as a continual process of arranging and rearranging of major items of the both side of balance sheet remain profitable provided service meet mission and not to take undue risk. In other words it is how much we decide and how much we have to pay for our funds how long do we commit to our member / creditor and at what rate and what do we do with this fund or what kind of loans or other investments do we make how much money will we use by investing in fixed asset and how much of cushion will we maintain.

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GOALS Any Asset Liability plan to be successful we have to concentrate on the Following items they are: 1. Keeping the advance in an profitable way 2. Anticipating liquidity needs 3. Keeping good spread 4. Gap management 5. Minding the gap that is difference between rate sensitive asset and rate sensitive liability for a given period

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WHAT RISK WE CAN MANAGE We can manage the following risk they are 1. Credit rate risk 2. Interest rate risk 3. Market risk ( bad investment)

Good Asset Liability Management is something we need to do on an on going base .It is just like driving a car thing constantly change around you that is our economic environment and we need to be flexible to respond .In other words driving or managing our advances in a perfect way So that the situation will not lead to disaster

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HOW TO MANAGE THE GAP This is easy to do once you plan it up it is easier if proper electronic spread sheet is used that is excel the spread sheet is designed to allow you to list your asset and liability and define them as either rate sensitive or not .If they are rate sensitive you break out the asset and liability by its maturity or turnover rate sensitive means asset and liability is affected by outside interest rate core share are not rate sensitive. Core share are those savings that would stay with you even if you reduce the dividend rate to zero. Asset and liability management is not to gamble but to hedge. Finally to take care of asset and liability management formation of Alco is recommended it can be made of key staff members, board members etc. committee should meet regularly and prepare the gap spreadsheet committee should recommend to management based upon analysis of spread sheet and other factors and evaluation

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TOOLS AVALIABLE FOR ALCO

1. The gap spreadsheet 2. Offering replicable loan 3. Adjustable rate 4. Selling loans to secondary market to minimize interest rate risk and improve liquidity 5. Promoting regular savings 6. Trend analysis 7. Ratio analysis [ratio of loans to advance] 8. Keeping a line of credit at your disposal

.

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WHAT DO YOU MEAN BY LIQUIDITY Liquidity is able to meet the cash needs share withdrawals making loans ect. The important thing in asset liability management is to match the source of funds [deposit] with uses [loans]

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INFORMATION AND POLICIES In order to achieve stable net interest margins optimal earnings and adequate liquidity control of financial risk and the information base in the bank has to be strong and sound. The information required is past , present and projected data on Bank asset and liability portfolio including projected additions maturity and reprising Bank have to take care of changes in Bank balance sheet caused by the customers’ decision to repay the loan withdraw there deposit before maturity and Transfer there business to other Bank that has bearing to asset liability Position.

RISK MANAGEMENT SYSTEM Bank should accurately measure and control market risk in view of increasing market risk. In banking operations hence recommendations of those Bank should have in place well structured risk managing system This should include measuring risk, controlling risk and monitoring risk this will help bank to attain desired res Bank risk exposure depends upon volatility of interest rate and asset prices in the financial market and the Bank maturity gap in the management of Bank asset and liability .Interest risk management lies a good foundation asset liability management

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RISK ANALYSIS AND MANAGEMENT Interest rate risk can be analyzed in four methods 1. Gap analysis 2. Duration analysis 3. Value at risk 4. Stimulation

POLICIES ISSUES Strengthening of information technology in Bank would be an important Pre requisite to implement asset liability management system in Bank every financial structure or commitment has implication for Bank liquidity. A proper liquidity management would help the management in formulating the business strategy in Bank with international pressure treatment of asset liability in multiple a currency adds yet another layer of Comp Alco is more powerful body in asset liability management framework. Hence for taking business decisions the board of Bank depends on recommendation of Alco

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FINDIGS AND ANALYSIS

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FINDINGS 1. Almost the Andhra bank assets are matched with the liability Thereby leaving no gap 2. Better measures of internal rate of return can also be had by Linking gap to net interest income of the Bank 3. Bank deploy their funds to optimize their revenue while Maintaining their liquidity 4. The bank prefer book liability and then look for deployment of Funds 5. The bank usually manages liability in time with asset already Identified thus overcome the risk of idle liability 6. Even though proper mismatch is done the chances of Asset not

been

paid on maturity may effect the bank.

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RECOMMENDATIONS In liberated financial markets Bank Asset and Liability variations are influenced by interest rates and exchange rate voliability.The Competitive environment in banking industry due to liberisation has added pressure to the importance of financial management Bank to manage not only credit risk but various type of financial risk including interest rate, exchange rate, liquidity settlement and transferable risk to maximize profit and minimize risk .In other words to put the risk management system in place strong and dedicated risk management system is required. 1. Asset liability and off balance sheet risks 2. Information and scientific risk management technique 3. Dedicated asset liability management committee Asset liability management has a mean of risk management technique is an important function in bank. It focuses on how various functions of the Bank is adequately and well coordinated essentially covering planning, directing and controlling of the level of changes and mixes of various balance sheet account. In asset liability management Bank is concerned with management of market risk consisting of 1. Interest rate risk 2. Foreign exchange risk 3. Equity price risk 4. Commodity price risk

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Asset liability management covers liquidity management and capital planning broadly asset liability management objectives is to control the volatility of net interest income and net income value of the Bank in order to achieve these results asset liability committee must be guided by policies that addresses the overall asset liability management goals and risk limit and by information that relates to the asset liability position The financial management structure consist of managing Balance sheet on one side and income and expenditure on the other side .Banking industry to compete in free market condition has to give priority for managing and minimization of the risk prevailed in banking operations. It has been observed that failure of risk management and control system very significant factors for Bank failure hence recommendation are for the success of asset liability management depends on effective existence Of 1. Information and policies 2. Risk management system

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.

LIMITATION 1. The study I have conducted in Andhra Bank (Branch) at Traffic Island and the available material in the branch says That the Information is restricted to the above center only. 2. The project is conducted based on past performance .As the Past performances may not be the indicator of the future Results. 3. Performance of the Bank mainly depends on the Government policies in respect of investment and Infrastructure development 4. Even though proper mismatch is done the chances of Asset not been paid on maturity may effect the Bank.

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CONCLUSION The Andhra Bank require sophisticated analytical tool for in depth analysis of asset Liability management which helps in managing their asset and liability. There are number of models for doing analysis for effective results. As per Alco recommendations, Bank have to decide which model helps them based on the architecture of their branches .It is recommended that analysis be done based on basic model that is gap analysis as the start up for Analyzing the position of Bank .As expertise go one can adopt high end Models like SP models for analyzing the uncertainty factors and validate to suit there goals. The braches which provide the database for asset liability management should be provided with feedback for the statement generated at the head office for better results and performance. The Efficient performance of every branch is important for the overall asset Liability management of the entire Bank. Avoiding the gap in literal terms may not be possible for all the Bank. Given the constraints of the Bank that they operate at, Bank could manage to effectively minimize the Gap.

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BIBLIOGRAPHY

1. Asset liability in Andhra bank 2. risk measurement in bank 3. treasury management 4. www. Indianinfoline.com 5. Andhra bank website 6. Annual report 2006- 2007 of Andhra bank

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