From a corporate standpoint, asset-liability management (ALM) is also known as surplus management i.e. managing the investment of the surplus amount.
From a banking standpoint, ALM refers to managing the risk due to the difference in the assets and the liabilities. A simple example of such a mismatch is as follows:
Let’s say a bank has deposits for an year for which it pays an interest of 10% and then further lends this amount at an interest of 11% for a period of 5 years. Now, at the end of each year, the bank will have to find funds (deposits) to finance the loan. Let’s suppose that the interest rate on deposits in the economy increases after an year to say 12%. Now, the bank would start making losses.
ALM tries to manage these losses primarily using tools such as matching the maturity of assets and liabilities, hedging and securitization.
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