INDEX

S.No: CHAPTER PAGE NO.

1. CHAPTER-1 1-07

INTRODUCTION

Scope of the Study

Objectives of the Study

Methodology of the Study

Limitations of the Study

2. CHAPTER-1I 08-30

INDUSTRY PROFILE & COMPANY PROFILE

3. CHAPTER-1II 31-55

REVIEW OF LITERATURE

4. CHAPTER-1V 56-83

DATA ANALYSIS AND INTERPRETATION

5. CHAPTER-V 84-88

FINDINGS

SUGGESTIONS

CONCLUSIONCONCLUSION

BIBLIOGRAPHYBIBLIOGRAPHY

CHAPTER-I

INTRODUCTION

INTRODUCTION

Asset Liability Management (ALM) is a strategic approach of managing the balance

sheet dynamics in such a way that the net earnings are maximized. This approach is

concerned with management of net interest margin to ensure that its level and riskiness

are compatible with the risk return objectives.

If one has to define Asset and Liability management without going into detail

about its need and utility, it can be defined as simply “management of money” which

carries value and can change its shape very quickly and has an ability to come back to its

original shape with or without an additional growth. The art of proper management of

healthy money is ASSET AND LIABILITY MANAGEMENT (ALM).

The Liberalization measures initiated in the country resulted in revolutionary

changes in the sector. There was a shift in the policy approach from the traditionally

administered market regime to a free market driven regime. This has put pressure on the

earning capacity of co-operative, which forced them to foray into new operational areas

thereby exposing themselves to new risks. As major part of funds at the disposal from

outside sources, the management are concerned about RISK arising out of shrinkage in

the value of asset, and managing such risks became critically important to them.

Although co-operatives are able to mobilize deposits, major portions of it are high cost

fixed deposits. Maturities of these fixed deposits were not properly matched with the

maturities of assets created out of them. The tool called ASSET AND LIABILITY

MANAGEMENT provides a better solution for this.

ASSET LIABILITY MANAGEMENT (ALM) is a portfolio management of assets and

liability of an organization. This is a method of matching various assets with liabilities on

the basis of expected rates of return and expected maturity pattern

In the context of ALM is defined as “a process of adjusting s liability to meet

loan demands, liquidity needs and safety requirements”. This will result in optimum

value of the same time reducing the risks faced by them and managing the different types

of risks by keeping it within acceptable levels.

RBI revises asset liability management guidelines

On February 6/2014

Guidelines on ALM system issued in February 1999(first revised), covered, inter alia,

interest rate risk and liquidity risk measurement/ reporting framework and prudential

limits. Gap statements are prepared by scheduling all assets and liabilities according to

the stated or anticipated re-pricing date or maturity date. As a measure of liquidity

management, banks were required to monitor their cumulative mismatches across all time

buckets in their statement of structural liquidity by establishing internal prudential limits

with the approval of their boards/ management committees. As per the guidelines, in the

normal course, the mismatches (negative gap) in the time buckets of 1-14 days and 15-28

days were not to exceed 20 per cent of the cash outflows in the respective time buckets.

In the era of changing interest rates, Reserve Bank of India (RBI) has now revised its

Asset Liability Management guidelines. Banks have now been asked to calculate

modified duration of assets (loans) and liabilities (deposits) and duration of equity.

This was stated by the executive director of RBI, V K Sharma, and here today. He said

that this concept gives banks a single number indicating the impact of a 1 per cent change

of interest rate on its capital, captures the interest rate risk, and can thus help them move

forward towards assessment of risk based capital. This approach will be a graduation

from the earlier approach, which led to a mismatch between the assets and liabilities.

The ED said that RBI has been laying emphasis that banks should maintain a more

realistic balance sheet by giving a true picture of their non-performing assets (NPAs), and

they should not be deleted to show huge profits. Though the banking system in India has

strong risk management architecture, initiatives have to be taken at the bank specific level

as well as broader systematic level. He also emphasized on the need for sophisticated

credit-scoring models for measuring the credit risks of commercial and industrial

portfolios.

Emphasizing on a need for an effective control system to manage risks, he said that the

implementation of BASEL II norms by commercial banks should not be delayed. He said

that the banks should have a robust stress testing process for assessment of capital

adequacy in wake of economic downturns, industrial downturns, market risk events and

sudden shifts in liquidity conditions. Stress tests should enable the banks to assess risks

more accurately and facilitate planning for appropriate capital requirements.

Sharma spoke at length about the need to extend the framework of integrated risk

management to group-wide level, especially among financial conglomerates. He said that

RBI has already put in place a framework for oversight of financial conglomerates, along

with SEBI and IRDA. He also said that at the systematic level efforts are being made to

create an enabling environment for all market participants in terms of regulation,

infrastructure and instruments.

NEED OF THE STUDY:

The need of the study is to concentrates on the growth and performance of The

Housing Development Finance Corporation Limited (HDFC) and to calculate the

growth and performance by using asset and liability management and to know the

management of nonperforming assets.

To know financial position of The Housing Development Finance Corporation

Limited (HDFC)

To analyze existing situation of The Housing Development Finance

Corporation Limited (HDFC)

To improve the performance of The Housing Development Finance

Corporation Limited (HDFC)

To analyze competition between The Housing Development Finance

Corporation Limited (HDFC) with other cooperatives.

SCOPE OF THE STUDY:

In this study the analysis based on ratios to know asset and liabilities management under

The Housing Development Finance Corporation Limited (HDFC) and to analyze the

growth and performance of The Housing Development Finance Corporation Limited

(HDFC) by using the calculations under asset and liability management based on ratio.

Comparative statement.

Common size balance sheet.

Ratio analysis.

OBJECTIVES OF THE STUDY

o To study the concept of ASSET & LIABLITY MANAGEMENT in The

Housing Development Finance Corporation Limited (HDFC)

o To study process of CASH INFLOWS and OUTFLOWS in The Housing

Development Finance Corporation Limited (HDFC)

o To study RISK MANAGEMENT under The Housing Development

Finance Corporation Limited (HDFC)

o To study RESERVES CYCLE of ALM under The Housing Development Finance

Corporation Limited (HDFC)

o To study FUNCTIONS AND OBJECTIVES of The Housing

Development Finance Corporation Limited (HDFC) committee.

METHODOLOGY OF THE STUDY

The study of ALM Management is based on two factors.

1. Primary data collection.

2. Secondary data collection

PRIMARY DATA COLLECTION:

The sources of primary data were

The chief manager – ALM cell

Department Sr. manager financing & Accounting

System manager- ALM cell

Gathering the information from other managers and other officials of the organization.

SECONDARY DATA COLLECTION:

Collected from books regarding journal, and management containing relevant

information about ALM and Other main sources were

Annual report of The Housing Development Finance Corporation

Limited (HDFC)

Published report of The Housing Development Finance Corporation

Limited (HDFC)

RBI guidelines for ALM.

LIMITATION OF THE STUDY:

1. This subject is based on past data of The Housing Development Finance

Corporation Limited (HDFC)

2. The analysis is based on structural liquidity statement and gap analysis.

3. The study is mainly based on secondary data.

4. Approximate results: The results are approximated, as no accurate data is

Available.

5. Study takes into consideration only LTP and issue prices and their difference

for Concluding whether an issue is overpriced or under priced leaving other.

6. The study is based on the issues that are listed on NSE only.

CHAPTER-II

INDUSTRY PROFILE

&

COMPANY PROFILE

A bank is a financial institution that accepts deposits and channels those deposits into

lending activities. Banks primarily provide financial services to customers while

enriching investors. Government restrictions on financial activities by banks vary over

time and location. Banks are important players in financial markets and offer services

such as investment funds and loans. In some countries such as Germany, banks have

historically owned major stakes in industrial corporations while in other countries such as

the United States banks are prohibited from owning non-financial companies. In Japan,

banks are usually the nexus of a cross-shareholding entity known as the keiretsu. In

France, bank assurance is prevalent, as most banks offer insurance services (and now real

estate services) to their clients.

Introduction

India’s banking sector is constantly growing. Since the turn of the century, there has been

a noticeable upsurge in transactions through ATMs, and also internet and mobile

banking.

Following the passing of the Banking Laws (Amendment) Bill by the Indian Parliament

in 2012, the landscape of the banking industry began to change. The bill allows the

Reserve Bank of India (RBI) to make final guidelines on issuing new licenses, which

could lead to a bigger number of banks in the country. Some banks have already received

licenses from the government, and the RBI's new norms will provide incentives to banks

to spot bad loans and take requisite action to keep rogue borrowers in check.

Over the next decade, the banking sector is projected to create up to two million new

jobs, driven by the efforts of the RBI and the Government of India to integrate financial

services into rural areas. Also, the traditional way of operations will slowly give way to

modern technology.

Market size

Total banking assets in India touched US$ 1.8 trillion in FY13 and are anticipated to

cross US$ 28.5 trillion in FY25.

Bank deposits have grown at a compound annual growth rate (CAGR) of 21.2 per cent

over FY06–13. Total deposits in FY13 were US$ 1,274.3 billion.

Total banking sector credit is anticipated to grow at a CAGR of 18.1 per cent (in terms of

INR) to reach US$ 2.4 trillion by 2017.

In FY14, private sector lenders witnessed discernable growth in credit cards and personal

loan businesses. ICICI Bank witnessed 141.6 per cent growth in personal loan

disbursement in FY14, as per a report by Emkay Global Financial Services. Axis Bank's

personal loan business also rose 49.8 per cent and its credit card business expanded by

31.1 per cent.

Investments

Bengaluru-based software services exporter Mphasis Ltd has bagged a five-year contract

from Punjab National Bank (PNB) to set up the bank’s contact centers in Mangalore and

Noida (UP). Mphasis will provide support for all banking products and services,

including deposits operations, lending services, banking processes, internet banking, and

account and card-related services. The company will also offer services in multiple

languages.

Microfinance companies have committed to setting up at least 30 million bank accounts

within a year through tie-ups with banks, as part of the Indian government’s financial

inclusion plan. The commitment was made at a meeting of representatives of 25 large

microfinance companies and banks and government representatives, which included

financial services secretary Mr GS Sandhu.

Export-Import Bank of India (Exim Bank) will increase its focus on supporting project

exports from India to South Asia, Africa and Latin America, as per Mr Yaduvendra

Mathur, Chairman and MD, Exim Bank. The bank has moved up the value chain by

supporting project exports so that India earns foreign exchange. In 2012–13, Exim Bank

lent support to 85 project export contracts worth Rs 24,255 crore (US$ 3.96 billion)

secured by 47 companies in 23 countries.

Government Initiatives

The RBI has given banks greater flexibility to refinance current long-gestation project

loans worth Rs 1,000 crore (US$ 163.42 million) and more, and has allowed partial

buyout of such loans by other financial institutions as standard practice. The earlier

stipulation was that buyers should purchase at least 50 per cent of the loan from the

existing banks. Now, they get as low as 25 per cent of the loan value and the loan will

still be treated as ‘standard’.

The RBI has also relaxed norms for mortgage guarantee companies (MGC) enabling

these firms to use contingency reserves to cover for the losses suffered by the mortgage

guarantee holders, without the approval of the apex bank. However, such a measure can

only be initiated if there is no single option left to recoup the losses.

SBI is planning to launch a contact-less or tap-and-go card facility to make payments in

India. Contact-less payment is a technology that has been adopted in several countries,

including Australia, Canada and the UK, where customers can simply tap or wave their

card over a reader at a point-of-sale terminal, which reads the card and allows

transactions.

SBI and its five associate banks also plan to empower account holders at the bottom of

the social pyramid with a customer call facility. The proposed facility will help customers

get an update on available balance, last five transactions and cheque book request on their

mobile phones.

Road Ahead

India is yet to tap into the potential of mobile banking and digital financial services.

Forty-seven per cent of the populace have bank accounts, of which half lie dormant due

to reliance on cash transactions, as per a report. Still, the industry holds a lot of promise.

India's banking sector could become the fifth largest banking sector in the world by 2020

and the third largest by 2025. These days, Indian banks are turning their focus to

servicing clients and enhancing their technology infrastructure, which can help improve

customer experience as well as give banks a competitive edge.

Exchange Rate Used: INR 1 = US$ 0.0163 as on October 28, 2014

The level of government regulation of the banking industry varies widely, with countries

such as Iceland, having relatively light regulation of the banking sector, and countries

such as China having a wide variety of regulations but no systematic process that can be

followed typical of a communist system.

The oldest bank still in existence is Monte dei Paschi di Siena, headquartered in Siena,

Italy, which has been operating continuously since 1472.

History

Origin of the word

The name bank derives from the Italian word banco "desk/bench", used during the

Renaissance by Jewish Florentine bankers, who used to make their transactions above a

desk covered by a green tablecloth. However, there are traces of banking activity even in

ancient times, which indicates that the word 'bank' might not necessarily come from the

word 'banco'.

In fact, the word traces its origins back to the Ancient Roman Empire, where

moneylenders would set up their stalls in the middle of enclosed courtyards called

macella on a long bench called a bancu, from which the words banco and bank are

derived. As a moneychanger, the merchant at the bancu did not so much invest money as

merely convert the foreign currency into the only legal tender in Rome—that of the

Imperial Mint.

The earliest evidence of money-changing activity is depicted on a silver drachm coin

from ancient Hellenic colony Trapezus on the Black Sea, modern Trabzon, c. 350–325

BC, presented in the British Museum in London. The coin shows a banker's table

(trapeza) laden with coins, a pun on the name of the city.

In fact, even today in Modern Greek the word Trapeza (Τράπεζα) means both a table and

a bank.

Traditional banking activities

Banks act as payment agents by conducting checking or current accounts for customers,

paying cheques drawn by customers on the bank, and collecting cheques deposited to

customers' current accounts. Banks also enable customer payments via other payment

methods such as telegraphic transfer, EFTPOS, and ATM.

Banks borrow money by accepting funds deposited on current accounts, by accepting

term deposits, and by issuing debt securities such as banknotes and bonds. Banks lend

money by making advances to customers on current accounts, by making installment

loans, and by investing in marketable debt securities and other forms of money lending.

Banks provide almost all payment services, and a bank account is considered

indispensable by most businesses, individuals and governments. Non-banks that provide

payment services such as remittance companies are not normally considered an adequate

substitute for having a bank account.

Banks borrow most funds from households and non-financial businesses, and lend most

funds to households and non-financial businesses, but non-bank lenders provide a

significant and in many cases adequate substitute for bank loans, and money market

funds, cash management trusts and other non-bank financial institutions in many cases

provide an adequate substitute to banks for lending savings to.

Entry regulation

Currently in most jurisdictions commercial banks are regulated by government entities

and require a special bank license to operate.

Usually the definition of the business of banking for the purposes of regulation is

extended to include acceptance of deposits, even if they are not repayable to the

customer's order—although money lending, by itself, is generally not included in the

definition.

Unlike most other regulated industries, the regulator is typically also a participant in the

market, i.e. a government-owned (central) bank. Central banks also typically have a

monopoly on the business of issuing banknotes. However, in some countries this is not

the case. In the UK, for example, the Financial Services Authority licenses banks, and

some commercial banks (such as the Bank of Scotland) issue their own banknotes in

addition to those issued by the Bank of England, the UK government's central bank.

Accounting for bank accounts

Bank statements are accounting records produced by banks under the various accounting

standards of the world. Under GAAP and IFRS there are two kinds of accounts: debit and

credit. Credit accounts are Revenue, Equity and Liabilities. Debit Accounts are Assets

and Expenses. This means you credit a credit account to increase its balance, and you

debit a debit account to decrease its balance.

This also means you debit your savings account every time you deposit money into it

(and the account is normally in deficit), while you credit your credit card account every

time you spend money from it (and the account is normally in credit).

However, if you read your bank statement, it will say the opposite—that you credit your

account when you deposit money, and you debit it when you withdraw funds. If you have

cash in your account, you have a positive (or credit) balance; if you are overdrawn, you

have a negative (or deficit) balance.

The reason for this is that the bank, and not you, has produced the bank statement. Your

savings might be your assets, but the bank's liability, so they are credit accounts (which

should have a positive balance). Conversely, your loans are your liabilities but the bank's

assets, so they are debit accounts (which should also have a positive balance).

Where bank transactions, balances, credits and debits are discussed below, they are done

so from the viewpoint of the account holder—which is traditionally what most people are

used to seeing.

Economic functions

1. Issue of money, in the form of banknotes and current accounts subject to cheque

or payment at the customer's order. These claims on banks can act as money because

they are negotiable and/or repayable on demand, and hence valued at par. They are

effectively transferable by mere delivery, in the case of banknotes, or by drawing a

cheque that the payee may bank or cash.

2. Netting and settlement of payments – banks act as both collection and paying

agents for customers, participating in interbank clearing and settlement systems to

collect, present, be presented with, and pay payment instruments. This enables banks

to economies on reserves held for settlement of payments, since inward and outward

payments offset each other. It also enables the offsetting of payment flows between

geographical areas, reducing the cost of settlement between them.

3. Credit intermediation – banks borrow and lend back-to-back on their own account

as middle men.

4. Credit quality improvement – banks lend money to ordinary commercial and

personal borrowers (ordinary credit quality), but are high quality borrowers. The

improvement comes from diversification of the bank's assets and capital which

provides a buffer to absorb losses without defaulting on its obligations. However,

banknotes and deposits are generally unsecured; if the bank gets into difficulty and

pledges assets as security, to raise the funding it needs to continue to operate, this

puts the note holders and depositors in an economically subordinated position.

5. Maturity transformation – banks borrow more on demand debt and short term

debt, but provide more long term loans. In other words, they borrow short and lend

long. With a stronger credit quality than most other borrowers, banks can do this by

aggregating issues (e.g. accepting deposits and issuing banknotes) and redemptions

(e.g. withdrawals and redemptions of banknotes), maintaining reserves of cash,

investing in marketable securities that can be readily converted to cash if needed, and

raising replacement funding as needed from various sources (e.g. wholesale cash

markets and securities markets).

Law of banking

Banking law is based on a contractual analysis of the relationship between the bank

(defined above) and the customer—defined as any entity for which the bank agrees to

conduct an account.

The law implies rights and obligations into this relationship as follows:

1. The bank account balance is the financial position between the bank and the

customer: when the account is in credit, the bank owes the balance to the

customer; when the account is overdrawn, the customer owes the balance to the

bank.

2. The bank agrees to pay the customer's cheques up to the amount standing to the

credit of the customer's account, plus any agreed overdraft limit.

3. The bank may not pay from the customer's account without a mandate from the

customer, e.g. a cheque drawn by the customer.

4. The bank agrees to promptly collect the cheques deposited to the customer's

account as the customer's agent, and to credit the proceeds to the customer's

account.

5. The bank has a right to combine the customer's accounts, since each account is

just an aspect of the same credit relationship.

6. The bank has a lien on cheques deposited to the customer's account, to the extent

that the customer is indebted to the bank.

7. The bank must not disclose details of transactions through the customer's account

—unless the customer consents, there is a public duty to disclose, the bank's

interests require it, or the law demands it.

8. The bank must not close a customer's account without reasonable notice, since

cheques are outstanding in the ordinary course of business for several days.

These implied contractual terms may be modified by express agreement between the

customer and the bank. The statutes and regulations in force within a particular

jurisdiction may also modify the above terms and/or create new rights, obligations or

limitations relevant to the bank-customer relationship.

Some types of financial institution, such as building societies and credit unions, may be

partly or wholly exempt from bank license requirements, and therefore regulated under

separate rules.

The requirements for the issue of a bank license vary between jurisdictions but typically

include:

1. Minimum capital

2. Minimum capital ratio

3. 'Fit and Proper' requirements for the bank's controllers, owners, directors, and/or

senior officers

4. Approval of the bank's business plan as being sufficiently prudent and plausible.

Types of banks

Banks' activities can be divided into retail banking, dealing directly with individuals and

small businesses; business banking, providing services to mid-market business; corporate

banking, directed at large business entities; private banking, providing wealth

management services to high net worth individuals and families; and investment banking,

relating to activities on the financial markets. Most banks are profit-making, private

enterprises. However, some are owned by government, or are non-profit organizations.

Central banks are normally government-owned and charged with quasi-regulatory

responsibilities, such as supervising commercial banks, or controlling the cash interest

rate. They generally provide liquidity to the banking system and act as the lender of last

resort in event of a crisis.

Types of retail banks

Commercial bank : the term used for a normal bank to distinguish it from an

investment bank. After the Great Depression, the U.S. Congress required that

banks only engage in banking activities, whereas investment banks were limited

to capital market activities. Since the two no longer have to be under separate

ownership, some use the term "commercial bank" to refer to a bank or a division

of a bank that mostly deals with deposits and loans from corporations or large

businesses.

Community Banks : locally operated financial institutions that empower

employees to make local decisions to serve their customers and the partners.

Community development banks : regulated banks that provide financial services

and credit to under-served markets or populations.

Postal savings banks : savings banks associated with national postal systems.

Private Banks : banks that manage the assets of high net worth individuals.

Offshore banks : banks located in jurisdictions with low taxation and regulation.

Many offshore banks are essentially private banks.

Savings bank : in Europe, savings banks take their roots in the 19th or sometimes

even 18th century. Their original objective was to provide easily accessible

savings products to all strata of the population. In some countries, savings banks

were created on public initiative; in others, socially committed individuals created

foundations to put in place the necessary infrastructure. Nowadays, European

savings banks have kept their focus on retail banking: payments, savings

products, credits and insurances for individuals or small and medium-sized

enterprises. Apart from this retail focus, they also differ from commercial banks

by their broadly decentralized distribution network, providing local and regional

outreach—and by their socially responsible approach to business and society.

Building societies and Land banks: institutions that conduct retail banking.

Ethical banks : banks that prioritize the transparency of all operations and make

only what they consider to be socially-responsible investments.

Islamic banks : Banks that transact according to Islamic principles.

Types of investment banks

Investment banks "underwrite" (guarantee the sale of) stock and bond issues,

trade for their own accounts, make markets, and advise corporations on capital

market activities such as mergers and acquisitions.

Merchant banks were traditionally banks which engaged in trade finance. The

modern definition, however, refers to banks which provide capital to firms in the

form of shares rather than loans. Unlike venture capital firms, they tend not to

invest in new companies.

Both combined

Universal banks , more commonly known as financial services companies, engage

in several of these activities. These big banks are very diversified groups that,

among other services, also distribute insurance— hence the term bancassurance, a

portmanteau word combining "banque or bank" and "assurance", signifying that

both banking and insurance are provided by the same corporate entity.

COMPANY PROFILE

PROFILE OF THE BANK

The Housing Development Finance Corporation Limited (HDFC) was amongst the first

to receive an 'in principle' approval from the Reserve Bank of India (RBI) to set up a

bank in the private sector, as part of the RBI's liberalization of the Indian Banking

Industry in 1994. The bank was incorporated in August 1994 in the name of 'HDFC Bank

Limited', with its registered office in Mumbai, India. HDFC Bank commenced operations

as a Scheduled Commercial Bank in January 1995..

OVERVIEW OF THE INDUSTRY

HDFC is India's premier housing finance company and enjoys an impeccable

track record in India as well as in international markets. Since its inception in 1977, the

Corporation has maintained a consistent and healthy growth in its operations to remain

the market leader in mortgages. Its outstanding loan portfolio covers well over a million

dwelling units. HDFC has developed significant expertise in retail mortgage loans to

different market segments and also has a large corporate client base for its housing

related credit facilities. With its experience in the financial markets, a strong market

reputation, large shareholder base and unique consumer franchise, HDFC was ideally

positioned to promote a bank in the Indian environment.

As on March 31, 2014 the authorized share capital of the Bank is Rs. 550 crore. The paid-

up capital as on the said date is Rs 479,81,00,870/- ( 2399050435 ) equity shares of Rs.

2/- each). The HDFC Group holds 22.64 % of the Bank's equity and about 16.97 % of the

equity is held by the ADS / GDR Depositories (in respect of the bank's American

Depository Shares (ADS) and Global Depository Receipts (GDR) Issues). 34.11 % of the

equity is held by Foreign Institutional Investors (FIIs) and the Bank has 4,22,314

shareholders. 

The shares are listed on the Bombay Stock Exchange Limited and The National Stock

Exchange of India Limited. The Bank's American Depository Shares (ADS) are listed on

the New York Stock Exchange (NYSE) under the symbol 'HDB' and the Bank's Global

Depository Receipts (GDRs) are listed on Luxembourg Stock Exchange under ISIN No

US40415F2002.

MANAGEMENT

Mr. C.M. Vasudev has been appointed as the Chairman of the Bank with effect from 6th

July 2010. Mr. Vasudev has been a Director of the Bank since October 2006. A retired

IAS officer, Mr. Vasudev has had an illustrious career in the civil services and has held

several key positions in India and overseas, including Finance Secretary, Government of

India, Executive Director, World Bank and Government nominee on the Boards of many

companies in the financial sector.

The Managing Director, Mr. Aditya Puri, has been a professional banker for over 25

years and before joining HDFC Bank in 1994 was heading Citibank's operations in

Malaysia.

The Bank's Board of Directors is composed of eminent individuals with a wealth of

experience in public policy, administration, industry and commercial banking. Senior

executives representing HDFC are also on the Board.

Senior banking professionals with substantial experience in India and abroad head

various businesses and functions and report to the Managing Director. Given the

professional expertise of the management team and the overall focus on recruiting and

retaining the best talent in the industry, the bank believes that its people are a significant

competitive strength.

BOARD OF DIRECTORS

Mr. C.M. Vasudev, Chairman

Mr. Keki Mistry

Mrs. Renu Karnad

Mr. Arvind Pande

Mr. Ashim Samanta

Mr. Chander Mohan Vasudev

Mr. Gautam Divan

Dr. Pandit Palande

Mr. Aditya Puri, Managing Director

Mr. Harish Engineer, Executive Director

Mr. Paresh Sukthankar, Executive Director

Mr. Vineet Jain (upto 27.12.2008)

REGISTERED OFFICE

HDFC Bank House,

Senapati Bapat Marg,

Lower Parel,

Website: www.hdfcbank.com

HDFC Bank offers a wide range of commercial and transactional banking services and

treasury products to wholesale and retail customers. The bank has three key business

segments

Wholesale Banking Services

The Bank's target market ranges from large, blue-chip manufacturing companies in the

Indian corporate to small & mid-sized corporates and agro-based businesses. For these

customers, the Bank provides a wide range of commercial and transactional banking

services, including working capital finance, trade services, transactional services, cash

management, etc. The bank is also a leading provider of structured solutions, which

combine cash management services with vendor and distributor finance for facilitating

superior supply chain management for its corporate customers. Based on its superior

product delivery / service levels and strong customer orientation, the Bank has made

significant inroads into the banking consortia of a number of leading Indian corporates

including multinationals, companies from the domestic business houses and prime public

sector companies. It is recognized as a leading provider of cash management and

transactional banking solutions to corporate customers, mutual funds, stock exchange

members and banks.

Retail Banking Services

The objective of the Retail Bank is to provide its target market customers a full range of

financial products and banking services, giving the customer a one-stop window for all

his/her banking requirements. The products are backed by world-class service and

delivered to customers through the growing branch network, as well as through

alternative delivery channels like ATMs, Phone Banking, Net Banking and Mobile

Banking.

The HDFC Bank Preferred program for high net worth individuals, the HDFC Bank Plus

and the Investment Advisory Services programs have been designed keeping in mind

needs of customers who seek distinct financial solutions, information and advice on

various

Investment avenues. The Bank also has a wide array of retail loan products including

Auto Loans, Loans against marketable securities, Personal Loans and Loans for Two-

wheelers. It is also a leading provider of Depository Participant (DP) services for retail

customers, providing customers the facility to hold their investments in electronic form.

HDFC Bank was the first bank in India to launch an International Debit Card in

association with VISA (VISA Electron) and issues the MasterCard Maestro debit card as

well. The Bank launched its credit card business in late 2001. By March 2013, the bank

had a total card base (debit and credit cards) of over 19.7 million. The Bank is also one of

the leading players in the business with over 270,000 Point-of-sale (POS) terminals for

debit / credit cards acceptance at merchant establishments. The Bank is well positioned as

a leader in various net based B2C opportunities including a wide range of internet

banking services for Fixed Deposits, Loans, Bill Payments, etc.

Treasury

Within this business, the bank has three main product areas - Foreign Exchange and

Derivatives, Local Currency Money Market & Debt Securities, and Equities. With the

liberalization of the financial markets in India, corporates need more sophisticated risk

management information, advice and product structures. These and fine pricing on

various treasury products are provided through the bank's Treasury team. To comply with

statutory reserve requirements, the bank is required to hold 25% of its deposits in

government securities. The Treasury business is responsible for managing the returns and

market risk on this investment portfolio

Awards and Achievements - Banking Services

It is extremely gratifying that our efforts towards providing customer convenience have

been appreciated both nationally and internationally.

HDFC Bank began operations in 1995 with a simple mission: to be a "World-class Indian

Bank". We realized that only a single-minded focus on product quality and service

excellence would help us get there. Today, we are proud to say that we are well on our way

towards that goal.It is extremely gratifying that our efforts towards providing customer

convenience have been appreciated both nationally and internationally.

2014

Businessworld-PwC India Best

Banks Survey 2014

- Best Large Bank  

- Fastest Growing Large Bank

Asiamoney FX Poll 2014 - Best Domestic Provider of FX options  

- Best Domestic Provider of FX products &

Services  

- Best Domestic Provider of FX research & market

coverage  

- Best Domestic provider for FX Services

The Asian Banker Strongest Bank in India in the Asian Banker 500

(AB 500) Strongest Bank by Balance Sheet

Ranking 2014

Dun & Bradstreet - Polaris

Financial Technology Banking

Awards 2014

- Best Bank - Managing IT Risk (Large Banks)

- Best Bank - Mobile Banking (Large Banks)

- Best Bank - Best IT Team (Private Sector Banks)

Forbes Asia Fab 50 Companies List for the 8th year

BrandZ TM Top 50 Most

Valuable Indian Brands study

by Millward Brown

India's Most Valuable Brand

Asiamoney Best of Best Domestic Banks - India

Dun & Bradstreet -

Manappuram Finance Limited

Corporate Award 2014

Best Corporate in Banking Sector

2013

IBA Innovation Awards Most Innovative use of Technology

Dun & Bradstreet Polaris

Financial Technology Banking

Award 2013 - Best Private Sector Bank Technology Adoption

- Best Private Sector Bank Retail

- Overall Best Private Sector Bank

Institutional Investor - Best Bank in Asia

- Mr. Aditya Puri - Best CEO

Forbes Asia Fab 50 Companies List for the 7th year

Sunday Standard Best Banker - Best Private Sector Bank: Large

- Safest Bank: Large

Awards - Mr. Aditya Puri: Top Achiever

UTI Mutual Fund CNBC TV 18

Financial Advisory Awards

Best Performing Bank - Private

Corporate Governance: The bank was among the first four companies, which subjected

itself to a Corporate Governance and Value Creation (GVC) rating by the rating agency,

The Credit Rating Information Services of India Limited (CRISIL).

The rating provides an independent assessment of an entity's current performance and an

expectation on its "balanced value creation and corporate governance practices" in future.

The bank has been assigned a 'CRISIL GVC Level 1' rating, which indicates that the

bank's capability with respect to wealth creation for all its stakeholders while adopting

sound corporate governance practices is the highest.We are aware that all these awards

are mere milestones in the continuing, never-ending journey of providing excellent

service to our customers. We are confident, however, that with your feedback and

support, we will be able to maintain and improve our services.Technology: HDFC Bank

operates in a highly automated environment in terms of information technology and

communication systems. All the bank's branches have online connectivity, which enables

the bank to offer speedy funds transfer facilities to its customers. Multi-branch access is

also provided to retail customers through the branch network and Automated Teller

Machines (ATMs). The Bank has made substantial efforts and investments in acquiring

the best technology available internationally, to build the infrastructure for a world class

bank. The Bank's business is supported by scalable and robust systems which ensure that

our clients always get the finest services we offer. The Bank has prioritized its

engagement in technology and the internet as one of its key goals and has already made

significant progress in web-enabling its core businesses. In each of its businesses, the

Bank has succeeded in leveraging its market position, expertise and technology to create

a competitive advantage and build market share.Mission and Business Strategy: Our

mission is to be "a World Class Indian Bank", benchmarking ourselves against

international standards and best practices in terms of product offerings, technology,

service levels, risk management and audit & compliance. The objective is to build sound

customer franchises across distinct businesses so as to be a preferred provider of banking

services for target retail and wholesale customer segments, and to achieve a healthy

growth in profitability, consistent with the Bank's risk appetite. We are committed to do

this while ensuring the highest levels of ethical standards, professional integrity,

corporate governance and regulatory compliance.Our business strategy emphasizes the

following:

Increase our market share in India’s expanding banking and financial services

industry by following a disciplined growth strategy focusing on quality and not

on quantity and delivering high quality customer service.

Leverage our technology platform and open saleable systems to deliver more

products to more customers and to control operating costs.

Maintain our current high standards for asset quality through disciplined credit

risk management.

Develop innovative products and services that attract our targeted customers and

address inefficiencies in the Indian financial sector.

Continue to develop products and services that reduce our cost of funds.

Focus on high earnings growth with low volatility.

HDFC Bank is headquartered in Mumbai. The Bank at present has an enviable network

of 1,725 branches spread in 771 cities across India. All branches are linked on an online

real-time basis. Customers in over 500 locations are also serviced through Telephone

Banking. The Bank's expansion plans take into account the need to have a presence in all

major industrial and commercial centers where its corporate customers are located as well

as the need to build a strong retail customer base for both deposits and loan products.

Being a clearing/settlement bank to various leading stock exchanges, the Bank has

branches in the centers where the NSE/BSE have a strong and active member base. The

Bank also has 3,898 networked ATMs across these cities. Moreover, HDFC Bank's ATM

network can be accessed by all domestic and international Visa/MasterCard, Visa

Electron/Maestro, Plus/Cirrus and American Express Credit/Charge

cardholders.AIMS:Continuous effort to improving the services.

Evaluating individual skill trough training and motivations.

Total involvement through participant’s management activities.

Creating healthy and safe environment.

Social development.

Credit Rating

The Bank has its deposit programs rated by two rating agencies - Credit Analysis &

Research Limited (CARE) and Fitch Ratings India Private Limited. The Bank's Fixed

Deposit programmed has been rated 'CARE AAA (FD)' [Triple A] by CARE, which

represents instruments considered to be "of the best quality, carrying negligible

investment risk." CARE has also rated the bank's Certificate of Deposit (CD)

programmed "PR 1+" which represents "superior capacity for repayment of short term

promissory obligations". Fitch Ratings India Pvt. Ltd. (100% subsidiary of Fitch Inc.) has

assigned the "AAA (ind)" rating to the Bank's deposit programmed, with the outlook on

the rating as "stable". This rating indicates "highest credit quality" where "protection

factors are very high".

Corporate Governance Rating

The bank was one of the first four companies, which subjected itself to a Corporate

Governance and Value Creation (GVC) rating by the rating agency, The Credit Rating

Information Services of India Limited (CRISIL). The rating provides an independent

assessment of an entity's current performance and an expectation on its "balanced value

creation and corporate governance practices" in future. The bank was assigned a 'CRISIL

GVC Level 1' rating in January 2007 which indicates that the bank's capability with

respect to wealth creation for all its stakeholders while adopting sound corporate

governance practices is the highest.

CHAPTER-III

LITERATURE REVIEW

ASSET LIABILITY MANAGEMENT (ALM) SYSTEM

Asset-Liability Management (ALM) can be termed as a risk management technique

designed to earn an adequate return while maintaining a comfortable surplus of assets

beyond liabilities. It takes into consideration interest rates, earning power, and degree of

willingness to take on debt and hence is also known as Surplus Management.

 But in the last decade the meaning of ALM has evolved. It is now used in many different

ways under different contexts. ALM, which was actually pioneered by financial

institutions and banks, are now widely being used in industries too. The Society of

Actuaries Task Force on ALM Principles, Canada, offers the following definition for

ALM: "Asset Liability Management is the on-going process of formulating,

implementing, monitoring, and revising strategies related to assets and liabilities in an

attempt to achieve financial objectives for a given set of risk tolerances and constraints."

 

Basis of Asset-Liability Management

Traditionally, banks and insurance companies used accrual system of accounting for all

their assets and liabilities. They would take on liabilities - such as deposits, life insurance

policies or annuities. They would then invest the proceeds from these liabilities in assets

such as loans, bonds or real estate. All these assets and liabilities were held at book value.

Doing so disguised possible risks arising from how the assets and liabilities were

structured.

 Consider a bank that borrows 1 Crore (100 Lakhs) at 6 % for a year and lends the same

money at 7 % to a highly rated borrower for 5 years. The net transaction appears

profitable-the bank is earning a 100 basis point spread - but it entails considerable risk. At

the end of a year, the bank will have to find new financing for the loan, which will have 4

more years before it matures. If interest rates have risen, the bank may have to pay a

higher rate of interest on the new financing than the fixed 7 % it is earning on its loan.

 Suppose, at the end of a year, an applicable 4-year interest rate is 8 %. The bank is in

serious trouble. It is going to earn 7 % on its loan but would have to pay 8 % on its

financing. Accrual accounting does not recognize this problem. Based upon accrual

accounting, the bank would earn Rs 100,000 in the first year although in the preceding

years it is going to incur a loss.

 The problem in this example was caused by a mismatch between assets and liabilities.

Prior to the 1970's, such mismatches tended not to be a significant problem. Interest rates

in developed countries experienced only modest fluctuations, so losses due to asset-

liability mismatches were small or trivial. Many firms intentionally mismatched their

balance sheets and as yield curves were generally upward sloping, banks could earn a

spread by borrowing short and lending long.

 Things started to change in the 1970s, which ushered in a period of volatile interest rates

that continued till the early 1980s. US regulations which had capped the interest rates so

that banks could pay depositors, was abandoned which led to a migration of dollar

deposit overseas. Managers of many firms, who were accustomed to thinking in terms of

accrual accounting, were slow to recognize this emerging risk. Some firms suffered

staggering losses. Because the firms used accrual accounting, it resulted in more of

crippled balance sheets than bankruptcies. Firms had no options but to accrue the losses

over a subsequent period of 5 to 10 years.

 One example, which drew attention, was that of US mutual life insurance company "The

Equitable." During the early 1980s, as the USD yield curve was inverted with short-term

interest rates sky rocketing, the company sold a number of long-term Guaranteed Interest

Contracts (GICs) guaranteeing rates of around 16% for periods up to 10 years. Equitable

then invested the assets short-term to earn the high interest rates guaranteed on the

contracts. But short-term interest rates soon came down. When the Equitable had to

reinvest, it couldn't get even close to the interest rates it was paying on the GICs. The

firm was crippled. Eventually, it had to demutualize and was acquired by the Axa Group.

 Increasingly banks and asset management companies started to focus on Asset-Liability

Risk. The problem was not that the value of assets might fall or that the value of

liabilities might rise. It was that capital might be depleted by narrowing of the difference

between assets and liabilities and that the values of assets and liabilities might fail to

move in tandem. Asset-liability risk is predominantly a leveraged form of risk.

 The capital of most financial institutions is small relative to the firm's assets or liabilities,

and so small percentage changes in assets or liabilities can translate into large percentage

changes in capital. Accrual accounting could disguise the problem by deferring losses

into the future, but it could not solve the problem. Firms responded by forming asset-

liability management (ALM) departments to assess these asset-liability risk.

Techniques for assessing Asset-Liability Risk

Techniques for assessing asset-liability risk came to include Gap Analysis and Duration

Analysis. These facilitated techniques of managing gaps and matching duration of assets

and liabilities. Both approaches worked well if assets and liabilities comprised fixed cash

flows. But cases of callable debts, home loans and mortgages which included options of

prepayment and floating rates, posed problems that gap analysis could not address.

Duration analysis could address these in theory, but implementing sufficiently

sophisticated duration measures was problematic. Accordingly, banks and insurance

companies started using Scenario Analysis.

 Under this technique assumptions were made on various conditions, for example: -

Several interest rate scenarios were specified for the next 5 or 10 years. These

specified conditions like declining rates, rising rates, a gradual decrease in rates

followed by a sudden rise, etc. Ten or twenty scenarios could be specified in all.

Assumptions were made about the performance of assets and liabilities under

each scenario. They included prepayment rates on mortgages or surrender rates on

insurance products.

Assumptions were also made about the firm's performance-the rates at which new

business would be acquired for various products, demand for the product etc.

Market conditions and economic factors like inflation rates and industrial cycles

were also included.

 Based upon these assumptions, the performance of the firm's balance sheet could be

projected under each scenario. If projected performance was poor under specific

scenarios, the ALM committee would adjust assets or liabilities to address the indicated

exposure. Let us consider the procedure for sanctioning a commercial loan. The

borrower, who approaches the bank, has to appraise the banks credit department on

various parameters like industry prospects, operational efficiency, financial efficiency,

management qualities and other things, which would influence the working of the

company. On the basis of this appraisal, the banks would then prepare a credit-grading

sheet after covering all the aspects of the company and the business in which the

company is in.

 Now a day's a company has different reasons for doing ALM. While some companies

view ALM as a compliance and risk mitigation exercise, others have started using ALM

as strategic framework to achieve the company's financial objectives. Some of the

business reasons companies now state for implementing an effective ALM framework

include gaining competitive advantage and increasing the value of the organization.

Asset-Liability Management Approach

ALM in its most apparent sense is based on funds management. Funds management

represents the core of sound bank planning and financial management. Although funding

practices, techniques, and norms have been revised substantially in recent years, it is not

a new concept. Funds management is the process of managing the spread between

interest earned and interest paid while ensuring adequate liquidity. Therefore, funds

management has following three components, which have been discussed briefly.

 A. Liquidity Management

Liquidity represents the ability to accommodate decreases in liabilities and to fund

increases in assets. An organization has adequate liquidity when it can obtain sufficient

funds, either by increasing liabilities or by converting assets, promptly and at a

reasonable cost. Liquidity is essential in all organizations to compensate for expected and

unexpected balance sheet fluctuations and to provide funds for growth. The price of

liquidity is a function of market conditions and market perception of the risks, both

interest rate and credit risks, reflected in the balance sheet and off-balance sheet activities

in the case of a bank. If liquidity needs are not met through liquid asset holdings, a bank

may be forced to restructure or acquire additional liabilities under adverse market

conditions. Liquidity exposure can stem from both internally (institution-specific) and

externally generated factors. Sound liquidity risk management should address both types

of exposure. External liquidity risks can be geographic, systemic or instrument-specific.

Internal liquidity risk relates largely to the perception of an institution in its various

markets: local, regional, national or international. Determination of the adequacy of a

bank's liquidity position depends upon an analysis of its: -

Historical funding requirements

Current liquidity position

Anticipated future funding needs

Sources of funds

Present and anticipated asset quality

Present and future earnings capacity

Present and planned capital position

 As all banks are affected by changes in the economic climate, the monitoring of

economic and money market trends is key to liquidity planning. Sound financial

management can minimize the negative effects of these trends while accentuating the

positive ones. Management must also have an effective contingency plan that identifies

minimum and maximum liquidity needs and weighs alternative courses of action

designed to meet those needs. The cost of maintaining liquidity is another important

prerogative. An institution that maintains a strong liquidity position may do so at the

opportunity cost of generating higher earnings. The amount of liquid assets a bank should

hold depends on the stability of its deposit structure and the potential for rapid expansion

of its loan portfolio. If deposit accounts are composed primarily of small stable accounts,

a relatively low allowance for liquidity is necessary.

 Additionally, management must consider the current ratings by regulatory and rating

agencies when planning liquidity needs. Once liquidity needs have been determined,

management must decide how to meet them through asset management, liability

management, or a combination of both.

 B. Asset Management

Many banks (primarily the smaller ones) tend to have little influence over the size of their

total assets. Liquid assets enable a bank to provide funds to satisfy increased demand for

loans. But banks, which rely solely on asset management, concentrate on adjusting the

price and availability of credit and the level of liquid assets. However, assets that are

often assumed to be liquid are sometimes difficult to liquidate. For example, investment

securities may be pledged against public deposits or repurchase agreements, or may be

heavily depreciated because of interest rate changes. Furthermore, the holding of liquid

assets for liquidity purposes is less attractive because of thin profit spreads.

 Asset liquidity, or how "salable" the bank's assets are in terms of both time and cost, is of

primary importance in asset management. To maximize profitability, management must

carefully weigh the full return on liquid assets (yield plus liquidity value) against the

higher return associated with less liquid assets. Income derived from higher yielding

assets may be offset if a forced sale, at less than book value, is necessary because of

adverse balance sheet fluctuations.

 Seasonal, cyclical, or other factors may cause aggregate outstanding loans and deposits

to move in opposite directions and result in loan demand, which exceeds available

deposit funds. A bank relying strictly on asset management would restrict loan growth to

that which could be supported by available deposits. The decision whether or not to use

liability sources should be based on a complete analysis of seasonal, cyclical, and other

factors, and the costs involved. In addition to supplementing asset liquidity, liability

sources of liquidity may serve as an alternative even when asset sources are available.

C. Liability Management

Liquidity needs can be met through the discretionary acquisition of funds on the basis of

interest rate competition. This does not preclude the option of selling assets to meet

funding needs, and conceptually, the availability of asset and liability options should

result in a lower liquidity maintenance cost. The alternative costs of available

discretionary liabilities can be compared to the opportunity cost of selling various assets.

The major difference between liquidity in larger banks and in smaller banks is that larger

banks are better able to control the level and composition of their liabilities and assets.

When funds are required, larger banks have a wider variety of options from which to

select the least costly method of generating funds. The ability to obtain additional

liabilities represents liquidity potential. The marginal cost of liquidity and the cost of

incremental funds acquired are of paramount importance in evaluating liability sources of

liquidity. Consideration must be given to such factors as the frequency with which the

banks must regularly refinance maturing purchased liabilities, as well as an evaluation of

the bank's ongoing ability to obtain funds under normal market conditions.

 The obvious difficulty in estimating the latter is that, until the bank goes to the market to

borrow, it cannot determine with complete certainty that funds will be available and/or at

a price, which will maintain a positive yield spread. Changes in money market conditions

may cause a rapid deterioration in a bank's capacity to borrow at a favorable rate. In this

context, liquidity represents the ability to attract funds in the market when needed, at a

reasonable cost vis-e-vis asset yield. The access to discretionary funding sources for a

bank is always a function of its position and reputation in the money markets.

 Although the acquisition of funds at a competitive cost has enabled many banks to meet

expanding customer loan demand, misuse or improper implementation of liability

management can have severe consequences. Further, liability management is not riskless.

This is because concentrations in funding sources increase liquidity risk. For example, a

bank relying heavily on foreign interbank deposits will experience funding problems if

overseas markets perceive instability in U.S. banks or the economy. Replacing foreign

source funds might be difficult and costly because the domestic market may view the

bank's sudden need for funds negatively. Again over-reliance on liability management

may cause a tendency to minimize holdings of short-term securities, relax asset liquidity

standards, and result in a large concentration of short-term liabilities supporting assets of

longer maturity. During times of tight money, this could cause an earnings squeeze and

an illiquid condition.

 Also if rate competition develops in the money market, a bank may incur a high cost of

funds and may elect to lower credit standards to book higher yielding loans and

securities. If a bank is purchasing liabilities to support assets, which are already on its

books, the higher cost of purchased funds may result in a negative yield spread.

Preoccupation with obtaining funds at the lowest possible cost, without considering

maturity distribution, greatly intensifies a bank's exposure to the risk of interest rate

fluctuations. That is why banks who particularly rely on wholesale funding sources,

management must constantly be aware of the composition, characteristics, and

diversification of its funding sources.

Procedure for Examination of Asset Liability Management

In order to determine the efficacy of Asset Liability Management one has to follow a

comprehensive procedure of reviewing different aspects of internal control, funds

management and financial ratio analysis. Below a step-by-step approach of ALM

examination in case of a bank has been outlined.

 

Step 1

The bank/ financial statements and internal management reports should be reviewed to

assess the asset/liability mix with particular emphasis on: -

Total liquidity position (Ratio of highly liquid assets to total assets).

Current liquidity position (Minimum ratio of highly liquid assets to demand

liabilities/deposits).

Ratio of Non-Performing Assets to Total Assets.

Ratio of loans to deposits.

Ratio of short-term demand deposits to total deposits.

Ratio of long-term loans to short term demand deposits.

Ratio of contingent liabilities for loans to total loans.

Ratio of pledged securities to total securities.

 Step 2

It is to be determined that whether bank management adequately assesses and plans its

liquidity needs and whether the bank has short-term sources of funds. This should

include: -Review of internal management reports on liquidity needs and sources of

satisfying these needs. Assessing the bank's ability to meet liquidity needs.

Step 3

The banks future development and expansion plans, with focus on funding and liquidity

management aspects has to be looked into. This entails: -

Determining whether bank management has effectively addressed the issue of

need for liquid assets to funding sources on a long-term basis.

Reviewing the bank's budget projections for a certain period of time in the future.

Determining whether the bank really needs to expand its activities. What are the

sources of funding for such expansion and whether there are projections of

changes in the bank's asset and liability structure?

Assessing the bank's development plans and determining whether the bank will be

able to attract planned funds and achieve the projected asset growth.

Determining whether the bank has included sensitivity to interest rate risk in the

development of its long term funding strategy.

 Step 4

Examining the bank's internal audit report in regards to quality and effectiveness in terms

of liquidity management.

 Step 5

Reviewing the bank's plan of satisfying unanticipated liquidity needs by: -

Determining whether the bank's management assessed the potential expenses that

the bank will have as a result of unanticipated financial or operational problems.

Determining the alternative sources of funding liquidity and/or assets subject to

necessity.

Determining the impact of the bank's liquidity management on net earnings

position.

 Step 6

Preparing an Asset/Liability Management Internal Control Questionnaire which

should include the following: -

Whether the board of directors has been consistent with its duties and

responsibilities and included: -

A line of authority for liquidity management decisions.

A mechanism to coordinate asset and liability management decisions.

A method to identify liquidity needs and the means to meet those needs.

Guidelines for the level of liquid assets and other sources of funds in relationship

to needs.

Does the planning and budgeting function consider liquidity requirements?

Are the internal management reports for liquidity management adequate in terms

of effective decision making and monitoring of decisions.

Are internal management reports concerning liquidity needs prepared regularly

and reviewed as appropriate by senior management and the board of directors.

Whether the bank's policy of asset and liability management prohibits or defines

certain restrictions for attracting borrowed means from bank related persons

(organizations) in order to satisfy liquidity needs.

Does the bank's policy of asset and liability management provide for an adequate

control over the position of contingent liabilities of the bank?

Is the foregoing information considered an adequate basis for evaluating internal

control in that there are no significant deficiencies in areas not covered in this

questionnaire that impair any controls?

 Asset Liability Management in Indian Context

The post-reform banking scenario in India was marked by interest rate deregulation, entry

of new private banks, and gamut of new products along with greater use of information

technology. To cope with these pressures banks were required to evolve strategies rather

than ad hoc solutions. Recognizing the need of Asset Liability management to develop a

strong and sound banking system, the RBI has come out with ALM guidelines for banks

and FIs in April 1999.The Indian ALM framework rests on three pillars: -

ALM Organization (ALCO)

The ALCO or the Asset Liability Management Committee consisting of the banks senior

management including the CEO should be responsible for adhering to the limits set by

the board as well as for deciding the business strategy of the bank in line with the banks

budget and decided risk management objectives. ALCO is a decision-making unit

responsible for balance sheet planning from a risk return perspective including strategic

management of interest and liquidity risk. The banks may also authorize their Asset-

Liability Management Committee (ALCO) to fix interest rates on Deposits and

Advances, subject to their reporting to the Board immediately thereafter. The banks

should also fix maximum spread over the PLR with the approval of the ALCO/Board for

all advances other than consumer credit.

 ALM Information System

The ALM Information System is required for the collection of information accurately,

adequately and expeditiously. Information is the key to the ALM process. A good

information system gives the bank management a complete picture of the bank's balance

sheet.

 ALM Process

The basic ALM processes involving identification, measurement and management of risk

parameter .The RBI in its guidelines has asked Indian banks to use traditional techniques

like Gap Analysis for monitoring interest rate and liquidity risk. However RBI is

expecting Indian banks to move towards sophisticated techniques like Duration,

Simulation, VaR in the future. For the accrued portfolio, most Indian Private Sector

banks use Gap analysis, but are gradually moving towards duration analysis. Most of the

foreign banks use duration analysis and are expected to move towards advanced methods

like Value at Risk for the entire balance sheet. Some foreign banks are already using VaR

for the entire balance sheet.

ALM has evolved since the early 1980's. Today, financial firms are increasingly using

market value accounting for certain business lines. This is true of universal banks that

have trading operations. Techniques of ALM have also evolved. The growth of OTC

derivatives markets has facilitated a variety of hedging strategies. A significant

development has been securitization, which allows firms to directly address asset-liability

risk by removing assets or liabilities from their balance sheets. This not only eliminates

asset-liability risk; it also frees up the balance sheet for new business.

 Thus, the scope of ALM activities has widened. Today, ALM departments are

addressing (non-trading) foreign exchange risks as well as other risks. Also, ALM has

extended to non-financial firms. Corporations have adopted techniques of ALM to

address interest-rate exposures, liquidity risk and foreign exchange risk. They are using

related techniques to address commodities risks. For example, airlines' hedging of fuel

prices or manufacturers' hedging of steel prices are often presented as ALM. Thus it can

be safely said that Asset Liability Management will continue to grow in future and an

efficient ALM technique will go a long way in managing volume, mix, maturity, rate

sensitivity, quality and liquidity of the assets and liabilities so as to earn a sufficient and

acceptable return on the portfolio.

 ALM is a comprehensive and dynamic framework for measuring, monitoring and

managing the market risk of a bank. It is the management of structure of balance sheet

(liabilities and assets) in such a way that the net earnings from interest is maximized

within the overall risk-preference (present and future) of the institutions.  The ALM

functions extend to liquidly risk management, management of market risk, trading risk

management, funding and capital planning and profit planning and growth projection.

Benefits of ALM - It is a tool that enables bank managements to take business decisions

in a more informed framework with an eye on the risks that bank is exposed to. It is an

integrated approach to financial management, requiring simultaneous decisions about the

types of amounts of financial assets and liabilities - both mix and volume - with the

complexities of the financial markets in which the institution operates

 the concept of ALM is of recent origin in India.  It has been introduced in Indian

Banking industry w.e.f. 1st April, 1999.  ALM is concerned with risk management and

provides a comprehensive and dynamic framework for measuring, monitoring and

managing liquidity, interest rate, foreign exchange and equity and commodity price risks

of a bank that needs to be closely integrated with the banks’ business strategy.

Therefore, ALM is considered as an important tool for monitoring, measuring and

managing the market risk of a bank.   With the deregulation of interest regime in India,

the Banking industry has been exposed to the market risks.   To manage such risks, ALM

is used so that the management is able to assess the risks and cover some of these by

taking appropriate decisions.

 The assets and liabilities of the bank’s balance sheet are nothing but future cash inflows

or outflows. With a view to measure the liquidity and interest rate risk, banks use of

maturity ladder and then calculate cumulative surplus or deficit of funds in different time

slots on the basis of statutory reserve cycle, which are termed as time buckets.  

As a measure of liquidity management, banks are required to monitor their cumulative

mismatches across all time buckets in their Statement of Structural Liquidity by

establishing internal prudential limits with the approval of the Board / Management

Committee.

 The ALM process rests on three pillars:

i. ALM Information Systems

o Management Information Systems

o Information availability, accuracy, adequacy and expediency

ii. ALM Organization

o Structure and responsibilities

o Level of top management involvement

iii. ALM Process

o Risk parameters

o Risk identification

o Risk measurement

o Risk management

o Risk policies and tolerance levels.

As per RBI guidelines, commercial banks are to distribute the outflows/inflows in

different residual maturity period known as time buckets.  The Assets and Liabilities

were earlier  divided  into 8 maturity buckets (1-14 days; 15-28 days; 29-90 days; 91-

180 days; 181-365 days, 1-3 years and 3-5 years and above 5 years), based on the

remaining period to their maturity (also called residual maturity).  All the liability

figures are outflows while the asset figures are inflows.   In September, 2007, having

regard to the international practices, the level of sophistication of banks in India, the

need for a sharper assessment of the efficacy of liquidity management and with a view

to providing a stimulus for development of the term-money market, RBI revised these

guidelines and it was provided that

(a) The banks may adopt a more granular approach to measurement of liquidity risk by

splitting the first time bucket (1-14 days at present) in the Statement of Structural

Liquidity into three time buckets viz., next day, 2-7 days and 8-14 days.   Thus, now we

have 10 time buckets.

After such an exercise, each bucket of assets is matched with the corresponding bucket

of the liability.   When in a particular maturity bucket, the amount of maturing

liabilities or assets does not match, such position is called a mismatch position, which

creates liquidity surplus or liquidity crunch position and depending upon the interest

rate movement, such situation may turn out to be risky for the bank.    Banks are

required to monitor such mismatches and take appropriate steps so that bank is not

exposed to risks due to the interest rate movements during that period.

(b) The net cumulative negative mismatches during the Next day, 2-7 days, 8-14 days

and 15-28 days buckets should not exceed 5 %, 10%, 15 % and 20 % of the cumulative

cash outflows in the respective time buckets in order to recognize the cumulative

impact on liquidity.

The Boards of the Banks have been entrusted with the overall responsibility for the

management of risks and is required to decide the risk management policy and set

limits for liquidity, interest rate, and foreign exchange and equity price risks.

 Asset-Liability Committee (ALCO) is the top most committee to oversee the

implementation of ALM system and it is to be headed by CMD or ED.  ALCO

considers product pricing for both deposits and advances, the desired maturity profile of

the incremental assets and liabilities in addition to monitoring the risk levels of the

bank. It will have to articulate current interest rates view of the bank and base its

decisions for future business strategy on this view. 

Rate Sensitive Assets & Liabilities: An asset or liability is termed as rate sensitive

when

            (a) Within the time interval under consideration, there is a cash flow,

            (b) The interest rate resets/reprises contractually during the interval,

            (c) RBI changes interest rates where rates are administered and,

            (d) It is contractually pre-payable or withdrawal before the stated maturities.

Assets and liabilities which receive / pay interest that vary with a benchmark rate are re-

priced at pre-determined intervals and are rate sensitive at the time of re-pricing.

INTEREST RISK:

The phased deregulation of interest rates and the operational flexibility given to banks in

pricing most of the assets and liabilities imply the need for the banking system to hedge

the Interest-Rate Risk. Interest Rate Risk is the risk where changes in market interest

rates might adversely affect the Bank’s Net Interest Income. The gap report should be

generated by grouping interest rate sensitive liabilities, assets and off balance sheet

positions into time buckets according to residual maturity or next reprising period,

whichever is earlier. Interest rates on term deposits are fixed during their currency while

the advance interest rates are floating rates. The gaps on the assets and liabilities are to be

identified on different time buckets from 1–28 days, 29 days up to 3 months and so on.

The interest changes should be studied vis-a-vis the impact on profitability on different

time buckets to assess the interest rate risk.

GAP ANALYSIS:

The various items of rate sensitive assets and liabilities and off-balance sheet items are

classified into time buckets such as 1-28 days, 29 days and up to 3 months etc. and items

non-sensitive to interest based on the probable date for change in interest. The gap is the

difference between Rate Sensitive Assets (RSA) and Rate Sensitive Liabilities (RSL) in

various time buckets. The positive gap indicates that it has more RSAS than RSLS

whereas the negative gap indicates that it has more RSLS. The gap reports indicate

whether the institution is in a position to benefit from rising interest rates by having a

Positive Gap (RSA > RSL) or whether it is a position to benefit from declining interest

rate by a negative Gap (RSL > RSA).

TOTAL FINANCIAL SERVICES FIRMS RISK.

Total Risk

(Responsibility of CEO)

Business Risk Financial Risk

Product Market Risk Capital Market Risk

(Responsibility of the (Responsibility of the

Chief Operating Officer) Chief Financial Officer)

Credit Interest rate

Strategic Liquidity

Regulatory currency

Operating Settlement

Human resources Basis

Legal

(I).PRODUCT MARKET RISK:

This risk decision relate to the operating revenues and expenses of the form that

impact the operating position of the profit and loss statements which include crisis,

marketing, operating systems, labor cost, technology, channels of distributions at

strategic focus. Product Risks relate to variations in the operating cash flows of the firm,

which effect Capital Market, required Rates of Return:

(1) CREDIT RISK

(2) STRATEGIC RISK

(3) COMMODITY RISK

(4) OPERATIVE RISK

(5) HUMAN RESOURCES RISK

(6) LEGAL RISK

Risk in Product Market relate to the operational and strategic aspects of managing

operating revenues and expenses. The above types of Product Risks are explained as

follows:

1. CREDIT RISK:

The most basic of all Product Market Risk or other financial intermediary is the

erosion of value due to simple default or non-payment by the borrower. Credit risk has

been around for centuries and is thought by many to be the dominant financial services

today’s intermediate the risk appetite of lenders and essential risk ness of borrowers.

manage this risk by ; (A) making intelligent lending decisions so that expected risk of

borrowers is both accurately assessed and priced; (B) Diversifying across borrowers so

that credit losses are not concentrated in time; (C) purchasing third party guarantees so

that default risk is entirely or partially shifted away from lenders.

2. STRATEGIC RISK:

This is the risk that entire lines of business may succumb to competition or

obsolescence. In the language of strategic planner, commercial paper is a substitute

product for large corporate loans. Strategic risk occurs when a is not ready or able to

compete in a newly developing line of business. Early entrants enjoyed a unique

advantage over newer entrants. The seemingly conservative act of waiting for the market

to develop posed a risk in itself. Business risk accrues from jumping into lines of business

but also from staying out too long.

3. COMMODITY RISK:

Commodity prices affects and other lenders in complex and often unpredictable

ways. The macro effect of energy price increases on inflation also contributed to a rise in

interest rates, which adversely affected the value of many fixed rate financial assets. The

subsequent crash in oil prices sent the process in reverse with nearly equally devastating

effects.

4. OPERATING RISK:

Machine-based system offer essential competitive advantage in reducing costs

and improving quality while expanding service and speed. No element of management

process has more potential for surprise than systems malfunctions. Complex, machine-

based systems produce what is known as the “black box effect”. The inner working of

system can become opaque to their users. Because developers do not use the system and

users often have not constitutes a significant Product Market Risk. No financial service

firm can small management challenge in the modern financial services company.

5. HUMAN RESOURCES RISK:

Few risks are more complex and difficult to measure than those of personnel policy;

they are Recruitment, Training, Motivation and Retention. Risk to the value of the Non-

Financial Assets as represented by the work force represents a much more subtle of risk.

Concurrent with the loss of key personal is the risk of inadequate or misplaced motivation

among management personal. This human redundancy is conceptually equivalent to

safety redundancy in operating systems. It is not inexpensive, but it may well be cheaper

than the risk of loss. The risk and rewards of increased attention to the human resources

dimension of management are immense.

6. LEGAL RISK:

This is the risk that the legal system will expropriate value from the shareholders

of financial services firms. The legal landscape today is full of risks that were simply

unimaginable even a few years ago. More over these risks are very hard to anticipate

because they are often unrelated to prior events which are difficult and impossible to

designate but the management of a financial services firm today must have these risks at

least in view. They can cost millions.

(II). CAPITAL MARKET RISK:

In the Capital Market Risk decision relate to the financing and financial support

of Product Market activities. The result of product market decisions must be compared to

the required rate of return that results from capital market decision to determine if

management is creating value. Capital market decisions affect the risk tolerance of

product market decisions related to variations in value associated with different financial

instruments and required rate of return in the economy.

1. LIQUIDITY RISK

2. INTEREST RATE RISK

3. CURRENCY RISK

4. SETTLEMENT RISK

5. BASIS RISK

1. LIQUIDITY RISK:

For experienced financial services professionals, the foremost capital market risk is

that of inadequate liquidity to meet financial obligations. The obvious form is an inability

to pay desired withdrawals. Depositors react desperately to the mere prospect of this

situation.

They can drive a financial intermediary to collapse by withdrawing funds at a rate

that exceeds its capacity to pay. For most of this century, individual depositors who lost

faith in ability to repay them caused failures from liquidity. Funds are deposited primarily

as a financial of rate. Such funds are called “purchased money” or “headset funds” as

they are frequently bought by employees who work on the money desk quoting rates to

institutions that shop for the highest return. To check liquidity risk, firms must keep the

maturity profile of the liabilities compatible with that of the assets. This balance must be

close enough that a reasonable shift in interest rates across the yield curve does not

threaten the safety and soundness of the entire firm.

2. INTEREST RATE RISK:

In extreme conditions, Interest Rate fluctuations can create a liquidity crisis. The

fluctuation in the prices of financial assets due to changes in interest rates can be large

enough to make default risk a major threat to a financial services firm’s viability. There’s

a function of both the magnitude of change in the rate and the maturity of the asset. This

inadequacy of assessment and consequent mispricing of assets, combined with an

accounting system that did not record unrecognized gains and losses in asset values,

created a financial crisis. Risk based capital rules pertaining to have done little to mitigate

the interest rate risk management problem. The decision to pass it of, however is not

without large cost, so the cost benefit tradeoff becomes complex.

3. CURRENCY RISK:

The risk of exchange rate volatility can be described as a form of basis risk among

currencies instead of basis risk among interest rates on different securities. Balance sheets

comprised of numerous separate currencies contain large camouflaged risks through

financial reporting systems that do not require assets to be marked to market. Exchange

rate risk affects both the Product Markets and The Capital Markets. Ways to contain

currency risk have developed in today’s derivative market through the use of swaps and

forward contracts. Thus, this risk is manageable only after the most sophisticated and

modern risk management technique is employed

4. SETTLEMENT RISK:

Settlement Risk is a particular form of default risk, which involves the

competitors. Amounts settle obligations having to do with money transfer, check

clearing, loan disbursement and repayment, and all other inter- transfers within the

worldwide monetary system. A single payment is made at the end of the day instead of

multiple payments for individual transactions.

5. BASIS RISK :

Basis risk is a variation on the interest rate risk theme, yet it creates risks that are

less easy to observe and understand. To guard against interest rate risk, somewhat non

comparable securities may be used as a hedge. However, the success of this hedging

depends on a steady and predictable relationship between the two no identical securities.

Basis can negate the hedge partially or entirely, which vastly increases the Capital Market

Risk exposure of the firm.

CHAPTER-IV

DATA ANALYSES AND INTERPRETATION

RISK MANAGEMENT SYSTEM:

Assuming and managing risk is the essence of business decision-making.

Investing in a new technology, hiring a new employee, or launching a marketing

campaign is all decisions with uncertain outcomes. As a result all the major management

decisions of how much risk to take and how to manage the risk.

The implementation of risk management varies from business to business, from

one management style to another and from one time to another. Risk management in the

financial services industry is different from others. Circumstances, Institutions and

Managements are different. On the other hand, an investment decision is no recent

history of legal and political stability, insights into the potential hazards and

opportunities.

Many risks are managed quantitatively. Risk exposure is measured by some

numerical index. Risk cost tradeoff many tools are described by numerical valuation

formulas.

Risk management can be integrated into a risk management system. Such a

system can be utilized to manage the trading position of a small-specialized division or an

entire financial institution. The modules of the system can be implemented with different

degrees of accuracy and sophistication.

RISK MANAGEMENT SYSTEM

Dynamics of risk factors

Cash flows Arbitrage

Generator Pricing Model

Price and Risk

Profile Of Contingent Claims

Dynamic Risk Target

Trading Rules Optimizer Risk Profile

1.2 RISK MANAGEMENT SYSTEM

Arbitrage pricing models range from simple equations to large scale

numerically sophisticated algorithms. Cash flow generators also vary from a single

formula to a simulator that accounts for the dependence of cash flows on the history of

the risk factors.

Financial engineers are continuously incorporating advances in econometric

techniques, asset pricing models, simulation techniques and optimization algorithms to

produce better risk management systems.

The important ingredient of the risk management approach is the treatment of risk

factors and securities as an integrated portfolio. Analyzing the correlation among the real,

financial and strategic assets of an organization leads to clear understanding of risk

exposure. Special attention is paid to risk factors, which translate to correlation among

the values of securities. Identifying the correlation among the basic risk factors leads to

more effective risk management.

CONCLUSION

The burden of the Risk and its Costs are both manageable and transferable.

Financial service firms, in the addition to managing their own risk, also sell financial risk

management to others. They sell their services by bearing customers financial risks

through the products they provide. A financial firm can offer a fixed-rate loan to a

borrower with the risk of interest rate movements transferred from the borrower to the.

Financial innovations have been concerned with risk reduction than any other subject.

With the possibility of managing risk near zero, the challenge becomes not how much

risk can be removed.

Financial services involve the process of intermediation between those who have

financial resources and those who need them, either as a principal or as an agent. Thus,

value breaks into several distinct functions, and it includes the intermediation of the

following:

Maturity Preference mismatch, Default, Currency Preference mis-match, Size of

transaction and Market access and information.

RISK MANAGEMENT IN HDFC

Narasimham committee II, advised to address market risk in a structured manner

by adopting Asset and Liability Management practices with effect from April 1st 1989.

Asset and liability management (ALM) is “the Art and Science of choosing the

best mix of assets for the firm’s asset portfolio and the best mix of liabilities for the

firm’s liability portfolio”. It is particularly critical for Financial Institutions.

For a long time it was taken for granted that the liability portfolio of financial

firms was beyond the control of the firm and so management concentrated its efforts on

choosing the asset mix. Institutions treasury department used the funds provided by

deposits to structure an asset portfolio that was appropriate for the given liability

portfolio.

With the advent of Certificate of Deposits (CDs), a tool by which to manipulate

the mix of liabilities that supported their Asset portfolios, which has been one of the

active management of assets and liabilities.

Asset and liability management program evolve into a strategic tool for management,

the main elements of the ALM system are:

ALM INFORMATION.

ALM ORGANISATION.

ALM FUNCTION.

ALM INFORMATION:

ALM is a risk management tool through which Market risk associated with

business are identified, measured and monitored to maintain profits by restructuring

Assets and Liabilities. The ALM framework needs to be built on sound methodology

with necessary information system as back up. Thus the information is key element to the

ALM process.

There are various methods prevalent worldwide for measuring risks. These range

from the simple Gap statement to extremely sophisticate and data intensive Risk adjusted

profitability measurement (RAPM) methods. The central element for the entire ALM

exercise is the availability of adequate and accurate information.

However, the existing systems in many Indians do not generate information in

manner required for the ALM. Collecting accurate data is the biggest challenge before,

the particularly those having wide network of branches, but lacking full-scale

computerization.

Therefore the introduction of these information systems for risk measurement and

monitoring has to be addressed urgently.

The large network of branches and the lack of support system to collect information

required for the ALM which analysis information on the basis of residual maturity and

behavioral pattern, it would take time for s in the present state to get the requisite

information.

ALM CELL

The ALM desk / cell consisting of operating staff should be responsible for

analyzing, monitoring and reporting the profiles to the HDFC. The staff should also

prepare forecasts (simulations) showing the effects of various possible changes in market

conditions related to the balance sheet and recommend the action needed to adhere to the

internal limits.

COMMITTEE OF DIRECTORS

They should also constitute professional, management and supervisory committee,

consisting of three to four directors, which will oversee the implementation of the ALM

system, and review it’s functioning periodically.

ALM PROCESS

The scope of ALM function can be described as follows:

1. Liquidity Risk Management

2. Interest Rate Risk Management

3. Currency Risk Management

4. Settlement Risk Management

5. Basis Risk Management

The RBI guidelines mainly address Liquidity Risk Management and Interest Rate

Risk Management.

The following are the concepts discussed for analysis of Asset-Liability

Management under above mentioned risks.

● Liquidity Risk

● Maturity profiles

● Interest rate risk

● Gap analysis

1. Liquidity Risk Management :

Measuring and managing liquidity needs are vital activities of the Risk. By

assuring a returns ability to meet its liability as they become due, liquidity management

can reduce the probability of an adverse situation development. The importance of

liquidity transcends individual institutions, as liquidity shortfall in one institution can

have repercussions on the entire system.

Liquidity risk management refers to the risk of maturing liability not finding

enough maturing assets to meet these liabilities. It is the potential inability to meet the

liability as they became due. This risk arises because borrows funds for different

maturities in the form of deposits, market operations etc. and lock them into assets of

different maturities.

Liquidity Gap also arises due to unpredictability of deposit withdrawals, changes

in loan demands. Hence measuring and managing liquidity needs are vital for effective

and viable operations.

Liquidity measurement is quite a difficult task and usually the stock or cash flow

approaches are used for its measurement. The stock approach used certain liquidity ratios.

The liquidity ratios are the ideal indicators of liquidity of Operating in developed

financial markets, the ratio do not reveal the real liquidity profile of s which are operating

generally in a fairly illiquid market. The assets, which are commonly considered as liquid

like Government securities, have limited liquidity when the market and players are in one

direction. Thus analysis of liquidity involves tracking of cash flow mismatches.

The statement of structural liquidity may be prepared by placing all cash inflows and

outflows in the maturity ladder according to the expected timing of cash flows.

The MATURITY PROFILE could be used for measuring the future cash flows in

different time bands.

The position of Assets and Liabilities are classified according to the maturity

patterns a maturing liability will be a cash outflow while a maturing asset will be a cash

inflows. The measuring of the future cash flows of s is done in different time buckets.

The time buckets, given the statutory Reserve cycle of 14 days may be distributed as

under:

1. 1 to 14 days

2. 15 to 28 days

3. 29 days and up to 3 months

4. Over 3 months and up to 6 months

5. Over 6 months and up to 1 year

6. Over 1 year and up to 3 years

7. Over 3 years and up to 5 years

8. Over 5 years.

MATURITY PROFILE – LIQUIDITY

HEAD OF ACCOUNTS

A.OUTFLOWS

Classification into time buckets

1.Capital, Reserves and Surplus Over 5 years bucket.

2.Demand Deposits (Current &

Savings Deposits)

Demand Deposits may be classified into

volatile and core portions, 25 % of

deposits are generally withdraw able on

demand. This portion may be treated as

volatile. While volatile portion may be

placed in the first time bucket i.e., 1-14

days, the core portion may be placed in

1-2 years, bucket.

3. Term Deposits Respective maturity buckets.

4. Borrowings Respective maturity buckets.

5. Other liabilities and provisions

(i) Bills Payable

(ii) Inter-office Adjustment

(iii) Provisions for NAPs

a) sub-standard

b) doubtful and Loss

(iv) provisions for depreciation

in Investments

(v) provisions for NAPs in

investment

(vi) provisions for other purposes

(i) 1-14 days bucket

(ii) Items not representing cash

payable may be placed in over 5

years bucket

(iii) a) 2-5 years bucket.

b) Over 5 years bucket

.(iv) Over 5 years bucket.

(v) a) 2-5 years bucket.

b) Over 5 years bucket

(vi) Respective buckets depending on

the purpose.

B. INFLOWS

1. Cash 1-14 days bucket.

2. Balance with others

(i) Current Account

(ii) Money at call and short Notice,

(i) Non-withdraw able portion on

account of stipulations of

minimum balances may be shown

Less than 1-14 days bucket.

(ii) Respective maturity buckets.

Term Deposits and other

Placements

3. Investments

(i) Approved securities

(ii) Corporate Debentures and

bonds, CDs and CPs,

redeemable preference shares,

units of Mutual Funds (close

ended). Etc.

(iii) Share / Units of Mutual

Funds (open ended)

(iii) Investment in subsidiaries /

Joint Ventures.

(i) Respective maturity buckets

excluding the amount required to

be reinvested to maintain SLR

(ii) Respective Maturity buckets.

Investments classified as NPAs

Should be shown under 2-5 years

bucket (sub-standard) or over 5

years bucket (doubtful and loss).

(iii) Over 5 years bucket.

(iv) Over 5 years bucket.

4. Advances (performing / standard)

(i) Bills Purchased and

Discounted

(including bills under

DUPN)

(iii) Cash Credit / Overdraft

(including TOD) and

(i) Respective Maturity buckets.

(ii) they should undertake a study

of behavioral and seasonal pattern

of a ailments based on outstanding

and the core and volatile portion

should be identified. While the

Demand Loan component of

Working Capital.

(iii) Term Loans

volatile portion could be shown in

the respective maturity bucket. The

core portion may be shown under 1-

2 years bucket.

(iii) Interim cash flows may be

shown under respective maturity

Buckets.

5. NPAs

b. Sub-standard

c. Doubtful and Loss

(I) 2-5 years bucket.

(ii) Over 5 years bucket.

6. Fixed Assets Over 5 years bucket.

7. Other-office Adjustment

(i) Inter-office Adjustment

(ii) Others

(i) As per trend analysis,

Intangible items or items

not representing cash

receivables may be shown

in over 5 years bucket.

(i) Respective maturity buckets.

Intangible assets and assets not

representing cash receivables may be

shown in over 5 years bucket.

Terms used:

CDs: Certificate of Deposits.

CPs: Commercial Papers.

DTL PROFILE: Demand and Time Liabilities.

Inter office adjustment:

Outflows: Net Credit Balances

Inflows: Net Debit Balances

Other Liabilities: Cash payables, Income received in advance, Loan Loss and

Depreciation in Investments.

Other assets: Cash Receivable, Intangible Assets and Leased Assets.

2. Interest Rate Risk :

Interest Rate Risk refers to the risk of changes in interest rates subsequent to the

creation of the assets and liabilities at fixed rates. The phased deregulations of interest

rates and the operational flexibility given in pricing most of the assets and liabilities

imply the need for system to hedge the interest rate risk. This is a risk where changes in

the market interest rates might adversely affect financial conditions.

The changes in interest rates affects in large way. The immediate impact of

change in interest rates is on earnings by changing its Net Interest Income (NII). A long

term impact of changing interest rates is on Market Value of Equity (MVE) or net worth

as the economic value of assets, liabilities and off-balance sheet positions get affected

due to variation in market interest rates.

The risk from the earnings perspective can be measured as changes in the Net

Interest Income (NII) OR Net Interest Margin (NIM).

There are many analytical techniques for measurement and management of

interest rate risk. In MIS of ALM, slow pace of computerization in and the absence of

total deregulation, the traditional GAP ANALYSIS is considered as a suitable method to

measure the interest rate risk.

Data Interpretation

Gap Analysis:

The Gap or mismatch risk can be measured by calculating Gaps over different

time buckets as at a given date. Gap analysis measures mismatches between rate sensitive

liabilities and rate sensitive assets including off-balance sheet position.

An asset or liability is normally classified as rate sensitive if:

If there is a cash flow within the time interval.

The interest rate resets or reprocess contractually during the interval.

RBI changes the interest rates i.e., on saving deposits, export credit, refinance,

CRR balances and so on, in case where interest rate are administered.

It is contractually pre-payable or withdraw able before the stated maturities

The Gap is the difference between Rate Sensitive Assets (RSA) and Rate sensitive

Liabilities (RSA) for each time bucket.

The positive GAP indicates that RSAs are more than RSLs (RSA>RSL).

The negative GAP indicates that RSAs are more than RSALs (RSA<RSL).

They can implement ALM policies for the better identification of the mismatch, risk and

for the implementation of various remedial measures.

GENERAL:

The classification of various components of assets and liabilities into different

time buckets for preparation of Gap reports (Liquidity and interest rate sensitivity) may

be done as indicated in Appendices I & II as a sort of bench mark, which are better

equipped to reasonably estimate the behavioral pattern, embedded options, rolls-in and

rolls-out etc. of various components of assets and liabilities on the basis of past date.

Empirical studies could classify them in the appropriate time buckets, subject to approval

from the HDFC / Board. A copy of the note approved by the ALOC / Board may be sent

to the Department of Supervision.

The present framework does not capture the impact of embedded options, i.e., the

customers exercising their options (premature closure of deposits and prepayment of

loans and advances) on the liquidity and interest rate risks profile. The magnitude of

embedded option risk at times of volatility in market interest rates is quite substantial

should, therefore evolve suitable mechanism, supported by empirical studies and

behavioural analysis to estimate the future behaviour of assets; liabilities and off-balance

sheet items to changes in market variables and estimate the embedded options.

A scientifically evolved internal transfer pricing model by assigning values on the

basis of current market rates to funds provided and funds used is an imported component

for elective implementation of ALM systems. The transfer price mechanism can enhance

the management of margin i.e., landings or credit spread the funding or liability spread

and mismatch spread. It also helps centralizing interest rate risk at one place which

facilitates effective control and management of interest rate risk. A well-defined transfer

pricing system also provides a rational framework for pricing of assets and liabilities.

COMPARATIVE ASSET LIABILITY SHEET AS ON 31 ST MARCH 2013-14

Mar '14 Mar '13

Increase (+) /

Decrease ( - )

(in Rs)

Percentage

(%)

Capital and Liabilities:

Total Share Capital 479.81 475.88 3.93 0.82583845

Equity Share Capital 479.81 475.88 3.93 0.82583845

Share Application Money 0.00 0.00    

Reserves 42,998.82 35,738.26 7260.56 20.3159303

Net Worth 43,478.63 36,214.14 7264.49 20.0598164

Deposits 367,337.48 296,246.98 71090.5 23.9970379

Borrowings 39,438.99 33,006.60 6432.39 19.4881933

Total Debt 406,776.47 329,253.58 77522.89 23.5450409

Other Liabilities & Provisions 41,344.40 34,864.17 6480.23 18.5870766

Total Liabilities 491,599.50 400,331.89 91267.61 22.7979864

Assets  

Cash & Balances with RBI 25,345.63 14,627.40 10718.23 73.2750181

Balance with Banks, Money at

Call14,238.01 12,652.77

1585.24 12.528798

Advances 303,000.27 239,720.64 63279.63 26.3972389

Investments 120,951.07 111,613.60 9337.47 8.3658891

Gross Block 2,939.92 2,703.08 236.84 8.76185684

Accumulated Depreciation 0.00 0.00    

Net Block 2,939.92 2,703.08 236.84 8.76185684

Other Assets 25,124.60 19,014.41 6110.19 32.1345232

Total Assets 491,599.50 400,331.90 91267.6 22.7979834

Contingent Liabilities 744,097.98 746,226.39 -2128.41 -0.28522309

Bills for collection 0.00 0.00    

Book Value (Rs) 181.23 152.20 29.03 19.0735874

Interpretation:

The total current liabilities for the year are Rs.491599.50 in the year 2014 is less than

the total current assets for the year. Therefore the assets are more than the liabilities.

So there is a positive gap of Rs.236.84 i.e 8.76 %

COMPARATIVE ASSET LIABILITY SHEET AS ON 31 ST MARCH 2012-13

Mar '13 Mar '12

Increase (+) /

Decrease ( - )

(in Rs)

Percentage

(%)

Capital and Liabilities:

Total Share Capital 475.88 469.34 6.54 1.393446116

Equity Share Capital 475.88 469.34 6.54 1.393446116

Share Application Money 0.00 0.30 -0.30 -100

Reserves 35,738.26 29,455.04 6,283.22 21.33156159

Net Worth 36,214.14 29,924.68 6,289.46 21.01763494

Deposits 296,246.98246,706.45 49,540.53 20.08075995

Borrowings 33,006.60 23,846.51 9,160.09 38.41270693

Total Debt 329,253.58270,552.96 58,700.62 21.69653586

Other Liabilities & Provisions 34,864.17 37,431.87 -2,567.70 -6.859662635

Total Liabilities 400,331.89337,909.51 62,422.38 18.47310542

Assets

Cash & Balances with RBI 14,627.40 14,991.09 -363.69 -2.426041068

Balance with Banks, Money at

Call12,652.77 5,946.63

6,706.14 112.7721079

Advances 239,720.64195,420.03 44,300.61 22.66943158

Investments 111,613.60 97,482.91 14,130.69 14.4955562

Gross Block 2,703.08 5,930.24 -3,227.16 -54.41870818

Accumulated Depreciation 0.00 3,583.05 -3,583.05 -100

Net Block 2,703.08 2,347.19 355.89 15.16238566

Other Assets 19,014.41 21,721.64 -2,707.23 -12.46328546

Total Assets 400,331.90337,909.49 62,422.41 18.47311539

Contingent Liabilities 746,226.39844,374.61 -98,148.22 -11.6237768

Bills for collection 0.00 39,610.71 -39,610.71 -100

Book Value (Rs) 152.20 127.52 24.68 19.35382685

Interpretation:

The total current liabilities for the year are Rs.400331.89 in the year 2013 is less than

the total current assets for the year. Therefore the assets are more than the liabilities.

So there is a positive gap of Rs.355.89 i.e 15.16 %

COMPARATIVE ASSET LIABILITY SHEET AS ON 31 ST MARCH 2011-12

Mar '12 Mar '11

Increase (+) /

Decrease ( - )

(in Rs)

Percentage

(%)

Capital and Liabilities:

Total Share Capital 469.34 465.23 4.11 0.88343

Equity Share Capital 469.34 465.23 4.11 0.88343

Share Application Money 0.30 0.00 0.3  

Reserves 29,455.04 24,914.04 4541 18.2267

Net Worth 29,924.68 25,379.27 4545.41 17.9099

Deposits 246,706.45208,586.41 38120 18.2754

Borrowings 23,846.51 14,394.06 9452.45 65.6691

Total Debt 270,552.96222,980.47 47572.5 21.3348

Other Liabilities & Provisions 37,431.87 28,992.86 8439.01 29.1072

Total Liabilities 337,909.51277,352.60 60556.9 21.8339

Assets  

Cash & Balances with RBI 14,991.09 25,100.82 -10110 -40.2765

Balance with Banks, Money at

Call5,946.63 4,568.02

1378.61 30.1796

Advances 195,420.03159,982.67 35437.4 22.1507

Investments 97,482.91 70,929.37 26553.5 37.4366

Gross Block 5,930.24 5,244.21 686.03 13.0817

Accumulated Depreciation 3,583.05 3,073.56 509.49 16.5765

Net Block 2,347.19 2,170.65 176.54 8.13305

Other Assets 21,721.64 14,601.08 7120.56 48.7674

Total Assets 337,909.49277,352.61 60556.9 21.8339

Contingent Liabilities 844,374.61559,681.87 284693 50.8669

Bills for collection 39,610.71 28,869.10 10741.6 37.208

Book Value (Rs) 127.52 545.53 -418.01 -76.6246

Interpretation:

The total current liabilities for the year are Rs.3, 37,909.51 in the year 2012 is less

than the total current assets for the year. Therefore the assets are more than the

liabilities. So there is a positive gap of Rs.176.36 i.e 08.13%

COMPARATIVE ASSET LIABILITY SHEET AS ON 31 ST MARCH 2010-11

Mar '11 Mar '10

Increase (+) /

Decrease ( - )

(in Rs)

Percentage

(%)

Total Share Capital 465.23 457.74 7.49 1.63630008

Equity Share Capital 465.23 457.74 7.49 1.63630008

Reserves 24,914.04 21,064.75 3849.29 18.2736088

Net Worth 25,379.27 21,522.49 3856.78 17.9197667

Deposits 208,586.41 167,404.44 41182 24.6002854

Borrowings 14,394.06 12,915.69 1478.37 11.4463107

Total Debt 222,980.47 180,320.13 42660.3 23.6581129

Other Liabilities & Provisions 28,992.86 20,615.94 8376.92 40.6332188

Total Liabilities 277,352.60 222,458.56 54894 24.6760745

Cash & Balances with RBI 25,100.82 15,483.28 9617.54 62.1156499

Balance with Banks, Money at Call 4,568.02 14,459.11 -9891.1 -68.4073224

Advances 159,982.67 125,830.59 34152.1 27.1413175

Investments 70,929.37 58,607.62 12321.8 21.0241433

Gross Block 5,244.21 4,707.97 536.24 11.3900471

Accumulated Depreciation 3,073.56 2,585.16 488.4 18.8924477

Net Block 2,170.65 2,122.81 47.84 2.25361667

Other Assets 14,601.08 5,955.15 8645.93 145.184084

Total Assets 277,352.61 222,458.56 54894.1 24.676079

Contingent Liabilities 559,681.87 466,236.24 93445.6 20.0425497

Bills for collection 28,869.10 20,940.13 7928.97 37.8649512

Book Value (Rs) 545.53 470.19 75.34 16.0233097

Interpretation:

The total current liabilities for the year are Rs.277352.60 is less than the total assets

for the year are Rs.14601.08. Therefore the assets are more than the liabilities. So

there is a positive gap of Rs. 536.24 i.e 11.39%

COMPARATIVE ASSET LIABILITY SHEET AS ON 31 ST MARCH 2009-10

Mar '10 Mar '09

Increase (+) /

Decrease ( - )

(in Rs)

Percentage

(%)

Total Share Capital 457.74 425.38 32.36 7.60731581

Equity Share Capital 457.74 425.38 32.36 7.60731581

Share Application Money 0.00 400.92 -400.92 -100

Reserves 21,064.75 14,226.43 6838.32 48.0677162

Net Worth 21,522.49 15,052.73 6469.76 42.980642

Deposits 167,404.44 142,811.58 24592.9 17.2204943

Borrowings 12,915.69 2,685.84 10229.9 380.880842

Total Debt 180,320.13 145,497.42 34822.7 23.9335584

Other Liabilities & Provisions 20,615.94 22,720.62 -2104.7 -9.26330355

Total Liabilities 222,458.56 183,270.77 39187.8 21.382455

Cash & Balances with RBI 15,483.28 13,527.21 1956.07 14.4602619

Balance with Banks, Money at Call 14,459.11 3,979.41 10479.7 263.348084

Advances 125,830.59 98,883.05 26947.5 27.2519304

Investments 58,607.62 58,817.55 -209.93 -0.35691728

Gross Block 4,707.97 3,956.63 751.34 18.9893925

Accumulated Depreciation 2,585.16 2,249.90 335.26 14.9011067

Net Block 2,122.81 1,706.73 416.08 24.3787828

Other Assets 5,955.15 6,356.83 -401.68 -6.31887277

Total Assets 222,458.56 183,270.78 39187.8 21.3824484

Contingent Liabilities 466,236.24 396,594.31 69641.9 17.5599922

Bills for collection 20,940.13 17,939.62 3000.51 16.7256051

Book Value (Rs) 470.19 344.44 125.75 36.5085356

Interpretation:

The total current liabilities for the year are Rs.222458.56 is less than the total assets

for the year are Rs.5955.15. Therefore the assets are more than the liabilities. So

there is a positive gap of Rs. 751.34 i.e 18.98 %

Ratio Analysis

Return on Assets (ROA)

    Net Income

  Return on Assets (ROA) = ----------------------------------

    Average Total Assets

   

Year Net income Average Total ROA

Assets

2013-2014 49055.17 491599.50 9.97868

2012-2013 41917.49 400331.90 10.47068

2011-2012 32619.76 337909.49 9.653402

2010-2011 24361.72 277352.61 8.783664

2009-2010 19983.52 222458.56 8.98303

Interpretation:

In the ROA the total Average Assets was increasing year by year and the net income was

also in the decreasing position

Return on Equity (ROE)

    Net Income

  Return on Equity (ROE) = --------------------------------------------

    Average Stockholders' Equity

     

Year Net income Average Equity ROE

2013-2014 49055.17 479.81 102.233874

2012-2013 41917.49 475.88 88.0841598

2011-2012 32619.76 469.34 69.5013423

2010-2011 24361.72 465.23 52.3648948

2009-2010 19983.52 457.74 43.6569231

Interpretation:

The net income of the organization was in the increasing position and also the equity

value for the investors is also in the increasing stage.

Return on Common Equity (ROCE)

    Net Income

  Return on Common Equity = --------------------------------------------

    Average Common Stockholders' Equity

     

Year Net income Average Common

Stockholders' Equity

ROCE

2013-2014 49055.17 479.81 102.233874

2012-2013 41917.49 475.88 88.0841598

2011-2012 32619.76 469.34 69.5013423

2010-2011 24361.72 465.23 52.3648948

2009-2010 19983.52 457.74 43.6569231

Interpretation:

The net income of the organization was in the increasing position and also the equity

value for the shareholders is also in the increasing stage.

Profit Margin

    Net Income

  Profit Margin = -----------------

    Sales

Year Net income Sales Profit margin

2013-2014 49055.17 19610.56 2.50149706

2012-2013 41917.49 15125.93 2.77123390

2011-2012 32619.76 11339.21 2.87672245

2010-2011 24361.72 8456.54 2.88081414

2009-2010 19983.52 6403.34 3.12079633

Interpretation:

The profit margin of HDFC is in the decreasing stage because of RBI’s rules.

CHAPTER-V

FINDINGS

SUGGESSIONS

CONCLUSION

BIBLIOGRAPHY

FINDINGS

1. ALM technique is aimed to tackle the market risks. Its objective is to stabilize and

improve Net interest Income (NII).

2. Implementation of ALM as a Risk Management tool is done using maturity profiles

and GAP analysis.

3. ALM presents a disciplined decision making framework for s while at the same time

guarding the risk levels.

4. Perform Division realization has increased by 11.21% even the Turnover has come to

236.86 Cr from 185.68 Cr in last year.

5. The profit After Tax has came 8478.38 Cr to 6726.28 in Current year i.e. on 2014

because of slope in banking Industry.

6. The PAT is in an increasing trend from 2009-2010 because of increase in sale prices

and also decreases in the cost of manufacturing. In 2012 and 2013even the cost of

manufacturing has increased by 7% because of higher sales volume PAT has

increased considerably, which leads to higher EPS, which is at 98.366 in 2010.

7. The company also increased considerably which investors in coming period. The

company has taken up a plant expansion program during the year to increase the

production activity and to meet the increase in the demand

8. Because of decrease in operating expenses to the time of 12042.20 Cr the Net profit

has increased. It stood at in current year increase because of redemption of debenture

and cost reduction. A dividend of Rs.345.00per share as declared during the year at

35.34% on equity.

CONCLUSION

The purpose of ALM is not necessarily to eliminate or even minimize risk. The level of

risk will vary with the return requirement and entity’s objectives.

Financial objectives and risk tolerances are generally determined by senior management

of an entity and are reviewed from time to time.

All sources of risk are identified for all assets and liabilities. Risks are broken down into

their component pieces and the underlying causes of each component are assessed.

Relationships of various risks to each other and/or to external factors are also identified.

Risk exposure can be quantified 1) relative to changes in the component pieces, 2) as a

maximum expected loss for a given confidence interval in a given set of scenarios, or 3)

by the distribution of outcomes for a given set of simulated scenarios for the component

piece over time.

Regular measurement and monitoring of the risk exposure is required. Operating within a

dynamic environment, as the entity’s risk tolerances and financial objectives change, the

existing ALM strategies may no longer be appropriate.

Hence, these strategies need to be periodically reviewed and modified. A formal,

documented communication process is particularly important in this step.

SUGGESTIONS

1. They should strengthen its management information system (MIS) and computer

processing capabilities for accurate measurement of liquidity and interest rate Risks

in their Books.

1. In the short term the Net interest income or Net interest margins (NIM) creates

economic value of the which involves up gradation of existing systems &

Application software to attain better & improvised levels.

2. It is essential that remain alert to the events that effect its operating environment &

react accordingly in order to avoid any undesirable risks.

3. HDFC requires efficient human and technological infrastructure which will future

lead to smooth integration of the risk management process with effective business

strategies.

BIBILIOGRAPHY

Title of the Books Author Publications

1. Risk management Gustavson hoyt sout western, division of

Thomson learning(2012)

2. India financial system M.Y. Khan Mcgraw Hill

Sth Edition

3. Management Research magazine P.M.Dileep Kumar

HDFC Annual reports-2013-2014

Web sites

www.hdfc.com

www.investoros.com

www.financeindia.com