The scope of ALM function can be described as follows:
Liquidity risk management
Management of market risks
Trading risk management
Funding and capital planning
Profit planning and
growth projection
The mitigation of a broad range of risks is often involved in ALM frameworks, despite the fact that
they vary considerably
amongst businesses. Interest rate risk and liquidity risk
are
two of the most frequent
hazards that ALM addresses.Risks connected to fluctuating interest rates and how they
impact upcoming cash
flows are referred
to as interest rate risk. The assets and liabilities that financial institutions normally
hold are impacted by shifting
interest rates. Deposits (assets) and
loans are two of the most typical instances (liabilities). Interest rates have an effect on
both, therefore when
rates
are
fluctuating
there may
be an imbalance between assets and
obligations.
Risks relating
to a
financial institution's capacity to
meet
its current and future cash-flow obligations, commonly known as liquidity, are referred to as liquidity risk. The risk is that it will negatively impact
the
financial institution's position when it is unable to fulfill its obligations because of a lack of liquidity.
Organizations may use ALM
methods
to boost
liquidity in order
to
meet cash-flow
commitments resulting from their liabilities in order to reduce the risk of liquidity.
ALM also reduces risks of
other kinds in addition to interest and
liquidity hazards. One instance of a risk
related
with
changes
in exchange rates
is currency risk.
A
mismatch may
occur
when assets
and obligations
are
kept
in different currencies due to fluctuations in
exchange rates.