Now that we have established defensible, institutionally relevant assumptions for your bank, it is necessary that your bank periodically stress tests each assumption. This is critical to understanding how sensitive the bank's balance sheet is relative to a change in a certain assumption.
Referring back to the last Supervisory Insights issued by the FDIC (Winter 2014), here is how they view this process:
"The objective of sensitivity analysis is to isolate the impact a single assumption may have on the results of the IRR measurement system. This is accomplished by changing one assumption (e.g., increasing the decay rate or the beta factor by X percent) and re-running the analysis to compare results.)"
Since 2008-2009, the traditional deposit mix of banks has changed. Time deposits have fell out of favor to non maturing Money Market and NOW accounts. In response to regulators concerns on this topic, BancPath has included a new report titled "Assumption Stress Tests". In this section of the report, we use four tests to gauge the sensitivity of changes in assumptions to the balance sheet.
The four tests are:
1) change in net interest income due to a change in deposit mix (back to pre 2008 mix)
2) dynamic market value of equity in response to a change in deposit mix
3) interest rate risk profile in response to changes in deposit betas
4) shortening the duration of non-maturing deposits and the effect on Market Value of Equity
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