Financial Risk Manager Part 2
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The treasurer of a US bank is concerned about potential future interest rate increases by the Federal Reserve (FED) and their impact on the bank's net worth. After reviewing the bank's stress testing framework, the treasurer asks a manager to consider including an additional scenario in which the FED increases interest rates by 200 bps and to perform duration analysis on the scenario. The manager gathers information on the bank's balance sheet and the duration of each asset and liability item as provided below:
| | Amount (USD million) | Duration (years) |
|------------------|----------------------|------------------|
| Assets | | |
| Cash | 400 | 0 |
| Federal funds loans | 400 | 1.0 |
| Government securities and mortgages | 600 | 5.0 |
| Loans and leases | 1100 | 3.0 |
| Total assets | 2500 | |
| Liabilities | | |
| Interest-bearing deposits (marketable) | 1000 | 0.5 |
| Other borrowings | 1200 | 4.0 |
| Total liabilities | 2200 | |
Assuming the current level of interest rates is 2%, which of the following is a correct statement for the manager to make regarding this stress scenario?
A
A 200-bps increase in interest rates will cause the bank's net worth to decrease by USD 27.4 million.
B
A 200-bps increase in interest rates will cause the bank's net worth to decrease by USD 52.4 million.
C
Compared to the bank's other balance sheet items, interest-bearing deposits will experience the smallest change in value given a 200-bps increase in interest rates.
D
In this scenario, utilizing USD 200 million of cash to first pay off USD 200 million of other borrowings in response to a 200-bps increase in interest rates will cause the value of the bank's net worth to increase.