Explanation:
The correct answer is A.
The bank's fixed rate borrowing cost is converted to floating via a matched-maturity marginal cost of funds liquidity pricing strategy, which also equals the spread over a reference rate. This approach ensures that the cost of funds aligns with the maturity of the bank's assets and liabilities, considering the marginal cost of acquiring additional funds.
B is incorrect. When compensation is based on net income, neither a zero-cost-of-funds approach nor an average cost-of-funds approach will properly align the maturity of the bank's lending and borrowing activities. Management might build an important maturity mismatch between assets and liabilities to boost net income.
C is incorrect. The bank will typically retain long-term, highly illiquid assets matched with
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Q.5418 A risk analyst is having a conversation with her supervisor about the different approaches to liquidity transfer pricing and the potential effects of each technique. Which of the following claims made by the risk analyst on liquidity transfer price is most likely correct?
A
The bank's fixed-rate borrowing cost becomes a floating-rate borrowing cost when a matched-maturity marginal cost of funds technique is used.
B
When management remuneration is based on net income, both an average cost-of-funds approach and a zero-cost-of-funds approach correctly align the maturity of the bank's lending and borrowing activities.
C
When a bank uses a zero-cost-of-funds strategy, it frequently ends up with long-term, very illiquid assets that are financed by stable, long-term liabilities.
D
The balance sheet of a bank often experiences the biggest maturity transformation when using an average cost of funds strategy.
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