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Thursday, January 17, 2013

ALM: Increasing Importance of HR

The efficacy of any tool is defined by the people who operate it. As an extension of this analogy, one may say that the efficacy of risk management depends on the risk profile of the people who attempt risk management. And that is what this article examines in the context of ALM in banks.

As financial intermediaries banks are known to accept deposits to lend money to entrepreneurs to make profit—of course, all within the norms of the central bank. They essentially intermediate between the opposing liquidity needs of depositors and borrowers. In the process, they function with an embedded mismatch between highly liquid liabilities on the one side and less-liquid and long-term assets on the other side of their balance sheets. Over and above this balance sheet conflict, they also stand exposed to a wide array of risks such as market risk, transformation risk, credit risk, liquidity risk, forex risk, legal risk, operation risk, reputational risk, etc. The ongoing process of “globalization” has only further accentuated these risks.

Risk per se is not bad. Indeed, without risk there is no return. So what is needed here is not avoiding risks, but taking risks prudently and managing them with due diligence. Effective management of risk is a must, particularly in organizations like banks which operate with highly leveraged balance sheets. Otherwise, risks can rattle banks and even throw them out of business in no time. Hence, the need for banks to adopt sophisticated risk management systems. It is in this context that the concept of “ALM” has entered Indian banks as a risk-management tool. This paper attempts to discuss: i) what ALM is ii) how it is implemented in banks; iii) the role of HR in implementing these measures, and iv) the role of “leadership” in successfully steering banks out of their risk zones.

What is ALM?
It is essentially the art of manipulating a bank’s balance sheet and income statement to accomplish the desired goals. It enables banks to sustain their required growth rate by systematically managing market risk, liquidity risk, capital risk, etc. It inter alia involves the following, all with a focus on profit and long-term stability of the bank:
• Adjusting a bank’s liability in such a way that it can meet its liquidity and safety needs,besides being able to service the customer’s demands for loans.
• Directing, controlling the flow of funds, its means, the cost thereof and the yield onconsolidated funds of banks.
•  Managing maturity profile of assets and liabilities in such a way that interest rate risk is kept under check.
•   Managing net interest margin within the overall risk appetite of a bank.
All these measures are interlinked and hence call for deft handling by the corporate leadership. Implementation of ALM can be broken down into three phases—One, choosing an appropriate length of planning horizon of say one, two or three months ahead depending upon the bank’s ability to collect the necessary financial information from the profit centers; two, based on the collected information working out estimates of return and risks under different models and three, choosing a right model that results in a stable net interest income consistently.

How ALM is Implemented in Banks
The implementation of asset-liability management is ensured through an exclusively constituted asset-liability management committee, consisting of the top functionaries in a bank as its members. The committee undertakes the responsibility of identifying bank-wide risk and its quantification, drafting risk management strategies, developing alternative scenarios, selecting a right model after running Monte Carlo simulations and monitoring earning spreads and initiating mid course correction, if any, to achieve the targeted profit. To make ALM more effective big banks are known to constitute three subcommittees, each assigned with specific responsibilities as under:
Credit Management Committee
This committee is responsible for drafting a bank’s credit policies and exposure limits, pricing strategies, estimating default risks and monitoring and managing credit portfolio risk.
Investment Management Committee
This committee drafts investment policies, ensures the desired mix of maturity and yield pattern of investment portfolio and runs a bank’s investment portfolio.
Liability Management Committee
This committee is responsible to satisfy liquidity demands of a bank, to evaluate the cost of various money market instruments and their fit in a bank’s projected balance sheet and to formulate management policy and review it periodically to stay tuned with market happenings.  Ultimately, the asset-liability management committee has to undertake the overall responsibility for directing acquisition and allocation of funds to maximize earnings within the risk-bearing capacity of the institute.

ALM and its Dependence on HR
No tool, however efficient it may be, can function on its own. It needs people to operate. More than that, it needs leadership to define mission, set goals and design a process through which the tools can be operationalized to deliver services and make profits. Banks need transparent leadership that nurtures the best possible culture, where risk management almost becomes a way of life. Effective implementation of ALM, thus, asks for a right mix of leadership, loyal people to man various functions, right organizational culture and sound knowledge of risk across the hierarchy. Let us now take a critical look at some of these components:
It is often said that “the bottleneck is at the head of the bottle”. No organization can be better than the cumulative value of its leader and those he leads. Successful implementation of alm, therefore, calls for leaders who are equipped with a thorough knowledge of embedded risks in banking and their impact on its profit making. The leadership must be capable of anticipating the likely changes in the market and accordingly draw its projected balance sheet vis-à-vis its strengths and motivate everyone to work for its accomplishment.
Leadership should make its subtle reflection felt in the identification and positioning of people with a right risk profile in terms of its knowledge of risk, its risk perceptions—risk aversion/risk greed/enterprising—in the asset-liability management committee and its subcommittees. Once assigned the role, the leadership should exhibit its strength by granting allowances for temporary failures of committee members. They should not indulge in knee-jerk reactions at every wrong decision of the committee members, unsettling their composition and demeanor. Such flare-ups at every mistake erodes the confidence of committee members in entertaining any risk, which again is a bane for the organization.

Experience elsewhere indicates that ALM suffers from two basic pitfalls: One, the failure to adopt meaningful policies and two, implementing the adopted policies. The leadership is expected to take care of both the pitfalls. Leaders are, therefore, supposed to be strong in themselves, besides choosing people with strength to perform as unit heads. It is only people who are above the average that can become venturesome in their businesses. They alone can dare to dream and achieve. It is only such courage and entrepreneurial streak that enables leaders to try the untried, the unpredictable and the unexpected, which incidentally is what ALM is all about. Leadership should know who its experts are, no matter how difficult, and match them rightly with the job to ensure effective ALM across the network.

However, it should be realized that looking for expertise does not mean identifying the leading authority on a topic; it is only locating that one person that best fits the demands of a given job from within or outside. Unfortunately, many a time the staff themselves do not know what “expertise” they possess. This is where a leader has to use his/her acumen to unearth talent from his/her pool of resources and match it with the job. As a first step in this direction, banks must map out the ALM process and its knowledge needs so as to establish the “expertise” needed. From here, a bank can look into its internal HR data on education, experiences, achievements of its staff and based on it match the people to the job under question.

Leaders must keep their banks always ready to adapt to emerging situation demands. They must determine the extent to which the change is required vis-à-vis the ALM expectations. Here, a leader should strive to make his/her followers believe in the overall purpose of the required change. Merely asking the employees to do things differently will not do. Leaders must become consistent role models, put their approach to the required change into practice and reinforce it with appropriate systemic support.

Effective implementation of ALM becomes simple if the people engaged in its pursuit—right from chairman to the chaprasi; branch manager to corporate manager; ALCO members to board of directors—can internalize a well-designed system of risk identification, monitoring and its management for generating targeted profits. In this context, leaders have a critical role in articulating the corporate mission with the staff and making them own it as their personal goal.

To begin with, ALCO members must share their perceptions/reservations/enthusiasm over the policies contemplated for implementation, to better the decision-making process. Till a decision is arrived at, every member has the right to discuss the issues threadbare. But once a decision is taken they must all bury their differences and align themselves with the chosen policy for its effective implementation. Such active participation of operating staff in the decision-making process generates the much needed team spirit for the implementation of ALM. In a dynamic and competitive world, an open communication system across the hierarchy alone paves the way for successful implementation of ALM objectives. A collegiate atmosphere is essential, so that anybody in the organization can air their ideas as well as their criticisms of the chosen models of ALM implementation. Such role enlargement empowers employees, making them more responsible to their own deeds, besides reducing dependence, subordination and submissiveness while increasing their degree of self-actualization.

Leadership should encourage informal ways of interaction among members, as it is known to provide an opportunity for individuals to create their own informal world with its own culture and values, in which they can find psychological center/firm anchor to maintain stability while constantly adjusting themselves to changing ALM demands. It builds congruence between the needs of the people and the expectations of the organization. Such congruence among the staff is certain to generate team spirit, which is imperative for implementing ALM successfully.

The literature on risk taking behavior of human beings in any domain reveals that it is influenced by a combination of general factors such as age, sex, etc., and several personality characteristics such as “sensation seeking” and “value openness”. Research also indicates that a range of domain-specific variables also influences people’s disposition towards risk. Some people are known to be risk takers; some will be consistently risk averse, while a third group of people are known to have domain-specific patterns of risk behavior. It is said that most people take risks in order to reap some psychological or material gain. Of course, people with high conscientiousness are known to pursue these pleasures through disciplined striving. As against this, people with low conscientiousness are often found aiming at becoming rich quickly by taking chances rather than through controlled attempts. It is against these ground realities that banks must attempt to sketch the personality profiles of people who are to be assigned with the responsibilities of risk management on the following lines:
1.  physical status—the domains of health and safety risk;
2.  life style—social and recreational risk; and
3.  livelihood—career and finance risk.

Organizational Culture
Organizational culture is nothing but a shared system of meaning across its human resources. A bank’s culture must encourage people to raise questions, however embarrassing they may be and seek answers from who ever is capable of responding to them. Questions of the following nature, if raised by the staff, augur well for the implementation of ALM:
•   Are we aware of the risks being taken?
•   What form do they take?
•   Are they clearly understood by the concerned?
•   Is the maximum potential liability of each exposure known to the undertaker?
•   Are we taking business decisions on the basis of reliable and timely information?
•   Are we risk-conscious?
•   Is the staff under the pressure of management’s targets?
•   Do the management and staff feel free to ask questions on risk perceptions or admit that they do not understand?
•   Are we proud of our bank culture?
•   Does the culture permit learning from past mistakes?
A bank’s culture that allows its staff to take decisions without assessing the underlying risks is an unforgivable sin. Similarly, if it permeates the fear of appearing foolish by admitting one does not know the issue under consideration, it is the greatest obstacle for effective risk management. It is too often observed in banks that staff are questioned after the outcome has become evident, while remaining silent when such decisions were taken. What is still worse is that no one blows the whistle when things are going wrong. It is in this context that the leadership has to nurture a kind of culture where every employee feels free to air his/her opinion freely and frankly. Such a collegiate atmosphere affords ample scope for the staff to get rightly educated. This will only become possible when the top management builds credibility of its commitment to openness by “walking the talk”. Suffice it to say that banks must build a vibrant culture where diversity of mindsets is explored, tested and selected, so that they can navigate through the dynamic market scenario with profits intact.

Over the past 10 or years so, ALM has made strong inroads into the Indian banking system. It is being used as a toll to maximize income through spread management, liquidity management, capital management and gap management by choosing optimal combination of asset mixes, fund combinations, price-volume relation and interest rate variations. Its effectiveness is, however, defined by the people who are involved in its operationalization. Ironically, the very people who are engaged in managing balance sheet risks are themselves embedded with risks. Hence, the leadership in banks must pay great attention to the risk profile of the individuals to be assigned with ALM tasks. As competition increases and spreads become thinner, the criticality of human resources in implementing ALM becomes more and more pronounced.


Key words: Banks, Banking, Risk Management in Banks, Banking Risks, HRM in Banks 


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