Asset and Liability Management: The Banker’s Guide to Value Creation and Risk Control, Second Edition

Simulation model

A simulation model works in three steps:

1. Calculate your repricing table, that is the repricing dates of all existing assets and liabilities.

2. Design several economic scenarios, each including:

   • a new interest rate curve (for example, over the next two years);

   • a forecast of deposits and loans volumes;

   • the pricing of deposits and loans for that specific curve.

3. Simulation. Ask the accountants and computer experts to simulate (forecast) your balance sheet and income statement for each of the scenarios.

The task of the risk manager is to identify the relevant scenarios and to report how the profit of the bank would be affected in each of them.

Thanks to Monte Carlo simulation, millions of interest rate scenarios can be developed, but usually ...