Scenario modeling and stress testing are both critical to balance sheet management, and they’ve been growing priorities for banks in their drive to achieve compliance. But increasingly, organizations are seeing these tools in a new light: less as an obligation and more as a route to competitive advantage. The more integrated your stress tests and models, the better.
Until recently, demand for a holistic, integrated approach to balance sheet management and stress testing has been driven largely by regulatory stress tests, such as those mandated by the European Banking Authority (EBA) and the European Central Bank (ECB). But now, banks are beginning to see the business value of integration, too.
For senior managers, the main new objective has been to more closely align the risk, treasury and finance functions. As well as allowing you to base your calculations – and therefore decisions – on consistent scenarios, breaking down silos will help reduce inefficiencies and costs and capture the dependencies between different risk types.
To facilitate global enterprise-wide risk management and stress testing in this way, you need all of your risk areas to share the same cash-flow, valuation, stress-testing and projections engines.
Other than consistency, you also need flexibility from your balance sheet management technology.
With highly standardized and easy-to-configure functionality, your different business units will get the tools to meet both external demands like EBA stress tests and complex, ad-hoc internal reporting requirements in less time and with less strain on resources.
Plus, with formula-driven simulation and forecasting model capabilities, you can model any complex interdependencies, too.
In practice, you should be able to run a large number of “what if” and stress scenario simulations on the balance sheet, while quickly and intuitively shocking and simulating key process drivers such as interest rates, prepayments, spreads, volatilities, any kind of macroeconomic scenario and related dependencies between risk factors.
By comparing results in the reporting layer of your solution, you can provide the basis for reverse stress testing. For example, you could identify which liquidity stress scenarios create the most adverse effects, or which risk driver has the biggest impact on your liquidity position.
Ultimately, with an integrated solution, you should have all the tools you need for strategic balance sheet management. That means being in a stronger position to not only identify, quantify and monitor risk but also improve your business model, your margins and your competitive edge.