Cashflow Analysis

Many products, services, and consultants claim to provide immediate or near immediate analysis for banks to identify their liquidity and other areas of risk. Most of these offerings are based on extremely simple algorithms that oversimplify the constraints of real-world products, and break-down when exposed to the the actual terms and conditions of different products (e.g, overdraft draft protection for retail accounts, and floors and ceilings on rates).

At Capitalytics, to ensure the most robust analysis possible, we have gone to great lengths to implement an actual simulation system that steps through all of a bank's instruments for each day, and actually models what will occur under real-world circumstances. We have been building simulation systems for over 20 years, and have leveraged all of our expertise to build a system that is:

• Scalable -- meaning that it performs as well with a million instruments as it does for a few dozen;
• Extensible -- meaning that it can easily accommodate new instruments, including those that impact each other through interdependency relationships, such as overdraft policies require; and
• Intelligent -- meaning that, not only can our customers always run new models on-demand, but we have also gone to great efforts to precompute expected models for our customers automatically, AND we have designed our system to take advantage of those portions of previously computed models that can be effectively reused to provide results to customers more quickly.

We have found that many consultants and services simply look at call report data, run a few "back of the napkin" calculations, and come up with how your bank (or a competitor) will perform under a stress scenario. While there is certainly value in first-order estimates, any competent analyst knows that publicly available call report data rarely tells the entire story about a bank. Most banks will use their then-current strategic objective to determine how exactly specific instruments are reported, and then justify their position to examiners if necessary. Scenarios that entail risk are, by definition, "corner cases" that require more scrutiny than uniform and homogeneous solutions (like a "back of the napkin" calculation) can provide. While these simple computations may give an overall sense to management of where they might end up in a crisis, understanding the sensitivity to fluctuations in the exact situation is what a set of simulations can provide that simple calculations do not. In other words, these simple calculations cannot answer the question of how much worse your bank will fare if interest rates are 10 basis points higher or lower than your first-pass guess?

Over our next few blog posts, we will describe how we use our Cashflow Modeling Engine to provide liquidity risk, interest rate risk, and stress tests (among other things), as well as other key aspects of our product. But the main takeaway from this post is that our product has been vetted to provide: (a) the analyses that regulators are requiring banks to perform, and (b) timely information that banks can use to increase profits.