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I am Howard Lothrop host of Echo Partners TV and today I will challenge the conventional
wisdom in asset liability modeling. And so what is the conventional wisdom that I will
challenge? Well it's simply that a more complex and sophisticated asset liability model is
going to give you a higher quality, more accurate result. The idea sounds appealing on the surface.
If you have a more refined view, have a higher and more powerful engine you should get a
better result. But that's not always the case. Now before we go any deeper, right now I'm
going to divide banks roughly into two categories. First category are banks, you know of a certain
size. I would say over the billion dollar threshold or higher. These banks really probably
need a more complex model. A model that's more sophisticated to handle some situations
that they may find themselves in that you and I might not. I'm really speaking to the
other 7000 banks. The banks that are not quite that big. And even here I'm going to cut this
down and say if your balance sheet is complex, and what does complex mean? Well, complex
means that you have assets or liabilities that have prepayment or repricing characteristics
that differ from the norm. If you have assets that when rates fall prepay slower or extend
that's not normal, that's complex. On the other hand it if you have assets that when
rates rise they shorten, we;; that's just not typical. That's a complex balance sheet.
And if you've got that, or if you're just loaded up in options then this might not be
for you either. But again, for the great overwhelming majority of banks, community banks in particular,
you know that the secret here is that a complex and more sophisticated model is not going
to deliver better results. It's going to deliver more stress and strain on your staff as they
work to try to keep up with it. The demands for ever increasing the quantity and quality
of assumptions. It's going to demand more time and more resources and it's going to
be more expensive and we're all in a cost cutting mode today. Here's what I challenge
you to do. If you're wondering whether you fit the bill, if you can handle some freed
up staff time and spend a little less, I challenge you to take a look at a less complex model.
Now make sure when you do this, and then this goes back a few episodes, when you do this,
make sure your assumptions are similar, because again assumptions are driving the whole model.
And I think you'll be surprised to see how consistent your results are going from the
simplest model to the most complex. You know it's all about the quality of the input, particularly
if if you're looking at models that have a third-party independent model validation opinions.
You know the mathematics of the model is sound all that's left really are the assumptions.
And so I would challenge you to go ahead, to take a look, to open your eyes wide open.
And don't necessarily just buy the spin that says more complex is better. We've seen that
and we've heard that before with respect to other things and it typically ends with a
bad answer. Let me know if you'd like to see a sample. I'd be glad to send you a complimentary
asset liability report on your bank. And I'd be glad to work with you to examine anybody
else's models as well. Thanks so much and we'll see you on the next episode.