Goal of the analysis:
Ensure the bank’s funds transfer pricing (FTP) framework accurately allocates funding costs and benefits across business units to optimize profitability and risk management.
Data required:
- Current FTP policies and procedures
- Breakdown of asset and liability balances (e.g., loan portfolios, deposits, wholesale funding)
- Interest rates, spreads, and cost of funds data
- Historical market rates and yield curves for reference
- FTP results by product line or business unit
- Peer or industry benchmarks (if available)
Detailed step-by-step instruction on how to conduct the analysis:
Step 1: Review the bank’s existing FTP policy, including how transfer rates are determined for various asset and liability products, noting whether a matched-maturity approach or a pool-based approach is used.
Step 2: Gather data on actual funding sources, costs, and durations, ensuring alignment between the FTP assumptions (e.g., reference rates, liquidity premiums) and real market conditions.
Step 3: Verify the allocation of FTP charges and credits to business units or product lines, assessing whether they accurately reflect each unit’s contribution to or use of liquidity and capital.
Step 4: Compare current FTP outcomes (e.g., business unit profitability or cost attribution) with alternative methodologies or benchmarks to identify potential gaps or distortions in pricing.
Step 5: Conduct scenario analysis or sensitivity testing on key parameters (e.g., interest rate fluctuations, credit spreads, liquidity costs) to determine how changes in market conditions might affect FTP results.
Step 6: Summarize findings in a report, highlighting any misalignment between FTP assumptions and the bank’s actual risk profile or funding structure, and propose improvements to methodology or governance.
Format of the output of analysis:
- Tables and charts showing FTP rates by product, business unit, and maturity profile
- Comparative analysis of actual funding costs versus allocated FTP charges
- Written summary detailing methodological strengths, identified gaps, and recommended adjustments
How to interpret results:
- If FTP charges do not accurately reflect true funding costs or liquidity risk, certain product lines may appear artificially profitable or unprofitable.
- Large deviations from peer or market benchmarks may indicate mispricing that could distort internal performance evaluations.
- Robust methodologies typically incorporate dynamic market inputs and align closely with actual liquidity and interest rate risks.
Steps a company can take to improve on this measure:
- Review and update FTP policies regularly to ensure alignment with current market rates, liquidity premiums, and the bank’s funding mix.
- Enhance governance over FTP processes by establishing independent oversight, regular validation, and transparent communication with business units.
- Integrate scenario analysis and stress testing into the FTP framework to capture potential fluctuations in interest rates and liquidity conditions.
- Adopt a more granular or matched-maturity approach for products with distinct liquidity profiles, such as long-term loans or seasonal deposits.
- Benchmark against industry peers or best practices to stay competitive and ensure fairness in internal cost and profit allocation.
