Assets and Liabilities Management : The Strategic Way To Go

 

All organizations, including banks, financial institutions, and non-bank finance companies in India, insurance companies, asset management companies, and even non-financial companies, employ Asset and Liability Management to meet regulatory or prudential criteria. ALM's main focus area is - balance sheet and profitability management, but it also encompasses things like optimizing returns, hedging risks, and smoothing margins of these organizations.

 

Asset and liability management has been introduced in all financial institutions and non-bank finance companies (NBFC) in India, by the Reserve Bank. The ALM system was employed in the NBFCs, as they are subject to credit and market risks due to the asset-liability transition.

 

With the liberalization of finance companies in India in recent years, as well as the growing integration of domestic markets with external ones along with the entry of MNCs to meet the credit needs of both corporates and retail segments, the risks associated with NBFC operations have grown complex and large. This necessitates the need for strategic planning and management.

 

The Indian financial markets have seen rapid and wide-ranging developments in recent years. Intense competition for business involving both assets and liabilities, as well as rising volatility in domestic interest rates and foreign exchange rates, have put pressure on bank management to strike a healthy balance between profitability, and long-term survival.

 

Credit risk, interest rate risk, foreign exchange risk, equity/commodity price risk, and liquidity risk are all key hazards that banks face in the course of doing business.

 

These demands necessitate systematic and thorough measures rather than haphazard responses. Financial firms must make business decisions based on a dynamic and integrated risk management system and process that is guided by company strategy.

 

Due to the mismanagement of assets and obligations by several big players in the Non-Banking Finance Company (NBFC) sector, the Indian financial markets have been under a relatively tighter liquidity regime for over a year. The magnitude of the problem, as well as its consequences, have been felt throughout the Banking and Financial Services Industry (BFSI).

 

The asset and liabilities management system helps in planning the way forward, and looks into various roles played by various market participants including finance and non-bank finance companies in India. It plays a major role in solving the issues at hand from close quarters, analyses the root cause of the problem, and tries to put in perspective certain norms that would go a long way in alleviating the problems faced by the industry.

Alternative Investment Funds in India - and their 3 categories

Alternative Investment Funds are a type of pooled investment vehicle popularly used by top asset management companies in India, that raises money from institutions and high-net-worth people with a minimum ticket size of Rs.1 crore, including Indian, foreign, and non-resident Indians. They are an alternative to traditional investments such as direct equities, mutual funds, and bonds, long-short fund as their name implies.

 

Let's take a closer look at the AIF structure.

 

Structure of AIFs

 

According to SEBI's classification, AIFs can be classified into three distinct types, which are as follows:

 

Category I

 

This type of AIF invests in start-ups, early-stage initiatives, social ventures, small and medium-sized firms (SMEs), infrastructure, social ventures, or other areas deemed favourable and useful by government authorities, whether socially or economically. As a result, Cat I funds are likely to have economic spillover effects, and the government may consider providing incentives or concessions in exchange for their services.

 

Category II

 

AIFs in this category include debt and private equity funds. The category was developed to provide a defensive investment option in which professional fund managers build and manage diversified investment portfolios to lower investors' risk profiles. Debt funds in this category invest in debt/debt securities of listed or unlisted investee companies in accordance with the fund's declared goals.

 

Category III

 

To produce returns, Cat III AIFs use complex trading tactics such as arbitrage, margin, futures, and derivatives. Hedge funds that trade for short-term gains and Private investment in public equity (PIPE) funds that buy publicly traded stock at a discount to the market price, as well as other similar types of funds, are eligible to be registered as AIFs in this category.

 

When compared to mutual funds, AIFs are now a faster-growing investment vehicle in India. Due to a variety of variables, including minimal vulnerability to stock market volatility, the capacity to create better returns than stocks and mutual funds, risk diversification from traditional asset classes, and so on.