CAMEL Rating System - Interest Rate Risk

Interest Rate Risk

Interest-Rate Risk - the risk of adverse changes to earnings and capital due to changing levels of interest rates. Interest-rate risk is evaluated principally in terms of the sensitivity and exposure of the value of the credit union's investment and loan portfolios to changes in interest rates. In appraising ALM, attention should be directed to the credit union's liability funding costs relative to its yield on assets and its market environment.

When evaluating this component, the examiner considers: management's ability to identify, measure, monitor, and control interest rate risk; the credit union's size; the nature and complexity of its activities; and the adequacy of its capital and earnings in relation to its level of interest rate risk exposure. The examiner also considers the overall adequacy of established policies, the effectiveness of risk optimization strategies, and the interest rate risk methodologies. These policies should outline individual responsibilities, the credit union's risk tolerance, and ensure timely monitoring and reporting to the decision-makers. Examiners determine that the ALM system is commensurate with the complexity of the balance sheet and level of capital.

Key factors to consider in evaluating sensitivity to interest rate risk include:

• Interest-rate risk exposure at the instrument, portfolio, and balance sheet levels;
• Balance sheet structure;
• Liquidity management;
• Qualifications of risk management personnel;
• Quality of oversight by the board and senior management;
• Earnings and capital trend analysis over changing economic climates;
• Prudence of policies and risk limits;
• Business plan, budgets, and projections; and,
• Integration of risk management with planning and decision-making.