Optimising Risk and Return of Non-Maturing Products by Dynamic Replication

Florentina Paraschiv and Michael Schürle

The risk management of non-maturing products is an important challenge for most banks, particularly for those with significant retail business. This task is complicated by the inherent options of these products: clients may add or withdraw volumes any time, and the product rate can be adjusted by the bank as a matter of policy. Both properties make future cashflows uncertain. Usually, non-maturing products are replicated by a portfolio of fixed-maturity instruments. We show with real examples that popular approaches based on static investment or funding rules are inefficient. As an alternative, we propose a novel method that we call “dynamic replication”. Here, new decisions are periodically made on the allocation of maturing tranches, corrected by volume changes, that are determined by a multistage stochastic optimisation model. We describe this approach conceptually before illustrating its performance in a case study. Because the method is new and combines concepts that have not been used in this combination so far, technical details are documented in the appendixes.


The balances of most banks typically contain a significant portion of

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