A bank has an average asset duration of 5 years and an average liability duration of 3 years. This bank has total assets of $500 million and total liabilities of $250 million. Currently, market interest rates are 10 percent. If interest rates fall to 8 percent, what is this bank's change in net worth?

Question

Quizplus · Accepted Answer

The change in net worth can be calculated using the duration gap approach. The duration gap is the difference between the asset duration and the liability duration, weighted by their respective values. The change in interest rates is -2% (from 10% to 8%). The change in net worth is approximately $31.81 million, calculated as: Duration Gap = (5 * 500/500) - (3 * 250/500) = 3.5. Change in Net Worth = -Duration Gap * Change in Interest Rate * Total Assets = -3.5 * (-0.02) * 500 = $31.81 million.

A Bank Has an Average Asset Duration of 5 Years