C. Myblog

One Tip for Evaluating the Reasonableness of Non-Maturity Deposit Assumptions Used in Net Economic Value

September 5, 2014

Should decay assumptions change as rates are changing? Absolutely!

When we complete model validations of credit union or vendor-supplied interest rate risk results, we see all too often that decay assumptions don’t change as rates are changing. This assumption is like saying non-maturity deposit cash flows will remain constant and unchanging regardless of what rates do. History shows that this is not a valid assumption and, if used, can provide a false sense of security regarding NEV results.

It can be difficult to tell if the decay rates are changing as rates are changing by looking only at results. A good way to check this assumption is to review your model setup to see if decay rates are increasing as rates are assumed to rise. If they are not, it is a good investment of time to discuss options for representing the risk of decay rates changing as the world around us changes. Keep in mind as you do this it is not about getting the “right” assumption, because that is virtually impossible.  It is about reasonably representing changes in consumer behavior in your base-case risk analysis.

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