Asset-Liability Committee (ALCO): Definition, Role, Example

What Is an Asset-Liability Committee?

An asset-liability committee (ALCO), also known as surplus management, is a supervisory group that coordinates the management of assets and liabilities with the goal of earning adequate returns. By managing a company's assets and liabilities, executives are able to influence net earnings, which may translate into increased stock prices.

What Is the Purpose of Asset-Liability Committees (ALCOs)?

An ALCO at the board or management level provides important management information systems (MIS) and oversight for effectively evaluating on- and off-balance-sheet risk for an institution. Members incorporate interest rate risk and liquidity consideration into a bank’s operating model.

One of the ALCO’s goals is to ensure adequate liquidity while managing the bank’s spread between the interest income and interest expense. Members also consider investments and operational risk.

ALCO meetings should be conducted at least quarterly. Member responsibilities typically include managing market risk tolerances, establishing appropriate MIS, and reviewing and approving the bank’s liquidity and funds management policy at least annually.

Members also develop and maintain a contingency funding plan, review immediate funding needs and sources, and determine liquidity risk exposures to adverse scenarios with varying probability and severity.

Why Are ALCOs Important?

An ALCO's strategies, policies, and procedures should relate to the board’s goals, objectives, and risk tolerances for operating standards. Strategies should articulate liquidity risk tolerances and address the extent to which central elements of funds management are centralized or delegated in the institution. This is particularly important when evaluating the potential liquidity risks to the organization, and ensuring there is enough cash available under a severe scenario.

Strategies should also communicate how much emphasis is placed on using asset liquidity, liabilities, and operating cash flows for meeting daily and contingent funding needs. To analyze the risk tolerance of an organization, ALCOs may assess interest rate risk, credit risk, borrowings, and the composition of its assets and liabilities.

Example of an Asset-Liability Committee

Alfa Bank's ALCO plays a critical role in overseeing the management of the bank's balance sheet. The composition of a bank's balance sheet is crucial to its long-term success, and the ALCO is responsible for managing its liquidity and interest rate risk. To avoid similar fallout as that seen with Silicon Valley Bank and Signature Bank, Alfa Bank's ALCO ensures that its balance sheet is robust in the case of rising interest rates, as one example. To do so, the ALCO may ensure that it lends to a diverse set of borrowers, rather than being too heavily concentrated in certain sectors, such as tech or commercial real estate. It may also analyze the liquidity of marketable securities, to ensure there is enough liquidity to convert assets into cash with minimal losses.

To ensure that the ALCO aligns with the board, Alfa Bank’s ALCO is appointed by a resolution of the bank’s executive board and includes seven or more members with the right to vote for a one-year period. The ALCO is headed by the ALCO chair appointed by the bank’s executive board. ALCO members without the right to vote are appointed upon presentation to the ALCO chair by order of the bank executive board from among bank specialists and managers for a one-year period.

The bank's ALCO meetings are typically held every two weeks. Additional meetings may be scheduled as needed. The ALCO has the authority to resolve matters submitted for consideration if more than half of the members with the right to vote are present at the committee meeting. A resolution is passed when more than half the members with the right to vote are present and vote in favor of the resolution. ALCO’s resolutions are binding on all bank employees.

The Bottom Line

ALCOs are critical for managing and overseeing the liquidity risk, interest rate risk, and operational risk in an organization. Since the health of a firm's balance sheet is fundamental to its success and longevity, ALCOs ensure that the composition of assets and liabilities can withstand future risks, such as market volatility and a high rate environment, while formulating scenarios that prepare an organization for an unwanted or unexpected event.