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Clarifications Regarding ALM 8.x Generated Forecasted Rates for Implied Forward and Change from Base Methods (Doc ID 2744368.1)

Last updated on JANUARY 26, 2021

Applies to:

Oracle Financial Services Asset Liability Management - Version 8.0.0 and later
Information in this document applies to any platform.
Oracle Financial Services Asset Liability Management (ALM)
Oracle Financial Services Analytical Applications (OFSAA)
Oracle Financial Services Enterprise Performance Management (EPM)
Yield Curve / Interest Rate Code (IRC)
Basis Points (BPS)
Yield to Maturity (YTM)
Zero Coupon Yield (ZCY)

Goal

On ALM 8.0.2 version, clarifications regarding the generated forecasted rates:

Question 1: A forecast rates scenario was defined having the following forecast rate scenarios and methods:

  Scenario Forecast Method Interpolation
  -------------------------------------------------------------------------------------------------------------
  Scenario 1 Implied Forward (no shocks) Cubic Spline (default)
  Scenario 2 Change from Base = Scenario 1 + 1bps Linear

After running the ALM process, it's been noticed that for certain <Product, Currency> combinations, the difference between Market Value Scenario 2 and Market Value Scenario 1 is positive (in other words, the resulted Market Value in Scenario 2 is greater than the one from Scenario 1).

When investigating the cause of these results, following conclusions were reached:
- it seems the difference comes from the fact that the interpolated discounted rate resulting from the Cubic Spline method (Scenario 1) is greater than the one resulted from the linear interpolation (Scenario 2)
- hence, despite the shock applied in the forecast rate, because of the calculated discounted rate, the Market Value in Scenario 1 will be less than the one from Scenario 2
- the root cause seems to be the resulted rate from the Cubic Spline method (however, validation cannot be done without access to the Cash Flow Engine code)

Can you help clarify why the difference between Market Value Scenario 2 and Market Value Scenario 1?
 
Question 2: Using Cubic Spline under Scenario 2 was already tried:

Option 1: Change from Base = Scenario 1 + 1bps and Cubic Spline
Option 2: Implied Forward + shock 1bps and Cubic Spline

There is understanding that neither of these two approaches conducts in satisfactory results from the business perspective. Can you help understand what is the difference between the above mentioned approaches? Would the forecasted rates be generated in a different way?
 
Question 3: Regarding the previous reply: "For option 1, Change from Base = Scenario 1 + 1bps and Cubic Spline Rates are taken from scenario 1 (which was imp fwd) and then 1bp added (imp fwd calc is step 1)", can you confirm the following conclusion?

There is 1Y and 2Y term point on the curve.

In Scenario 1, there is Implied Forward + Cubic Spline
In Scenario 2, there is Change from Base (+1bps) + Cubic Spline

What will happen for getting the 575 Days forecasted rate?

In Scenario 1, the interpolated rate for 575D rate would be under Implied Forward + Cubic Spline.
In Scenario 2, for 575D rate there will be Scenario 1 rate + 1bps? Or the system will interpolate between (1Y + 1bps and 2Y + 1bps)?
 
Question 4: Scenario 2 for 575D rate, there will be:

Option 1: Scenario 1 INTERPOLATED rate + 1bps?
  OR
Option 2: the system will interpolate between (1Y + 1bps and 2Y + 1bps)?

There is understanding, as per "engine would use 1Y and 2Y data from scenario 2 to interpolate to get 575 Day's rate for scenario 2." statement, that you are referring to Option 2, correct?

Solution

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