UNCTAD Virtual Institute for Trade and Development
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Sovereign Asset and Liability Management: An E-Learning Training Course
I. Balance Sheet Risks
I.i. Currency Matching
I.ii. Interest Rate Matching
I.iii. Maturity Matching
II. Methodologies
II.i. Initial Methodologies
II.ii. Advanced Methodologies

Maturity Matching

Maturity matching is of significance in order to reduce refinancing risk on short-term debt.  If assets are held in long-term and illiquid instruments and the majority of the debt portfolio (liabilities) is held in short-term instruments, contingency funds to retire short-term debt may not be available (or costly to obtain) in instances when access to capital markets is limited.  While maturity matching is a risk hedging device, it may also increase net worth if assets are earning a higher rate of return than the cost to service liabilities.  Conversely, if assets are too concentrated in short-term instruments while liabilities consist of long-term obligations, the spread between these two will reduce the net worth of the government’s balance sheet at times of falling interest rates.  Ultimately, the cost of being unable to service or refinance obligations will be far greater than any gains made in interest rate differentials between assets and liabilities.

“The intertemporal tradeoff between short-term and long-term costs should be managed prudently.  For example, excessive reliance on short-term or floating-rate paper to take advantage of lower short-term interest rates may leave the government vulnerable to volatile and possibly rising debt-servicing costs if interest rates increase, and to the risk of default in the event that the government cannot roll over its debts at all.  It could also affect the achievement of the CB’s monetary objectives” (Wheeler, 2004).  While derivatives are often used to hedge currency and interest rate risks, they may also be used to synthetically match maturities and achieve the desired level of correlation between assets and liabilities and diversify liabilities in their own right.