FRM Part II · FRM Exam Part II · Liquidity Transfer Pricing: A Guide to Better Practice
A bank's treasury sets a liquidity transfer price for a new 5-year fixed-rate term loan funded by the business unit. Under a matched-maturity approach, which rate should the treasury charge the lending business for the funding it provides?
The business should be charged the bank's marginal 5-year term funding cost, including its own liquidity spread. Matched-maturity pricing links the charge to the asset's tenor and to the current cost of raising such funds, so that the true liquidity cost is reflected rather than a risk-free or pooled average rate.
- AThe overnight funding rate, because the loan can be refinanced daily
- BThe bank's marginal term funding cost for a 5-year tenor, reflecting its own credit spreadCorrect
- CThe risk-free 5-year government yield, excluding any bank-specific spread
- DThe average cost of all existing liabilities on the bank's balance sheet
Explanation
Matched-maturity transfer pricing charges the funding cost at the tenor of the asset, based on the bank's marginal cost of raising term funds, including its own liquidity spread. The risk-free yield omits the liquidity premium. Overnight and pooled average rates ignore the tenor and marginal cost.
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