Credit risk is omnipresent in banking, but it's exceptionally hard to predict the magnitude or the timing of when the existence of credit risk manifests into increased provisioning.
Interest rate risk, on the other hand, is much more objective, assuming there is visibility into the asset and liability instruments on a balance sheet. Fortunately, call reports provide reasonable visibility and asset/liability management, or ALM, interest rate risk reporting provides an instrument-level assessment for every bank board and its regulator. However, inherently flawed mechanics within interest rate risk forecasting have created problems in the past two years. We call it the "beta trap" — ALM models' inability to account for undigested prior rate moves — and it has victimized almost every bank in the country over the past 18 months. This flaw in traditional interest rate risk modeling design could camouflage this threat from the view of bank boards and regulators alike.
