A bank's repricing gaps are plus Rs 1,500 crore at 0 to 3 months, minus Rs 2,000 crore at 3 to 6 months and minus Rs 1,200 crore at 6 to 12 months. Estimate the one-year change in net interest income from a 100 basis point rise, and propose a hedge.

NII falls by about Rs 2.4 crore over the year, not the Rs 17 crore the cumulative gap suggests. Weight each gap by the months left after it reprices: plus Rs 13.12 crore from the first bucket, minus 12.50 and minus 3.00 from the next two. A pay-fixed swap of about Rs 271 crore, whose floating leg resets within three months, adds a positive early gap that offsets it.

Suppose your rent rises from next month while your salary rise only arrives in October. Over the year, the rent costs you eleven months of the increase and the salary gives you three. A repricing gap changes income only from the day it reprices to the end of the horizon, so each gap has to be weighted by the fraction of the year left. Mehrvan's positive gap reprices early, around month 1.5, and earns the higher rate for 10.5 months; its biggest negative gap reprices around month 4.5 and pays for 7.5; the last one pays for only 3.

Multiplying the cumulative gap of minus Rs 1,700 crore by 1% gives minus Rs 17 crore, seven times the correct figure. The cumulative gap answers how much of the balance sheet will have repriced by month 12; earnings depend on how long each piece has been repricing. Here the shape helps Mehrvan: assets reprice early and liabilities late, so the early positive gap nearly pays for the later negative ones. A bank with the same cumulative gap but the positive gap in the last bucket would lose far more. That is why ALCOs ask for the bucketed view, not one number.

Mehrvan loses when rates rise, so it needs something that earns when rates rise, and earns early. A pay-fixed, receive-floating interest rate swap whose floating leg resets within three months acts like an extra positive gap in the first bucket, as long as its fixed leg runs beyond a year. To offset minus Rs 2.375 crore, the notional N must satisfy N x 1% x 10.5/12 = 2.375, so N is about Rs 271 crore. On-balance-sheet alternatives do the same job: lengthening term deposits so they reprice after month 12, or shifting some fixed rate lending to floating.

Say the limits. The estimate assumes a parallel shift, repricing exactly at midpoints, and a static balance sheet; it ignores basis risk between the swap's benchmark and deposit rates, and savings deposits whose rates the bank sets by choice rather than contract. The swap also changes the economic value of equity, so the ALCO should see both the earnings view and the value view before approving it.