DEFINITION of Static Gap
Static gap is a measure of exposure or sensitivity to interest rates, calculated as the difference between assets and liabilities of comparable repricing periods. It can be calculated for short-term and long-term time periods. Minus signs (or a negative value) in the calculated gap indicates that you have a greater number of liabilities than assets maturing at that particular maturity, and therefore have exposure to rising rates.
BREAKING DOWN Static Gap
Static gap is usually calculated for periods of less than a year – often 0 to 30 days or 31 to 90 days – but can also be calculated for multiple periods. Simple static gaps are inherently imprecise measurements because they do not take into account such factors as interim cash flow, average maturity, and prepayment of the loan.
Static Gap Example
For example, a bank has both $5 million in assets and $5 million in liabilities that reprice in any given time window. Changes in interest rates should not change the bank's net interest margin. Under this scenario, we'd have a balanced gap position. If instead, $12 million in assets reprice with only $6 million in liabilities repricing, the bank is in an asset sensitive position. In this case, an asset sensitive bank will benefit from a net interest margin increase if interest rates rise. In contrast, if only $5 million in assets reprice during the same period that $8 million in liabilities reprice, it is known as a liability sensitive position. Here, if interest rates rise, net interest margin will decline. Similarly, if interest rates fall the liability-sensitive bank will project a wider net interest margin.
A common, and glaring hole in gap analysis is its inability to account for the optionality embedded in many assets and liabilities. If rates drop and assets prepay faster than expected, or if rates rise and the average life of assets is unexpectedly extended, these contingencies are typically not a component of simple static gap reporting and analysis. Other issues arise for non-maturity deposits — certain deposits are carried in perpetuity.