Banking Practice Showdown 2025 – Vault into Your Future Success!

The correct choice involves shortening loan maturities to enhance asset sensitivity. Asset sensitivity refers to how a bank's interest rate risk is affected by changes in interest rates, specifically how changes in rates impact the bank's earnings from its interest-earning assets. When a bank shortens the maturities of its loans, it generally allows it to reprice these loans more frequently in response to increases in interest rates. This means that as rates go up, the bank can quickly adjust the interest rates on its loans, thus increasing its income from interest-earning assets.

In contrast, buying longer-term securities would typically lead to greater interest rate risk because those securities would lock in a fixed interest rate for an extended period. Paying premiums on subordinated debt does not directly influence asset sensitivity, as it primarily pertains to the bank's funding costs rather than the earnings from its assets. Making more fixed-rate loans would also diminish asset sensitivity because it would mean the bank's income from these loans would not change with rising interest rates, thereby potentially reducing the bank's ability to respond to a competitive environment where rates increase.