bank risk exposures

8/6/2019 BANK Risk Exposures

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TOPIC 5 BANK RISK EXPOSURES

1. CREDIT RISK

Basle Committee on Banking Supervision, 2000 the potential

that a Bank Borrower or Counterparty will fail to meet the

obligations in accordance with agreed terms.

Risk of Loan not repaid in full or part on time and within conditions also obligations associated with Securities, Derivatives,

Guarantees etc

Credit Status declines via Ratings, Interest Rate and Security

Price changes

NB CREDIT V. DEFAULT V. COUNTERPARTY


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2. CAPITAL ADEQUACY RISK [ SOLVENCY ]

Insolvent when Equity Value is Negative,eg, TOTAL LIABILITIES >

TOTAL ASSETS as Market/Book Value of Assets decreases below

Market/Book Value of Liabilities [ Compare Value of Cash and Debt

versus Value of Profits and Assets.

RECEIVERSHIP

Creditors apply to courts for Receiver to take over Assets/Liabilities

of company to turn around, revert to owner, sell or liquidate

LIQUIDATION

Receiver dissolves company, sells assets, repays debt & winds up


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3. LIQUIDITY RISK

Liquid Assets converted to cash quickly and without capital loss [

Compare liquidity of Property, Shares, Treasury Bills, Stock,

Equipment etc ]

Liquidity Risk

a. Value and Maturity Mismatch of Assets and

Liabilities, eg, Deposit v Loan; Time Deposit v Time Loan

b. Even with a matched balance sheet, a loan default can eliminate

capital value as new deposits needed to repay deposit withdrawals.

c. Bank Run


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d. Inter Bank Loans dry up

LIQUIDITY = INSOLVENCY

Daily Liquidity Risk versus Crisis Liquidity RiskLimit Liquidity Risk by:

1.Hold Notes and Coin

2. Hold B. of E. Balances, Treasury Bills, Gilts, CDs, CP, Bills

3. Arrange Inter Bank Loan Facilities

4. Use Longer Term Funds to finance Loans

5. ST Securities/Deposits & Loans/Deposits Ratios


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4. MARKET RISK

a. Interest Rate Risk

Fixed Rate Assets and Liabilities have constant rates over time and

cash flows do not change; Floating Rate Assets and Liabilities are

repriced over time and cash flows vary; Rising Rates create greaterexposure for Fixed Rate Loans and Variable Rate Deposits and

Falling Rates create greater exposure for Variable Rate Loans and

Fixed Rate Deposits.

When Rate Sensitive Assets > Rate Sensitive Liabilities per

Maturity Period, Net Interest Income is exposed to Falling Rates


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When position is reversed, Net Interest Income is exposed to

Rising Rates

IRSA/IRSL > 1, then Income falls as Rates fall

IRSA/IRSL < 1, then Income rises as Rates rise

Manage by GAP, MATURITY, DURATION ANALYSIS ANALYSIS

Refinancing Risk when Asset exceeds Liability Maturity

Reinvestment Risk when Liability exceeds Asset Maturity


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2 Foreign Exchange Rate Risk

ER fluctuations affect value of assets, liabilities and net income in

foreign currency.

SEE Currency Liabilities/ Total Liabilities and Currency Assets/

Total Assets from Eurocurrency or International Banking.LONG Currency Assets > Liabilities exposed to falling rates

SHORT Currency Assets < Liabilitiesd exposed to rising rates

3. Other Price Movement Risks,eg, Commodities, Derivatives

Rise in Market Risk due to income from security trading


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5. OTHER RISKS

1. Country Risk

b. Sovereign Risk

c. Operational Risk

d. OBS Riskse. Macro Risks

f. Micro Risks


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TUTORIAL TOPIC 5

Q1. Explain Credit Risk andthe difference between Credit, Default

and Counterparty Risks; contrast Market & Capital Risks

Q2. Define Interest Rate Risk and distinguish between

Reinvestment and Refinancing Risks.

Q3. Give examples of interest rate sensitive bank assets andliabilities and their exposure to fixed and floating interest rates.

Q4 Explain Exchange Rate Risk and the exposure of Long and

Short Currency Positions of bank eurocurrency activity

Q5 Give examples of different types of Liquidity Risk.

Q6. Distinguish between Country and Sovereign Risks.

Q7. Give examples of Operational and OBS Risks.


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REFERENCES

Lecture Slides and Handouts

Chapter 10 of Core Text on International Banking


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