Liquidity Risk Flashcards
what is liquidity risk?
risk that an FI will not have enough liquiditiy to meet their obligations to borrower and depositors
how does liquidity risk arise from the asset side?
OBS loan commitments other credit commitments
how does liquidity risk arise from the liability side?
- large reliance on deposits (ie if they decide to withdraw all deposits)
- banks minimise their cahs holdings and liquid assets
what must a bank do if it faces an liquidity issue?
- borrow funds
- sell liquid assets
what is the risk of trying to sell assets quickly?
low sales price
high costs to sell illiquid assets
how do banks manage liquidity?
- purchase liquidity management
- stored liquidity management
what are the 5 different ways to measure liquidity risk?
- Net liquidity statement
- Peer Group Ratio Comparison
- Liquidity Index
- financing GAP and financing requirements
- BIS approach /maturity ladder/Scenario analysis
what is involved with Net liquidity statement measurement?
showing the sources and use of liquidity (ie sale of assets, purchase of funds, cash reserves)
what is involved with Peer Group Ratio Comparison measurement?
comparing key ratios of a DI to similar DIs
examples of ratios include:
Loan/deposit ratio
borrowed funds/total asset
what is involved with Liquidity Index measurement?
measuring the potential loss that could be suffered with a sudden disposal of assets, compared to the amount that could be recieved under normal market conditions
what does W, P and Pstar stand for in the Liquidity index formula stand for? see formula sheet
W= weight of the asset within the portfolio P= immediate sales price Pstar= fair market price
what is involved with financing GAP and financing requirements measurement?
average loans - average deposits
postive gap means DI requires funding
do liquid assets increase or decrease the financing gap?
they increase the gap and exposure, meaning that the bank will require more funding
what is involved with-BIS approach /maturity ladder/Scenario analysis measurement?
for all maturities, assess all cash inflows and outflows.
allows us to measure the daily and cumulative net funding requirements.
what does liquidity planning refer to?
ensuring that DIs have sufficient funds to settle outflows as they become due.
