Overall Notes Flashcards
interest rate definition
the potential financial losses or reduced profitability due to movement in interest rates
challenges in managing interest rate risk (5)
market volatility
assets and liabilities mismatch
duration mismatch
hedging costs
regulatory requirements
managing interest rates (6)
leveraged duration gap
hedging
diversification
reduction sensitive assets
stress and scenario analysis
robust framework implementation
What is duration
the weighted average of time until bonds present value of cash flows are recovered
refinancing risk
liabilities maturity > asset maturity
reinvestment risk
asset maturities > liability maturity
if duration gap is positive
banks are exposed to a decline in interest rates
if duration gap is negative…
banks are exposed to interest rate declines
when is valuation affect negative
IR falls liabilities rise faster than assets
IR rises liabilities fall slower than liabilities
weaknesses in repricing model (3)
intrabuckets
non balance sheet items
linear model
weakness of duration (3)
assumes no default risk
difficult to apply
linear model
buy option…
cover you against interest rate rises
sell option…
cover you against interest rate decline
SVB exmple
lost money through heavy investment into treasury bills the interest rates rose heavily reducing the price of these bonds
liquidity risk definition
refers to banks not being able to meet short term obligations without incurring loss
market liquidity
how quickly you can buy and sell assets without incurring price defect
funding liquidity
how easily banks can raise funds to meet short term requirements
stroed liquidity
liquidity generated from selling highly liquid assets or cash
purchased liquidity
banks purchasing short term funding to meet obligations
dynamic approach steps (4)
measure liquidity gap
forecast loan and deposits
forecast changes in deposit and loans
future forecast with three models (component, seasonal and cyclical)
name the three methods for forecasting loan and deposit movement
trend - historical data
seasonal - recent trends
cyclical - consider business cycles
static approach
maintaining fixed strategies that are not adapted to changing conditions
three different fund buckets when considering static approach
hot money funds
vulnerable funds
stables funds
what does the liquidity cover ratio do
aims to ensure a bank can maintain adequate leaves
LCR of high liquidity assets within a 30 day period
LCR formula
high quality stock
/
outflow of funds
net stable funding
aims to ensure banks can maintain adequate liquidity and high grade liquid assets over a year period - tried to reduce reliance on short term funding (this was seen in the GFC)
NSFR formula
stable funding amount
/
required amount of stable funding
how to liquidity plan
establish management with roles, positions and limits across the organisation
BASEL III accords (2)
require minimum capital requirements with T1 and T2 assets
require NSFR and LCR and stress and scenario analysis
stress and scenario analysis required by BASEL III accords
internal liquidity adequacy assessment process (ILAAP)
climate risk definition
risk incurred to FI when long term changes in weather patterns affect banks earning, profitability and risk profiles
what does the OECD recon
it will cost $6.9T a year to meet the 2030 Paris accords concerning global warming
physical risk (acute)
extreme weather conditions that can affect the banks profitability indirectly or indirectly
transitional risk
risk posed by transitioning into a low carbon economy by different factors such as, regulatory, technological, consumer preference and market
physical risk (chronic)
weather changes over a long period of time such as temperature or sea levels rinsing impacting the banks profitability
how regulation affects transitional risk
regulators may implement regulatory frameworks that companies may have to abide by which can affect operations and profitability
how technologies can affect transitional risk
technologies can reduce demand in some sectors and can be expensive implement
how market can affect transnational risk
demand and supply can change in sectors due to changes in preference in some industries
how reputation can affect transitional risk
companies can have reputation tarnished if the fail to adapt to sustainable business practice
liability can affect transitional and physical risk
transnational: companies may not follow new requirement leading to fines and legal fees
physical: banks can be hold liable from damage through insurance schemes
how can operations impact physical risk
operations can be halted by physical risk of weather events
example of physical risk
2014 Dubai floods
5 steps in assessing climate risk
- identify risk that the bank is exposed to and map out what risks are associated which which assets
- quantify these exposures by using prior data
- conduct stress and scenario analysis to see how the bank will respond both short and long term
- assess carbon footprints of sectors invested in to see if you are exposed to high carbon sectors
- incorporate findings into frameworks and change approaches if needed
issues with data (3)
availability
quality
limited
managing climate risk (6)
- integrate into risk management frameworks
- enhance risk identification to specific sectors
- reduce high risk exposure
- promote green sustainable products
- improve disclosure and transparency
- embed sustainability into the fabric of the company
the body established in 2015 by the financial stability board to encourage disclosure in climate change operations
task force on climate related financial disclosure (TCFD)
regulatory body established by 8CBs and regulatory bodies to help contribute to climat erisk management
network for greening the financial system (NGFS)
liquidity risk studies
more stress tests and liquidity practices = reduced liquidity creation but increased stability
