PRINCIPLES OF BANKING
AND FINANCE
- Chapter 6: Risk management in banking -
Note: We suggest first studying this chapter from the Subject
Guide. Notes for ch6 are based on the subject guide.
Good luck studying!
short manual:
- includes a graph
- includes a schema/diagram
- includes an introduction
- includes additional information that
is not in the main textbook updated: 15/04/2018
, CONTENTS
CHAPTER 6: RISK MANAGEMENT
- notes based on the Subject guide -
6.1. Types of risks
6.1.1. Credit risk
6.1.2. Interest-rate risk
6.1.3. Market risk
6.1.4. Liquidity risk
6.1.5. Operational risk
6.2. Credit risk management
6.2.1. Screening
6.2.2. Monitoring and credit rationing
6.2.3. Use of collateral and endorsement
6.2.4. Diversification of loans
6.3. Interest-rate risk management
6.3.1. Asset-liability management
6.3.2. Income gap analysis
6.3.3. Macaulay duration
6.3.4. Modified duration
6.3.5. Duration gap analysis
6.4. Market risk management
6.4.1. Importance and models
6.4.2. Value at risk (VaR) approach
6.5. Liquidity risk management
, 6.1.1. Credit risk
WHAT IS CREDIT RISK?
risk of default on loans and other debt securities (promised cash flows might not be
paid in full)
TO WHAT DOES IT REFER?
DEFAULT RISK - risk of default of the specific borrower
DELAY RISK - risk of delay in servicing the loan
problem: PV of bank assets decreases and this puts solvency in question
FEATURES EXAMPLES
MOST IMPORTANT RISK FOR DEFAULT RISK:
COMMERCIAL BANKS o subprime mortgage crisis 2007
o because loans are generally the main NINJAs not able to repay for the
asset held by the bank adjustable rate mortgages (ARM)
IT IS AFFECTED BY BUSINESS DELAY RISK:
o Dubai World crisis 2009
CYCLES
major government owned
o recession higher default risk
investment company asked for a 6-
o boom lower default risk
month delay on repaying huge
debt
major credit rating agencies
downgrading its credit rating
AFFECTED BY BUSINESS CYCLES:
o better credit quality in US in 1990s
non-current loan rate from 3.9% in
1991 to 1% in 2004
o this happened because of:
expansion of US economy
better risk management
-2-
AND FINANCE
- Chapter 6: Risk management in banking -
Note: We suggest first studying this chapter from the Subject
Guide. Notes for ch6 are based on the subject guide.
Good luck studying!
short manual:
- includes a graph
- includes a schema/diagram
- includes an introduction
- includes additional information that
is not in the main textbook updated: 15/04/2018
, CONTENTS
CHAPTER 6: RISK MANAGEMENT
- notes based on the Subject guide -
6.1. Types of risks
6.1.1. Credit risk
6.1.2. Interest-rate risk
6.1.3. Market risk
6.1.4. Liquidity risk
6.1.5. Operational risk
6.2. Credit risk management
6.2.1. Screening
6.2.2. Monitoring and credit rationing
6.2.3. Use of collateral and endorsement
6.2.4. Diversification of loans
6.3. Interest-rate risk management
6.3.1. Asset-liability management
6.3.2. Income gap analysis
6.3.3. Macaulay duration
6.3.4. Modified duration
6.3.5. Duration gap analysis
6.4. Market risk management
6.4.1. Importance and models
6.4.2. Value at risk (VaR) approach
6.5. Liquidity risk management
, 6.1.1. Credit risk
WHAT IS CREDIT RISK?
risk of default on loans and other debt securities (promised cash flows might not be
paid in full)
TO WHAT DOES IT REFER?
DEFAULT RISK - risk of default of the specific borrower
DELAY RISK - risk of delay in servicing the loan
problem: PV of bank assets decreases and this puts solvency in question
FEATURES EXAMPLES
MOST IMPORTANT RISK FOR DEFAULT RISK:
COMMERCIAL BANKS o subprime mortgage crisis 2007
o because loans are generally the main NINJAs not able to repay for the
asset held by the bank adjustable rate mortgages (ARM)
IT IS AFFECTED BY BUSINESS DELAY RISK:
o Dubai World crisis 2009
CYCLES
major government owned
o recession higher default risk
investment company asked for a 6-
o boom lower default risk
month delay on repaying huge
debt
major credit rating agencies
downgrading its credit rating
AFFECTED BY BUSINESS CYCLES:
o better credit quality in US in 1990s
non-current loan rate from 3.9% in
1991 to 1% in 2004
o this happened because of:
expansion of US economy
better risk management
-2-
