Two different notions of liquidity risk have evolved in the banking sector. Each has some validity. The first, and the easiest in most regards, is a notion of liquidity risk as a need for continued funding. The counterpart of standard cash management, this liquidity need is forecastable and easily analyzed. Yet, the result is not [...]
The banking industry is clearly evolving to a higher level of risk management techniques and approaches than had been in place in the past. Yet, as this review indicates, there is significant room for improvement. Before the areas of potential value added are enumerated, however, it is worthwhile to reiterate an earlier point. The risk [...]
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A. Introduction
The purpose of this policy is to provide the basis for the bank to responsibly manage the investments in accordance with the philosophy and objectives stated below. Unless stated otherwise, the terms “investment” and “investment portfolio” will refer to both cash management activities and longer-term investment securities. The term “capital “ will refer [...]
Collaterals are assets that the lender seizes and sells if the borrower fails to perform his debt obligations. The original credit risk turns into a recovery risk plus an asset value risk. Collateral is also an incentive for the borrower to fulfil debt obligations effectively, mitigating moral hazard in lending. Should he fail in his [...]
We proceed with the same portfolio as for the independence case, except that the correlation between default events is now 10%. It is possible to derive all joint event probabilities from the joint default probability as a starting point. The conditional probabilities now differ from the unconditional default probabilities.
Ex post measures use absolute risk contributions and serve for risk-return monitoring of the existing portfolio (ex post view). Ex ante measures use marginal risk contributions and serve for risk-based pricing (ex ante view).
Both correlation risk and concentration risk are related measures of portfolio risk. Correlation risk relates to the loss association. Concentration risk designates here the effect of size discrepancies. Pure correlation risk is measured by the 30% asset correlation, independent of the sizes of exposures.
The basic risk measures used are:
• Exposure, either in value or as a percentage of total portfolio exposure.
• Capital in excess of expected loss, either in value or as a percentage of total portfolio capital.
We consider a two-segment portfolio, with two exposures: A is an existing exposure, and B is a new exposure of varying size. We examine what happens in terms of return on economic capital when the additional B exposure increases, while its AIS in percentage or, equivalently, its Return on Assets (ROA) remains constant.
Credit spread derivatives refer to the credit spread relative to the risk-free benchmark or differentials of credit spreads of two risky assets. In addition, there are credit spread forwards and credit spread options. The specifics of credit spread derivatives is that they isolate the effect of spreads as opposed to contracts on prices subject to [...]
