Читать книгу Risk Management in Banking - Bessis Joël - Страница 9

Financial risks are defined according to the sources of uncertainty. The broad classes of financial risks are credit risk, market risk, liquidity risk and interest rate risk, divided into subclasses relative to the specific events that trigger losses.

1.2.1 Credit Risk

Credit risk is the risk of losses due to borrowers' default or deterioration of credit standing. Default risk is the risk that borrowers fail to comply with their debt obligations. Default triggers a total or partial loss of the amount lent to the counterparty.

Credit risk also refers to the deterioration of the credit standing of a borrower, which does not imply default, but involves a higher likelihood of default. The book value of a loan does not change when the credit quality of the borrower declines, but its economic value is lower because the likelihood of default increases. For a traded debt, an adverse migration triggers a decline of its quoted price.

Recovery risk refers to the uncertain value of recoveries under default. Recoveries depend on the seniority of debt, on any guarantee attached to the transaction and on the workout efforts of the lender. The loss after workout efforts is the loss given default.

Counterparty credit risk exists when both parties of a transaction are potentially exposed to a loss when the other party defaults. A swap contract exchanging fixed for floating interest flows between two parties is a typical example. The party who receives more than it pays is at risk with the other party. The exposure might shift from one party to the other, and its size varies, as a result of the movements of interest rates. Counterparty credit risk exists when exposures are market driven.

1.2.2 Market Risk

Market risk is the risk of losses due to adverse market movements depressing the values of the positions held by market players. The market parameters fluctuating randomly are called “risk factors”: they include all interest rates, equity indexes or foreign exchange rates.

Market risk depends on the period required to sell the assets as the magnitude of market movements tends to be wider over longer periods. The liquidation period is lower for instruments easily traded in active markets, and longer for exotic instruments that are traded on a bilateral basis (over the counter). Market risk is a price risk for traded instruments. Instruments that are not traded on organized markets are marked-to-market because their gains or losses are accounted for as variations of value whether or not materialized by a sale.

1.2.3 Liquidity Risk

Liquidity risk is broadly defined as the risk of not being able to raise cash when needed. Banking firms raise cash by borrowing or by selling financial assets in the market.

Funding liquidity refers to borrowing for raising cash. Funding liquidity risk materializes when borrowers are unable to borrow, or to do so at normal conditions. Asset liquidity refers to cash raised from the sale of assets in the market as an alternate source of funds, for example in market disruptions. Asset liquidity also refers to the risk that prices move against the buyer or seller as a result of its own trades when the market cannot absorb the transactions at the current price. Asset liquidity risk also arises when too many players do similar trades. For example, banks raising cash from liquidation of assets in the adverse conditions of the 2008 crisis faced substantial losses from the deep discounts in their trades.

Extreme lack of liquidity results in failure. Such extreme conditions are often the outcome of other risks, such as major markets or credit losses. These unexpected losses raise doubts with respect to the credit standing of the organization, making lenders refrain from further lending to the troubled institution. Massive withdrawals of funds by the public, or the closing of credit lines by other institutions, are potential outcomes of such situations. To that extent, liquidity risk is often a consequence of other risks.

1.2.4 Interest Rate Risk

The interest rate risk is the risk of declines of net interest income, or interest revenues minus interest cost, due to the movements of interest rates. Most of the loans and receivables of the balance sheet of banks, and term or saving deposits, generate revenues and costs that are interest rate driven.

Any party who lends or borrows is subject to interest rate risk. Borrowers and lenders at floating rates have interest costs or revenues indexed to short-term market rates. Fixed-rate loans and debts are also subject to interest rate risk. Fixed-rate lenders could lend at higher than their fixed rate if rates increase and fixed-rate borrowers could benefit from lower interest rates when rates decline. Both are exposed to interest rate fluctuations because of their opportunity costs arising from market movements.

1.2.5 Foreign Exchange Risk

Foreign exchange risk is the risk of incurring losses due to fluctuations of exchange rates. The variations of earnings result from the indexation of revenues and charges to exchange rates, or from the changes of the values of assets and liabilities denominated in foreign currencies (translation risk).

1.2.6 Solvency Risk

Solvency risk is the risk of being unable to absorb losses with the available capital. According to the principle of “capital adequacy” promoted by regulators, a minimum capital base is required to absorb unexpected losses potentially arising from the current risks of the firm. Solvency issues arise when the unexpected losses exceed the capital level, as it did during the 2008 financial crisis for several firms. This capital buffer sets the default probability of the bank, the probability that potential losses exceed the capital base.

1.2.7 Operational Risk

Operational risks are those of malfunctions of the information system, of reporting systems, of internal risk monitoring rules and of procedures designed to take corrective actions on a timely basis. The regulators define operational risk as “the risk of direct or indirect loss resulting from inadequate or failed internal processes, people and systems or from external events”.2 The focus on operational risk developed when regulators imposed that the operational risks should be assigned a capital charge.