Risk Management Introduction

Session- 4

Shyam Ji Mehrotra

February 14, 2013

What is risk?
Uncertainty about rains, flight delayed, income

not genrated

When such events happens, it could result into

loss.
2 Shyam Ji Mehrotra February 14, 2013

Risk Management-dimensions
Not an insurance against fire- put out fire and

risk is mitigated How historian talk about AC and BC ( after Christ and before Christ), risk managers talk about Pre Lehman and Post Lehman Risk is Vedic recitation; every one talks but no one really understands Dynamic vs static dimensions Understand and appreciate risk in banking business
Thursday, February 14, 2013

Prof. shyam Ji Mehrotra

Risk Type

Counter party failing to repay loan Counter party failing to service a loan

Market Risk
Interest Exchange rate Commodity risk Equity price Liquidity risk Failed system, Process & People Legal risk

Credit

Operational Risk

Prof. shyam Ji Mehrotra

Thursday, February 14, 2013

Credit risk
Defined as the potential that a bank borrower or

counterparty will fail to meet its obligations in accordance with agreed terms Either failing to repay the loan or service as per loan agreement

Prof. shyam Ji Mehrotra

Thursday, February 14, 2013

Credit risk-examples
Direct lending- repayment is not made Non fund- funds not forthcoming on crystallization

of LC/BG Series of payment due from bonds are not forthcoming on due dates Security trading- settlement not forthcoming Cross border exposure- currency movement not taking place

Prof. shyam Ji Mehrotra

Thursday, February 14, 2013

Market risk
Losses in on and off balance sheet items

arising from movement in market prices Main market risks are

Interest rate risks Exchange rate risks Commodity price risks Liquidity risks Price risks

Prof. shyam Ji Mehrotra

Thursday, February 14, 2013

Interest rate risk

Potential impact on Net Interest Income (NII) or Net Interest Margin (NIM) or Market value of equity by unexpected changed in interest rate. Main interest rate risks are: Mismatch or Gap risk Basis risk Embedded option risk Reinvestment risk

Prof. shyam Ji Mehrotra

Thursday, February 14, 2013

Operational Risk
Direct or indirect loss due to failed
Internal process or People or System or External events

Include legal risk as well

Prof. shyam Ji Mehrotra

Thursday, February 14, 2013

Integrated risk management process

Identify & analyze Risk
Events which trigger the risk Potential threats

Measure Risk
Assess vulnerability of critical assets Quantify the likely loss because of exposure

Monitor Risk
Communicate risk tolerance

Mitigate Risk
Avoid or reduce Share or retain
1 0 Prof. shyam Ji Mehrotra Thursday, February 14, 2013

Risk Management- regulator perspective

Comprehensive guidelines for risk management

by RBI Risk Based supervision guidelines Setting of ALCO in each bank Integrated Risk Management Committee Capital Adequacy guidelines

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Prof. shyam Ji Mehrotra

Thursday, February 14, 2013