article on risk management

7/29/2019 Article on Risk Management

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Madam Rubina Shahid

Submitted by:

M Nadeem M10MBA059

Asad Abbas Raza M10MBA028

M.Shoaib Hanif M10MBA055

Arshad Hussain M10MBA032

Aamir Farzand M10MBA024



Services of Financial Sector:

Financial sector provides following services to business

households and government

Mobilizes funds

Provides saving instruments

Allocate resources

Exerts corporate governance



RISK MANAGEMENT IN FINANCIAL SECTOR :

Risk is the fundamental element that influences

financial behavior. Risk management within the framework of a

financial institution covers the design and operation of the

system managing risk, the technical modeling within the

system, and the interplay between the internal oversight and

the external regulatory components of the system.



Banks are engaged in risk shifting activities which require

better expertise and know how so managerial emphasis of

banking has shifted from profit oriented to riskintermediation

RISK INTERMEDIATIONRisk intermediation implies consideration of both the

profits and risk associated with banking activities.

Need for risk management



Typology of Risk Exposures:

Financial Risks can be divided into :

Market Risk

Credit Risk

Operational Risk

Liquidity Risk

Legal and Regulatory Risk

Human Factor Risk



Market risk

Market risk is the risk that changes in

financial market prices this is the chance

of breakdown between price of oneproduct and price of instrument used to

hedge that price exposure on other.

Market Risk also includes “Basis Risk”.



CREDIT RISK

Credit Risk is a risk which affects the value of bank’s

position when counterparty changes its credit

quality. i.e. our asset exhibits positive replacementvalue. When counterparty defaults bank can loose

all the value of an asset or some value can be

recovered which is recovery value.



It includes:

1) Funding liquidity risk and

2) Trade related risk

Funding liquidity risk mean required amount of cash to roll

over debts and cash requirements.

Trade related risk mean that institution would not be able to

execute transaction at market price because there is an appetitefor deal on other.

LIQUIDITY RISK



Operational risk :

It refers to losses resulting from inadequate system management failure

and human errors .

Legal risk :

It arises when counterparty loses money on transaction and tries to sue

the bank another aspect in the change in tax laws.Another aspect of regulatory risk is the potential impact of a change in tax law on the market

value of a position.



Human Factor Risk :

It is a special form of operational risk that

relates to losses resulting from human errors

such as pushing the wrong button or destroyinga file or entering the wrong value for the

parameter input of a model.



M NADEEM M10MBA059



LimitManagement

Risk Analysis

RAROC

Activate

Profile

Management

Structuring and Managing the Risk

Management Function in a Bank



Best PracticeInfrastructure

Organization the Risk Management Function : Three-Pillar

Framework



Best Practice policies

Should express the objectives of the financial

institution in terms of risk./return targets.

Set risk limits or tolerances for major activities.

Market Risk Policy

Establishes a policy in terms of statistically defined‘worst case’ loss. Most major financial institutionsare moving toward a value-at-risk (VaR) frameworkwhich calculates risk in terms of a probabilistic worstcase loss.



Operational Risk Policy

Fully understand the business

Responsibility for each business activity has to be clearly

established and communicated

Internal control must be established

Credit Risk Policy

Profitability is only one consideration, the

second being the risk of loan. Policy should specify the extent of

diversification, limits on size etc.

A reporting system to track exposure to

credit risk is required



Best Practice Methodologies

Risk Measurement Methodology

A full VaR measurement methodology consists intricate types of risk

e.g. credit spreads

Such credit risk policy which calls for measuring credit risk for the

loan book and off-balance sheet derivative approach implemented

for market risk.



Pricing and valuation Methodology

It is the particularly vital that banks develop appropriate

techniques to differentiate between transactions where prices are

transparent, and those where price is more limited

Accounting for Portfolio Effects

A well designed portfolio risk management approach

enables one “to slice and dice “ risk vertically and horizontally

across an organization to facilitate price of risk.



Best Practice Infrastructure

The first and most important component of

infrastructure in practical sector is people and they

required right environment and support.

Integrity of data and easily communication should

be ensured which enables the firm to maintain acompetitive advantage

One goal is to have an apple to-apple risk

measurement scheme so that the bank can

compare risk across all the products and aggregaterisk at any level.



M ARSHAD

HUSSAIN

M10MBA032



Data and Technology Infrastructure

Key features of an effective risk management systems:

Balance between management control and flexibility

Backup/retrieval capabilities

Comprehensive inclusion of risk

Modularity



Cont…

Multitasking

High speed

Ability to handle extreme

market movements

Easy integration of new

applications/platforms



The risk management system needs to be supported by an

information technology architecture that is employed in all of the

company’s information process. Banks have many business units,

which are engaged in different architecture and support different

products.

Information Technology Architecture



Cont…

The decision of the IT infrastructure should optimize the

exchange of information between each entity with in the

firm.

Organization architectures deals with the responsibilities

necessary to ensure comprehensive information

interchange between parties.



Cont…

A key task is to organize the necessary management data

into a common format.

The information might be static(contractual details of

transaction) or

Dynamic (market information, e.g. daily closing price).



Trading institutions select three tired risk management system to

integrate there, Front office

Middle office (handles risk management, monitoring key trades,pricings deals etc) .

Back office ( performs recording the interest amount paid,

maintained tax accounting information).

Tiered Risk Management System



RAO AAMIR

FARZAND

M10MBA024



• Roles And Responsibilities

• For best practice the board of directors should approve risk managementpolicy at least once a year.

• A senior operating committee should be responsible for documenting and

enforcing all policies.

Risk Authorities and Risk Control



Cont…

• AlCO

It is responsible for the delegation of market risk limits to the president and

chief risk officer(CRO) of the bank.

• CRO It is responsible for risk management strategy ,policy, methodology and

overall governance.

• Managers are dependant upon each other when they try to manage risk in

bank.



Standards For Risk Authorities

Write down the policies and procedures that govern their trading activities

is the best practice.

These policies include how a bank approves new products as well as howit establishes market risk limits.

The standard should also establish procedure for approving limit

exceptions.



Business Unit Mandate

The format for obtaining approval of a business unit mandate should be

standardized.

First, The managers seeking approval should provide an overview and restate

the key decisions that need to be taken.

Second, The managers should bring every one up to date about the business.



• The format for obtaining approval of a business unit mandate should be

standardized.

• First, The managers seeking approval should provide an overview and

restate the key decisions that need to be taken.

• Second, The managers should bring every one up to date about the

business.

CONT….



SHOAIB HANIF M10MBA055



Delegation Process For Risk Authorities

The risk management committee should approve the bank’s risk

every year and delegate authority to the CEO of the bank.

The risk committee provides a detailed review and approval of each

business unit mandate and it’s impact in terms of respective risk

limits and delegate these limits to a chief risk officers



Also delegate some responsibilities to the head of global trading.

The head of global trading is responsible for risk and performance of

all trading activities

And in turn delegate the management of limits to the business

manager ,who is responsible for the risk and performance of the

business in turn ,delegates limits to the bank's traders.

Cont…



Standards For Monitoring Risk

Profit and loss statements should be prepared daily.

There should be timely and meaningful reports to measure compliance to

policy.

It should be clear what a manager must do if his subordinate breach trading

limits.

Stress stimulation should be executed to determine the market changes on P&L.



Integrity of data must be ensured.

If any limit is breached it should be put in exception

report, with an appropriate explanation and plan of

action to cope with this.

Cont…



Role of Audit

The role audit is to provide independent assessment of the design and

implementation of the risk management process.

Conclusion of audit should include :

The risk control unit is independent of the business unit.

The internal risk models are utilized by business management.



The bank’s risk measurement models captures all material risk.

An adequate and effective process exist for:

Risk pricing model and valuation system used by front and back office

personnel.

Documenting the risk management process.

Validation of any significant change in risk management process.

Ensuring the integrity of risk management system

The verification of consistency, timeliness, and reliability of data sources.

Ensuring the accuracy of the valuation and risk transformation calculations.

Cont:



CONCLUSION

Today, the profitability of a financial institution depends on its ability to price risk

and to hedge its global exposure.

Needs to tailor the vision by identifying user and business needs, and by

defending objectives, deliverables, and benefits.

Next, the managers of the bank need to agree on their organizational

infrastructure.

article on risk management

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