Types of Risks
1. Liquidity Risk
It is inability to obtain funds at reasonable rates for meeting Cash flow obligations.
Liquidity Risk is of following types:
Funding Risk: It is risk of unanticipated withdrawals and non-renewal of FDs which
are raw material for Fund based facilities.
Time Risk: It is risk of non-receipt of expected inflows from loans in time due to
high rate NPAs which will create liquidity crisis.
Call Risk: It is risk of crystallization of contingent liabilities.
2. Interest Rate Risk
Risk of loss due to adverse movement of interest rates. Interest rate risk is of
following types:
Gap or Mismatch Risk: The risk of Gap between maturities of Assets and
Liabilities. Sometimes, Long term loans are funded by short term deposits. After
maturity of deposits, these liabilities are get repriced and Gap of Interest rates
between Assets and Liabilities may become narrowed thereby reduction of profits.
Basis Risks: Change of Interest rates on Assets and Liabilities may change in
different magnitudes thus creating variation in Net Interest Income.
Yield Curve Risk: Yield is Internal Rate of Return on Securities. Higher Interest
Rate scenario will reduce Yield and thereby reduction in the value of assets.
Adverse movement of yield will certainly affect NII (Net Interest Income).
Embedded Option Risk : Adverse movement of Interest Rate may result into prepayment
of CC/DL and TL. It may also result into pre-mature withdrawal of
TDs/RDs. This will also result into reduced NII. This is called Embedded Risk.
Re-investment Risk: It is uncertainty with regard to interest rate at which future
cash flows could be re-invested.
3. Market Risk
Market Risk is Risk of Reduction in Mark-to-Market value of Trading portfolio i.e.
equities, commodities and currencies etc. due to adverse market sensex. Market
Risk comprises of:
- Price Risk occurs when assets are sold before maturity. Bond prices and Yield
are inversely related.
- IRR affects the price of the instruments.
- Price of Other commodities like Gold etc,. is also affected by the market trends.
- Forex Risks are also Market Risks.
- Liquidity Risk or Settlement Risk is also present in the market.
4. Credit Risk or Default Risk
Credit Risk is the risk of default by a borrower to meet commitment as per agreed
terms and conditions. There are two types of credit Risks:
Counter party Risk: This includes non-performance by the borrower due to his
refusal or inability.
Country Risk : When non-performance of the borrower arises due to constrains or
restrictions imposed by a country.
5. Operational Risk
Operation Risk is the risk of loss due to inadequate or Failed Internal procedures,
people and the system. The external factors like dacoity, floods, fire etc. may also
cause operational loss. It includes Frauds Risk, Communication Risk,
Documentation Risk, Regulatory Risk, Compliance Risk and legal risks but
excludes strategic /reputation risks.
Two of these risks are frequently occurred.
Transaction Risk: Risk arising from fraud, failed business processes and inability
to maintain Business Continuity.
Compliance Risk: Failure to comply with applicable laws, regulations, Code of
Conduct may attract penalties and compensation.
Other Risks are:
1. Strategic Risk: Adverse Business Decisions, Lack of Responsiveness to business
changes and no strategy to achieve business goals.
2. Reputation Risk ; Negative public opinions, Decline in Customer base and litigations
etc.
3. Systemic Risks ; Single bank failure may cause collapse of whole Banking System
and result into large scale failure of banks.
In 1974, closure of HERSTATT Bank in Germany posed a threat for the entire Banking
system
1. Liquidity Risk
It is inability to obtain funds at reasonable rates for meeting Cash flow obligations.
Liquidity Risk is of following types:
Funding Risk: It is risk of unanticipated withdrawals and non-renewal of FDs which
are raw material for Fund based facilities.
Time Risk: It is risk of non-receipt of expected inflows from loans in time due to
high rate NPAs which will create liquidity crisis.
Call Risk: It is risk of crystallization of contingent liabilities.
2. Interest Rate Risk
Risk of loss due to adverse movement of interest rates. Interest rate risk is of
following types:
Gap or Mismatch Risk: The risk of Gap between maturities of Assets and
Liabilities. Sometimes, Long term loans are funded by short term deposits. After
maturity of deposits, these liabilities are get repriced and Gap of Interest rates
between Assets and Liabilities may become narrowed thereby reduction of profits.
Basis Risks: Change of Interest rates on Assets and Liabilities may change in
different magnitudes thus creating variation in Net Interest Income.
Yield Curve Risk: Yield is Internal Rate of Return on Securities. Higher Interest
Rate scenario will reduce Yield and thereby reduction in the value of assets.
Adverse movement of yield will certainly affect NII (Net Interest Income).
Embedded Option Risk : Adverse movement of Interest Rate may result into prepayment
of CC/DL and TL. It may also result into pre-mature withdrawal of
TDs/RDs. This will also result into reduced NII. This is called Embedded Risk.
Re-investment Risk: It is uncertainty with regard to interest rate at which future
cash flows could be re-invested.
3. Market Risk
Market Risk is Risk of Reduction in Mark-to-Market value of Trading portfolio i.e.
equities, commodities and currencies etc. due to adverse market sensex. Market
Risk comprises of:
- Price Risk occurs when assets are sold before maturity. Bond prices and Yield
are inversely related.
- IRR affects the price of the instruments.
- Price of Other commodities like Gold etc,. is also affected by the market trends.
- Forex Risks are also Market Risks.
- Liquidity Risk or Settlement Risk is also present in the market.
4. Credit Risk or Default Risk
Credit Risk is the risk of default by a borrower to meet commitment as per agreed
terms and conditions. There are two types of credit Risks:
Counter party Risk: This includes non-performance by the borrower due to his
refusal or inability.
Country Risk : When non-performance of the borrower arises due to constrains or
restrictions imposed by a country.
5. Operational Risk
Operation Risk is the risk of loss due to inadequate or Failed Internal procedures,
people and the system. The external factors like dacoity, floods, fire etc. may also
cause operational loss. It includes Frauds Risk, Communication Risk,
Documentation Risk, Regulatory Risk, Compliance Risk and legal risks but
excludes strategic /reputation risks.
Two of these risks are frequently occurred.
Transaction Risk: Risk arising from fraud, failed business processes and inability
to maintain Business Continuity.
Compliance Risk: Failure to comply with applicable laws, regulations, Code of
Conduct may attract penalties and compensation.
Other Risks are:
1. Strategic Risk: Adverse Business Decisions, Lack of Responsiveness to business
changes and no strategy to achieve business goals.
2. Reputation Risk ; Negative public opinions, Decline in Customer base and litigations
etc.
3. Systemic Risks ; Single bank failure may cause collapse of whole Banking System
and result into large scale failure of banks.
In 1974, closure of HERSTATT Bank in Germany posed a threat for the entire Banking
system
No comments:
Post a Comment