Skip to main content Accessibility help
×
Home
  • This chapter is unavailable for purchase
  • Print publication year: 2014
  • Online publication date: December 2013

2 - Risk management

from PART I - RISK MANAGEMENT CONTEXT FOR FINANCIAL DATA

Summary

What is risk management?

Financial institutions (FIs) that deal in commercial banking or trading activities are exposed to a variety of risks. In fact, risk-taking goes to the core of their business. When a bank lends money to a borrower, it is taking the risk that the borrower may not be able to pay back the loan. The profits it earns on the loans can be considered to incorporate the price of accepting this risk. Likewise when a trading firm buys (or sells) securities in the marketplace, it is accepting the risk that the price of the security will go down (or up) resulting in a loss. Global FIs are often exposed to many risks on a truly massive scale. Complicating the picture for these large FIs is that some risks counteract others. In fact, it is commonplace for firms to accept new risks as a way to counter existing risks, a process called “hedging.” It is therefore critical for banks to control this complex patchwork of risks across the firm in a measured and organized fashion. Risk management is the discipline that FIs use to do this.

The first step in managing risk is to be able to measure it – perhaps the most significant achievement of modern risk management is the development of techniques to quantify risk in terms of a potential monetary loss. Risk can be measured in statistical terms as the loss that would be experienced with a particular level of confidence.

Baer, T., A., Mehta and H., Samandari, 2011, The use of economic capital in performance management for banks: A perspective, McKinsey Working Papers On Risk, Number 24.
Bank of New York Mellon, Board of Directors and Committees, at www.bnymellon.com (downloaded August 14, 2011).
Bansal, A., R., Kauffman, R., Mark and E., Peters, Financial Risk and Financial Risk Management Technology (RMT)–Issues and advances, at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1289046
Basel Committee for Banking Supervision, 2004, Basel II: International Convergence of Capital Measurement and Capital Standards: a Revised Framework, June, at www.bis.org/publ/bcbs107.htm (downloaded December 30, 2011).
Basel Committee for Banking Supervision, 2008, Principles for Sound Liquidity Risk Management and Supervision, at www.bis.org/publ/bcbs144.htm (downloaded October 20, 2011).
Basel Committee for Banking Supervision, 2009, Principles for Sound Stress Testing Practices and Supervision, May, at www.bis.org/publ/bcbs155.pdf (downloaded December 30, 2011).
Basel Committee for Banking Supervision, 2009, History of the Basel Committee and its Membership, August, at www.bis.org/bcbs/history.pdf (downloaded September 5, 2011).
Basel Committee for Banking Supervision, 2011, Basel III: A Global Regulatory Framework for More Resilient Banks and Banking Systems, June, at www.bis.org/publ/bcbs189.htm (downloaded October 20, 2011).
Basel Committee for Banking Supervision, 2012, Fundamental Review of the Trading Book, May.
Bjerke, M. B., 2007, Experts, Banks and Politics: What explains the makings of Basel II?, Norwegian Institute of International Affairs.
Board of Governors of the Federal Reserve System, 2009, The Supervisory Capital Assessment Program: Overview of Results, May, at www.federalreserve.gov/bankinforeg/bcreg20090507a1.pdf (downloaded December 20, 2011).
Burns, P., 2002, Retail Credit Risk Modeling and the Basel Capital Accord, January, Federal Reserve Bank of Philadelphia Payment Cards Center Discussion Paper No. 02-01, at www.philadelphiafed.org/payment-cards-center/publications/discussion-papers/2002/CreditRiskModeling_012002.pdf (downloaded December 30, 2011).
Business Week, 1999, Joseph Jett: Kidder Is Gone. I'm Still Standing, at www.businessweek.com/bwdaily/dnflash/may1999/nf90512a.htm (downloaded September 3, 2011).
Committee on the Global Financial System, 2005, Stress Testing at Major Financial Institutions: Survey Results and Practice1, January, Report by a working group established by the Committee on the Global Financial System, at www.bis.org/publ/cgfs24.htm (downloaded December 30, 2011).
Comptroller's Handbook, 2001, Liquidity, February, at www.occ.gov/publications/publications-by-type/comptrollers-handbook/_pdf/liquidity.pdf (downloaded May 20, 2011).
Crouhy, M., D., Galai and R., Mark, 2001, Risk Management, McGraw-Hill.
Crouhy, M., D., Galai and R., Mark, 2006, Essentials of Risk Management, McGraw-Hill.
Dodd-Frank Act, 2010, Dodd-Frank Wall Street Reform and Consumer Protection Act, at http://docs.house.gov/rules/finserv/111_hr4173_finsrvcr.pdf (downloaded December 30, 2011).
FDIC, Continental Illinois National Bank and Trust Company, in: Managing the Crisis: The FDIC and RTC Experience, Volume One, issued by the FDIC.
Federal Register, 2012, Enhanced Prudential Standards and Early Remediation Requirements for Covered Companies, Volume 77, no. 3.
Feuerverger, A. and A. C. M., Wong, 2000, Computation of value-at-risk for nonlinear portfolios, Journal of Risk, 3(1), 37–55.
Goldman Sachs Media Relations, 2013, at www.goldmansachs.com/media-relations/press-releases-and-comments/current/index.html.
Gordy, M. B. and B., Howells, 2004, Procyclicality in Basel II: Can We Treat the Disease Without Killing the Patient?, at www.bis.org/bcbs/events/rtf04gordy_howells.pdf (downloaded September 3, 2011).
Gorton, G., 2009, Slapped in the Face by the Invisible Hand: Banking and the Panic of 2007, at www.frbatlanta.org/news/Conferen/09fmc/gorton.pdf (downloaded October 16, 2011).
Hirtle, B., T., Schuermann and K., Stiroh, 2009, Macroprudential Supervision of Financial Institutions: Lessons from the SCAP, November, at http://fic.wharton.upenn.edu/fic/papers/09/0937.pdf (downloaded December 30, 2011).
Investopedia, How Basel 1 Affected Banks, at www.investopedia.com/articles/07/BaselCapitalAccord.asp#axzz1X51b0dBG (downloaded September 5, 2011).
Jablecki, J., 2009, The impact of Basel I capital requirements on bank behavior and the efficacy of monetary policy, International Journal of Economic Sciences and Applied Research, 2(1), 16–35, at www.ijesar.org/docs/volume2_issue1/a_impact_basel.pdf (downloaded September 10, 2011).
James, C., 1996, RAROC Based Capital Budgeting and Performance Evaluation: A Case Study of Bank Capital Allocation, at http://fic.wharton.upenn.edu/fic/papers/96/9640.pdf (downloaded September 4, 2011).
Jenkinson, N., 2007, Developing A Framework For Stress Testing Of Financial Stability Risks, Comments to the ECB High Level Conference on “Simulating Financial Instability,” 12-13 July, at www.bis.org/review/r070716g.pdf (downloaded December 30, 2011).
Jorion, P., 2003, Financial Risk Manager Handbook, Second edition, GARP Library.
JP Morgan Chase Annual Report, 2010, available at http://investor.shareholder.com/jpmorganchase/annual.cfm (downloaded December 30, 2011).
Kelly, K., 2007, How Goldman Won big on mortgage meltdown, Wall Street Journal, December 14.
Khindanova, I., 1998, Value at Risk, University of California, Santa Barbara, CA.
Krishna, D. and R., Mark, Risk Information Management for Complex Financial Products, Teradata White Paper, available at www.teradata.com/article.aspx?id=4773 (downloaded December 30, 2011).
Leeson, N. and E., Whitley, 1996, Rogue Trader: How I Brought Down Barings Bank and Shook the Financial World, Little Brown and Company.
Linsmeier, T. J. and N. D., Pearson, 1996, Risk Measurement: An Introduction to Value At Risk, University of Illinois at Urbana-Champaign, IL.
Mark, R., 2012, ERM Standards of Practice for Bankers, April 20, ERM Symposium,at http://cas.confex.com/cas/erm12/webprogram/Handout/Session4927/bobM_ERM/20DC/20V3/20BRM/20ERM/20SOPs/20/20April/20/202012.pdf
Mark, R. and D., Krishna, 2008, How risky is your risk information?, Journal of Risk Management in Financial Institutions, 1(4).
Pritsker, M., 1996, Evaluating Value at Risk Methodologies: Accuracy versus Computational Time, The Wharton School, University of Pennsylvania.
Rosenblatt, M., J., Mountain and A., Kenyon, 2010, Securitization Accounting: The Ins and Outs (and some Do's and Don'ts) of FAS 166, 167, and Counting…”, Eighth edition, Deloitte, available at www.deloitte.com/assets/Dcom-UnitedStates/Local/20Assets/Documents/AERS/us_deloittte_securitization_accounting_Jan2010. pdf (downloaded May 3, 2012).
SAS White Paper, The Art of Balancing Risk and Reward: The Role of the Board in Setting, Implementing and monitoring Risk Appetite, at www.sas.com/resources/whitepaper/wp_40392.pdf (downloadedDecember 24, 2011).
Senior Supervisors Group, 2008, Observations on Risk Management Practices during the Recent Market Turbulence, March 6.
Sullivan, R. J., The Changing Nature of U.S. Card Payment Fraud: Industry and Public Policy Options, Kansas City Fed, at www.kansascityfed.org/Publicat/ Econrev/pdf/10q2Sullivan.pdf (downloaded September 3, 2011).
Viscusi, G. and A.-S., Chassany, 2008, Societe Generale Reports EU4.9 Billion Trading Loss, Bloomberg, January 24, at www.bloomberg.com/apps/news? sid=a8GBEB7UuuXc&pid=newsarchive (downloaded December 28, 2011).
What's in your FICO® score, available at www.myfico.com/crediteducation/whatsinyourscore.aspx (downloaded December 30, 2011).