Risk Management

Team
Kunjan shah (036)
Nikhil Joshi (043)
Rohan shah (065)
Digant desai (057)
Robin M (072)
Swapnil naik (096)
In our daily lives we often end up using risk and
uncertainty interchangeably

Certain vs. uncertain
Risk Management aims to

Identify, measure, monitor and control activities of
uncertain events.

Contain the adverse financial effects of activities

Risk Management Structure
Market data Current position
Risk Mapping
Valuation
Value-at-Risk
Reporting and Risk Management
Types of risks:

a) Business risk

b) Control risk which essentially comprises of risks associated
with internal controls, organization or even with Management (often
referred to as Corporate Governance)

c) Financial risk

Importance of Risk Management has grown over time essentially
because we have got exposed to an increasingly global environment,
increasing competition in all the businesses one could be involved in
Financial Risk
Capital risk
Credit risk
Liquidity risk
Interest risk
Currency risk

Market risk is the risk that the value of a portfolio, either an
investment portfolio or a trading portfolio, will decrease due to the
change in value of the market risk factors.

4 standard market risks:
Equity risk
Interest rate risk
Currency risk
Commodity risk
Capital risk
The risk an investor faces that he or she may lose all or part of the principal
amount invested.

The risk a company faces that it may lose value on its capital. The capital of
a company can include equipment, factories and liquid securities.
Mitigating capital risk
Hedging

Insuring capital assets
Credit risk
Credit risk is an investor's risk of loss arising from a
borrower who does not make payments as promised.
Such an event is called a default.

Another term for credit risk is default risk.

Assessing credit risk
Sovereign risk
Counterparty risk
Mitigating credit risk

Risk based pricing
Covenants
Credit insurance
Tightening
Diversification
Deposit insurance

Liquidity risk
Arising due to
Over extension of credit
High level of NPAs (Non performing asset)
Mismanagement
Hot money
Reliance on few wholesale depositors
Lack of appropriate liquidity policy and contingent plan
Types of liquidity risk
Asset liquidity asset cannot be sold due to lack of
liquidity in market

Funding liquidity - liabilities that cannot be met
when they fall due
Liquidity risk measurement
Measures of liquidity risk
Liquidity gap

Measures of asset liquidity
Bid-offer spread
Market depth
Immediacy
Resilience

Interest risk
Interest rate risk is the risk (variability in value) borne by an interest-
bearing asset, such as a loan or a bond, due to variability of interest rates.

In general, as rates rise, the price of a fixed rate bond will fall, and vice
versa.

Calculating interest rate risk
Marking to market
Calculating the Value at Risk of the portfolio


Bank and Interest rate risk
Basis risk
Re-pricing risk
Option risk


Interest risk
Hedging interest rate risk

Interest rate risks can be hedged using fixed income instruments or interest
rate swaps.

Interest rate risk can be reduced by buying bonds with shorter duration, or by
entering into a fixed-for-floating interest rate swap.

Mitigating Interest risk
Currency risk
Exchange Rate between currencies changes frequently

Such change influences the value of multinational firms
their
Assets,
Liabilities,
Present and future cash flows

Types of Currency Risk
Economic Risk
(Effects Cash Flows)
Accounting or
Translation Risk
(Do not effect Cash Flows)
Transaction Risk
(Current Cash Flows)
Operating Risk
(Future Cash Flows)
19
Derivatives
Derivatives - Guard against uncertainties.
Financial Markets - High degree of volatility.
Locking in asset prices.
Instruments - Risk Management Tool.
Minimize the impact on Profitability and cash flows.
20
Hedging as a strategy for risk mitigation
Hedge: Long security sell futures
1. Security bought @ 800 Rs.
2. Spot price of security is 700 Rs.
Hedge strategy.
Price in futures market 706 Rs.
Sell futures @ 706 Rs.
Price goes down suppose 650 Rs.
Positive difference = 56 Rs / share.
Negative difference = 150 Rs / share.
Net = 94 Rs -ve / share.
Net otherwise = 150 Rs -ve / share.




21
Strategies to earn riskless Profits in capital markets
Arbitrage: Overpriced Futures : Buy Spot, Sell
Futures.
Security trades @ 125 Rs in futures market.
Security trades @ 100 Rs in spot market.
Considered overvalued.
Price expected to come down in a month.
At Futures expiry, spot and futures price
converge.

Transaction in futures.
Sell futures @ 125 Rs.
Transaction in spot market.
Buy shares @ 100 Rs and hold for a month.
Markets @ expiry = 110.
Buy futures @ 110.
Sell equity holdings @ 110.
Riskless profit = 25 Rs / share.
(Futures = 15, spot = 10)




Arbitrage: Underpriced Futures : Buy
Futures, Sell Spot.
Security trades @ 100 Rs in futures market.
Security trades @ 125 Rs in spot market.
Considered undervalued.
Price expected to go up in near future.


Transaction in futures.
Buy futures @ 100 Rs.
Transaction in spot market.
Sell shares @ 125 Rs.
Markets on that day attains = 110 in
intraday
trade.
Sell futures @ 110.
Buy shares in spot market @ 110.
Riskless profit = 25 Rs / share.
(Futures = 10, spot = 15)




One thing is certain the next few years will be
challenging for risk managers as they strive to balance
profits with managing risk










THANK YOU
Questions ????