Page 81 - DCOM505_WORKING_CAPITAL_MANAGEMENT

Working Capital Management

Notes the funds are lent, deployed, invested or committed in any form to counterparty whether
the transaction is on or off the balance sheet.
2. Interest Rate Risk: Interest Rate Risk (IRR) arises as a result of change in interest rates on
rate earning assets and rate paying liabilities of a bank. The scope of IRR management is
to cover the measurement, control and management of IRR in the banking book. With the
deregulation of interest rates, the volatility of the interest rates has risen considerably.
This has transformed the business of banking forever in our country from a mere volume
driven business to a business of carefully planning and choosing assets and liabilities to
be entered into to achieve targets of profitability.

Did u know? There are two basic approaches to IRR. They are: (i) Earnings Approach, and
(ii) Economic Value Approach.
3. Market Risk: Traditionally, credit risk management was the primary challenge for banks.
With progressive deregulation, market risk arising from adverse changes in market
variables, such as interest rate, foreign exchange rate, equity price and commodity price
has become relatively more important. Even a small change in market variables causes
substantial changes in income and economic value of banks. Market risk takes the form of:
(a) Liquidity Risk, (b) Interest Rate Risk, (c) Foreign Exchange Rate (Forex) Risk,
(d) Commodity Price Risk, and (e) Equity Price Risk
4. Liquidity Risk: Liquidity risk is defined as the possibility that the bank would not be able
to meet the commitments in the form of cash outflows with the available cash inflows.
This risk arises as a result of inadequacy of cash available and near cash item including
drawing rights to meet current and potential liabilities. Liquidity risk is categorized into
two types; (a) Trading Liquidity Risk; and (b) Funding Liquidity Risk.

Trading liquidity risk arises as a result of illiquidity of securities in the trading portfolio
of the bank. Funding liquidity risk arises as a result of the cash flow mismatch and is an
outcome of difference in balance sheet strategies pursued by different institutions in the
same industry. It is perfectly possible for a few banks to have excess funding liquidity
while other banks may suffer shortage of liquidity.
5. Operational Risk: Operational risk is emerging as one of the important risks financial
institutions worldwide are concerned with. Unlike other categories of risks, such as credit
and market risks, the definition and scope of operational risk is not fully clear. A number
of diverse professions such as internal control and audit, statistical quality control and
quality assurance, facilities management and contingency planning, etc., have approached
the subject of operational risk thereby bringing in different perspectives to the concept.

Caselet Financial Risk Management at UBS

nion Bank of Switzerland (UBS) is one of the largest investment managers in the
world. UBS serves institutional investors and high net-worth individuals by
Uoffering a range of products and services including mutual funds, asset
management, corporate finance, and estate planning. UBS also provides securities
underwriting services, mergers and acquisitions advice and trades in fixed-income products,
and foreign exchange. The company faces many risks. These include interest rate risks,
currency risks, equity risks, credit risks, liquidity risks and capital adequacy risks. UBS
Contd...

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