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What does Risk stand for?
• Uncertainties transforming into adverse outcomes
• Adverse in relation to planned objective or expectations
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Risk Management defined:
RM involves framing of RM involves framing of policies,policies,
procedures,procedures, and and practicespractices involved in involved in
identification,identification, analysis,analysis, assessment, assessment,
controlcontrol and and avoidance,avoidance, minimisationminimisation
or or eliminationelimination of unacceptable risks. of unacceptable risks.
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Risk Management Strategies
• Risk assumption.Risk assumption.
• Risk Avoidance.Risk Avoidance.
• Risk Retention.Risk Retention.
• Risk Transfer.Risk Transfer.
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Major source of uncertainty
BusinessBusinessCommodityPrices
Labour Costs
Interest
Rates
Currency$
Taxes
Consumer
Preferences
Technology
Economic
Policies
Political
Conditions
Weather
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BusinessBusiness: A series of activities running over a time horizon
ConventionalConventional BankingBankingbusinessbusiness businessbusinessAcquiring materials Selling DepositsProcessing Buying Loans
Storing MarginsMarketing Distribution of Sales profitsRevenueDistribution of profits
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HHow do uncertainties effect businesses?ow do uncertainties effect businesses?
Cash InflowsCash Inflows
• Sales volume or sale price.
Cash OutflowsCash Outflows
• Input costs, raw materials etc.• Processing costs, wages, storage,• Cost of funds, taxes.
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Where do uncertainties manifest Where do uncertainties manifest ultimately?ultimately?
• Profit or earnings or a business
• Net worth or value of a firm
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Earnings of a bank:
Deposits
Borrowings
interestexpenses
Loans
Investment
Interestincome
earnings
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Earnings – value of a firm
Earnings
taxes
dividends
Reserves&
Surplus
Balance Sheet
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Risk Management: Objectives• Risk return integration
• Lower risk management costs
• Fairly stable earnings
• Uninterrupted operations
• Continued growth
• Safety of Capital funds
• Regulatory Compliance
• Competitive advantage
• Peace of mind
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Stable Earnings:
• Consistent Growth.
• Good Reputation.
• Marketability.
• Investor attraction.
• Listing privilege.
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Un-interrupted Operations• Avoid systemic crisis.
• Avoid external interventions.
• Avoid take-over threats.
• Enhance market share.
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Safety of capital funds
Consider a hypothetical bank with following structure:-
Liabilities(in lakhs rupees)
Assets(in lakhs rupees)
Equity 10
Deposits 90
Total: 100
Cash 5
Loans 95
Total: 100
Assume that bank suffers Rupee 4.5 lakh in loan losses.
Which means 4.74% of loan losses equals about 45% of equity wipe out.
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Net worth of a bank
Assets - external liabilities = owners equity
Small changes
in the value of assets/liabilities
Large changes
In the value of owners equity
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Why Risk Management?
• Navigating a ship in a stormy sea.
• Danger of capsizing.
• Choppy sea needs to calmed.
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Management of Financial Risks:Management of Financial Risks:
Risk Identification
Risk Measurement
Risk Pricing
Risk Monitoring & Control
Risk Mitigation
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Thank You !
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