Managing Risks in Commercial and Retail Banking
Wiley Finance 1. Aufl.
A practical guide to the practices and procedures of effectively managing banking risks Managing Risks in Commercial and Retail Banking takes an in-depth, logical look at dealing with all aspects of risk management within the banking sector. It presents complex processes in a simplified way by providing real-life situations and examples. The book examines all dimensions of the risks that banks face—both the financial risks—credit, market, and operational—and the non-financial risks—money laundering, information technology, business strategy, legal, and reputational. Focusing on methods and models for identifying, measuring, monitoring, and controlling risks, it provides practical advice backed up by solid theories, without resorting to the use of complicated mathematical and statistical formulas. Author Amalendu Ghosh exposes topics that are usually absent in books on managing banking risk—such as design of control framework, risk management architecture, credit risk rating, risk-based loan pricing, portfolio analysis, business continuity planning, and corporate governance. Author has extensive experience with a variety of major banks and institutions worldwide and brings a fresh perspective in the wake of the global finance crisis Presents a novel approach using models of the credit risk rating of different types of borrowers, the methodology for assigning weights for deriving the rating, and the scoring process Covers the essentials of corporate governance and options for credit risk assessment in line with the recommendations made in the New Basel Capital Accord Explains the methodology of risk-based internal audit, including techniques to enable bank branches to switch over from the old transaction-based audit methods With its logical sequence of the aspects of risk management, the book's layout is ideal for presentations, making it a handy tool for risk management training
Preface xv PART ONE Risk Management Approaches and Systems CHAPTER 1 Business Risk in Banking 3 1.1 Concept of Risk 3 1.2 Broad Categories of Risks 3 1.3 Credit Risk 5 1.4 Market Risk 7 1.5 Operational Risk 8 1.6 Operating Environment Risk 10 1.7 Reputation Risk 11 1.8 Legal Risk 12 1.9 Money Laundering Risk 12 1.10 Offshore Banking Risk 14 1.11 Impact of Risk 15 1.12 Summary 16 Notes 18 CHAPTER 2 Control Risk in Banking 19 2.1 How Control Risk Arises 19 2.2 External Control and Internal Control Risks 19 2.3 Internal Control Objectives 21 2.4 Internal Control Framework 21 2.5 Tasks in Establishing a Control Framework 28 2.6 Business Risk and Control Risk Relationship 34 2.7 Summary 35 CHAPTER 3 Technology Risk in Banking 37 3.1 What Is Technology Risk? 37 3.2 Risks in Electronic Banking 37 3.3 Sources of Technology Risk 38 3.4 Management of Technology Risk 42 3.5 Summary 43 CHAPTER 4 Fundamentals of Risk Management 45 4.1 Risk Management Concept 45 4.2 Risk Management Approach 45 4.3 Risk Identification Approach 47 4.4 Risk Management Architecture 47 4.5 Risk Management Organizational Structure 48 4.6 Summary 53 CHAPTER 5 Risk Management Systems and Processes 55 5.1 Risk Management Policy 55 5.2 Risk Appetite 56 5.3 Risk Limits 57 5.4 Risk Management Systems 59 5.5 Management Information System 67 5.6 Verification of Risk Assessment 72 5.7 Human Resource Development 72 5.8 Top Management Commitment 73 5.9 Capital Adequacy Assessment and Disclosure Requirement 74 5.10 Risk Prioritization 75 5.11 Summary 76 Notes 77 PART TWO Credit Risk Management CHAPTER 6 Credit Problems and Credit Risk 81 6.1 Genesis of Credit Problems 81 6.2 Causes of Credit Risk 92 6.3 Summary 93 Notes 94 CHAPTER 7 Identification of Credit Risk 95 7.1 Market Risk and Credit Risk Relationship 95 7.2 Credit Risk Identification Approach 96 7.3 Credit Risk Identification Process 100 7.4 Summary 109 Notes 110 CHAPTER 8 Credit Risk Rating Concept and Uses 111 8.1 Credit Risk Rating Concept 111 8.2 Credit Risk Rating Uses 113 8.3 Credit Risk Rating Principles 122 8.4 Summary 127 Notes 128 CHAPTER 9 Credit Risk Rating Issues 129 9.1 Rating Practices in Banks 129 9.2 Design of the Rating Framework 130 9.3 Conceptual Issues 131 9.4 Developmental Issues 136 9.5 Implementation Issues 140 9.6 Rating Framework Overview 147 9.7 Summary 147 Notes 151 CHAPTER 10 Credit Risk Rating Models 153 10.1 Internal Rating Systems in Banks 153 10.2 Need for Different Rating Models 154 10.3 Need for New and Old Borrower Rating Models 155 10.4 Types of Rating Models 157 10.5 New Capital Accord Options 158 10.6 Asset Categorization 159 10.7 Identification of Model Inputs 160 10.8 Assessment of Component Risk 161 10.9 Summary 172 Notes 172 CHAPTER 11 Credit Risk Rating Methodology 173 11.1 Rating Methodology Development Process 173 11.2 Derivation of Component Rating 189 11.3 Derivation of Counterparty Rating 195 11.4 Summary 197 CHAPTER 12 Credit Risk Measurement Model 199 12.1 Risk Rating and Risk Measurement Models 199 12.2 Credit Loss Estimation—Conceptual Issues 200 12.3 Quantification of Risk Components 204 12.4 Credit Risk Measurement Models 215 12.5 Back-Testing of Credit Risk Models 219 12.6 Stress Testing of Credit Portfolios 220 12.7 Summary 222 Notes 223 CHAPTER 13 Credit Risk Management 225 13.1 General Aspects 225 13.2 Credit Management and Credit Risk Management 225 13.3 Credit Risk Management Approach 226 13.4 Credit Risk Management Principles 227 13.5 Organizational Structure for Credit Risk Management 232 13.6 Credit Risk Appetite 234 13.7 Credit Risk Policies and Strategies 234 13.8 Early Warning Signal Indicators 242 13.9 Credit Audit Mechanism 244 13.10 Credit Risk Mitigation Techniques 248 13.11 Summary 253 Note 254 CHAPTER 14 Credit Portfolio Review Methodology 255 14.1 Portfolio Classification 255 14.2 Portfolio Management Objectives 256 14.3 Portfolio Management Issues 256 14.4 Portfolio Analysis Technique 261 14.5 Portfolio Risk Mitigation Techniques 266 14.6 Summary 269 CHAPTER 15 Risk-Based Loan Pricing 271 15.1 Loan Pricing Concept 271 15.2 Loan Pricing Principles 271 15.3 Loan Pricing Issues 272 15.4 Loan Price Computation 275 15.5 Summary 280 PART THREE Market Risk Management CHAPTER 16 Market Risk Framework 283 16.1 Market Risk Concept 283 16.2 Market Risk Types 283 16.3 Market Risk Management Framework 285 16.4 Organizational Setup 286 16.5 Market Risk Policy 288 16.6 Market Risk Vision 289 16.7 Summary 290 CHAPTER 17 Liquidity Risk Management 293 17.1 Liquidity Risk Causes 293 17.2 Liquidity Risk Management Activities 294 17.3 Liquidity Risk Management Policies and Strategies 296 17.4 Liquidity Risk Identification 297 17.5 Liquidity Risk Measurement 299 17.6 Liquidity Management Structure and Approaches 306 17.7 Liquidity Management under Alternate Scenarios 310 17.8 Liquidity Contingency Planning 313 17.9 Stress Testing of Liquidity Funding Risk 314 17.10 Liquidity Risk Monitoring and Control 321 17.11 Summary 325 Notes 326 CHAPTER 18 Interest Rate Risk Management 327 18.1 Interest Rate Risk in Trading and Banking Books 327 18.2 Interest Rate Risk Causes 328 18.3 Interest Rate Risk Measurement 332 18.4 Maturity Gap Analysis 334 18.5 Duration Gap Analysis 336 18.6 Simulation Analysis 341 18.7 Value-at-Risk 342 18.8 Earnings at Risk 347 18.9 Interest Rate Risk Management 351 18.10 Interest Income Stress Testing 353 18.11 Interest Rate Risk Control 354 18.12 Summary 355 Notes 356 CHAPTER 19 Foreign Exchange Risk Management 357 19.1 Exchange Risk Implication 357 19.2 Exchange Risk Types 358 19.3 Foreign Currency Exposure Measurement 361 19.4 Exchange Risk Quantification 364 19.5 Exchange Risk Management 366 19.6 Exchange Risk Hedging 370 19.7 Summary 371 Notes 372 CHAPTER 20 Equity Exposure Risk Management 373 20.1 Equity Exposure Identification 373 20.2 Equity Exposure Management Framework 374 20.3 Equity Exposure Risk Measurement 375 20.4 Summary 376 CHAPTER 21 Asset Liability Management Review Process 379 21.1 Asset-Liability Review 379 21.2 Liquidity Risk Review 380 21.3 Interest Rate Risk Review 383 21.4 Foreign Exchange Risk Review 384 21.5 Equity Price Risk Review 385 21.6 Value-at-Risk Review 385 21.7 Summary 386 PART FOUR Operational Risk Management CHAPTER 22 Operational Risk Management Framework 389 22.1 Operational Risk Concept 389 22.2 Operational Risk Sources 390 22.3 Operational Risk Causes 393 22.4 Operational Risk Policy Objectives 397 22.5 Operational Risk Policy Contents 398 22.6 Operational Risk Management Framework 399 22.7 Summary 401 Note 408 CHAPTER 23 Operational Risk Identification, Measurement, and Control 409 23.1 Operational Risk Identification Approach 409 23.2 Operational Risk Identification Process 410 23.3 Business Line Identification 411 23.4 Operational Risk Assessment Methods 414 23.5 Operational Risk Measurement Methodology 421 23.6 Operational Risk Measurement Process 425 23.7 Operational Risk Monitoring 429 23.8 Operational Risk Control and Mitigation 430 23.9 High-Intensity Operational Risk Events—Business Continuity Planning 431 23.10 Business Continuity Plan Support Requirements 433 23.11 Business Continuity Planning Methodology 434 23.12 Operational Risk Management Organizational Structure 436 23.13 Summary 437 Notes 438 PART FIVE Risk-Based Internal Audit CHAPTER 24 Risk-Based Internal Audit—Scope, Rationale, and Function 443 24.1 Internal Audit Scope and Rationale 443 24.2 Risk-Based Internal Audit Policy 449 24.3 Internal Audit Department Structure 450 24.4 Summary 452 CHAPTER 25 Risk-Based Internal Audit Methodology and Procedure 453 25.1 Risk-Based Internal Audit Methodology 453 25.2 Risk-Based Audit Planning and Scope 468 25.3 Risk-Based Audit Process 471 25.4 Summary 484 PART SIX Corporate Governance CHAPTER 26 Corporate Governance 489 26.1 Corporate Governance Concept 489 26.2 Corporate Governance Objectives 490 26.3 Corporate Governance Foundation 492 26.4 Corporate Governance Elements 493 26.5 Corporate Governance in Banks 500 26.6 Toward Better Corporate Governance in Banks 505 26.7 Summary 509 Note 510 PART SEVEN Lessons from the Asian and the United States’ Financial Crises CHAPTER 27 The Causes and Impact of the Asian and the United States’ Financial Crises 513 27.1 The Asian Financial Crisis Causes and Impact 514 27.2 Risks Emerging from the Asian Financial Crisis 515 27.3 The Impact of the U.S. Financial Crisis 519 27.4 The U.S. Financial Crisis Causes and the Concomitant Risks 520 27.5 Basel Committee on Banking Supervision Response (Basel III) 534 27.6 Summary 535 Notes 537 About the Author 539 Index 541
AMALENDU GHOSH worked for the Reserve Bank of India (RBI) for thirty-six years and has extensive exposure to bank regulation, risk management, risk-based bank supervision, and the New Basel Capital Accord. He was the chief of RBI's banking regulation department. After retirement, he worked with RBI on a contractual basis as the head of a risk-based bank supervision project implementation group, and was involved in drawing the road map, developing a supervision model, and writing a bank examination manual for actual conduct of bank inspection for the switch to the risk-based bank supervision system. Ghosh was also the risk management consultant to two nationalized commercial banks in India. He has hands-on experience in the formulation and implementation of risk management practices and procedures including development of models for counterparty rating.
Managing Risks in Commercial and Retail Banking provides a highly accessible guide to the practices and procedures of managing banking risks and includes illustrative examples of real-life situations. Throughout the book, Amalendu Ghosh—a noted expert on banking regulations and risk management—focuses on a wide range of risk management issues such as credit, market, and operational risks. He also reviews modalities for the establishment of internal models for risk-rating banks' counterparties and rating branch offices for audit prioritization. Managing Risks in Commercial and Retail Banking contains a balanced mix of concepts, methodologies, and tools pertaining to risk management. Banks that are in the process of implementing New Basel Capital Accord recommendations—as well as internal and external auditors who are tasked with independently evaluating the soundness of risk management systems and capital adequacy calculation processes in banks—will find this book contains current information on the topic. Ghosh examines various credit risk management issues that highlight the complications involved in identifying and measuring credit risk, and recommends possible solutions to effectively deal with them. This reliable resource skillfully describes the market risk management framework and explains the process of identifying, measuring, and controlling all forms of market risk. It also explores the causes that accentuate market risks and discusses possible solutions. Operational risk management and its sources and causes are examined as well. Step by step, Ghosh outlines a procedure for making a scientific assessment of operational risk. Along the way, he delves into the operational risk events that occur in banking institutions and explains the procedure to evaluate the loss-inflicting capacity of those events and assess operational risk in terms of event frequency and impact severity. Engaging and informative, Managing Risks in Commercial and Retail Banking contains information on issues that are usually not found in other books on managing financial risk in banking. Topics touched upon include design of control framework, risk management architecture, credit risk rating, risk-based loan pricing, portfolio analysis, business continuity planning, and corporate governance. This book concludes with a discussion of the causes, and impact, of the financial crises in Asia and the United States; the lessons we've learned from them; and the possible steps banks can take to contain future risks that emerge from these types of crises.
Praise for Managing Risks in Commercial and Retail Banking "This book presents a comprehensive picture of risk management practices and procedures in a compact form, and displays how risk management tools can be developed within the organization to suit a bank's own requirements. The author clearly articulates his views on typical risk management problems and issues with practical examples from the field. The book is unique; it provides input to set up bank-specific risk management architecture, and includes topics that are not usually found in risk management books."—Satya Pal Talwar, former Deputy Governor, Reserve Bank of India "Risk management professionals are revisiting tools and techniques after the collapse of Lehman Brothers and the unprecedented credit crisis the globe witnessed in its aftermath. Ghosh's book has gone beyond the concepts and principles to the shop floor of risk management. Being a former central banker, he has used his knowledge as an insider to deal with the practical aspects of risk management, which commercial bankers, auditors, and students will find quite useful." —Tamal Bandyopadhyay, Deputy Managing Editor, Mint "This book synthesizes concepts, methodologies, and procedures, and makes available in one place the most practical aspects of risk management. The author, a former central banker and a commercial bank risk management consultant, combines his both-side experience to present in a simplified way the entire risk management process. The uniqueness lies in providing practical tips to identify, measure, monitor, and control risks, and in covering somewhat new but very relevant topics that are scarcely discussed." —Dr. B. Samal, former Chairman and Managing Director, Allahabad Bank, India, and former member, Securities Appellate Tribunal, Government of India
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