Market Risk
Market risk management is a relevant topic for every company. Market risk is understood as the risk arising from changes in exchange rates, interest rates, equity prices, commodity prices, and other market variables.
Advanced Risk Management, s.r.o. offers consulting services in the area of market risk to both financial and non-financial institutions.
Non-Financial Institutions:
In the area of market risk we also offer professional
seminars in the form of open and in-house seminars.
See our offer of
CADCalc®Market a software tool for effective market and liquidity risk management.
Offer for Financial Institutions
Verification of market data quality
- Proposal/assessment of a methodology for evaluating the quality of market data
- Assessment of existing methods for an analysis of market data used in models to evaluate the instruments and measure the level of market risk
- Technical implementation of methods used to assess the quality of market data, i.e. to assess whether information used by a bank in its market risk models is complete and correct
Valuation of instruments
- Proposal/assessment of methods for evaluation of the financial and capital market instruments
- One-time or regular valuation of client’s specific portfolio
- We offer valuation services for a wide spectrum of instruments (including instruments with limited liquidity), mainly:
- debt instruments (particularly: treasury bills, bonds, loans and repo operations),
- equity instruments – common equity shares, mutual fund shares
- currency and interest rate derivatives – e.g, FX spots, forwards, swaps and options, FRAs, interest rate swaps (plain vanilla IRSs, CIRSs, amortized swaps), swaptions
- commodities and commodity derivates – position in the commodity, commodity forward and commodity swap
- credit derivatives – CDSs, Credit-Linked Notes (CLNs), securitization
- structured products
Measuring market risk
- Proposal/assessment of methods for measuring the level of a portfolio market risk, either in aggregate or by individual components:
- currency risk
- interest rate risk
- equity risk
- commodity risk
- Assistance in the technical implementation of models
- Used methods and approaches include mainly the following:
- currency (FX) position
- interest rate gap analysis
- duration
- convexity
- sensitivity analysis, e.g. BPV (Basis Point Value)
- Value at Risk (VaR) (approaches: historical simulation, covariance matrix method, Monte Carlo Simulation) – with the possibility to extend the model by Expected Shortfall
- Stress Testing
- Creation of a comprehensive stress testing framework
- Creation/assessment of specific proposals of stress scenarios for crises situations to simulate events which do not usually occur in banks (modelling extreme changes of the risk parameter values):
- historical scenarios – a structure on the basis of important events which occurred in the past
- hypothetical scenarios – what-if situations based on expert opinion
- Analysis of the impact of stress scenarios on the portfolio value
- Design/assessment of a methodology for setting limits
- Development of a Cash Flow at Risk model
- Development of a Profit at Risk model
- Utilization of the model results for the capital request calculation towards the market risk of the trading book
Model back testing
- Proposal/assessment of methods of back testing for monitoring the consistency between the estimation of the loss caused by market risk with losses which really occurred. The following methods are used for back testing:
- Model Back Testing – hypothetical (model) back testing
- Dirty Back Testing – real back testing based on the actual P&L, including trading fees
- Clean Back Testing – real back testing based on the actual P&L, net of trading fees
Limits for market risk management
- Proposal/assessment of methods for setting market risk management limits
- Setting limits for market risk management with utilization of historical data and ARM know-how, including subsequent design of the process to monitor the various market risk indicators
Analysis of the market risk management system
- Analysis of the current state of market risk management:
- assessment of suitability of the methods for valuation of the traded instruments and for measuring the level of market risk
- assessment of the technical implementation of the methods (assessment of correctness of the developed models and their implementation in SW tools, including the analysis of correctness and "purity" of data used)
- verification of the procedures for market risk management and setting limits
- Proposal of changes to improve the system for measuring and managing market risk with a focus on the following areas:
- Does the communication between individual departments take place sufficiently and on time?
- Does the transfer of information (data) about trades between individual systems/applications take place without errors?
- Are the systems/applications used in market risk management suitable and not duplicating their activity? Is it possible to improve these systems/applications?
- Are the limits set properly and is their monitoring done regularly?
- Inspection of sufficient documentation of the market risk management system (strategy)
- Analysis of the systems which are created in the scope of reporting and assessment of the method of their utilization in the process of decision making
Market risk according to Basel
- In support of measuring market risks in the scope of Basel II/III:
- inspection of models for the capital request calculation towards market risk (risk of the trade book) – of the methodical correctness as well as the technical implementation of calculation
- assistance in developing the application for the capital request calculation
- Proposal of the form of the reporting status and development of market risk in time for both the risk partial components (currency, interest rates, equity and commodity risk) and on an aggregated basis
- Proposal of methods or delivery of the software tool for the need of regulatory record keeping
- Assistance in the implementation of processes, reports and applications within Basel II/III in everyday use – not only in the scope of the risk management department but also in other parts of the bank
Offer for Non-Financial Institutions
Identification of market risk
- Identification of sources of market risk considering the institution’s business model
Valuation of instruments
- Proposal/assessment of methods for evaluation of the financial and capital market instruments.
- One-time/regular valuation of client’s specific portfolio.
- We offer valuation services for a wide spectrum of instruments (including instruments with limited liquidity), mainly:
- debt instruments (particularly: treasury bills, bonds, loans and repo operations),
- equity instruments – common equity shares, mutual fund shares,
- currency and interest rate derivates – e.g., currency spot, forward, swaps or options, FRA, interest rate swap (plain-vanilla IRS, CIRS, amortized swaps), swaps,
- commodities and commodity derivates – position in the commodity, commodity forward and commodity swap,
- credit derivates – CDS, Credit-Linked Note (CLN), securitization,
- structured products.
Analysis of market risk management and setting limits
- Assessment of the rules for market risk management.
- Assessment of the correctness and completeness of internal regulations for market risk management, recommendations for appropriate adjustments/additions.
- Assistance in setting the limits for market risk management with utilization of historical data and ARM know-how.
- Inspection of the correctness of the limit system and the relevance of setting the limits in connection with the amount of the realized loss of market risk.
Commodity risk
- Modelling the development of market prices of commodities on the basis of econometric models derived from a historical development of these prices.
- Maintenance of models in response to changes in their underlying assumptions.
- The possibility of using the proposed econometric models in modelling Cash Flow at Risk, alternatively for determination of Profit at Risk (see also section “Cash Flow at Risk and Profit at Risk“).
Cash Flow at Risk and Profit at Risk
- Creation of a model of:
- Cash Flow at Risk for projecting income and expenses under stressed conditions – determining deviations of actual cash flow from planned cash flow at a given confidence level over a specified time period (using valuation methodologies and historical data on customer and supplier behavior).
- Profit at Risk for measuring deviations of the real profit from the planned profit on a given level of reliability for a certain time period.
- Use of models in determining the profitability of projects/investments and in the process of decision making (planning) in a company/enterprise.