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About this book

This book discusses risk management, product pricing, capital management and Return on Equity comprehensively and seamlessly. Strategic planning, including the required quantitative methods, is an essential part of bank management and control. A thorough introduction to the advanced methods of risk management for Credit Risk, Counterparty Credit Risk, Market Risk, Operational Risk and Risk Aggregation is provided. In addition, directly applicable concepts and data such as macroeconomic scenarios for strategic planning and stress testing as well as detailed scenarios for Operational Risk and advanced concepts for Credit Risk are presented in straightforward language. The book highlights the implications and chances of the Basel III and Basel IV implementations (2022 onwards), especially in terms of capital management and Return on Equity. A wealth of essential background information from practice, international observations and comparisons, along with numerous illustrative examples, make this book a useful resource for established and future professionals in bank management, risk management, capital management, controlling and accounting.

Table of Contents

Frontmatter

Chapter 1. Outline

Abstract
This book is divided into the following chapters: Chapter 2 deals with all topics relevant for bank management and steering, for strategy, and especially for the risk-return management. In this chapter, business models are discussed. In Chap. 3 the economic and political situation is discussed; the regulatory framework and the development of the philosophy within the Basel Accords, specifically Basel III, are presented. Chapters 46 deal with Credit Risk (loans) and Counterparty Credit Risk (derivatives). Risk and return relevant topics such as risk-adjusted pricing and the underlying parameters are illustrated. Risk models are presented. Chapter 7 deals with Market Risk, whereas Chap. 8 deals with Operational Risk. In Chap. 9 Asset Liability Management is discussed.
Johannes Wernz

Chapter 2. Bank Management and Steering

Abstract
Appetite, risk appetite—how much of it, with what consequences, with what impact on the strategy and on the volatility of earnings? This is a fundamental question in bank management.
Johannes Wernz

Chapter 3. Banks and the Regulatory and Economic Environment

Abstract
Banks serving as an interface between investors and borrowers are important for the economy. Banks provide loans and enable private and commercial investment and growth. Most people buying a house or a flat need a loan. Also, most companies can handle larger investments only through loans. Lending and the associated risk assessments are key tasks of the banks’ business. Money from savers, investors, and from central banks is provided to economy. Thus, it is important that the bank can borrow enough money from the central bank, from other commercial banks and from savers and that this supply is not interrupted—as it can happen in times of a crisis.
Johannes Wernz

Chapter 4. Risk Modeling and Capital: Credit Risk (Loans)

Abstract
All the relevant measures (expected losses and provisions, economic capital, regulatory capital, and interest for pricing) can be derived from one or two handful of parameters (discussed in the following sections).
Johannes Wernz

Chapter 5. Risk Modeling and Capital: Counterparty Credit Risk (“EPE” and “CVA”)

Abstract
Investments in derivatives bear Market Risk (e.g., option price movements due to the movements of the underlying stock) and Credit Risk (e.g., creditworthiness of the issuer (seller) of an option or the counterparty of a swap). Credit Risk in this context is usually referred to as Counterparty Credit Risk (CCR), counterparties are usually other banks. For pricing purposes different models and algorithms are used (see below). The cash flows, exposures, and the likelihood of the payments (creditworthiness of counterparties) need to be considered. Accounting (like IFRS 13) is often closely related to valuation/pricing.
Johannes Wernz

Chapter 6. Risk Modeling and Capital: Credit Risk (Securitizations)

Abstract
With Basel III an important improvement on good risk management (information requirements) was introduced (see below).
Johannes Wernz

Chapter 7. Risk Modeling and Capital: Market Risk

Abstract
Pricing is often done with the help of advanced Monte Carlo Simulations (see below). There are some alternative (traditional) methods and tools. A few examples are provided here:
Johannes Wernz

Chapter 8. Risk Modeling and Capital: Operational Risk

Abstract
Operational Risk (OpRisk) saw quite some developments in the recent years:
Johannes Wernz

Chapter 9. Risk Modeling: Asset Liability Management

Abstract
Often the yield curve is such that long-term interest rates are higher than short-term interest rates. Before the financial crises, there were some nice gains as a result of this difference in interest rates. Nevertheless, when the financial crisis hit in 2007, the yield curve twisted, and the asset mismatch led to big losses. Some banks like Dexia (Belgium) or Depfa (Ireland, later part of HRE, Germany) had refinancing schemes that were quite risky, because there was a big asset mismatch. Loans were provided long term whereas refinancing was done short term.
Johannes Wernz

Backmatter

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