Learning Objectives:

  • Define market risk and its sub-categories.

  • Understand interest rate risk and its measurement.

  • Explain foreign exchange risk and equity price risk.

3.1 Defining Market Risk

Market risk is the risk of losses from adverse movements in market prices, including interest rates, foreign exchange rates, equity prices, and commodity prices . The BTRM programme identifies market risk as one of the key risks covered in its curriculum . It arises from the bank’s trading activities and from mismatches in its banking book.

3.2 Interest Rate Risk

Interest rate risk is the risk that changes in interest rates will adversely affect a bank’s earnings or economic value. The Bocconi University course covers “interest rate risk (definition, measurement, and management tools)” in detail . The Technical University of Košice includes “interest rate risk management” as a dedicated topic . Key measurement methods include:

  • Gap Analysis: Measuring the mismatch between interest-rate-sensitive assets and liabilities over various time buckets .

  • Duration Analysis: Measuring the price sensitivity of assets and liabilities to interest rate changes.

  • Earnings at Risk (EaR): Measuring the impact of interest rate changes on net interest income .

  • Value at Risk (VaR): A statistical measure of potential loss .

3.3 Foreign Exchange and Equity Risk

Foreign exchange risk arises from adverse movements in exchange rates. The Technical University of Košice includes “foreign exchange risk in the context of a commercial bank” as a core topic . Key aspects include:

  • Transaction Exposure: Risk from future cash flows in foreign currencies.

  • Translation Exposure: Risk from balance sheet items denominated in foreign currencies.

  • Economic Exposure: Risk to the bank’s competitive position from exchange rate changes.

Equity price risk arises from movements in stock prices, impacting the bank’s trading book and investment portfolio.

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