CHAPTER -1

INTRODUCTION
 INTRODUCTION

The significant transformation of the banking industry in India is clearly evident

from the changes that have occurred in the financial markets, institutions and products.
While deregulation has opened up new vistas for banks to argument revenues, it has
entailed greater competition and consequently greater risks. Cross- border flows and
entry of new products, particularly derivative instruments, have impacted significantly on
the domestic banking sector forcing banks to adjust the product mix, as also to effect
rapid changes in their processes and operations in order to remain competitive to the
globalized environment. These developments have facilitated greater choice for
consumers, who have become more discerning and demanding compelling banks to offer
a broader range of products through diverse distribution channels. The traditional face of
banks as mere financial intermediaries has since altered and risk management has
emerged as their defining attribute.

Currently, the most important factor shaping the world is globalization. The
benefits of globalization have been well documented and are being increasingly
recognized. Integration of domestic markets with international financial markets has been
facilitated by tremendous advancement in information and communications technology.
But, such an environment has also meant that a problem in one country can sometimes
adversely impact one or more countries instantaneously, even if they are fundamentally
strong.

There is a growing realisation that the ability of countries to conduct business

across national borders and the ability to cope with the possible downside risks would
depend, interalia, on the soundness of the financial system. This has consequently meant
the adoption of a strong and transparent, prudential, regulatory, supervisory, technological
and institutional framework in the financial sector on par with international best
practices. All this necessitates a transformation: a transformation in the mindset, a
transformation in the business processes and finally, a transformation in knowledge
management. This process is not a one shot affair; it needs to be appropriately phased in
the least disruptive manner.

The banking and financial crises in recent years in emerging economies have
demonstrated that, when things go wrong with the financial system, they can result in a
severe economic downturn. Furthermore, banking crises often impose substantial costs on
the exchequer, the incidence of which is ultimately borne by the taxpayer. The World
Bank Annual Report (2002) has observed that the loss of US $1 trillion in banking crisis
in the 1980s and 1990s is equal to the total flow of official development assistance to
developing countries from 1950s to the present date. As a consequence, the focus of
financial market reform in many emerging economies has been towards increasing
efficiency while at the same time ensuring stability in financial markets.

From this perspective, financial sector reforms are essential in order to avoid such
costs. It is, therefore, not surprising that financial market reform is at the forefront of
public policy debate in recent years. The crucial role of sound financial markets in
promoting rapid economic growth and ensuring financial stability. Financial sector
reform, through the development of an efficient financial system, is thus perceived as a
key element in raising countries out of their 'low level equilibrium trap'. As the World
Bank Annual Report (2002) observes, ‘ a robust financial system is a precondition for a
sound investment climate, growth and the reduction of poverty ’.

Financial sector reforms were initiated in India a decade ago with a view to
improving efficiency in the process of financial intermediation, enhancing the
effectiveness in the conduct of monetary policy and creating conditions for integration of
the domestic financial sector with the global system. The first phase of reforms was
guided by the recommendations of Narasimham Committee.
  The approach was to ensure that ‘the financial services industry operates on the
basis of operational flexibility and functional autonomy with a view to enhancing
efficiency, productivity and profitability'.
 The second phase, guided by Narasimham Committee II, focused on strengthening
the foundations of the banking system and bringing about structural
improvements. Further intensive discussions are held on important issues related
to corporate governance, reform of the capital structure, (in the context of Basel II
norms), retail banking, risk management technology, and human resources
development, among others.

Since 1992, significant changes have been introduced in the Indian financial
system. These changes have infused an element of competition in the financial system,
marking the gradual end of financial repression characterized by price and non-price
controls in the process of financial intermediation. While financial markets have been
fairly developed, there still remains a large extent of segmentation of markets and non-
level playing field among participants, which contribute to volatility in asset prices. This
volatility is exacerbated by the lack of liquidity in the secondary markets. The purpose of
this paper is to highlight the need for the regulator and market participants to recognize
the risks in the financial system, the products available to hedge risks and the
instruments, including derivatives that are required to be developed/introduced in the
Indian system.

The financial sector serves the economic function of intermediation by ensuring

efficient allocation of resources in the economy. Financial intermediation is enabled
through a four-pronged transformation mechanism consisting of liability-asset
transformation, size transformation, maturity transformation and risk transformation.

Risk is inherent in the very act of transformation. However, prior to reform of

1991-92, banks were not exposed to diverse financial risks mainly because interest rates
were regulated, financial asset prices moved within a narrow band and the roles of
different categories of intermediaries were clearly defined. Credit risk was the major risk
for which banks adopted certain appraisal standards.

Several structural changes have taken place in the financial sector since 1992. The
operating environment has undergone a vast change bringing to fore the critical
importance of managing a whole range of financial risks. The key elements of this
transformation process have been

1. The deregulation of coupon rate on Government securities.

2. Substantial liberalization of bank deposit and lending rates.

3. A gradual trend towards disintermediation in the financial system in the wake of

increased access of corporates to capital markets.

4. Blurring of distinction between activities of financial institutions.

5. Greater integration among the various segments of financial markets and their
increased order of globalisation, diversification of ownership of public sector
banks.

6. Emergence of new private sector banks and other financial institutions, and,

7. The rapid advancement of technology in the financial system.

CHAPTER -2

OBJECTIVES
 OBJECTIVES

To study broad outline of management of credit, market and operational risks associated
with banking sector .

Though the risk management area is very wide and elaborated, still the project covers
whole subject in concise manner.

The study aims at learning the techniques involved to manage the various types of risks,
various methodologies undertaken. The application of the techniques involves us to gain
an insight into the following aspects:

1. To Analyse Various risks faced by Banks.

2. To study various risk management tools adopted by bank
3. To find relation between risk management at saving of funds.
4. To study the behavior of employees towards risk management
5. To determine the role of RBI towards various kind of financial risks
CHAPTER -3

SCOPE
 SCOPE OF THE STUDY

The report seeks to present a comprehensive picture of the various risks inherent in the

bank. The risks can be broadly classified into three categories:

 Credit risk

 Market risk

 Operational risk

Within each of these broad groups, an attempt has been made to cover as

comprehensively as possible, the various sub-groups

The computation of capital charge for market risk will also be taken practically as also

the assigning the ratings for individual borrowers. PNB is also under the key process of

testing and implementation of Reuters "KONDOR" software for its VaR calculations and

other aspects of market risk.

CHAPTER -4

LIMITATIONS
 LIMITATIONS OF THE STUDY

1. The major limitation of this study shall be data availability as the data is proprietary
and not readily shared for dissemination.

2. Due to the ongoing process of globalization and increasing competition, no one model
or method will suffice over a long period of time and constant up gradation will be
required. As such the project can be considered as an overview of the various risks
prevailing in Punjab National Bank and in the Banking Industry.

3. Each bank, in conforming to the RBI guidelines, may develop its own methods for
measuring and managing risk.

4. The concept of risk management implementation is relatively new and risk

management tools can prove to be costly.

5. Out of the various ways in which risks can be managed, none of the method is perfect
and may be very diverse even for the work in a similar situation for the future.

6. Due to ever changing environment , many risks are unexpected and the remedial
measures available are based on general experience from the past.

7. Selection of methods depends on the firms expectations as well as the risk appetite.
Also risks can only be minimized not completely erased.
CHAPTER -5
RESEARCH
METHODOLO
GY
Research Methodology

The design of any research project requires considerable attention to the research

methods and the proposed data analysis. Within this section, we have attempted to

provide some information about how to produce a research design for a study. We offer a

basic overview of the research methods portion of a research proposal and then some data

analysis templates for different types of designs. Our goal is not to answer every

question, but provide a head start.

Research Methods

The methods section of any proposal must address several fundamental design

components. The research method documents describes a number of components required

for a fundable proposal.

Data Analysis Methods

Data analysis methods vary considerably from and even within the types of research

designs. Some methods, such as single-subject designs, do not necessarily need a

statistical analysis to convey experimental control over the dependent variables. Most

“quantitative” designs, such as randomized trials and many quasi-experimental designs,

require statistical analysis. The statistical analysis templates cover quantitative methods

and include the following design and analysis combinations:

The methods section of any proposal must address several fundamental design

components. It helps to begin with a respecification of the research hypotheses. Then the

research methods must (a) outline the design and present a timeline, (b) describe

participant selection and recruitment, (c) explain the procedures for assignment to

condition and methods for experimental control, (d) describe the independent variable,

the intervention, (e) present the dependent variables or measures, (f) discuss data

collection and management procedures, (g) provide the data analysis strategy, including a

power analysis, if appropriate, and (h) address attrition and missing data.

Design and Timeline

The research design should include a general overview of the project. Consider this

section as an abstract of the methods portion of the proposal, with a few additions. This

section often include a figure that helps document when key events take place. These

events may include recruitment, assignment to condition, intervention activities,

assessments, and any other key features of the design that will help reviewers understand

the research plan.

Often designs falls into a standard category, and it helps to explain such designs in

standard terminology. Potential research designs include randomized controlled trials,

nonequivalent groups designs, single-condition designs, clustered trials, regression

discontinuity designs, single-subject trials, and so on. The details will vary substantially

by design type. For example, a randomized trial can range from a post-only design to a
longitudinal model with multiple assessments before, during, and after the intervention.

Similarly, single-subject research covers a wide range of designs.

Methodology of the Study

Primary Source : Interview by personal visiting to 30 banks employees of various banks

within the Patiala & Rajpura City.

(i) SBI, Patiala

(ii) Central Cooperative Bank, Patiala
(iii) SBOP, Rajpura
(iv) Dena Bank, Patiala
(v) OBC, Bank Patiala

Same Size =30

Secondary Sources of data

Here the secondary sources of information were used. The secondary sources are:

 Web sites
 Books
 DSE & SEC
 Different Business Publication & Notes

Analysis Tools : Analysis and interpretation through tables, Bar diagrams and pie
diagrams.
CHAPTER -6

ANAYLITICAL
DISCUSSION
 Analytical Discussion

 What is Risk?

"What is risk?" And what is a pragmatic definition of risk? Risk means different

things to different people. For some it is "financial (exchange rate, interest-call money

rates), mergers of competitors globally to form more powerful entities and not leveraging

IT optimally" and for someone else "an event or commitment which has the potential to

generate commercial liability or damage to the brand image". Since risk is accepted in

business as a trade off between reward and threat, it does mean that taking risk bring forth

benefits as well. In other words it is necessary to accept risks, if the desire is to reap the

anticipated benefits.

Risk in its pragmatic definition, therefore, includes both threats that can

materialize and opportunities, which can be exploited. This definition of risk is very

pertinent today as the current business environment offers both challenges and

opportunities to organizations, and it is up to an organization to manage these to their

competitive advantage.
  What is Risk Management - Does it eliminate risk?

Risk management is a discipline for dealing with the possibility that some future

event will cause harm. It provides strategies, techniques, and an approach to recognizing

and confronting any threat faced by an organization in fulfilling its mission. Risk

management may be as uncomplicated as asking and answering three basic questions:

1. What can go wrong?

2. What will we do (both to prevent the harm from occurring and in the aftermath of

an "incident")?

3. If something happens, how will we pay for it?

Risk management does not aim at risk elimination, but enables the organization to

bring their risks to manageable proportions while not severely affecting their income.

This balancing act between the risk levels and profits needs to be well-planned. Apart

from bringing the risks to manageable proportions, they should also ensure that one risk

does not get transformed into any other undesirable risk. This transformation takes place

due to the inter-linkage present among the various risks. The focal point in managing any

risk will be to understand the nature of the transaction in a way to unbundle the risks it is

exposed to.

Risk Management is a more mature subject in the western world. This is largely a

result of lessons from major corporate failures, most telling and visible being the Barings

collapse. In addition, regulatory requirements have been introduced, which expect

organizations to have effective risk management practices. In India, whilst risk

management is still in its infancy, there has been considerable debate on the need to

introduce comprehensive risk management practices.

 Objectives of Risk Management Function

Two distinct viewpoints emerge –

 One which is about managing risks, maximizing profitability and creating

opportunity out of risks

 And the other which is about minimising risks/loss and protecting corporate

assets.

The management of an organization needs to consciously decide on whether they

want their risk management function to 'manage' or 'mitigate' Risks.

 Managing risks essentially is about striking the right balance between risks and

controls and taking informed management decisions on opportunities and threats

facing an organization. Both situations, i.e. over or under controlling risks are

highly undesirable as the former means higher costs and the latter means possible

exposure to risk.

 Mitigating or minimising risks, on the other hand, means mitigating all risks even

if the cost of minimising a risk may be excessive and outweighs the cost-benefit

analysis. Further, it may mean that the opportunities are not adequately exploited.

In the context of the risk management function, identification and management of

Risk is more prominent for the financial services sector and less so for consumer products
industry. What are the primary objectives of your risk management function? When

specifically asked in a survey conducted, 33% of respondents stated that their risk

management function is indeed expressly mandated to optimise risk.

 Risks in Banking

Risks manifest themselves in many ways and the risks in banking are a result of

many diverse activities, executed from many locations and by numerous people. As a

financial intermediary, banks borrow funds and lend them as a part of their primary

activity. This intermediation activity, of banks exposes them to a host of risks. The

volatility in the operating environment of banks will aggravate the effect of the various

risks. The case discusses the various risks that arise due to financial intermediation and

by highlighting the need for asset-liability management; it discusses the Gap Model for

risk management.

 Typology of Risk Exposure

Based on the origin and their nature, risks are classified into various categories.

The most prominent financial risks to which the banks are exposed to taking into

consideration practical issues including the limitations of models and theories, human

factor, existence of frictions such as taxes and transaction cost and limitations on quality

and quantity of information, as well as the cost of acquiring this information, and more .
 FINANCIAL RISKS

MARKET LIQUIDITY OPERATIONAL HUMAN

RISK RISK FACTOR RISK
RISK

CREDIT RISK LEGAL & REGULATORY

RISK

FUNDING LIQUIDITY TRADING

RISK LIQUIDITY RISK

TRANSACTION PORTFOLIO
RISK CONCENTRATION

ISSUE RISK ISSUER RISK COUNTERPARTY RISK

EQUITY RISK INEREST CURRENCY COMMODITY

RATE RISK RISK RISK
 TRADING GAP RISK
RISK

1. MARKET RISK

Market risk is that risk that changes in financial market prices and rates will

reduce the value of the bank’s positions. Market risk for a fund is often measured relative

to a benchmark index or portfolio, is referred to as a “risk of tracking error” market risk

also includes “basis risk,” a term used in risk management industry to describe the chance

of a breakdown in the relationship between price of a product, on the one hand, and the

price of the instrument used to hedge that price exposure on the other. The market-Var

methodology attempts to capture multiple component of market such as directional risk,

convexity risk, volatility risk, basis risk, etc.

2. CREDIT RISK

Credit risk is that risk that a change in the credit quality of a counterparty will

affect the value of a bank’s position. Default, whereby a counterparty is unwilling or

unable to fulfill its contractual obligations, is the extreme case; however banks are also

exposed to the risk that the counterparty might downgraded by a rating agency.

Credit risk is only an issue when the position is an asset, i.e., when it exhibits a

positive replacement value. In that instance if the counterparty defaults, the bank either

loses all of the market value of the position or, more commonly, the part of the value that
it cannot recover following the credit event. However, the credit exposure induced by the

replacement values of derivative instruments are dynamic: they can be negative at one

point of time, and yet become positive at a later point in time after market conditions

have changed. Therefore the banks must examine not only the current exposure,

measured by the current replacement value, but also the profile of future exposures up to

the termination of the deal.

3. LIQUIDITY RISK

Liquidity risk comprises both

 Funding liquidity risk

 Trading-related liquidity risk.

Funding liquidity risk relates to a financial institution’s ability to raise the

necessary cash to roll over its debt, to meet the cash, margin, and collateral requirements

of counterparties, and (in the case of funds) to satisfy capital withdrawals. Funding

liquidity risk is affected by various factors such as the maturities of the liabilities, the

extent of reliance of secured sources of funding, the terms of financing, and the breadth

of funding sources, including the ability to access public market such as commercial

paper market. Funding can also be achieved through cash or cash equivalents, “buying

power ,” and available credit lines.

Trading-related liquidity risk, often simply called as liquidity risk, is the risk that

an institution will not be able to execute a transaction at the prevailing market price
because there is, temporarily, no appetite for the deal on the other side of the market. If

the transaction cannot be postponed its execution my lead to substantial losses on

position. This risk is generally very hard to quantify. It may reduce an institution’s ability

to manage and hedge market risk as well as its capacity to satisfy any shortfall on the

funding side through asset liquidation.

4. OPERATIONAL RISK

It refers to potential losses resulting from inadequate systems, management failure,

faulty control, fraud and human error. Many of the recent large losses related to

derivatives are the direct consequences of operational failure. Derivative trading is more

prone to operational risk than cash transactions because derivatives are, by heir nature,

leveraged transactions. This means that a trader can make very large commitment on

behalf of the bank, and generate huge exposure in to the future, using only small amount

of cash. Very tight controls are an absolute necessary if the bank is to avoid huge losses.

Operational risk includes” fraud,” for example when a trader or other employee

intentionally falsifies and misrepresents the risk incurred in a transaction. Technology

risk, and principally computer system risk also fall into the operational risk category.

5. LEGAL RISK

Legal risk arises for a whole of variety of reasons. For example, counterparty

might lack the legal or regulatory authority to engage in a transaction. Legal risks usually

only become apparent when counterparty, or an investor, lose money on a transaction and
decided to sue the bank to avoid meeting its obligations. Another aspect of regulatory risk

is the potential impact of a change in tax law on the market value of a position.

6. HUMAN FACTOR RISK

Human factor risk is really a special form of operational risk. It relates to the

losses that may result from human errors such as pushing the wrong button on a

computer, inadvertently destroying files, or entering wrong value for the parameter input

of a model.

7. INFORMATION TECHNOLOGY RELATED RISKS

Modern Banking totally depends upon IT system, such as online banking, credit

card, debit card , online transfer etc. There are various risk of IT sector such as Password

hacking, ATM embezzlement etc.

MARKET RISK

 What is Market Risk?

 Market Risk may be defined as the possibility of loss to a bank caused by changes

in the market variables. The Bank for International Settlements (BIS) defines market risk

as “the risk that the value of 'on' or 'off' balance sheet positions will be adversely affected

by movements in equity and interest rate markets, currency exchange rates and

commodity prices". Thus, Market Risk is the risk to the bank's earnings and capital due to

changes in the market level of interest rates or prices of securities, foreign exchange and

equities, as well as the volatilities of those changes. Besides, it is equally concerned about

the bank's ability to meet its obligations as and when they fall due. In other words, it

should be ensured that the bank is not exposed to Liquidity Risk. Thus, focus on the

management of Liquidity Risk and Market Risk, further categorized into interest rate risk,

foreign exchange risk, commodity price risk and equity price risk. An effective market

risk management framework in a bank comprises risk identification, setting up of limits

and triggers, risk monitoring, models of analysis that value positions or measure market

risk, risk reporting, etc.

 Types of market risk

 Interest rate risk:

Interest rate risk is the risk where changes in market interest rates might adversely

affect a bank's financial condition. The immediate impact of changes in interest rates is

on the Net Interest Income (NII). A long term impact of changing interest rates is on the
bank's networth since the economic value of a bank's assets, liabilities and off-balance

sheet positions get affected due to variation in market interest rates. The interest rate risk

when viewed from these two perspectives is known as 'earnings perspective' and

'economic value' perspective, respectively.

Management of interest rate risk aims at capturing the risks arising from the

maturity and repricing mismatches and is measured both from the earnings and economic

value perspective.

Earnings perspective involves analyzing the impact of changes in interest rates

on accrual or reported earnings in the near term. This is measured by measuring

the changes in the Net Interest Income (NII) or Net Interest Margin (NIM) i.e. the

difference between the total interest income and the total interest expense.

Economic Value perspective involves analyzing the changes of impact on

interest on the expected cash flows on assets minus the expected cash flows on

liabilities plus the net cash flows on off-balance sheet items. It focuses on the risk

to networth arising from all repricing mismatches and other interest rate sensitive

positions. The economic value perspective identifies risk arising from long-term

interest rate gaps.

The management of Interest Rate Risk should be one of the critical components of

market risk management in banks. The regulatory restrictions in the past had greatly

reduced many of the risks in the banking system. Deregulation of interest rates has,
however, exposed them to the adverse impacts of interest rate risk. The Net Interest

Income (NII) or Net Interest Margin (NIM) of banks is dependent on the movements of

interest rates. Any mismatches in the cash flows (fixed assets or liabilities) or repricing

dates (floating assets or liabilities), expose bank's NII or NIM to variations. The earning

of assets and the cost of liabilities are now closely related to market interest rate volatility

Generally, the approach towards measurement and hedging of IRR varies with the

segmentation of the balance sheet. In a well functioning risk management system, banks

broadly position their balance sheet into Trading and Banking Books. While the assets

in the trading book are held primarily for generating profit on short-term differences in

prices/yields, the banking book comprises assets and liabilities, which are contracted

basically on account of relationship or for steady income and statutory obligations and

are generally held till maturity. Thus, while the price risk is the prime concern of banks in

trading book, the earnings or economic value changes are the main focus of banking

book.

 Equity price risk:

The price risk associated with equities also has two components” General market

risk” refers to the sensitivity of an instrument / portfolio value to the change in the level

of broad stock market indices.” Specific / Idiosyncratic” risk refers to that portion of the

stock’s price volatility that is determined by characteristics specific to the firm, such as its

line of business, the quality of its management, or a breakdown in its production process.
The general market risk cannot be eliminated through portfolio diversification while

specific risk can be diversified away.

 Foreign exchange risk:

Foreign Exchange Risk maybe defined as the risk that a bank may suffer losses as

a result of adverse exchange rate movements during a period in which it has an open

position, either spot or forward, or a combination of the two, in an individual foreign

currency. The banks are also exposed to interest rate risk, which arises from the maturity

mismatching of foreign currency positions. Even in cases where spot and forward

positions in individual currencies are balanced, the maturity pattern of forward

transactions may produce mismatches. As a result, banks may suffer losses as a result of

changes in premia/discounts of the currencies concerned.

In the forex business, banks also face the risk of default of the counterparties or

settlement risk. While such type of risk crystallization does not cause principal loss,

banks may have to undertake fresh transactions in the cash/spot market for replacing the

failed transactions. Thus, banks may incur replacement cost, which depends upon the

currency rate movements. Banks also face another risk called time-zone risk or Herstatt

risk which arises out of time-lags in settlement of one currency in one center and the

settlement of another currency in another time-zone. The forex transactions with

counterparties from another country also trigger sovereign or country risk (dealt with in

details in the guidance note on credit risk).

 The three important issues that need to be addressed in this regard are:

1. Nature and magnitude of exchange risk

2. Exchange managing or hedging for adopted be to strategy>

3. The tools of managing exchange risk

 Commodity price risk:

The price of the commodities differs considerably from its interest rate risk and

foreign exchange risk, since most commodities are traded in the market in which the

concentration of supply can magnify price volatility. Moreover, fluctuations in the depth

of trading in the market (i.e., market liquidity) often accompany and exacerbate high

levels of price volatility. Therefore, commodity prices generally have higher volatilities

and larger price discontinuities.

Risk Mangement of Market Risk in the Proposed Basel Capital Accord

The Basle Committee on Banking Supervision (BCBS) had issued comprehensive

guidelines to provide an explicit capital cushion for the price risks to which banks are

exposed, particularly those arising from their trading activities. The banks have been

given flexibility to use in-house models based on VaR for measuring market risk as an

alternative to a standardized measurement framework suggested by Basle Committee.

The internal models should, however, comply with quantitative and qualitative criteria

prescribed by Basle Committee.

 Reserve Bank of India has accepted the general framework suggested by the Basle

Committee. RBI has also initiated various steps in moving towards prescribing capital for

market risk. As an initial step, a risk weight of 2.5% has been prescribed for investments

in Government and other approved securities, besides a risk weight each of 100% on the

open position limits in forex and gold. RBI has also prescribed detailed operating

guidelines for Asset-Liability Management System in banks. As the ability of banks to

identify and measure market risk improves, it would be necessary to assign explicit

capital charge for market risk. While the small banks operating predominantly in India

could adopt the standardized methodology, large banks and those banks operating in

international markets should develop expertise in evolving internal models for

measurement of market risk.

The Basle Committee on Banking Supervision proposes to develop capital charge

for interest rate risk in the banking book as well for banks where the interest rate risks are

significantly above average ('outliers'). The Committee is now exploring various

methodologies for identifying 'outliers' and how best to apply and calibrate a capital

charge for interest rate risk for banks. Once the Committee finalizes the modalities, it

may be necessary, at least for banks operating in the international markets to comply with

the explicit capital charge requirements for interest rate risk in the banking book. As the

valuation norms on banks' investment portfolio have already been put in place and

aligned with the international best practices, it is appropriate to adopt the Basel norms on

capital for market risk. In view of this, banks should study the Basel framework on
capital for market risk as envisaged in Amendment to the Capital Accord to incorporate

market risks published in January 1996 by BCBS and prepare themselves to follow the

international practices in this regard at a suitable date to be announced by RBI.

The Proposed New Capital Adequacy Framework

The Basel Committee on Banking Supervision has released a Second Consultative

Document, which contains refined proposals for the three pillars of the New Accord -

Minimum Capital Requirements, Supervisory Review and Market Discipline. It may be

recalled that the Basel Committee had released in June 1999 the first Consultative Paper

on a New Capital Adequacy Framework for comments. However, the proposal to

provide explicit capital charge for market risk in the banking book which was included in

the Pillar I of the June 1999 Document has been shifted to Pillar II in the second

Consultative Paper issued in January 2001. The Committee has also provided a technical

paper on evaluation of interest rate risk management techniques. The Document has

defined the criteria for identifying outlier banks. According to the proposal, a bank may

be defined as an outlier whose economic value declined by more than 20% of the sum of

Tier 1 and Tier 2 capital as a result of a standardized interest rate shock (200 bps.)

The second Consultative Paper on the New Capital Adequacy framework issued in

January, 2001 has laid down 13 principles intended to be of general application for the

management of interest rate risk, independent of whether the positions are part of the

trading book or reflect banks' non-trading activities. They refer to an interest rate risk

management process, which includes the development of a business strategy, the

assumption of assets and liabilities in banking and trading activities, as well as a system

of internal controls. In particular, they address the need for effective interest rate risk

measurement, monitoring and control functions within the interest rate risk management

process. The principles are intended to be of general application, based as they are on

practices currently used by many international banks, even though their specific

application will depend to some extent on the complexity and range of activities

undertaken by individual banks. Under the New Basel Capital Accord, they form

minimum standards expected of internationally active banks. The principles are given in

Annexure II.

CREDIT RISK

What is Credit Risk?

Credit risk is defined as the possibility of losses associated with diminution in the

credit quality of borrowers or counterparties. In a bank's portfolio, losses stem from

outright default due to inability or unwillingness of a customer or counterparty to meet

commitments in relation to lending, trading, settlement and other financial transactions.

Alternatively, losses result from reduction in portfolio value arising from actual or

perceived deterioration in credit quality. Credit risk emanates from a bank's dealings with

an individual, corporate, bank, financial institution or a sovereign. Credit risk may take

the following forms

 In the case of direct lending: principal/and or interest amount may not be repaid;
  In the case of guarantees or letters of credit: funds may not be forthcoming from

the constituents upon crystallization of the liability;

 In the case of treasury operations: the payment or series of payments due from the

counter parties under the respective contracts may not be forthcoming or ceases;

 In the case of securities trading businesses: funds/ securities settlement may not be

effected;

 In the case of cross-border exposure: the availability and free transfer of foreign

currency funds may either cease or the sovereign may impose restrictions.

Types of Credit Rating

Credit rating can be classified as:

1. External credit rating.

2. Internal credit rating

External credit rating:

A credit rating is not, in general, an investment recommendation concerning a

given security. In the words of S&P,” A credit rating is S&P's opinion of the general

creditworthiness of an obligor, or the creditworthiness of an obligor with respect to a

particular debt security or other financial obligation, based on relevant risk factors.” In

Moody's words, a rating is, “ an opinion on the future ability and legal obligation of an
issuer to make timely payments of principal and interest on a specific fixed-income

security.”

Since S&P and Moody's are considered to have expertise in credit rating and are

regarded as unbiased evaluators, there ratings are widely accepted by market participants

and regulatory agencies. Financial institutions, when required to hold investment grade

bonds by their regulators use the rating of credit agencies such as S&P and Moody's to

determine which bonds are of investment grade.

The subject of credit rating might be a company issuing debt obligations. In the

case of such “issuer credit ratings” the rating is an opinion on the obligor’s overall

capacity to meet its financial obligations. The opinion is not specific to any particular

liability of the company, nor does it consider merits of having guarantors for some of the

obligations. In the issuer credit rating categories are

a) Counterparty ratings

b) Corporate credit ratings

c) Sovereign credit ratings

The rating process includes quantitative, qualitative, and legal analyses. The

quantitative analyses. The quantitative analysis is mainly financial analysis and is based

on the firm’s financial reports. The qualitative analysis is concerned with the quality of

management, and includes a through review of the firm’s competitiveness within its

industry as well as the expected growth of the industry and its vulnerability to

technological changes, regulatory changes, and labor relations.

Internal credit rating:

A typical risk rating system (RRS) will assign both an obligor rating to each

borrower (or group of borrowers), and a facility rating to each available facility. A risk

rating (RR) is designed to depict the risk of loss in a credit facility. A robust RRS should

offer a carefully designed, structured, and documented series of steps for the assessment

of each rating.

The following are the steps for assessment of rating:

a) Objectivity and Methodology:

The goal is to generate accurate and consistent risk rating, yet also to allow

professional judgment to significantly influence a rating where it is appropriate. The

expected loss is the product of an exposure (say, Rs. 100) and the probability of default

(say, 2%) of an obligor (or borrower) and the loss rate given default (say, 50%) in any

specific credit facility. In this example,

The expected loss = 100*.02*.50 = Rs. 1

A typical risk rating methodology (RRM)

a. Initial assign an obligor rating that identifies the expected probability of default

by that borrower (or group) in repaying its obligations in normal course of

business.
 b. The RRS then identifies the risk loss (principle/interest) by assigning an RR to

each individual credit facility granted to an obligor.

The obligor rating represents the probability of default by a borrower in repaying

its obligation in the normal course of business. The facility rating represents the expected

loss of principal and/ or interest on any business credit facility. It combines the likelihood

of default by a borrower and conditional severity of loss, should default occur, from the

credit facilities available to the borrower.

Credit Risk Management

In this backdrop, it is imperative that banks have a robust credit risk management

system which is sensitive and responsive to these factors. The effective management of

credit risk is a critical component of comprehensive risk management and is essential for

the long term success of any banking organization. Credit risk management encompasses

identification, measurement, monitoring and control of the credit risk exposures.

Building Blocks of Credit Risk Management:

In a bank, an effective credit risk management framework would comprise of the

following distinct building blocks:

 Policy and Strategy

 Organizational Structure

 Operations/ Systems

Policy and Strategy

 The Board of Directors of each bank shall be responsible for approving and

periodically reviewing the credit risk strategy and significant credit risk policies.

Credit Risk Policy

1. Every bank should have a credit risk policy document approved by the Board. The

document should include risk identification, risk measurement, risk grading/

aggregation techniques, reporting and risk control/ mitigation techniques,

documentation, legal issues and management of problem loans.

2. Credit risk policies should also define target markets, risk acceptance criteria,

credit approval authority, credit origination/ maintenance procedures and

guidelines for portfolio management.

3. The credit risk policies approved by the Board should be communicated to

branches/controlling offices. All dealing officials should clearly understand the

bank's approach for credit sanction and should be held accountable for complying

with established policies and procedures.

4. Senior management of a bank shall be responsible for implementing the credit risk

policy approved by the Board.

Credit Risk Strategy

1. Each bank should develop, with the approval of its Board, its own credit risk

strategy or plan that establishes the objectives guiding the bank's credit-granting
 activities and adopt necessary policies/ procedures for conducting such activities.

This strategy should spell out clearly the organization’s credit appetite and the

acceptable level of risk-reward trade-off for its activities.

2. The strategy would, therefore, include a statement of the bank's willingness to

grant loans based on the type of economic activity, geographical location,

currency, market, maturity and anticipated profitability. This would necessarily

translate into the identification of target markets and business sectors, preferred

levels of diversification and concentration, the cost of capital in granting credit and

the cost of bad debts.

3. The credit risk strategy should provide continuity in approach as also take into

account the cyclical aspects of the economy and the resulting shifts in the

composition/ quality of the overall credit portfolio. This strategy should be viable

in the long run and through various credit cycles.

4. Senior management of a bank shall be responsible for implementing the credit risk

strategy approved by the Board.

Organizational Structure

Sound organizational structure is sine qua non for successful implementation of an

effective credit risk management system. The organizational structure for credit risk

management should have the following basic features:

 1. The Board of Directors should have the overall responsibility for management of

risks. The Board should decide the risk management policy of the bank and set

limits for liquidity, interest rate, foreign exchange and equity price risks.

The Risk Management Committee will be a Board level Sub committee including

CEO and heads of Credit, Market and Operational Risk Management Committees. It will

devise the policy and strategy for integrated risk management containing various risk

exposures of the bank including the credit risk. For this purpose, this Committee should

effectively coordinate between the Credit Risk Management Committee (CRMC), the

Asset Liability Management Committee and other risk committees of the bank, if any. It

is imperative that the independence of this Committee is preserved. The Board should,

therefore, ensure that this is not compromised at any cost. In the event of the Board not

accepting any recommendation of this Committee, systems should be put in place to spell

out the rationale for such an action and should be properly documented. This document

should be made available to the internal and external auditors for their scrutiny and

comments. The credit risk strategy and policies adopted by the committee should be

effectively

RBI Guidelines on Credit Risk New Capital Accord: Implications for Credit Risk
Management
The Basel Committee on Banking Supervision had released in June 1999 the first

Consultative Paper on a New Capital Adequacy Framework with the intention of

replacing the current broad-brush 1988 Accord. The Basel Committee has released a
Second Consultative Document in January 2001, which contains refined proposals for the

three pillars of the New Accord - Minimum Capital Requirements, Supervisory Review

and Market Discipline.

The Committee proposes two approaches, for estimating regulatory capital. viz.,

1. Standardized and

2. Internal Rating Based (IRB)

Under the standardized approach, the Committee desires neither to produce a net

increase nor a net decrease, on an average, in minimum regulatory capital, even after

accounting for operational risk. Under the Internal Rating Based (IRB) approach, the

Committee's ultimate goals are to ensure that the overall level of regulatory capital is

sufficient to address the underlying credit risks and also provides capital incentives

relative to the standardized approach, i.e., a reduction in the risk weighted assets of 2% to

3% (foundation IRB approach) and 90% of the capital requirement under foundation

approach for advanced IRB approach to encourage banks to adopt IRB approach for

providing capital.

The minimum capital adequacy ratio would continue to be 8% of the risk-

weighted assets, which cover capital requirements for market (trading book), credit and

operational risks. For credit risk, the range of options to estimate capital extends to

include a standardized, a foundation IRB and an advanced IRB approaches.

 OPERATIONAL RISK

What is Operational Risk?

Operational risk is the risk associated with operating a business. Operational risk covers

such a wide area that it is useful to subdivide operational risk into two components:

 Operational failure risk.

 Operational strategic risk.

Operational failure risk arises from the potential for failure in the course of

operating the business. A firm uses people, processes and technology to achieve the
business plans, and any one of these factors may experience a failure of some kind.

Accordingly, operational failure risk can be defined as the risk that there will be a failure

of people, processes or technology within the business unit. A portion of failure may be

anticipated, and these risks should be built into the business plan. But it is unanticipated,

and therefore uncertain, failures that give rise to key operational risks. These failures can

be expected to occur periodically, although both their impact and their frequency may be

uncertain.

The impact or severity of a financial loss can be divided into two categories:

 An expected amount

 An unexpected amount.

The latter is itself subdivided into two classes: an amount classed as severe, and a

catastrophic amount. The firm should provide for the losses that arise from the expected

component of these failures by charging expected revenues with a sufficient amount of

reserves. In addition, the firm should set aside sufficient economic capital to cover the

unexpected component, or resort to insurance.

Operational Risk

Operational failure risk (Internal Operational strategic risk

operational risk) (External operational risk)

The risk encountered in pursuit of The risk of choosing an

a particular strategy due to: inappropriate strategy in
response to environmental factor,
such as
 People
 Process
 Technology  Political
 Taxation
The figure above summarizes the relationship between operational failure risk and

operational strategic risk. These two principal categories of risk are also sometimes

defined as “internal” and “ external” operational risk.

Operational risk is often thought to be limited to losses that can occur in operating

or processing centers. This type of operational risk, sometimes referred as operations risk,

is an important component, but it by no means covers all of the operational risks facing

the firm. Our definition of operational risk as the risk associated with operating the

business means significant amounts of operational risk are also generated outside the

processing centers.

Risk begins to accumulate even before the design of the potential transaction gets

underway. It is present during negotiations with the client (regardless of whether the
negotiation is a lengthy structuring exercise or a routine electronic negotiation.) and

continues after the negotiation as the transaction is serviced.

A complete picture of operational risk can only be obtained if the bank’s activity is

analyzed from beginning to end. Several things have to be in place before a transaction is

negotiated, and each exposes the firm to operational risk. The activity carried on behalf of

the client by the staff can expose the institution to “people risk”. “People risk” are not

only in the form of risk found early in a transaction. But they further rely on using

sophisticated financial models to price the transaction. This creates what is called as

Model risk which can arise because of wrong parameters like input to the model, or

because the model is used inappropriately and so on.

Once the transaction is negotiated and a ticket is written, errors can occur as the

transaction is recorded in various systems or reports. An error here may result in the

delayed settlement of the transaction, which in turn can give rise to fines and other

penalties. Further an error in market risk and credit risk report might lead to the

exposures generated by the deal being understated. In turn this can lead to the execution

of additional transactions that would otherwise not have been executed. These are

examples of what is often called as “process risk”

The system that records the transaction may not be capable of handling the

transaction or it may not have the capacity to handle such transactions. If any one of the

step is out-sourced, then external dependency risk also arises. However, each type of risk
can be captured either as people, processes, technology, or an external dependency risk,

and each can be analyzed in terms of capacity, capability or availability

Who Should Manage Operational Risk?

The responsibility for setting policies concerning operational risk remains with the

senior management, even though the development of those policies may be delegated,

and submitted to the board of directors for approval. Appropriate policies must be put in

place to limit the amount of operational risk that is assumed by an institution. Senior

management needs to give authority to change the operational risk profile to those who

are the best able to take action. They must also ensure that a methodology for the timely

and effective monitoring of the risks that are incurred is in place. To avoid any conflict of

interest, no single group within the bank should be responsible for simultaneously setting

policies, taking action and monitoring risk.

Internal Audit

Senior Management

Business Management Risk Management

Legal Insurance
 Operations Finance

Information
Technology

Key to Implementing Bank-wide Operational Risk Management:

The eight key elements are necessary to successfully implement a bank-wide

operational risk management framework. They involve setting policy and identifying risk

as an outgrowth of having designed a common language, constructing business process

maps, building a best measurement methodology, providing exposure management,

installing a timely reporting capability, performing risk analysis inclusive of stress

testing, and allocating economic capital as a function of operational risk.

EIGHT KEY ELEMENTS TO ACHIEVE BEST OPERATIONAL RISK

MANAGEMENT.

1. Policy

2.Risk Identification
 8. Economic Capital

7. Risk Analysis 3. Business Process

Best Practice

6. Reporting
4. Measuring Methodology

5. Exposure Management

1. Develop well-defined operational risk policies. This includes explicitly articulating

the desired standards for the risk measurement. One also needs to establish clear

guidelines for practices that may contribute to a reduction of operational risk.

2. Establish a common language of risk identification. For e.g., the term “people

risk” includes a failure to deploy skilled staff. “Technology risk” would include

system failure, and so on.

3. Develop business process maps of each business. For e.g., one should create

an “operational risk catalogue” which categories and defines the various

operational risks arising from each organizational unit in terms of people,

process, and technology risk. This catalogue should be tool to help with

operational risk identification and assessment.

Types of Operational Failure Risk

1. People Risk 1. Incompetency.
 2. Fraud.
2. Process Risk

 Model Risk 1. Model/ methodology error

2. Mark-to-model error.

 TR 1. Execution error.

2. Product complexity.

3. Booking error.

 OCR 4. Settlement error.

1. Exceeding limits.

2. Security risk.

3.Volume risk.
3. Technology Risk 1. System failure.

2. Programming error.

3. Information risk.

4. Telecommunications failure.

4. Develop a comprehensible set of operational risk metrics. Operational risk

assessment is a complex process. It needs to be performed on a firm-wide basis at

regular intervals using standard metrics. In early days, business and infrastructure

groups performed their own assessment of operational risk. Today, self-assessment

has been discredited. Sophisticated financial institutions are trying to develop

objective measures of operational risk that build significantly more reliability into

the quantification of operational risk.

 5. Decide how to manage operational risk exposure and take appriate action to hedge

the risks. The bank should address the economic question of th cost-benefit of

insuring a given risk for those operational risks that can be insured.

6. Decide how to report exposure.

7. Develop tools for risk analysis, and procedures for when these tools should

developed. For e.g., risk analysis is typically performed as part of a new product

process, periodic business reviews, and so on. Stress testing should be a standard

part of risk analysis process. The frequency of risk assessment should be a

function of the degree to which operational risks are expected to change over time

as businesses undertake new initiatives, or as business circumstances evolve. This

frequency might be reviewed as operational risk measurement is rolled out across

the bank a bank should update its risk assessment more frequently. Further one

should reassess whenever the operational risk profile changes significantly.

8. Develop techniques to translate the calculation of operational risk into a required

amount of economic capital. Tools and procedures should be developed to enable

businesses to make decisions about operational risk based on risk/reward analysis.

Four-Step Measurement Process For Operational Risk

Clear guiding principle for the operational risk measurement process should be set

to ensure that it provides an appropriate measure of operational risk across all business

units throughout the bank. This problem of measuring operational risk can be best

achieved by means of a four-step operational risk process. The following are the four

steps involved in the process:

 1. Input.

2. Risk assessment framework.

3. Review and validation.

4. Output.

1. Input:

The first step in the operational risk measurement process is to gather the

information needed to perform a complete assessment of all significant operational risks.

A key source of this information is often the finished product of other groups. For

example, a unit that supports the business group often publishes report or documents that

may provide an excellent starting point for the operational risk assessment.

Sources of Information in the Measurement Process of Operational Risk :The

Inputs (for Assessment)

Likelihood of Occurrence Severity

 Audit report  Management interviews

 Regulatory report  Loss history
 Management report
 Expert opinion
 Business Recovery Plan
 Business plans
 Budget plans
 Operations plans
 For example, if one is relying on audit documents as an indication of the degree of

control, then one needs to ask if the audit assessment is current and sufficient. Have there

been any significant changes made since the last audit assessment? Did the audit scope

include the area of operational risk that is of concern to the present risk assessment? As

one diligently works through available information, gaps often become apparent. These

gaps in the information often need to be filled through discussion with the relevant

managers.

Typically, there are not sufficient reliable historical data available to confidently

project the likelihood or severity of operational losses. One often needs to rely on the

expertise of business management, until reliable data are compiled to offer an assessment

of the severity of the operational failure for each of the risks. The time frame employed

for all aspects of the assessment process is typically one year. The one-year time horizon

is usually selected to align with the business planning cycle of the bank.

2. Risk Assessment Framework

The input information gathered in the above step needs to be analyzed and

processed through the risk assessment framework. Risk assessment framework includes:

1. Risk categories:
The operational risk can be broken down into four headline risk categories like the

risk of unexpected loss due to operational failure in people, process and technology

deployed within the business

Internal dependencies should each be reviewed according to a set of factors. We

examine these 9nternal dependencies according to three key components of capability,

capacity and availability.

External dependencies can also be analyzed in terms of the specific type of external

interaction.

2. Connectivity and interdependencies

The headline risk categories cannot be viewed in isolation from one another. One

needs to examine the degree of interconnected risk exposures that cut across the

headline operational risk categories, in order to understand the full impact of risk.

3. Change, complexity, compliancy:

One may view the sources that drive the headline risk categories as falling under the

broad categories of “Change” refers to such items as introducing new technology or

new products, a merger or acquisition, or moving from internal supply to outsourcing,

etc. “Complexity’ refers to such items as complexity of products, process or

technology. “ Complacency” refer to ineffective management of the business.

4. Net likelihood assessment

The likelihood that an operational failure might occur within the next year should be

assessed, net of risk mitigants such as insurance, for each identified risk exposure and

for each of the four headline risk categories. Since it is often unclear how to quantify

risk, this assessment can be rated along five point likelihood continuum from very

low, low, medium, high and very high.

5. Severity assessment

Severity describes the potential loss to the bank given that an operational risk failure

has occurred. It should be assessed for each identified risk exposure.

6. Combined likelihood and severity into the overall Operational Risk Assessment

Operational risk measures are constrained in that there is not usually a defensible way

to combine the individual likelihood of loss and severity assessments into overall

measure of operational risk within a business unit. To do so, the likelihood of loss

would need to be expressed in numerical terms. This cannot be accomplished without

statistically significant historical data on operational losses.

7. Defining Cause and Effect:

Loss data are easier to collect than data associated with the cause of loss. This

complicates the measurement of operational risk because each loss is likely to have

several causes. This relationship between these causes, and the relative importance of

each, can be difficult to assess in an objective fashion.

3. Review and validation:

 Once the report is generated. First the centralised operational risk management

group (ORMG) reviews the assessment results with senior business unit management and

key officers, in order to finalize the proposed operational risk rating. Second, one may

want an operational risk rating committee to review the assessment – a validation process

similar to that followed by credit rating agencies. This takes the form of review of the

individual risk assessments by knowledgeable senior committee personnel to ensure that

the framework has been consistently applied across businesses, that there has been

sufficient scrutiny to remove any imperfections, and so on. The committee should have

representation from business management, audit, and functional areas, and be chaired by

risk management unit.

4. Output

The final assessment of operational risk will be formally reported to business

management, the centralised risk-adjusted return on capital (RAROC) group, and the

partners in corporate governance such as internal audit and compliance. The output of the

assessment process has two main uses:

1. The assessment provides better operational risk information to management for

use in improving risk management decisions.

2. The assessment improves the allocation of economic capital to better reflect the

extent of the operational riskier, being taken by a business unit.

Mitigation Techniques:

The Bank is required to have a system for monitoring the over all composition and

quality of the various portfolios since credit related problems in banks is concentration

within the credit portfolio. It can take many forms and can arise whenever a significant

number of credits have similar risk characteristics. Also the Bank will not necessarily

forego booking sound credits solely on the basis of concentration. Bank may use

alternatives to reduce or mitigate concentration. Such measures will include

a. pricing for additional risk,

b. increased holdings of capital to compensate for the additional risk,
c. making use of loan participation in order to reduce dependency on a particular

sector of economy or group of related borrowers

d. Fixing exposure limits for borrowers and for various industrial sectors
e. Collateral security in addition to main securities stipulating asset coverage ratio on

case to case basis

f. Personal Guarantees / Corporate Guarantees having reasonable networth
g. Escrow mechanism for meeting the financial commitments on time

Other additional mechanisms such as loan sales, credit derivatives, securitization

programs and other secondary markets also have been suggested by RBI.
 An Idealized Bank Of The Future

The efficient bank of the future will be driven by a single analytical risk engine

that draws its data from a single logical data repository. This engine will power front-,

middle-, and back-office functions, and supply information about enterprise-wide risk.

The ability to control and manage risk will be finely tuned to meet specific business

objectives. For example, far fewer significantly large losses, beyond a clearly articulate

tolerance for loss, will be incurred and the return to risk profile will be vastly improved.

With the appropriate technology in place, financial trading across all asset classes

will move from the current vertical, product-oriented environment (e.g., swaps, foreign

exchange, equities, loans, etc.) to a horizontal, customer-oriented environment in which

complex combinations of asset types will be traded.

There will be less need for desks that specialize in single product lines. The focus

will shift to customer needs rather than instrument types. The management of limits will

be based on capital, set in such a manner so as to maximize the risk-adjusted return on

capital for the firm.

The firm’s exposure will be known and disseminated in real time. Evaluating the

risk of a specific deal will take into account its effect on the firm’s total risk exposure,

rather than simply the exposure of the individual deal.

Banks that dominate this technology will gain a tremendous competitive

advantage. Their information technology and trading infrastructure will be cheaper than
today’s by orders of magnitude. Conversely, banks that attempt to build this infrastructure

in-house will become trapped in a quagmire of large, expensive IT departments-and

poorly supported software.

The successful banks will require far fewer risk systems. Most of which will be

based on a combination of industry standard, reusable, robust risk software and highly

sophisticated proprietary analytics. More importantly, they will be free to focus on their

core business and offer products more directly suited to their customers’ desired return to

risk profiles.
CHAPTER -7

DATA
ANALYSIS
 Data Analysis
Table 1.1 Most Occurring risk in bank ?
Risks Respondent
Credit Risk 8
Market Risk 9
Operational Risk 6
Information Technology Risk 7

Interpretation : It is clear from the above diagram and table according to bank

employees Marketing risk is most occurring risk in banking sector e.g 9 person out of 30

admit that they face market risk most frequently as compare to any other risk and after

that 8 persons says credit risk is most occurring risk.

Table 1.2 Awareness regarding Risk Management ?
Response Respondent
Yes 27
No 3

Interpretation: It is clear from the above diagram and table that 27 persons out of total

30 bank employees are familiar towards the concept of risk management and there are

only 3 employees who said that they are not much aware from the concept of concept of

Risk Management.

Table 1.3 Is there any Risk Management Committee in the Bank ?

Response Respondent
Yes 19
No 11

Interpretation: It is clear from the above diagram that 19 out of 30 Bank employees

said that there is some kind of committee in the bank which is responsible for risk

management situations in the bank and 11 bank employees said that they are not aware

about such kind of committee.

Table 1.4 Which Risk Management Committee in existing in the Bank?

RMC Respondent
CRMC 12
ALMC 2
ORMC 5
Non of the above 10
All of the above 1

Interpretation: Maximum no. of employees said that there is Credit Risk Management

Committee in their bank i.e. 12 persons out of 30 was agreed with it and another major

part of employees said that there is no such committee in their bank and 1 person was

such who said that they have all the risk management committees in their bank.

Table 1.5 Necessity Risk Management Committee in Bank ?

Response Respondent
Agree 4
Strongly Agree 22
Disagree 4
Strongly Disagree 0
 Interpretation: It is clear from the above diagram and table that 22 bank employees

strongly agreed with the fact that a risk management committee is very much necessary

in the bank and another 4 bank employees also admit the fact. There are only 4 such

persons which were not agree with it.

Table 1.6 Risk Management can prevent the bank from huge risks ?
Response Respondent
Agree 2
Strongly Agree 26
Disagree 2
Strongly Disagree 0
 Interpretation: Maximum no. of employees said that proper risk management can

prevent the bank from huge losses i.e. 26 persons out of 30 strongly admit the fact and

another 2 bank employees were also agreed .

Table 1.7 Main Functional area of Risk Management adopted by Bank ?

Practices Respondent
Risks that can be eliminated by simple business practices 7
Risks that can be transferred (e.g. Insurance Policy) 6
Risks that can be actively managed at the Bank Level 17
 Interpretation: The above diagram shows that maximum bank employees said that

instead of transferring the risk on other factors risks can be actively managed at bank

level e.g. 17 employees from the sample of 30 employees admit this fact .

Table 1.8 RBI policies force any impact on Risk Management Tools ?
Practices Respondent
Yes 30
No 0
 Interpretation: Above diagram and table explains that every bank employee admit that

policies and directions issued by Reserve Bank of India plays an vital role in the filed of

risk management . 30 out 30 employees admit this concept.

Table 1.9 is there any risk from IT Sector ?

Practices Respondent
Yes 26
No 4
 Interpretation: Maximum no. of employees said that there is risk from IT sector . 26

Employees admit the fact that the modern banking practices completely depends upon IT

sector and they also admit that there are various risk from the IT sector and there are only

4 persons which are not agree from the above fact.

Table 1.10 Which of the following Risk occurred most in your bank from IT sector ?
Practices Respondent
Password Hacking 2
ATM Embezzlement 3
Technical Failure 12
Server End Problems 13
 Interpretation: It is clear from the above diagram that maximum employees have the

view that the major IT problem is the problems from the IT sector 4 persons who earlier

said that there is no risk from IT sector they also admit the server end problem and 12

persons says that there are some Technical problems.

Table 1.11 Risk Management for IT Sector ?

Risk Management Respondent
Multi Point Security Check at Server End 1
Double Security Check for Online Transactions 12
It Staff consisting of software & Network experts 13
Anti Hacking developed software 4
 Interpretation: 13 persons out of total 30 admit that there should be proper IT staff

which will be responsible of IT sector problems such as ATM embezzlements, Password

Hacking etc.

Table 1.12 Steps adopted for credit risk management ?

Steps Respondent
Double Reliable Grunter requirements 8
Lending on Gold basis 10
On the basis of mortgage of Registry or any other security 12
 Interpretation: 12 persons out 30 admit that credit or loan should be given on the basis

of mortgage of registry on any other security and 10 persons said that loan is provided on

Gold basis only and 8 Bank employees said that Grunter should be some reliable person.

Table 1.13 Steps adopted for Market risk management ?

Steps Respondent
Adopting open position limit fro Forex & Gold 3
Guidelines Issued by RBI 12
Provisions of Basle Committee on Management of Market Risk 11
Others 4
 Interpretation: Above diagram explains that guidelines issued by RBI plays and

important role in market risk management and Provisions of Basle Committee is also

helpful in market risk management.

Table 1.14 Steps adopted for Operational risk management ?

Steps Respondent
Relationship Management phase 6
Transaction Management Phase 7
Portfolio Management Phase 4
Various Monitoring Procedures 3
Establish Proactive Risk Management Practices 10
 Interpretation: 10 employees viewed that bank should establish proactive risk

management practices to manage operational risk and 7 said that there should proper

control transactions and other have the view that relationship management should be

strengthen.

Table 1.15 Risk Management Can save lot of funds of the Bank ?
Steps Respondent
Agree 30
Disagree 0
Interpretation: Every bank employee admit that proper and efficient risk management

can able to save the lot of funds of the bank and hence it is an necessary to adopt proper

risk management committees in the bank.

 CHAPTER -8

FINDINGS

Findings

1. It is found that there are various types of risks which are faced by bank but there are
four major risks such as, Market Risk, Credit Risk, Operational Risk and IT sector
risks.
2. It is clear from the study that there are various kinds of risk management
committiees and every bank employee admit that there is necesity of risk
management committee in the bank .
3. The study expains that various kinds of risk can be handle with the different types of
risk management committies as per the situation of the risk.
4. It is also found that huge risk can handle or avoided with the help of proper risk
management.
5. It is also found that there is direct relation between saving of funds and risk
management it clear from the above study that almost 100% bank employees admit
that bank can save lots of fund with the help of proper and efficent risk management
in the bank.
6. It is found that Guidelines and policies issued by the Reserve Bank of India plays
and important role in the field of Risk Management.
 CHAPTER -9

CONCLUSION

Conclusion
It is clear from the above discussion that Risk Management plays an important role in

banking sector. There is direct relation between saving of funds and risk management.
Risk management can prevent banking sector from various risk such as market risk,

operational risk, credit risk and information technology sector risk. A proper Risk

Management Committee is necessary in banking sector to avoid such kind of risks. It is

also concluded from the above discussion that directions and guidelines issued by

Reserve bank of India plays a vital role the Risk Management concept. At last it can be

concluded that proper growth, development and performance of banking sector of India

highly depends upon the factor that how they overcome from their risk or how they

manage various risk from their level and for this Risk Management plays very Important

role and it can be said that the scope of risk management is very bright as essential part of

banking sector
CHAPTER -10

BIBLIOGRAPHY
 Bibliography

 Principles of Risk Management and Insurance (12th Edition) (Pearson Series

in Finance) by George E. Rejda and Michael McNamara(Mar 9, 2013)

 Risk Management and Financial Institutions, Web Site by Hull (Apr 12,

2012)

 Credit Risk Modeling using Excel and VBA by Gunter Löeffler and Peter N.

Posch (Jan 31, 2011)

 The Essentials of Risk Management, Second Edition by Crouhy, Michel,

Galai, Dan and Mark, Robert (Dec 17, 2013)

 http://en.wikipedia.org/wiki/Risk_management_in_Indian_banks
 Questionnaire

Name : ______________________________________
Age : ______________________________________
gender : male female
Designation : ______________________________________
Area of activity :_______________________________________
Q 1. Which is the most occurring risk in your bank ?

1. Credit Risk
2. Market Risk
3. Operational Risk
4. Information Technology Risk

Q2. Are you aware about the concept of Risk Management ?

Yes No

Q3. Is there is any Risk Management Committee in Your Bank ?

Yes No

Q4. If Yes then which of the following ?

(i) Credit Risk Management Committee (CRMC)

(ii) Asset and Liability Management Committee (ALMC)

(iii) Operational Risk Management Committee(ORMC)

(iv) Non of the above

(v) All of the above

Q 5. Do you agree Risk Management Committee is Necessary in Every Bank ?

(i) Agree
(ii) Strongly Agree
(iii) Disagree
(iv) Strongly Disagree

Q6. Do you think that RMC can prevent the bank from huge risks ?

(i) Agree
(ii) Strongly Agree
(iii) Disagree
(iv) Strongly Disagree

Q7. According to you which is the mail functional area of risk management adopted by

your bank

a. Risks that can be eliminated or avoided by simple business practices

b. Risks that can be transferred to other business participants (eg. Insurance policy)
c. Risks that can be actively managed at the Bank level.

Q 8. Is RBI Policies force any Impact on Risk Management Tools

Yes No

Q9. Are there any risk from IT Sector

Yes No

Q10. Which of the following Risk occurred most in your bank from IT Sector

1. Password Hacking
 2. ATM Embezzlement
3. Technical Failure
4. Server End Problems

Q 11. What kind of risk management you adopt for IT Sector Risk

1. Multi Point security at server sector

2. Double Security Check for online transitions
3. Expert IT Staff consisting of Software & Network Handler
4. Anti Hacking developed software

Q 12. What kind of steps adopted for credit risk management ?

1. Double Grunter requirements

2. Lending on Gold basis
3. On the basis of mortgage of Registry or any other security

Q 13. What kind of tools used for Market Risk

1. Adopting Open Position Limit for Forex & Gold

2. Guidelines issued by RBI
3. Provisions of Basle Committee on Management of Market Risk
4. Others

Q 14. According to you What kind of management you opt to face Operational Risk ?

1. Relationship management phase i.e. business development.

2. Transaction management phase covers risk assessment, loan pricing, structuring

the facilities, internal approvals, documentation, loan administration, on going

monitoring and risk measurement.

3. Portfolio management phase entails monitoring of the portfolio at a macro level

and the management of problem loans

4. On the basis of the broad management framework stated above, the banks should

have the following credit risk measurement and monitoring procedures:

5. Banks should establish proactive credit risk management practices like annual /

half yearly industry studies and individual obligor reviews, periodic credit calls

that are documented, periodic visits of plant and business site, and at least

quarterly management reviews of troubled exposures/weak credits

Q 15. Do you think proper Risk Management Can Save lot of funds of the Bank ?

Agree Disagree

Objectives

6. To Analyse Various risks faced by Banks.

7. To study various risk management tools adopted by bank
8. To find relation between risk management at saving of funds.
9. To study the behavior of employees towards risk management
10. To determine the role of RBI towards various kind of financial risks