An numerical example for the interestrate risk for banks. These standards are intended to replace an earlier guidance set out in the 2004 principles for the management and supervision of interest rate risk 4, which laid out the principles and the methods expected to be used by banks for measuring, managing, monitoring and. If a bank does an interest rate swap with a customer, thats trading book. The interest rate risk in banking book refers to the risk to a bank s capital and earnings arising from adverse movements in interest rates that affect banking book positions. Implementing bcbs 368 interest rate risk in the banking. Nov 07, 2019 interest rate risk exists in an interest bearing asset, such as a loan or a bond, due to the possibility of a change in the assets value resulting from the variability of interest rates. Banking book irrbb is the risk to earnings or value and in turn to capital arising from movements of interest. This white paper focuses on understanding how current market conditions low interest rates can affect banks revenues and profitability. Interest rate risk in the banking book interest rate risk in the banking book irrbb can be a significant risk for banking institutions and new regulations will have a significant impact on their risk management frameworks. Over the past few years, the banking industry has faced significant earnings challenges. In response to the new standards, the hkma published a consultation paper regarding the proposal to update the current spm module ir1 interest rate risk management and the return of mabs12 interest rate risk exposure in june 2017. Article interest rate risk in the banking book irrbb fis. Meeting the practical challenges moodys analytics introduction in a world of low interest rates, the thought of what could happen if there is a sudden interest rate shock. Interest rate risk in the banking book kindle edition by paul newson.
Use features like bookmarks, note taking and highlighting while reading interest rate risk in the banking book. Interest rate risk management at community banks community. Interest rate risk in the banking book, written by industry expert paul newson, provides a thorough guide to the new regulatory requirements surrounding irrbb and demonstrates the importance of good governance. Prudential reporting of interest rate risk in the banking book. This includes gap risk, which arises from the term structure of banking book instruments, basis risk, which describes the impact of. This booklet provides an overview of interest rate risk comprising repricing risk, basis risk, yield curve risk, and options risk and discusses irr management practices. For example, if rates were to increase and a bank s deposits repriced sooner than its loans, it could result in the bank paying out more interest on deposits than the interest it is receiving from loans. Irrbb consultative paper on interest rate risk in the. It generally arises from repricing risk, risks related to the timing mismatch in the maturity and repricing of. Interest rate risk in the banking book irrbb is the risk to earnings or value and in turn to capital arising from movements of interest rates that affect banking book positions. The basel committee on banking supervision has today issued standards for interest rate risk in the banking book irrbb. An analysis of commercial bank exposure to interest rate risk david m. Interest rate risk management at community banks by doug gray, managing examiner, federal reserve bank of kansas city. Changes in interest rate affect earnings, value of assets, liability, offbalance sheet items and cash flow.
Standards for interest rate risk in the banking book issued. Interest rate risk in the banking book irrbb definition. Houpt, of the boards division of banking supervision and regulation, prepared this article. Interest rate risk is the exposure of a banks current or future earnings and capital to adverse changes in market interest rates.
Table irrbba provides information on a bank s irrbb risk management objective and policy. The banking book is a term for assets on a bank s balance sheet that are expected to be held to maturity, usually consisting of customer loans to and deposits from retail and corporate customers. About deloitte deloitte refers to one or more of deloitte touche tohmatsu limited, a uk private company limited by guarantee, and its network of member firms, each of which is a legally separate and independent entity. An analysis of commercial bank exposure to interest rate risk. The standards revise the committees 2004 principles for the management and supervision of interest rate risk, which set out supervisory expectations for banks identification, measurement, monitoring and control of irrbb as. What is the difference between a banking book and a. Interest rate risk in the banking book faq 7 whilst allowing firms to strike a compromise between net interest income sensitivity and economic value sensitivity that cannot be simultaneously cancelled out. The principal reason is that, surprisingly, there seem few if any books devoted to this.
Members treasury consulting llp pleased to present video titled interest rate risk in bank books irrbb. Such unconventional monetary policy has an impact on interest rates, and therefore, requires a closer monitoring of the interest rate risk in the banking book irrbb. Stress test 2017 final results ecb banking supervision. Interest rate risk in banking book irrbb refers to the current or prospective risk to a banks capital and earnings, arising from adverse movements in interest rates that affect banking book positions. Interest rate risk in the banking book, written by industry expert paul newson, provides a thorough guide to the new regulatory requirements surrounding irrbb and. Srp98 application guidance on interest rate risk in the. Why write a book on interest rate risk in the banking book irrbb. The interest rate risk in the banking book can be measured and controlled at present value or periodically. Interest rate risk management of commercial banks in. Latest interest rate risk in the banking book irrbb articles on risk management, derivatives and complex finance. The book is essential reading for all those involved with interest rate risk in the banking book but particularly those working in a bank alm function who wish to gain a wider appreciation of the context in which they operate, more generalist and senior bankers who need a grasp of the fundamentals and those working in a trading risk function. Interest rate risk in the banking book is the risk posed by adverse movements in interest rates that cause a mismatch between the rates banks set on customer loans and on deposits. Video would be covering about regulatory of interest rate risk in banking books.
Fundamentals of interest rate risk and the banking book. Both papers combined will have a significant impact on how banks measure, monitor, hedge and manage their interest rate risk. Interest rate risk in the banking book irrbb irrbb overview interest rate risk in the banking book irrbb is the risk to earnings or capital arising from movement of interest rates. Interest rate risk in the banking book the course will be taught in a classroom based format with a variety of professionals from the industry including, the federal reserve bank, us bank. Interest rate risk in the banking book kindle edition by newson, paul. These standards are intended to replace an earlier guidance set out in the 2004 principles for the management and supervision of interest rate risk4, which laid out the principles and the methods expected to be used by banks for measuring, managing, monitoring and.
The banking book can also include those derivatives that are used to hedge exposures arising from the banking book activity, including interest rate risk. Interest rate risk in the banking book irrbb bankinghub. Whitepaper interest rate risk in the banking book irrbb. Banks earn returns to shareholders by accepting and managing risk, including the risk that borrowers may. These guidelines on managing interest rate risk in the banking book are intended to provide guidance on designing the strategies and processes required for identifying, measuring, controlling and monitoring interest rate risks in the banking book. Banks provide their views on the regulators proposals to add interest rate risk in the banking book irrbb to the calculation of banks pillar 1 minimum capital requirements 1. Differences between interest rate risk irr in the banking and. Template irrbb1 provides quantitative irrbb information, including the impact of interest rate shocks on their change in economic value of equity and net interest income, computed based on a set of prescribed interest rate shock scenarios. The precise answer is both complex and involves considerable latitude for opinion. Interest rate risk in the banking book irrbb refers to the current or prospective risk to a bank s capital and to its earnings, arising from the impact of adverse movements in interest rates on its banking book. What is interest rate risk in the banking book irrbb. Nii, on the other hand, is always based on cash flows at client rates and thus represents total nii. Guidelines on the management of interest rate risk arising. Deutsche bank annual report 2017 nontrading market risk.
With the interest rate risk of the banking book, the basel committee on banking supervision bcbs 1 aims primarily to address the potential loss of economic value of institutions from a change in the interest rates called irr and credit spread risk csr in the banking book 2. Introduction interest rate risk in the banking book or irrbbas defined by the basel committeeis the current or. Interest rate risk is the risk where changes in market interest rates might adversely affect a banks financial condition. For any study of irrbb, it is logical to begin by defining and explaining separately both embedded terms interest rate risk and the banking book which is the objective of this chapter. Following the publication in april 2016 of the new standards on interest rate risk in the banking book irrbb by the basel committee on banking supervision bcbs, deloitte invited european and south african banks to participate in an online survey to assess their current state of readiness against the new basel standards. In contrast the banking book is an accounting tool for banks to incorporate assets which are held to maturity for example, corporateretails loans. The treatment of automatic options under the standardized approach brings. Interest rate risk in the banking book irrbb therefore reflects both the bank s fundamental business model and its assetliabilitymanagement alm strategy. Jan 14, 2016 on june 8, 2015 the basel committee for banking supervision bcbs published the consultative paper 319 on interest rate risks in the banking book, which has been developed by the task force on interest rate risk in the banking book tfir over the last years. Jul 20, 2016 on the 3rd of june 2016, marcus evans held a webinar entitled interest rate risk in the banking book in partnership with oracle for their global financial market webinars portfolio. Interest rate risk in the banking book risk library. Leeto tlou and jonathan hacker provided assistance. The way ahead executive summary interest rate risk in banking book irrbb refers to the current or prospective risk to a bank s capital and earnings arising from adverse movements in interest. Partial modified durations and pv01 are computed for the net interest rate positions in subportfolios representing different time bands of the banking book.
Interest rate risk in the banking book deloitte south africa. Interest rate risk in the banking book means losses to earnings andor economic value of financial institutions as a result of change in interest rate which may arise from both on and offbalance sheet positions in the banking book. Interest rate increase 35 interest rate decrease 36 1. At worst, there could be an opportunity loss, but always. However, from an earnings point of view, there cannot be an interest rate loss from investing equity in fixed rate assets in order to stabilize earning flows.
Overview interest rate risk in the banking book irrbb. Accepting this risk is a normal part of banking and can be an important source of profitability and shareholder value. This booklet applies to the occs supervision of national banks and federal savings associations. How bcbs 368 will affect alm 3 distinction is useful from a management and treasury. This topic also provides specific guidance on interest rate risk, which is the exposure of a banks current and future earnings and capital arising from adverse movements in interest rates, and the market risk capital rule, which establishes regulatory capital requirements for bank holding companies and state member banks with significant. Interest rate risk in the banking book irrbb is the risk to earnings or capital arising from movement of interest rates. Relates only to a bank that calculates the relationship between interest rate movements or shocks and non interest income, bad debts and other relevant variables. Sep 08, 2010 interest rate risk in banking is the potential negative impact on the net interest income and it refers to the vulnerability of an institutions financial condition to the movement in interest rates. However, excessive interest rate risk can pose a significant threat to a banks earnings and capital base. Interest rate risk management latest about banking. Here the banks typically accept credit risk and interest rate risk.
Calculating interest rate risk in the banking book. Details of types and interest rate risk impacts are in attachment 1. Objective of the course interest rate risk in banking book irrbb objective of the course. The requirement imposed on all banking corporations to allocate adequate capital against all the risks in their business, including interest rate risk, is dealt. Guidelines on the management of interest rate risk arising from nontrading book activities 2 abbreviations alco asset and liability management committee alm asset and liability management bcbs basel committee on banking supervision bsg banking stakeholder group cet1 common equity tier 1 csrbb credit spread risk from nontrading book activities crd capital. Interest rate risk in the banking book irrbb refers to the current or prospective risk to the bank s capital and earnings arising from adverse movements in interest rates that affect the bank s banking book positions. Interest rate risk in the banking book irrbb is part of the basel capital frameworks pillar 2. The standards revise the committees 2004 principles for the management and supervision of interest rate risk, which set out supervisory expectations for banks identification, measurement, monitoring and control of irrbb as well as its supervision. This risk is a normal part of banking and can be an important source of profitability and shareholder value. Interest rate risk in the banking book objective and key requirements of this prudential standard this prudential standard sets out the requirements that an authorised deposittaking institution must meet in relation to interest rate risk in the banking book. Guidelines on technical aspects of the management of interest. Understanding the fundamentals of irrbb and how it differs from interest rate risk in the trading book. Department of banking regulation reserve bank of india, central office mumbai 400 001.
The basel committee on banking supervision bcbs issued new standards on irrbb in april 2016. Mar 28, 2012 interest rate risk in the banking book. There is often confusion about the different nature of the interest rate risk irr in the banking book versus the trading book and what needs. Are banks ready for a return to a normal environment. Any changes in interest rates have an impact on the present value of future cash flows on the bank. Interest rate risk in the banking book how to manage. T he management of interest rate risk should be one of the critical components of market risk management in banks. Management of interest rate risk page 3337 principles for the management of interest rate risk a the board of directors in a banking corporation should approve strategies and policies with respect to interest rate risk management and ensure that senior management takes the steps necessary to monitor and. Banking book irrbb is the risk to earnings or value and in turn to capital arising from movements of interest rates that affect banking. The analytical var for interest rate risk in the banking book can be calculated as follows. Interest rate risk in the banking book irrbb is currently part of the basel capital frameworks pillar 2. This white paper examines the key elements of basils updated rules for irrbb and the effect they will have on a banks alm strategy.
It generally arises from repricing risk, risks related to the timing mismatch in the maturity and repricing of assets and liabilities and off. Following the publication in june 2016 of the new standards on interest rate risk in the banking book irrbb by the basel committee on banking supervision, the deloitte emea irrbbalm working group invited european and south african banks to participate to an online survey to assess their current state of readiness against the new basel standards. Download it once and read it on your kindle device, pc, phones or tablets. When interest rates change, the present value and timing of future cash flows change. May 14, 2010 interest rate risk management interest rate risk models risk measurement systems gap earnings economic valuation report simulation shortterm yes yes generally does not distinguish shortterm earnings accounting earnings from changes in exposure economic value. The consultative document on the risk management, capital treatment and supervision of interest rate risk in the banking book irrbb expands upon and is intended to ultimately replace the basel committees 2004 principles for the management and supervision of interest rate risk. This context has led regulators to focus more closely on the interest rate risk in the banking book. The new framework replaces its previous version from 2004 and sets out nine principles for banks and three principles for supervisors for the management and supervision of irrbb. These partial measures show the sensitivity of the market value of the banking book to a marginal parallel shift of a yield curve in particular maturity segments. Interest rate risk in the banking book is the current or prospective risk, to both the groups capital and earnings, arising from movements in interest rates, which affect the groups banking book exposures. The way ahead executive summary interest rate risk in banking book irrbb refers to the current or prospective risk to a banks capital and earnings arising from adverse movements in interest.
Guidelines on technical aspects of the management of. This chapter describes requirements on assessing interest rate risk in the banking book, ie the current or prospective risk to a banks capital and. Interest rate risk in the banking book irrbb news and. It is important to note the advantage of using independent principal components. Interest rate risk in the banking book, written by industry expert paul newson, provides a thorough guide to the new regulatory requirements surrounding irrbb and demonstrates the importance of good governance the author explains the nature of interest rate risks in simple language, describing the methods typically used to measure them, with the added advantage of many worked examples. Interest rate risk is the exposure of a banks financial condition to adverse movements in interest rates.
Compliance with the basel committees standards on interest rate risk in the banking book bcbs 368 presents significant challenges to all banks with respect to measurement, calculation and hedging of interest rate risk, and this whole area is. However, the assets are valued at their book value and a write down in asset value happens only in case of defaults. The principal reason is that, surprisingly, there seem few if any books. Interest rate risk will be introduced, first as a particular category of market risk, followed by a description of the various forms it can take, namely.
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