Interest Rate Risk in the Banking Book: A Best Practice Guide to Management and Hedging

Description

Introduces practical approaches for optimizing management and hedging of Interest Rate Risk in the Banking Book (IRRBB) driven by fast evolving regulatory landscape and market expectations.  Interest rate risk in the banking book (IRRBB) gained its importance through the regulatory requirements that have been growing and guiding the banking industry for the last couple of years. The importance of IRRBB is shifting for banks, away from ‘just’ a regulatory requirement to having an impact on the overall profitability of a financial institution. Interest Rate Risk in the Banking Book sheds light on the best practices for managing this importance risk category and provides detailed analysis of the hedging strategies, practical examples, and case studies based on the author’s experience. This handbook is rich in practical insights on methodological approach and contents of ALCO report, IRRBB policy, ICAAP, Risk Appetite Statement (RAS) and model documentation. It is intended for the Treasury, Risk and Finance department and is helpful in improving and optimizing their IRRBB framework and strategy. By the end of this IRRBB journey, the reader will be equipped with all the necessary tools to build a proactive and compliant framework within a financial institution. Gain an updated understanding of the evolving regulatory landscape for IRRBB Learn to apply maturity gap analysis, sensitivity analysis, and the hedging strategy in banking contexts • Understand how customer behavior impacts interest rate risk and how to manage the consequences Examine case studies illustrating key IRRBB exposures and their implications Written by London market risk expert Beata Lubinska, Interest Rate Risk in the Banking Book is the authoritative resource on this evolving topic. Cover Title Page Copyright Page Contents Preface About the Website Introduction Chapter 1 What is IRRBB and why is it important? Subcategories of interest rate risk Repricing risk (gap risk) Yield risk Optionality risk Basis risk Regulatory overview for IRRBB – what has changed? ECB 2017 IRRBB stress test Interest rate shocks Oil Supply Crisis HY/LBO/Default Risk Inflation expectations Great Bond Massacre – 94 Chapter 2 How to identify and measure Interest Rate Risk in the Banking Book Identification of IRRBB – case studies of the exposure to IRRBB The dual nature of IRRBB Exposure to short-terminterest rate risk – maturity gap analysis Maturity gap analysis according to the advanced approach Brief comparison of two approaches: the basic maturity gap and the advanced repricing gap Two different ways of looking at the maturity gap Repricing gap analysis and refixing gap analysis Maturity gap analysis from the economic value perspective Time bucket sensitivity analysis – PV01 Duration gap analysis Limits of duration gap analysis IRRBB metrics Earnings at Risk (EaR) Net Interest Income sensitivity – delta NII Present Value under + 1 bp parallel curve shift (PV01) Value at Risk (VaR) Credit Spread Risk in the Banking Book (CSRBB) Chapter 3 How to manage IRRBB Hedging instruments for IRRBB Forward starting swaps Interest rate options – caps, floors and swaptions Why consider interest rate swaps? Natural hedging and hedging through derivatives Hedging strategies Blended rate strategy (also known as partial hedge) Interest rate cap and floor Forward rate lock Chapter 4 Behaviouralisation of items without deterministic maturity and their impact on IRRBB The significance and impact of behavioural issues in the banking book The reason for modelling CASA under IRRBB The impact of early redemption of fixed rate assets on IRRBB Basic approaches for the modelling of NMDs Balance sensitivity modelling Basic approaches for the modelling of statistical prepayment on the asset side Statistical prepayments Financial prepayments Model risk Chapter 5 Interest rate risk and asset liability management Management of IRRBB under strategic ALM – proactive management of IRRBB Introduction to integrated management of interest rate risk and liquidity risk Introduction to strategic FTP Setting up the target profile and integrated management of liquidity and interest rate risk through the application of numerical optimisation technique Introduction to the optimisation concept Setting up the funding strategy for a bank taking into consideration the hedging requirements Hedging and funding strategies under holistic view IRRBB and funds transfer pricing Pricing of different products on the banking book Behaviouralisation concept in FTP Comprehensive and feasible IRRBB strategy Management of the intragroup interest rate risk Chapter 6 IRRBB stress test, reverse stress test and ICAAP IRRBB stress testing IRRBB stress testing methodology IRRBB stress test description ICAAP – assessment of the internal capital to cover IRRBB Chapter 7 IRRBB governance and framework Risk Appetite Statement (RAS) Appendix 1: Example of IRRBB policy aligned with the requirements of BCBS Standards IRRBB Key Metrics and Measurement Processes IRRBB Risk Appetite Limits IRRBB Escalation and Reporting Process Appendix 2: Example of IRRBB model manual A) The Purpose of the Model B) Coverage C) Scope D) Description of the Measurement Techniques E) The Calculation of Net Interest Income Sensitivity (NIIS) F) The Calculation of the Economic Value of Equity Volatility (ΔEVE) G) Time Bucket Sensitivity Analysis (PV01) H) Treatment of the Automatic Options I) Cash Flow Bucketing J) Interest Rate Curve and Valuations K) Items Without Deterministic Maturity – Current Accounts and Savings Accounts (CASA) Interest Rate Shocks Interest Rate Scenarios Irrbb Model Composition References Index EULA