Core Capital (Tier 1 Capital):
01) Paid up capital / capital deposited with BB
02) Share premium
03) Statutory reserve
04) General reserve
05) Retained earning
06) Minority Interest in subsidiaries
07) Non-Cumulative irredeemable preference shares
08) Dividend equalization account
Supplementary Capital (Tier 2 Capital):
01) General provision on unclassified investment
02) Asset revaluation reserves
03) Preference Shares
04) Subordinated Debt
05) Exchange equalization account
06) Revaluation Reserves for Securities
Tier 3 Capital (Additional Supplementary Capital) consisting of short-term subordinated debt maturity less than or equal to five years but greater than or equal to two years is meant solely for purpose of meeting a proportion of the capital requirements for market risk.
Purpose of Capital:
01) A source of funding for Bank
02) A cushion to absorb losses
03) Promote public confidence
04) A cushion for survival for any financial institutions
05) It is organizational growth
06) A measure of soundless and stability
Objective of Basel-II:
i) To keep sufficient capital for financial institution
ii) To minimize risk in operation
iii) To earn profit without capital erosion.
Derivative: A derivative is a financial instrument or security whose pay-offs depends on a more primitive or fundamentally good security.
Types of derivatives:
01) Forwards
02) Futures
03) Options
04) SWAP
Financial derivatives: A financial derivative is a financial instrument or security whose pay-offs depends on another financial instrument or security.
Future: A future contract is a standardized contract, traded on a future exchange to buy or sell a certain underlining instrument at a certain date in the future at a specified price. The future date is called the delivery date or final settlement date. The present price is called the futures price.
Square position: Same amount buy and sale on same day.
Open position: over bought or over sold over night.
Characteristics of Fund Management:
01) Solvency
02) Profit ability
03) Control
04) Flexibility
Sources of Fund:
01) Paid up capital
02) Share Premium
03) Debenture / Bond issue
04) Reserve Fund
05) Deposit
06) Bills payable / Remittance
07) Borrowings from money market
08) Borrowings from Central Bank
09) Recovery of Advance / Payment of due installment of loans
10) Undistributed profit / Retained earnings
11) Sale of Assets
12) Govt. / Agencies Loan / Aid / Grant
13) Any other funds raised by the owner / Employees / Profit
14) REPO Agreements
Uses of fund / Application of fund:
To fulfill the regulatory and business requirement:
01) Cash: Withdrawal of deposits, meeting up operational expenses of the businee
02) Balance with Bangladesh Bank / Sonali Bank: For liquidity purpose.
03) Fixed assets acquisition: Land, Building, Machineries, Furniture, Car, Computer etc.
To deploy in earning assets:
01) Investment: By purchasing of Shares / Debentures / Bonds / Govt. / Securities /
treasury bills etc.
02) Loans and Advances: Short and long term loan and Investments.
03) Investing in the Money market
ALM: Asset Liability management is the most important part for the financial institutions to manage Balance Sheet Risk, especially for managing of liquidity risk and interest rate risk.
Objective of ALM:
Objective of Asset Management: The objective of Asset management is to maximize return on loans and securities and minimize risk by acquiring assets that have a low rate of default risk and by diversifying asset holding.
Objective of Liability Management: The objective of liability management is to minimize cost of deposits and borrowing and stabilize funds by diversifying liability portfolio.
Area of ALM:
01) ALM Strategy
02) Fund management
03) Internal rate risk
04) Gap and duration management
ALM Strategy:
Asset Management Strategy:
i) Search borrowers willing to pay high interest rates and yet unlikely to pay default.
ii) Purchase securities with high return and low risk.
iii) Minimize risk by diversifying both loans and securities
Objectives of Asset Management:
-- Maximize return
-- Minimize risk
Problems of Bank in Asset Management:
01) Inefficient credit allocation
02) Low recovery performance
03) Costly and time consuming procedure of realizing of collateral in case of default.
04) Political influence of loans disbursement and waiver of interest.
05) Lake of efficient legal system
06) Lack of efficient and motivated manpower.
07) Influence of director in lending
Earning asset:
01) Loan and advances
02) Investment
Non earning assets:
01) Cash in tills
02) CRR
Liability Management Strategy:
i) Hunting low cost deposit
ii) Diversifying deposit portfolio
iii) Changes in deposit mix.
iv) Maturity profile of deposit
Objective:
Minimize cost
Stabilize fund
ALCO:
Financial institutions form asset liability management committee (ALCO) with the senior management as its member to control and better management of its balance sheet risks. The committee consists of the following key personnel of the Bank.
01) C.E.O / M.D
02) Head of Treasury
03) Head of Finance
04) Head of Credit
05) Head of corporate banking
06) Head of consumer banking
07) Head of operation
Treasury department is primarily responsible for ALM.
Responsibilities of ALCO:
i) To assume overall responsibilities of money market activities.
ii) To manage liquidity and interest rate risk of the Bank.
iii) To comply with the local central Bank regulations in respect of bank’s statutory obligation as well as through understanding of the risk elements involved with the business.
iv) Understanding of the market dynamics
v) Provide inputs to the treasury, regarding market views and update the balance movement.
vi) Deal within the dealer’s authorized limit.
Risk: Risk is the possibility of something adverse happening.
Risk is uncertainties resulting in adverse outcome, adverse in relation to planned objectives on expectation.
Risk Management: Risk management is the process of identifying and assessing risk and taking step to reduce risk at an acceptable level and maintaining that level of risk.
Steps of risk management:
01) Risk identification
02) Risk assessment
03) Risk analysis and evaluation
04) Risk acceptance
05) Decision making
Risk mitigation techniques:
01) Transferring risk to another party
02) Avoiding risk
03) Reducing the negative effect of risk
04) Accepting some or all of the consequences of a particular risk.
Risk measurement: Realize on quantitative measures of risk. The risk measurement seeks to capture variations in earnings, market values, losses due to default etc arising out of uncertainties associated with various risk elements.
Core Risk:
01) Credit Risk
02) Foreign Exchange Risk
03) Asset – Liability management risk
04) Money laundering prevention risk
05) Internal control and compliance risk
06) Information and Communication Technology risk
Liquidity Risk is defined as a potential risk arising from the bank’s in ability to meet its contractual obligation and financial commitments whenever due.
Liability side liquidity risk:
01) Demand deposit account and other transaction accounts constitute a major portion of the total liabilities of a financial institution.
02) Demand deposit accounts and other transaction account have the right to demand immediate repayment of the face value of their deposit claims in cash.
Asset side liquidity risk: Asset side liquidity risk arises as result of lending commitments when loan commitments are taken down. The financial institution has to fund it on the balance sheet immediately. Financial institution can meet this additional demand for liquidity through:
01) running down its each assets
02) selling of liquid assets
03) borrowing additional assets
Interest rate risk:
Interest rate forecasting-
Interest rate risk can be viewed in to ways-
i) Its impacts on the earning of the bank.
ii) Its impacts on the economic value of the banks assets, liabilities and off-balance sheet positions.
Off Balance Sheet Risk:
01) L/C Bank Guarantee
02) Contingent Liabilities
03) Likely Liability
No risk no gain. Banks gain profit by taking risk.
Liquidity is availability of cash at the time needed at a reasonable cost.
Liquidity contingency plan / to solve liquidity problem:
01) Stop disbursement
02) Collect deposit
03) Recovery loan
04) Introduce new deposit product
A bank should have enough liquid assets for meeting contingencies:
01) Reserve assets
02) Cash in tills
03) Specific Govt. securities
04) Foreign currencies in open position (over bought or over sold position)
05) Specific FDR’s position
Liquidity Contingency Plan: A contingency plan needs to be prepared keeping in mind that enough liquidity is available to meet the fund requirements in liquidity crisis situation.
Financial Statement:
01) Profit & Loss account
02) Income statement
03) Balance sheet
04) Cash flow statement
05) Statement of changes in equity
06) Liquidity statement
07) Notes to the financial statement
Money Market Instrument:
01) REPO
02) Reverse REPO
03) Call Money
04) Treasury bill
05) Certificate of Deposit (CD)
Capital Market Instruments:
01) Stocks
02) Govt. Securities
03) Consumer and Bank Commercial loan
Off-Balance sheet items / Components:
01) Letter of Credit
02) Acceptance and endorsement on behalf of the client.
03) Bank remittance
04) Factoring
05) Merchant banking
06) Bank guarantee
GAP Analysis: GAP is the difference between two subjects. It is the difference between Rate Sensitive Assets (RSA) and Rate Sensitive Liabilities (RSL) for each time bucket. The positive gap indicates that it has more RSAs than RSLs and the negative gap indicates that it has more RSLs. The gap reports indicate whether the institute is in a position to benefit from rising interest rates by having a positive gap (RSA>RSL) or whether it is in a position to benefit from declining interest rates by a negative gap (RSL>RSA). The gap can, therefore, be used as a measure of interest rate sensitivity.
Loan sale: In this case loan and advances are sold to a third party in optimum rate so that interest earning may be covered. (Bank, Borrower, Third Party)
Call Money: Over night loan for one night.
VaR- Value at Risk. What’s the impact, if everything goes worst.
Mark to Market: Reflect the market value
Weekly market value.
HFT- Held For Trading
HTM- Held For Maturity
Total security: 25% held for Maturity
75% held for Trading
Core deposit: Stable deposit (over 1 year).
Non- Core deposit: Less stable deposit (2 to 7 days to 3 months bucket)
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