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"LIQUIDITY RISK"
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Risk culture in banking
This work explores risk culture in banks following the financial crisis. It analyses the role of national and institutional risk culture, market competitiveness, organisational systems and institutional practices that led to a weakening of risk culture in financial institutions leading up to the financial crisis.
Book
Design Science Research: A Practical Methodology for Enhancing Qualitative Liquidity Risk Management
In the banking sector, managing liquidity risk is paramount to ensure financial stability and resilience. This study is motivated by a quest to determine the appropriate research methodology that satisfies both theoretical and practical aspects of designing and developing a system that integrates qualitative factors, specifically news sentiment, into liquidity risk forecasting for risk managers to rely on and use the predicted results. Previous works reveal a significant theoretical gap in liquidity risk prediction, highlighting the necessity for a methodology that bridges theoretical advancements and practical applications. The primary questions focus on evaluating how well Design Science Research (DSR) handles short-term liquidity risk prediction and the influence of qualitative factors on these predictions. The DSR approach in this study involved iterative phases of problem identification, artifact creation, and rigorous evaluation. A predictive model was developed, intertwining news sentiment analysis with quantitative liquidity ratios derived from Basel III principles. The results demonstrate that the model achieves an 86% accuracy rate in theoretical evaluations and an impressive 95.5% in real-world scenarios, outperforming traditional methods. This integration of qualitative factors into the predictive model enhances accuracy, providing a more comprehensive understanding of liquidity risk dynamics. By meeting its objectives, this study answers the posed questions that DSR can be used as a research methodology that validates not only the theoretical aspect of the problem but also the practical application of the framework. The study contributes to advancing risk management practices and suggests future work directions, reinforcing the importance of DSR methodology and similar methods considering qualitative dimensions in banking liquidity risk assessment. This advancement paves the way for more proactive and informed decision-making processes in banking institutions.
Journal Article
Liquidity risk management in banks : economic and regulatory issues
Turmoil on financial markets has made evident the importance of efficient liquidity risk management for the stability of banks. This book analyses the economic impact of a new regulation on profitability, on assets composition and business mix, on liabilities structure and replacement effects on banking and financial products.
Book
Risk Management Practices and Financial Performance: Analysing Credit and Liquidity Risk Management and Disclosures by Nigerian Banks
Nigerian banks encounter persistent difficulties in efficiently managing and disclosing credit and liquidity risks, considerably affecting their financial performance and shareholders’ confidence. This study, therefore, examined the effect of risk-management practices and disclosures on the financial performance of Nigerian commercial banks. The population of the study comprised 13 Nigerian commercial banks, of which 12 were purposively chosen, subject to data availability. The data explored in this study originate from World Development Indicators and the annual reports and accounts of the selected Nigerian commercial banks from 2012 to 2023. The data analysis technique used was panel regression analysis, which was further extended to the generalized method of moments in a bid to account for potential endogeneity. The study made use of EViews 12 software to analyse the data. The results reveal that liquidity risk disclosure and firm size had significant and positive effects on financial performance, while credit risk disclosure, credit risk, firm age, and leverage had significant and negative effects. This study concludes that credit risks significantly undermine commercial banks’ financial performance, as an upsurge in non-performing loans results in reduced financial performance. Conversely, effective liquidity risk disclosure characterized by transparent reporting on liquidity position was found to enhance financial performance. This study, therefore, recommends, among others, that banks should strengthen their credit risk assessment framework and enhance transparent risk reporting to improve performance and financial stability.
Journal Article
Effect of the financial structure on the liquidity risk of SMEs in Cartagena as a base of project formulation
The Liquidity Risk in Small and Medium Enterprises - SMEs in the City of Cartagena-Colombia is analyzed, based on the determination of their Capital Structure. The variables, liquidity risk (dependent) and capital structure (independent), were analyzed, based on a quantitative investigation with a correlational approach. The hypothesis was, H1: There is a positive relationship between the capital structure and liquidity risk. The population came from the accounting database as of December 31, 2016 of the Superintendencia de Sociedades, with a sample of 260 companies. It is concluded that the higher the level of indebtedness, the greater the liquidity risk of the company tends to increase, thus accepting the hypothesis established in the investigation. Derived from the analysis presented, recommendations are offered on the formulation of projects that can contribute to the improvement of the liquidity conditions of the companies analyzed.
Journal Article
Value and Momentum Everywhere
We find consistent value and momentum return premia across eight diverse markets and asset classes, and a strong common factor structure among their returns. Value and momentum returns correlate more strongly across asset classes than passive exposures to the asset classes, but value and momentum are negatively correlated with each other, both within and across asset classes. Our results indicate the presence of common global risks that we characterize with a three-factor model. Global funding liquidity risk is a partial source of these patterns, which are identifiable only when examining value and momentum jointly across markets. Our findings present a challenge to existing behavioral, institutional, and rational asset pricing theories that largely focus on U.S. equities.
Journal Article
Liquidity in the Foreign Exchange Market: Measurement, Commonality, and Risk Premiums
We provide the first systematic study of liquidity in the foreign exchange market. We find significant variation in liquidity across exchange rates, substantial illiquidity costs, and strong commonality in liquidity across currencies and with equity and bond markets. Analyzing the impact of liquidity risk on carry trades, we show that funding (investment) currencies offer insurance against (exposure to) liquidity risk. A liquidity risk factor has a strong impact on carry trade returns from 2007 to 2009, suggesting that liquidity risk is priced. We present evidence that liquidity spirals may trigger these findings.
Journal Article
Aggregate Risk and the Choice between Cash and Lines of Credit
Banks can create liquidity for firms by pooling their idiosyncratic risks. As a result, bank lines of credit to firms with greater aggregate risk should be costlier and such firms opt for cash in spite of the incurred liquidity premium. We find empirical support for this novel theoretical insight. Firms with higher beta have a higher ratio of cash to credit lines and face greater costs on their lines. In times of heightened aggregate volatility, banks exposed to undrawn credit lines become riskier; bank credit lines feature fewer initiations, higher spreads, and shorter maturity; and, firms' cash reserves rise.
Journal Article
Optimization algorithms and investment portfolio analytics with machine learning techniques under time-varying liquidity constraints
Purpose
This paper aims to examine from commodity portfolio managers’ perspective the performance of liquidity adjusted risk modeling in assessing the market risk parameters of a large commodity portfolio and in obtaining efficient and coherent portfolios under different market circumstances.
Design/methodology/approach
The implemented market risk modeling algorithm and investment portfolio analytics using reinforcement machine learning techniques can simultaneously handle risk-return characteristics of commodity investments under regular and crisis market settings besides considering the particular effects of the time-varying liquidity constraints of the multiple-asset commodity portfolios.
Findings
In particular, the paper implements a robust machine learning method to commodity optimal portfolio selection and within a liquidity-adjusted value-at-risk (LVaR) framework. In addition, the paper explains how the adapted LVaR modeling algorithms can be used by a commodity trading unit in a dynamic asset allocation framework for estimating risk exposure, assessing risk reduction alternates and creating efficient and coherent market portfolios.
Originality/value
The optimization parameters subject to meaningful operational and financial constraints, investment portfolio analytics and empirical results can have important practical uses and applications for commodity portfolio managers particularly in the wake of the 2007–2009 global financial crisis. In addition, the recommended reinforcement machine learning optimization algorithms can aid in solving some real-world dilemmas under stressed and adverse market conditions (e.g. illiquidity, switching in correlations factors signs, nonlinear and non-normal distribution of assets’ returns) and can have key applications in machine learning, expert systems, smart financial functions, internet of things (IoT) and financial technology (FinTech) in big data ecosystems.
Journal Article
Carry Trades and Global Foreign Exchange Volatility
We investigate the relation between global foreign exchange (FX) volatility risk and the cross section of excess returns arising from popular strategies that borrow in low interest rate currencies and invest in high interest rate currencies, so-called \"carry trades.\" We find that high interest rate currencies are negatively related to innovations in global FX volatility, and thus deliver low returns in times of unexpected high volatility, when low interest rate currencies provide a hedge by yielding positive returns. Furthermore, we show that volatility risk dominates liquidity risk and our volatility risk proxy also performs well for pricing returns of other portfolios.
Journal Article