Both global and national banks suffered heavy losses due to incorrect evaluation and monitoring of potential default rates on mortgage payments by subprime borrowers. This fiasco resulted in billions of dollars in damages and millions to be jobless overnight. The Basel Committee on Banking Supervision defines credit risk as the potential that a bank borrower, or counterparty, will fail to meet its payment obligations regarding the terms agreed with the bank.
While the banks took online security measures after the hackers contacted them, it was surprising to see that these processes were not put in place before.
Cybersecurity risk is the most prevalent IT risk in the financial services industry. It refers to the risk undertaken by a financial institution to keep electronic information private and safe from damage, misuse or theft. Cybersecurity risk is as much of a people risk as it is technology risk. The risk arises from a range of external and internal factors at banks such as:. In —08, during the subprime crisis, the bank was unable to sell the loans to other banks that it had originated in the form of new loans resulting in investors withdrawing their money from the bank.
This resulted in a liquidity crunch, which led to the bailout by the government and an eventual government takeover.
This is a classic example of how imprudent management of liquidity risk can ruin a bank. Liquidity management can be defined as the risk of a bank not being able to finance its day to day operations. According to The Basel Committee on Banking Supervision, market risk can be defined as the risk of losses in on- or off-balance sheet positions that arise from movement in market prices.
Interest risk: potential losses due to a change in interest rates. Equity risk: potential losses due to change in stock prices as banks accept equity against disbursing loans. Commodity risk: potential losses due to change in commodity agricultural, industrial, energy prices. Massive fluctuations occur in these prices due to continuous variations in demand and supply. Banks may hold them as part of their investments, and hence face losses.
The probability for a bank to take on unprecedented levels of risk without evaluating the economic soundness of the decision of risk-taking for all parties involved can be regarded as a moral hazard.
Moral hazard occurs when the bank decides the magnitude of the risk to be undertaken with the knowledge that a counterparty bears the cost of the risk taken. Once again, the subprime crisis proves to be a classic example of this.
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Top management of all banks can be prone to moral hazard. An open banking ecosystem functions as a single platform for a number participants like regulators and government agencies, data providers, third-party providers, customers, to engage in an open infrastructure with an end motive to enhance the customer experience.
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While this will push banks to aim at being fully digital, and make customer data more accessible for the ecosystem to build superior products on, it could also create an environment that would enable more fraud. Banks need to move quick in complying with PSD2 and GDPR directives laid down by independent government agencies, and the financial regulatory bodies to avoid exposing themselves to a myriad of systemic risks which could lead to financial as well as reputational damages.
Barings, one of the oldest British Banks in , collapsed due to mismanagement of operational risk. One of its traders successfully hid his trading losses for more than two years due to inefficient and inadequate internal controls. He authorized his own trades without any approvals. It was, however, too late. The Basel Committee on Banking Supervision defines operational risk as the risk of loss resulting from inadequate or failed internal processes, people, and systems or external events.
The fraud, incidentally, is 49X the net profit posted by PNB for the quarter ending December 31, , and more than twice the amount that PNB got under bank recapitalization plan. Reputational value is often measured in terms of brand value. This risk includes a possibility of bringing down the entire financial system to a standstill, what was possibly seen during the dot-com bubble in , or the housing market crash of Systemic risk, in itself, would not lead to direct losses. However, in a scenario where VIX is at high levels, there is a high probability of market risks and other risks to reach very high levels which would eventually lead to losses.
We cut losses and protect profits. A big part of making money is knowing how not to lose money. You WILL have trades that lose money. However, if you know how to cut your losses, you can have several losses and still be solidly profitable with only one winner. Think about it — you can be wrong more often than you win and make money — but we are going to teach you how to be right much more often than that!
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