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Lecture Financial institutions, instruments and markets (7/e): Chapter 14 - Christopher Viney, Peter Phillips

In this chapter, you will learn to: Describe interest rate risk and its forms, identify the components of an interest rate risk exposure management system, explain the interest rate risk management principle of asset repricing before liabilities, revisit financial securities repricing and interest rate risk, | Chapter 14 Interest rate risk measurement Learning objectives Describe interest rate risk and its forms Identify the components of an interest rate risk exposure management system Explain the interest rate risk management principle of asset repricing before liabilities Revisit financial securities repricing and interest rate risk Analyse the structure and benefits associated with interest rate risk measurement using duration and convexity Appreciate the availability of both internal and external interest rate risk management techniques Chapter organisation 14.1 Interest rate risk 14.2 Exposure management systems 14.3 Assets repriced before liabilities principle (ARBL) 14.4 Pricing financial securities 14.5 Repricing gap analysis 14.6 Duration 14.7 Convexity 14.8 Interest rate risk management techniques 14.9 Summary 14.1 Interest rate risk Chapter 13 considered the: macro-economic context of interest rates loanable funds approach to interest rate determination theories that explain the shape of the yield curve The timing and extent of interest rate changes is unknown Interest rate risk needs to be managed (cont.) 14.1 Interest rate risk (cont.) During and after the GFC, interest rate risk were an important topic As credit risks emerged during 2007 and 2008, interest rates rose sharply Sharp and sudden rises in interest rates exposed many individuals and firms to higher borrowing costs The identification and management of interest rate risk is important for firms and financial institutions 14.1 Interest rate risk (cont.) Interest rate risk takes two forms 1. Reinvestment risk Impact of a change in interest rates on a firm’s future cash flows 2. Price risk Impact of a change in interest rates on the value of a firm’s assets and liabilities An inverse relationship exists between interest rates and security prices; i.e. a rise in interest rates results in a fall in the value of an asset or liability, or vice versa (cont.) 14.1 Interest rate risk | Chapter 14 Interest rate risk measurement Learning objectives Describe interest rate risk and its forms Identify the components of an interest rate risk exposure management system Explain the interest rate risk management principle of asset repricing before liabilities Revisit financial securities repricing and interest rate risk Analyse the structure and benefits associated with interest rate risk measurement using duration and convexity Appreciate the availability of both internal and external interest rate risk management techniques Chapter organisation 14.1 Interest rate risk 14.2 Exposure management systems 14.3 Assets repriced before liabilities principle (ARBL) 14.4 Pricing financial securities 14.5 Repricing gap analysis 14.6 Duration 14.7 Convexity 14.8 Interest rate risk management techniques 14.9 Summary 14.1 Interest rate risk Chapter 13 considered the: macro-economic context of interest rates loanable funds approach to interest rate determination theories that