Interest Rate Risk in the Banking Book (2nd edition)
First published:
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Fundamentals of interest rate risk and the banking book
Foreword
Introduction to the First Edition
Introduction to the Second Edition
An overview of banking
Relevant accounting and financial concepts
Fundamentals of interest rate risk and the banking book
Standard metrics for the identification and assessment of IRRBB
Managing and hedging IRRBB
Interest rate basis risk and Libor transition
Behavioural assumptions in the management of IRRBB
Non-dated liabilities
Other types of market risk
Reporting and the management process
IRRBB: Its links to the operating plan and stress testing
Regulatory requirements
For any study of IRRBB, it is logical to begin by defining and explaining separately both embedded terms: interest rate risk and the banking book. In this chapter interest rate risk will be introduced, first as a particular category of market risk, followed by a description of the various forms it can take, namely yield curve risk, basis risk and option risk. The chapter concludes with an attempt to define the banking book although, as will become apparent, this is not necessarily as straightforward as it might initially appear.
MARKET RISK AND ITS DIFFERENT FORMS
From the standpoint of a bank, market risk is the risk that changes in market prices may negatively impact its financial well-being. The vague term “financial well-being” is chosen deliberately at this stage to avoid clouding the issue by discussing in detail, and too early, the differing accounting treatments employed in banking and trading books.
The term “market price” may be defined as a wholesale price that is quoted in a liquid, two-way market comprising willing buyers and sellers. It is determined essentially by the supply and demand for whatever is being traded. In such a market, competition and perfect
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