Вы находитесь на странице: 1из 5

Conceptual Framework Risk is associated with uncertainty.

Whenever there is uncertainty in the company in the form of finance or operations risk associated with them also increases. A firm is exposed to financial risk when the value of its assets, liabilities, operating incomes and cash flows are affected by changes in financial parameters such as interest rates, exchange rates, stock indices, etc. Financial risk management aims to reduce the volatility of earnings and boost the confidence of invest ors in the company.For a company like NTPC a public sector power utility company the financial risk associated with it is huge. Financial risk arises through countless transactions of a financial nature, including sales and purchases, investments and loans, and various other business activities. It can arise as a result of legal transactions, new projects, mergers and acquisitions, debt financing, the energy component of costs, or through the activities of management, stakeholders, competitors, foreign gov ernments, or weather.When financial prices change dramatically, it can increase costs, reduce revenues, or otherwise adversely impact the profitability of an organization. Financial fluctuations may make it more difficult to plan and budget, price goods an d services, and allocate capital. Financial risk management is a process to deal with the uncertainties resulting from financial markets. It involves assessing the financial risks facing an organization and developing management strategies consistent with internal priorities and policies. Addressing financial risks proactively may provide an organization with a competitive advantage.Managing financial risk necessitates making organizational decisions about risks that are acceptable versus those that are not .Organizations manage financial risk using a variety of strategies and products. It is important to understand how these products and strategies work to reduce risk within the context of the organizations risk tolerance and objectives. We will see in detail how NTPC deals with financial risk and also we will see the best practices followed by other Indian power utilities like reliance power, Tata power and Jindal power along with global power utilities. Risk management process The process of financial risk management comprises strategies that enable an organization to manage the risks associated with financial markets. Risk management is a dynamic process that should evolve with an organization and its business. All department of an organization like finance , operations, marketing and other business units must be included in the process.The risk management process involves both internal and external analysis. The first part of the process involves identifying and prioritizing the financial risks facing an organization and understanding their relevance.Once a clear understanding of the risks emerges, appropriate strategies can be implemented in conjunction with risk management policy.Measurement and reporting of risks provides decision makers with information t o execute decisions and monitor outcomes, both before and after strategies are taken to mitigate them. Since the risk management process is on -going, reporting and feedback can be used to refine the system by modifying or improving strategies. Identifying Major Financial Risk Major market risks arise out of changes to financial market prices such as exchange rates, interest rates, and commodity prices. Major market risks are usually the most obvious type of financial risk that an organization faces. Major m arket risks include:

y y y y

Foreign exchange risk Interest rate risk Commodity price risk Equity price risk

Other important related financial risks include: Credit risk , Operational risk and Liquidity risk . Organization always face a combination of above mentio ned risk at all times and it is up to the management to take measures to mitigate the risk. There are two components to assessing financial risk. The first component is an understanding of potential loss as a result of a particular rate or price change. The second component is an estimate of the probability of such an event occurring. Interest Rate Risk Interest rate risk arises from several sources, including:
y y y

Changes in the level of interest rates Changes in the shape of the yield curve Mismatches between exposure and the risk management str ategies undertaken.

Interest rate risk is the probability of an adverse impact on profitability or asset value as a result of interest rate changes. Interest rate risk affects many organizations, both borrowers and investors, and it particularly affects capital -intensive industries and sectors. For NTPC interest rate risk can affect its loan portfolio. Any loan taken on floating interest rate is subjected to interest rate risk which will cause companies to pay more inter est as interest rate goes up. One more risk associated with interest rate rise is that the expected returns of the equity and debt bonds issued by NT PC will also see an increase wh ich puts pressure on the company to report good earnings. Absolute Interest Rate Risk Absolute interest rate risk results from the possibility of a directional, or up or down, change in interest rates. Most organizations monitor absolute interest rate risk in their risk assessments, due to both its visibility and its potential for affecting profitability. From a borrowers perspective, rising interest rates might result in higher project costs and changes to financing or strategic plans. From an investor or lender perspective, a decline in interest rates results in lower interest i ncome given the same investment, or alternatively, inadequate return on investments held. All else being equal, the greater the duration, the greater the impact of an interest rate change. The most common method of hedging absolute interest rate risk is to match the duration of assets and liabilities, or replace floating interest rate borrowing or investments with fixed interest rate debt or investments. Another alternative is to hedge the interest rate risk with tools such as forward rate agreements, swaps, and interest rate caps, floors, and collars. Yield Curve Risk Yield curve risk results from changes in the relationship between short and long-term interest rates. In a normal interest rate environment, the yield curve has an upward -sloping shape to it. Longer-term interest rates are higher than shorter -term interest rates because of higher risk to the lender. The steepening or flattening of the yield curve changes the interest rate

differential between maturities, which can impact borrowing and investmen t decisions and therefore profitability. In an inverted yield curve environment, demand for short -term funds pushes short-term rates above long-term rates. The yield curve may appear inverted or flat across most maturities, or alternatively only in certain maturity segments. In such an environment, rates of longer terms to maturity may be impacted less than shorter terms to maturity. When there is a mismatch between an organizations assets and liabilities, yield curve risk should be assessed as a component of the organizations interest rate risk. When the yield curve steepens, interest rates for longer maturities increase more than interest rates for shorter terms as demand for longer-term financing increases. Alternatively, short -term rates may drop while long-term rates remain relatively unchanged. A steeper yield curve results in a greater interest rate differential between short -term and long-term interest rates, which makes rolling debt forward more expensive. If a borrower is faced with a steep yield curve, there is a much greater cost to lock in borrowing costs for a longer term compared with a shorter term. Commodity Risk Exposure to absolute price changes is the risk of commodity prices rising or falling. Organizations that produce or purchase commo dities, or whose livelihood is otherwise related to commodity prices, have exposure to commodity price risk. For NTPC the commodity risk it faces is in the form of price fluctuation in oil, naphtha and coal. This risk can be mitigated through entering into forward contract.In lieu of exchange -traded commodities markets, many commodity suppliers offer forward or fixed -price contracts to their clients. Financial institutions may offer similar products to clients, provided that a market exists for the product to permit the financial institution to hedge its own exposure. Liquidity Risk Liquidity impacts all markets. It affects the ability to purchase or sell a security or obligation, either for hedging purposes or trading purposes, or alternatively to close out an existing position. Liquidity can also refer to an organization having the financial capacity to meet its short-term obligations. Assessing liquidity is often subjective and involves qualitative assessments, but indicators of liquidity include number of financial institutions active in the market, average bid/ask spreads, trading volumes, and sometimes price volatility. Although liquidity risk is difficult to measure or forecast, an organization can try to reduce transactions that are highly customized o r unusual, or where liquidity depends on a small number of players and therefore is likely to be poor. Another form of liquidity risk is the risk that an organization has insufficient liquidity to maintain its day -to-day operations. While revenues and sales may be sufficient for long -term growth, if short -term cash is insufficient, liquidity issues may require decisions that are detrimental to long -term growth. Measuring Risk Risk is the business of probabilities, and risk measurement is one component of ri sk management. Risk management involves identifying and measuring risk, followed by decisions about how best to manage it. There are two views of risk management. The first is from the day to-day or tactical standpoint. The second is a high-level or strategic view. In order to manage risk, it is necessary to have the capability to monitor risk from both standpoints in order to assess potential loss to the organization.

There are several ways to estimate potential loss. The concept of probability is the centr al tenet of risk, and the business of risk measurement involves estimating the likely variability of returns. Many methods like VAR (value at risk), scenario analysis etc can be used to quantify the risk associated with any company. GAP Analysis Model Measures the direction and extent of asset -liability mismatch through either funding or maturity gap. It is computed for assets and liabilities ofdiffering maturities and is calculated for a set time horizon. This model looks at the reprising gap that exists between the interest revenue earned 9n the bank's assets and the interest paid on its liabilities over a particular period of time (Saunders , 1997). It highlights the net interest income exposure of the bank, to changes in interest rates i n different maturity buckets. Reprising gaps are calculated for assets and liabilities of differing maturities. A positive gap indicates that assets get reprised before liabilities, whereas, a negative gap indicates that liabilities get reprised before ass ets. The bank looks at the rate sensitivity (the time the bank manager will have to wait in order to change the posted rates on any asset or liability) of each asset and liability on the balance sheet.The basic weakness with this model is that this method takes into account only the book value of assets and liabilities and hence ignores their market value. This method therefore is only a partial measure of the true interest rate exposure of a bank. Duration model Duration is an important measure of the inte rest rate sensitivity of assets and liabilities as it takes into account the time of arrival of cash flows and the maturity of assets and liabilities. It is the weighted average time tomaturity of all the present values of cash flows. Duration basic -ally refers to the average life of the asset or the liability. The larger the value of the duration, the more sensitive is the price of that asset or liability to changes in interest rates.The duration model has one important benefit. It uses the market value of assets and liabilities. Value at Risk It is the maximum expected loss that a portfolio can suffer over atarget horizon, given a certain confidence interval. It enables the calculation of market risk of a portfolio for which no historical data exists. It enables one to calculate the net worth of the organization at any particular point of time so that it is possible to focus on long -term risk implications of decisions that have already been taken or that are going to be taken. It is used e xtensively for measuring the market risk of a portfolio of assets and/or liabilities. Simulation Simulation models help to introduce a dynamic element in the analysis of interest rate risk. Gap analysis and duration analysis as stand -alone too15 for asset -liability management suffer from their inability to move beyond the static analysis of current interest rate risk exposures. Basically simulation models utilize computer power to provide what if scenarios . Asset Liability Management Asset-liability management basically refers to the process by which an institution manages its balance sheet in order to allow for alternative interest rate andliquidity scenarios. Banks

and other financial institutions provide services which expose them to various kinds of risk s like credit risk, interest risk, and liquidity risk. Asset liability management is an approach that provides institutions withprotection that makes such risk acceptable. Assetliabilitymanagement models enable institutions to measure and monitor risk, and provide suitable strategies for their management. Asset -liability management includes not only a formalization of this understanding, but also a way to quantify and manage these risks.Asset-liability management is a first step in the long -term strategic planning process. Therefore, it can be considered as a planning function for an intermediate term. In a sense, the various aspects of balance sheet management deal with planning as well as direction and control of the levels, changes and mixes of assets, li abilities, and capital. Risk in a way can be defined as the chance or the probability of loss or damage. In the case of banks, these include credit risk, capital risk, market risk, interest rate risk, and liquidity risk. These categories of financial risk require focus, since financial institutions like banks do have complexities and rapid changes in their operating environments.

Вам также может понравиться