Md.Mizanur Rahman ID.

091-11-852

Risk Management of Prime Bank and Eastern Bank

Risk Management of Prime Bank: The Risk of any banking institution may be defined as the possibility of incurring losses, financial or otherwise. Banking business is in fact a business of risk taking. So it is vital to manage all these risk ventures. The major areas of risk are Credit Risk, Liquidity Risk, Market Risk, Operational Risk, Foreign exchange risk, Interest rate risk and Equity risk. The Risk management policy of the bank operates under 5 broad principles: *Oversight by the Board/Executive Committee. Board approves policies and processes of risk management which is recommended by the Top Management and Executive Committee approves the credit proposals submitted by the top Management. *Audit Committee of the Board reviews the internal audit reports of the bank and risk management covering credit risk, operational risk including money laundering risk, market risk and liquidity risk. *Dedicated independent risk management units via Credit Risk Management Unit, Credit Administration Department, Credit Monitoring and Recovery Department, Internal Control and Compliance Division, Internal Audit Division, IT audit Department and Money Laundering Risk through Chief Compliance Officer of the bank and Compliance officers posted at different branches. *Dedicated committee at management level has been set up to monitor risk via credit risk through credit Review Committee/and Risk Management unit. Operational risk through management committee and internal control and compliance Division, market and Liquidity risk through asset liability committee. *In order to streamline risk control features in a more effective manner, PBL has put in place its standard operating procedure in line with internationally accepted best practices. Sops cover all operating departments like Corporate Banking, SME Banking, and Retail Banking, Credit, Foreign Exchange, Treasury, Human Resources and Financial Administration. Sops help to control and improve risk management and consistency.

Some risk of Prime Bank that effect on profit:

1) Credit risk: Credit risk is one of the major risks faced by the Bank. This can be described as potential loss arising from the failure of a counter party to perform according to contractual arrangement with the Bank. The failure may arise due to unwillingness of the counter party or

decline in economic condition etc. Hence the Bank's risk management has been designed to address all these issues. In 2007

Credit Risk = Provision for loan & loss / Total loan & advances = 91000 000 / 57, 68302000
=0.0158

In 2008

Credit Risk = Provision for loan & loss / Total loan & advances
=1, 38350000 / 75, 15621000 =.0184 2) Market Risk: Market risk is defined as the potential change in earnings due to changes in rate of interest, foreign exchange rate and equity prices. Treasury Division manages the market risk and ALCO monitors the activities of Treasury division in managing the risk.
In 2007

Market Risk = (No. of share*book value of per share)/ (No. of

share* market value of

per share)
= (2275000 * 341.25) / (2275000*924) =0.3693
In 2008

Market Risk = (No. of share*book value of per share) / (No. of share* market value of per share) = (2844000 * 235.49) / (2844000 * 539.75) =.4362 3) Interest Rate risk: Treasury division reviews the trend analysis of market movement particularly peer group analysis and economic outlook closely and prepares the gap position for proper management of interest rate movement. The estimated impact of 1 percent change in interest rate was within the tolerable limit of the Bank. The bills held for maturity had positive PV as such it had favorable affect in Bank's equity position. As per policy of Bangladesh Bank the revaluation gain/loss are shown against changes in equity. The strong liquidity gave positive nil from money market operation due to seasonal fluctuation in interbank rate. In 2007

Interest Rate Risk = Interest sensitive asset / Interest sensitive liability

= (57, 68302000+ 12, 69802000 +4,755,788,872+2,417,468,479) / (1,415,647,557+ 390,869,490) =.7867

In 2008

Interest Rate Risk = Interest sensitive asset / Interest sensitive liability

= (75, 15621000 + 23, 10310000+6,447,553,847+ 2,002,071,147) / (2,311,089,758+ 11,397,859,931) =.8397

4) Liquidity Risk: The object of liquidity risk management is to ensure that all foreseeable funding commitments and deposits withdrawals can be met when due. To this end, PBL

maintains diversified and stable funding base comprising of core retail, corporate and institutional deposits. It maintained sufficient liquid assets for meeting the funding requirements. The principle responsibility of the liquidity risk management of the Bank rests with Treasury Division. Treasury Division maintains liquidity based on historical requirements, current liquidity position, anticipated future funding requirement, sources of fund, options for reducing funding needs, present and anticipated asset quality, present and future earning capacity, present and planned capital position. ALCO monitors the liquidity management of Treasury Division by i) setting tolerance limit for cumulative cash flow mismatches ii) setting limit on loan to deposit ratio, iii) setting limits on dependence on institutional deposits which are volatile in nature. In 2007 Liquidity Risk =Purchase Fund / Total asset
= 98,975,606 / 8,178,114,104 =0.0121

In 2008 Liquidity Risk = Purchase Fund / Total asset = 308,815,654 / 9,620,942,281 =.0320

Principles for the management of credit risk in PBL: The sound practices set out in this document specifically address the following areas: 1) Establishing an appropriate credit risk environment; 2) Operating under a sound credit granting process; 3) Maintaining an appropriate credit administration; 4) Ensuring adequate controls over credit risk.

Prevention of money Laundering: Money laundering risk is defined as the loss of reputation and expenses incurred as penalty for being negligent in prevention of money laundering.

Internal Control and Compliance: Internal Control and Compliance is a management process designed to achieve: 1) Effectiveness and efficiency of operations 2) Reliable financial reporting 3) Compliance with laws and regulations.

Risk Management of Eastern Bank

Eastern Bank Limited has a risk management framework established on the bases of global best practice, and Bangladesh Bank core risk management guidelines. This process followed by our qualified human skills promote judicious analysis of risk to ensure effective management of banks portfolio so that it reflects stakeholders risk appetite and expected return. In 2009, risk management framework of the bank shall face a major shift due to introduction of Basel II. According to this agreement, commercial banks shall have to maintain regulatory capital to mitigate credit risk, market risk, and operational risk, and its implementation may warrant more regulatory capital for commercial banks. Until 2008, banks maintained capital to mitigate credit risk only.

Risk Governance:
Eastern Bank Limited has a system of check and balance through its risk management structure to manage the core risks efficiently. The basic principles of risk management followed by the bank include:

Credit Risk Management: Credit risk is the risk that counterparty will not settle its obligations in
accordance with agreed terms. Credit exposures include both individual borrowers and groups of affiliated /connected counterparties. The Head of Credit Risk Management (HoCRM) has clear responsibility for management of credit risk. Policies/instructions in this respect are approved by the Board of Directors or authorities acting on their delegation.

In 2007

Credit Risk =Provision for loan & loss / Total loan & advances
=1,175,621,872 / 30,961,802,828 =0.0379 In 2008

Credit Risk = Provision for loan & loss / Total loan & advances
=1,419,570,642/ 39,662,162,813 =0.0358 Market Risk: The bank recognizes market risk as the exposure created by potential changes in market
prices and rates. The management of market risk will be more effective under the Basel II agreement. Guidelines prescribed by Bangladesh Bank for Basel II implementation covers both trading and nontrading books of a commercial bank. Eastern Bank Limited also encourage stress testing to foresee potential risks that may arise from extreme market events, which are rare but plausible. The bank performed a stress test / impact study on the impact of global financial crisis on its portfolio. In 2007

Market Risk = (No. of share*book value of per share)/ (No. of share* market value of per share) = (856,600* 369.91) / (856,600*1,070.75) =0.3454
In 2008

Market Risk = (No. of share*book value of per share) / (No. of share* market value of per share)
= (944,600* 341.25) / (944,600*589.30) =0.5791

Interest Rate Risk: Structural interest rate risk arises from the re-pricing characteristics of banking
assets and liabilities. ALCO is mainly responsible for establishing guidelines for the management of assets and liabilities, monitoring and minimizing interest rate risks at an acceptable level. These guidelines and actions are taken in adherence to the policies issued by Bangladesh Bank from time to time.

In 2007 Interest Rate Risk = Interest sensitive asset / Interest sensitive liability = (30,895,706,294+ 3, 45700000+ 1,511,426,000+ 70,866,892) / (25,958,579,503+ 3, 79300000)
=1.246

In 2008 Interest Rate Risk=Interest sensitive asset/ Interest sensitive liability

= (39,427,383,891+ 5, 32500000+ 2,153,356,000+ 118,905,897)/ (33,596,599,654+ 4, 94800000) =.3879

(d) Liquidity Risk: Liquidity risk is defined as the risk that the bank either does not have sufficient
financial resources available to meet all its obligations and commitments as they fall due, or can access them only at excessive cost. It is the policy of the bank to maintain adequate liquidity at all times. Liquidity risk management is governed by ALCO and responsible for both statutory and prudential liquidity. Since liquidity have inverse relationship with profitability, prudential management of liquidity is important. A substantial portion of the banks assets are funded by customer deposits made up of current, savings, fixed, and other deposits. The bank also maintains significant levels of marketable securities usually or for compliance with statutory requirements. Credit to Deposit ratio of the bank as on 31 December 2008 was 95.40 percent, and the bank maintained statutory liquidity in 2008 in all cases.

In 2007
Liquidity Risk =Purchase Fund/Total asset
=66,096,535/72,460,352 =0.9122 In 2008

Liquidity Risk = Purchase Fund / Total asset

=234,778,922 / 246,472,089 =.9525 (e) Operational Risk: Operational risk is the risk of direct or indirect loss due to an event or action
resulting from the failure of internal processes, people and systems, or from external events. The bank seeks to ensure that key operational risks are managed in a timely and effective manner through a framework of policies, procedures and tools to identify, assess, monitor, control and report such risks. The bank established a dedicated Operational Risk Management team for such purposes

4.3. Risk Management Ratio:

Market Risk = (No. of share*book value of per share)/

(No. of share* market value of

2008 43.62% 57.91%

per share)
Particular Prime Bank Eastern Bank 2007 36.93% 34.54%

60 50 40 30 20 10 0 2007 2008 Prime bank

Figure: Market Risk

Credit Risk: Provision for loan loss / total asset

Particular Prime Bank Eastern Bank 2007 1.58% 3.79% 2008 1.84% 3.58%

4 3.5 3 2.5 2 1.5 1 0.5 0 2007 2008 Prime bank Eastern bank

Figure: Credit Risk

Interest Rate Risk = Interest sensitive asset / Interest sensitive liability

Particular Prime Bank Eastern Bank
90 80 70 60 50 40 30 20 10 0 2007 2008

2007 78.68% 12.46%

2008 83.97% 12.84%

Prime bank Eastern bank

Figure: Interest Rate Risk

Liquidity Risk =Purchase Fund / Total asset

Particular Prime Bank Eastern Bank 2007 1.21% 91.22% 2008 3.20% 95.25%

100 90 80 70 60 50 40 30 20 10 0 2007 2008

Prime bank Eastern bank

Figure: Liquidity Risk

Tonmoy Kumar Saha 091-11-841 Liquidity Management:

In this study, at first we have calculated the net liquidity gaps for both the banks for the period 2007 and 2008.To calculate net liquidity gap, we have collected maturity-wise information of both assets and liabilities, which is segmented according to the following maturity buckets: i. Up to 1 month maturity ii. 1-3 months maturity iii. 3-12 months maturity iv. 1-5 years maturity v. More than 5 years maturity With this information, we have calculated the net liquidity gap for each maturity bucket from 2007 and 2008 by adding all the assets falling under that bucket and then subtracting all the liabilities falling under that bucket from the assets of the same maturity bucket. That is NLG = A - L . (1) Where, NLG = Net liquidity gap during a particular maturity bucket A = Assets falling under a particular maturity bucket L = Liabilities falling under a particular maturity bucket Positive net liquidity gap implies that the bank has sufficient assets to satisfy the liabilities of the same maturity bucket and negative net liquidity gap implies that the liabilities exceed the assets for that particular maturity bucket.

Liquidity Management of Prime Bank and Eastern Bank 2007:

The Prime bank & Eastern Bank experienced positive liquidity gap for the period under study. That is in a one years under consideration, The Prime bank & Eastern Bank could satisfactorily maintain higher amount of assets than liabilities. It implies The Prime bank & Eastern Bank ability to satisfy the liabilities as and when necessary.

One year net liquidity gap of the Prime bank & Mutual Trust Bank (Amounts are rounded and expressed in million TK.) Year Prime Bank-2007 Eastern Bank -2007 Net liquidity Gap Net liquidity Gap 1001.14 525.49 Up to 1 Month 301.75 4862.61 1-3 Month 34.62 2947.15 3-12 Month 3053.77 9443.67 1-5 Year 881.99 2602.50 Over 5 Year 5273.28 3710.91 Total

10000 9000 8000 7000 6000 5000 4000 3000 2000 1000 0 Up to 1 Month 1-3 Month 3-12 Month 1-5 Year Over 5 Year Prime Bank Eastern Bank

Graph: Liquidity gap

Comparative analysis of the liquidity position:

In the above table, we have calculated 2007 year net liquidity gap of the two banks basis of maturity. From the analysis, we have the following information we are findings: a. The PBL was appropriate up to 1 month maturity assets to a greater then the EBL at the same maturity period in the liquidity gap. b. In case of 1-3 month and 3-12 month maturity liquidity gap, the EBL performed better than the PBL. That is, during the period under analysis, the EBL managed liquidity situation of these two durations more efficiently than the PBL. c. Again, in 1-5 year maturity the EBL handled the liquidity situation more effectively than the PBL, whereas, in More than 5 year maturity situation, the EBL liquidity performance was better.

Short and long term comparison:

Year-wise decomposition of net liquidity gap of the Prime bank & Eastern Bank (Amounts are rounded and expressed in million TK.) Year Prime Bank - 2007 Eastern Bank - 2007 Short-term liquidity gap 1337.51 8335.25 Long- term liquidity Total liquidity gap gap 3935.76 - 2598.25 12046.17 -3710.92

we consider single years, we see that only in the year 2007, the PBL experienced Negative liquidity gap and The EBL is also negative liquidity gap in 2007. The PBL long term liquidity gap was higher then the short term liquidity gap. Other side EBL also same thing happened in there liquidity gap. So, we can say that the both bank should focus more on managing long-term assets to satisfy short-term.

14000 12000 10000 8000 Eastern Bank 6000 4000 2000 0 Short-term Long-term Prime Bank

Graph: Short & long term liquidity gap

Liquidity Management of Prime Bank and Eastern Bank 2008:

One year net liquidity gap of the Prime bank & Eastern Bank (Amounts are rounded and expressed in TK.) Year Prime Bank - 2008 Eastern Bank - 2008 (Net liquidity Gap) (Net liquidity Gap) 7437.44 3767.43 Up to 1 Months 3649.32 313.84 1-3 Months 14232.47 5880.57 3-12 Months 10974.70 144.67 1-5 Year 4203.02 3409.75 Over 5 Year 4733.36 6696.77 Total

16000 14000 12000 10000 8000 6000 4000 2000 0 Up to 1 Months 1-3 Months 3-12 Months 1-5 Years Over 5 Years Prime Bank - 2008 Eastern Bank - 2008

Graph: Liquidity gap

Comparative analysis of the liquidity position:

In the above table, we have calculated 2008 year net liquidity gap of the two banks basis of maturity. From the analysis, we have the following information we are findings: a. The PBL was appropriate up to 1 month maturity assets to a greater then the EBL at the same maturity period in the liquidity gap. b. In case of 1-3 month and 3-12 month maturity liquidity gap, the EBL performed better than the PBL. That is, during the period under analysis, the EBL managed liquidity situation of these two durations more efficiently than the PBL. c. Again, in 1-5 year maturity the EBL handled the liquidity situation more effectively than the PBL, whereas, in More than 5 year maturity situation, the EBL liquidity performance was better. Short and long term liquidity gap: Year Prime Bank - 2008 Eastern Bank - 2008 Short-term liquidity gap 9961.84 25319.23 Long- term liquidity Total liquidity gap gap 3554.42 6407.42 15177.72 10141.51

30000 25000 20000 15000 10000 5000 0 Short-term Long-term Prime Bank Long-term

Graph: Short & long term liquidity gap

Dost, print of those page & add to the Assignment .ok

Liquidity Statement: Prime Bank 2007 (Page- 144) Prime Bank 2008 (Page- 170)

Eastern Bank : 2007 (Page -29) Eastern Bank : 2008 (Page-103 )