In may 2015, the european banking authority eba published an update to the guidelines for managing interest rate risk in the banking book irrbb. The risk that spread income will suffer because of a change in interest rates. In the present value perspective, the risk is quantified as an economic value change of the total banking book cash flow in case of changes in the yield curve. Houpt, of the boards division of banking supervision and regulation, prepared this article. The risk of loss due to a change in interest rates. Irrbb interest rate risk in the banking book a bearingpoint accelerator eba and the basel committee reacted to the current low interest environment with new or further detailed requirements for banks dealing with the risk arising from general banking business, known as interest rate risk in the banking book irrbb. Introduction interest rate risk in the banking book or irrbbas defined by the basel committeeis the current or prospective risk to a banks capital and earnings, arising from adverse movements in interest rates that affect. Mbl basel iii pillar 3 capital disclosures macquarie group. If a bank solely minimises its economic value risk by matching the repricing of its assets with liabilities beyond the short term, it could run the risk of earnings. The interest rate risk in the banking book can be measured and controlled at present value or periodically. A new proposal by the basel committee on banking supervision for setting the amount of capital banks must hold against potential losses from interest rate risk uses only a few, very stylized scenarios.
Moreover, a quantitative impact study qis was published within the basel iii monitoring environment on july 31, 2015 in order. These guidelines on managing interest rate risk in the banking book are intended to provide guidance on designing the strategies and processes required for identifying, measuring, controlling and monitoring interest rate risks in the banking book. Banks earn returns to shareholders by accepting and managing risk, including the risk that borrowers may. An analysis of commercial bank exposure to interest rate risk. Apra, which completed the adoption of basel iii riskbased capital. Interest rate risk in the banking book aps 117 sets out apra s requirements of authorised deposittaking institutions adis in relation to the management and measurement of interest rate risk in the banking book irrbb and the holding of regulatory capital against this risk. Addressed to competent authorities, they focus on expectations for the appropriate identification and mitigation by institutions of irrbb risks. Interest rate risk update for banking kpmg australia. The webinar was attended by 285 industry professionals, and below.
Interest rate risk management at community banks community. Interest rate risk in the banking book irrbb bankinghub. Amid the global coronavirus pandemicand a massive response by policymakershow can community banks best meet customer and employee needs while managing their balance sheets and loan portfolios. The way ahead executive summary interest rate risk in banking book irrbb refers to the current or prospective risk to a banks capital and earnings arising from adverse movements in interest rates that affect banking book positions. Nov 11, 2016 irrbb interest rate risk in the banking book 1. Bcbs standard for interest rate risk in the banking book objectives, approaches and disclosure meeting on irrbb and the revised standardised approach for credit risk sao paulo, brazil 2728 april 2016 jeff miller fsi connect relationship manager financial stability institute. This paper looks at the standards from a practical implementation point of view and raises some of the main challenges. Interest rate risk is the exposure of a banks financial condition to adverse movements in interest rates. The new basel committee on banking supervision bcbs standards for irrbb come into force january 1, 2018. For a depository institution, also called funding risk.
The basel committee on banking supervision has today issued standards for interest rate risk in the banking book irrbb. The risk that assets and liabilities reprice or mature at different times, causing margins between interest income and interest expense to narrow. The standards revise the committees 2004 principles for the management and supervision of interest rate risk, which set out supervisory expectations for banks identification, measurement, monitoring and control of irrbb as. The committees most recent release on this topic forms part of the proposed new basel capital accord. Interest rate risk is the risk where changes in market interest rates might adversely affect a banks financial condition. Interest rate risk in the banking book advanced adis federal. Nov 07, 2019 interest rate risk is the risk that arises when the absolute level of interest rates fluctuate. Accepting this risk is a normal part of banking and can be an important source of profitability and shareholder value.
Interest rate risk management latest about banking. An analysis of commercial bank exposure to interest rate risk david m. Interest rate risk is important to transactions like interest rate swaps. Leeto tlou and jonathan hacker provided assistance. Its aim is to identify earnings volatility over a 12monthhorizon against the two instantaneous parallel shock scenarios. Standards for interest rate risk in the banking book. These partial measures show the sensitivity of the market value of the banking book to a marginal parallel shift of a yield curve in particular maturity segments. This report details mbls disclosures as required by apra prudential standard aps. Interest rate risk in the banking book irrbb irrbb overview interest rate risk in the banking book irrbb is the risk to earnings or capital arising from movement of interest rates. While interest rate risk can arise from various sources, four key types of interest rate risk are common to community bank balance sheets. Interest rate risk financial definition of interest rate risk. The interest rate risk in banking book refers to the risk to a banks capital and earnings arising from adverse movements in interest rates that affect banking book positions. Apra means the australian prudential regulation authority.
Standards for interest rate risk in the banking book issued. Changes in interest rate affect earnings, value of assets, liability, offbalance sheet items and cash flow. Interest rate risk directly affects the values of fixedincome securities. The new reporting standard has updated references to the prudential standard aps 117, which sets out the requirements that an authorized deposittaking institution with approval to use an internal model for irrbb must meet for regulatory capital purposes.
Adis are not required to hold capital against interest rate risk in the banking book. As a result, institutions are now in the process of finding ways to comply with impending regulations whilst seeing what the most effective ways of calculating, and minimising, risk are. Interest rate risk management of commercial banks in. Interest rate risk is the risk that arises when the absolute level of interest rates fluctuate.
Interest rate risk in banking is the potential negative impact on the net interest income and it refers to the vulnerability of an institutions financial condition to the movement in interest rates. Its aim is to identify earnings volatility over a 12monthhorizon against the two instantaneous. In response to the new standards, the hkma published a consultation paper regarding the proposal to update the current spm module ir1 interest rate risk management and the return of mabs12 interest rate risk exposure in june 2017. Publicly, apra has been reserved about its plans, and a draft on prudential. Recall that the interest rate risk on the banking book are within pillar 2 and as such they are not linked to banks capital requirements. Interest rate risk in the banking book, written by industry expert paul newson, provides a thorough guide to the new regulatory requirements surrounding irrbb and demonstrates the importance of good governance.
For example, a bonds price drops as interest rates rise. Jan 14, 2016 on june 8, 2015 the basel committee for banking supervision bcbs published the consultative paper 319 on interest rate risks in the banking book, which has been developed by the task force on interest rate risk in the banking book tfir over the last years. T he management of interest rate risk should be one of the critical components of market risk management in banks. This report details mbls disclosures as required by apra prudential standard aps 330. Interest rate risk in the banking book advanced adis comprises the 18 pages commencing on the following page. While they may be appropriate for setting bank capital guidelines, they are much less relevant for everyday risk. Interest rate risk the chance that a securitys value will change due to a change in interest rates. However, excessive interest rate risk can pose a significant threat to a banks earnings and capital base. Interest rate risk in the banking book objective and key requirements of this prudential standard this prudential standard sets out the requirements that an authorised deposittaking institution must meet in relation to interest rate risk in the banking book. Interest rate risk the risk of loss due to a change in.
Interest rate risk is an integral part of banking business, and may even be a source of profit. Nov 14, 2009 interest rate risk management for banks under basel ii, presentation by christine brown, department of finance, the university of melbourne, shanghai, december 812, 2008. These standards are intended to replace an earlier guidance set out in the 2004 principles for the management and supervision of interest rate risk4, which laid out the principles and the methods expected to be used by banks for measuring, managing, monitoring and. With the interest rate risk of the banking book, the basel committee on banking supervision bcbs 1 aims primarily to address the potential loss of economic value of institutions from a change in the interest rates called irr and credit spread risk csr in the banking book 2. So far, only australian owned adis have applied to use internal models for irrbb. For example, if a bank holds a 30year mortgage with a fixed rate of 3. Understanding the fundamentals of irrbb and how it differs from interest rate risk in the trading book. Consultations on revisions to the capital framework. Interest rate risk in the banking book over the past decade the basel committee on banking supervision the basel committee has released a number of consultative documents discussing the management and supervision of the interest rate risk inherent in a banks balance sheet 1. In april 2016, bcbs issued standards for interest rate risk in the banking book. Interest rate risk in the banking book, written by industry expert paul newson, provides a thorough guide to the new regulatory requirements surrounding irrbb and demonstrates the importance of good governance the author explains the nature of interest rate risks in simple language, describing the methods typically used to measure them, with the added advantage of many worked examples. On june 8, 2015 the basel committee for banking supervision bcbs published the consultative paper 319 on interest rate risks in the banking book, which has been developed by the task force on interest rate risk in the banking book tfir over the last years. Currently, aps 117 applies only to adis that have been given approval to use an internal model for interest rate risk. Partial modified durations and pv01 are computed for the net interest rate positions in subportfolios representing different time bands of the banking book.
Mar 28, 2012 interest rate risk in the banking book understanding the fundamentals of irrbb and how it differs from interest rate risk in the trading book event start date. Nii, on the other hand, is always based on cash flows at client rates and thus represents total nii. Interest rate risk management for banks under basel ii, presentation by christine brown, department of finance, the university of melbourne, shanghai, december 812, 2008. View homework help apra interest rate risk on the banking book may2003 from bff 2401 at monash. Interest rate risk and management linkedin slideshare. The bcbs published its final standards on interest rate risk in the banking book irrbb in april 2016, with guidelines set to be implemented by 2018. The standards revise the committees 2004 principles for the management and supervision of interest rate risk, which set out supervisory expectations for banks identification, measurement, monitoring and control of irrbb as well as its supervision. Whitepaper interest rate risk in the banking book irrbb. It generally arises from repricing risk, risks related to the timing mismatch in the maturity and repricing of assets and liabilities and off. What is interest rate risk in the banking book irrbb. Meeting the practical challenges highlights the new basel committee on banking supervision bcbs standards for irrbb come into force january 1, 2018.
Latest interest rate risk in the banking book irrbb articles on risk management, derivatives and complex finance. The collection must be modernised, apra said in the paper. Interest rate risk might lead a bank to be locked into a lower rate investment than the market interest rate. Market risk and interest rate risk in the banking book is. Nevertheless, abnormal levels of interest rate risk may expose banking corporations to losses and even pose a threat to their capital. The consultation also includes a draft prudential standard aps117 capital adequacy. Guidelines on technical aspects of the management of. Assessing supervisory scenarios for interest rate risk.
More importantly, the fact that credit spreads play an. Implementing interest rate risk in the banking book irrbb. Interest rate risk in the banking book in 2015, two documents were published that will have a significant impact on the risk management framework of banking institutions. In such a transaction, the party receiving the floating rate will receive a smaller amount should the floating rate decrease. The standards, issued for the first time in more than a decade, introduced a strengthened pillar 2 approach and set out supervisory expectations for banks identification, measurement, monitoring and control of irrbb as well as its supervision. At worst, there could be an opportunity loss, but always. The september 2019 consultation includes apras response to the submissions received in relation to its initial proposals on the revised interest rate risk in the banking book irrbb requirements, and commences a detailed consultation on other amendments to strengthen the irrbb prudential framework.
These partial measures show the sensitivity of the market value of the banking book to a marginal parallel shift. The book is essential reading for all those involved with interest rate risk in the banking book but particularly those working in a bank alm function who wish to gain a wider appreciation of the context in which they operate, more generalist and senior bankers who need a grasp of the fundamentals and those working in a trading risk function. Apra updates reporting standard on interest rate risk in. Interest rate risk in the banking book irrbb news and. Interest rate risk in the banking book advanced adis made under that determination. Apg 117 interest rate risk in the banking book advanced. Therefore, the focus is on the impact of the change of the interest rate level. Sep 08, 2010 interest rate risk in banking is the potential negative impact on the net interest income and it refers to the vulnerability of an institutions financial condition to the movement in interest rates. Whitepaper implementing interest rate risk in the banking. However, from an earnings point of view, there cannot be an interest rate loss from investing equity in fixed rate assets in order to stabilize earning flows. Interest rate risk in the banking book advanced adis. Bcbs standard for interest rate risk in the banking book.
The basel committee on banking supervision bcbs issued new standards on irrbb in april 2016. The australian prudential regulation authority apra issued a discussion paper in january sharing its plans to improve the quality and accuracy of data it receives from adis which covers banks, building societies and credit unions and registered financial corporations. Implementing interest rate risk in the banking book irrbb polling results in march 2017, moodys analytics, together with asia risk and, held a webinar, interest rate risk in the banking book. It generally arises from repricing risk, risks related to the timing mismatch in the maturity and repricing of. Analysis shows the proposed scenarios are extremely unlikely to occur. Any changes in interest rates have an impact on the present value of future cash flows on the bank. The management of interest rate risk is therefore critical to the stability of any banking corporation. Interest rate risk in the banking book over the past decade the basel committee on banking. At present, apra s supervisory regime for adis requires that they hold capital against the interest rate risk arising from taking trading positions in interest rate markets ie the interest rate risk inherent in an adis trading book 3.