Types of Market Risks

TYPES OF MARKET RISKS:INTEREST RATE RISK
Interest rate risk is the risk that arises for bond owners from
fluctuating interest rates. How much interest rate risk a bond has depends
on how sensitive its price is to interest rate changes in the market. The
sensitivity depends on two things, the bond's time to maturity, and the
coupon rate of the bond.
INTEREST RATE RISK AT BNAKS

The assessment of interest rate risk is a very large topic at banks, thrifts,
saving and loans, credit unions, and other finance companies, and among
their regulators. The widely deployed CAMELS rating system assesses a
financial institution's: (C)apital adequacy, (A)ssets, (M)anagement
Capability, (E)arnings, (L)iquidity, and (S)ensitivity to market risk. A large
portion of the (S)ensitivity in CAMELS is interest rate risk. Much of what is
known about assessing interest rate risk has been developed by the
interaction of financial institutions with their regulators since the 1990s.
Interest rate risk is unquestionably the largest part of the (S)ensitivity
analysis in the CAMELS system for most banking institutions. When a bank
receives a bad CAMELS rating equity holders, bond holders and creditors
are at risk of loss, senior managers can lose their jobs and the firms are
put on the FDIC problem bank list.
FOREIGN EXCHANGE RISK

Foreign exchange risk (also known as FX risk, exchange rate
risk or currency risk) is a financial risk that exists when a financial
transaction is denominated in a currency other than that of the base
currency of the company. Foreign exchange risk also exists when the
foreign subsidiary of a firm maintains financial statements in a currency
other than the reporting currency of the consolidated entity. The risk is
that there may be an adverse movement in the exchange rate of the
denomination currency in relation to the base currency before the date
when the transaction is completed. Investors and businesses exporting or
importing goods and services or making foreign investments have an
exchange rate risk which can have severe financial consequences; but
steps can be taken to manage (i.e., reduce) the risk.
MANAGEMENT
Firms with exposure to foreign exchange risk may use a number of foreign
exchange hedging strategies to reduce the exchange rate risk. Transaction
exposure can be reduced either with the use of the money
markets, foreign exchange derivatives such as forward contracts, futures
contracts, options, and swaps, or with operational techniques such as
currency invoicing, leading and lagging of receipts and payments, and
exposure netting.
Firms may adopt alternative strategies to financial hedging for managing
their economic or operating exposure, by carefully selecting production
sites with a mind for lowering costs, using a policy of flexible sourcing in
its supply chain management, diversifying its export market across a
greater number of countries, or by implementing strong research and
development activities and differentiating its products in pursuit of greater
inelasticity and less foreign exchange risk exposure.
EQUITY RISK
Equity risk is "the financial risk involved in holding equity in a particular
investment." Equity risk often refers to equity in companies through the
purchase of stocks, and does not commonly refer to the risk in paying into
real estate or building equity in properties.
The measure of risk used in the equity markets is typically the standard
deviation of a security's price over a number of periods. The standard
deviation will delineate the normal fluctuations one can expect in that
particular security above and below the mean, or average. However, since
most investors would not consider fluctuations above the average return
as "risk", some economists prefer other means of measuring it.
Equity risk premium is defined as "excess return that an individual stock
or the overall stock market provides over a risk-free rate." This excess
compensates investors for taking on the relatively higher risk of the equity
market. The size of the premium can vary as the risk in the stock, or just
the stock market in general, increases. For example, higher risks have a
higher premium. The concept of this is to entice investors to take on
riskier investments. A key component in this is the risk-free rate, which is
quoted as "the rate on longer-term government bonds." These are

considered risk free because there is a low chance that the government
will default on its loans. However, the investment in stocks isn't
guaranteed, because businesses often suffer downturns or go out of
business.
To calculate the equity-risk premium, subtract the risk free rate from the
return of a stock over a period of time. For example, if the return on a
stock is 17% and the risk-free rate over the same period of time is 9%,
then the equity-risk premium would be 8% for the stock over that period
of time.
COMMODITY RISK
Commodity risk refers to the uncertainties of future market values and of
the size of the future income, caused by the fluctuation in the prices
of commodities.[1] These commodities may
be grains, metals, gas, electricity etc. A commodity enterprise needs to
deal with the following kinds of risks:
Price risk (Risk arising out of adverse movements in the world

prices, exchange rates, basis between local and world prices)
Quantity risk
Cost risk (Input price risk)
Political risk
There are broadly four categories of agents who face the commodities
risk:
Producers (farmers, plantation companies, and mining companies)

face price risk, cost risk (on the prices of their inputs) and quantity risk
Buyers (cooperatives, commercial traders and trait ants) face price

risk between the time of up-country purchase buying and sale,
typically at the port, to an exporter.
Exporters face the same risk between purchase at the port and sale
in the destination market; and may also face political risks with regard
to export licenses or foreign exchange conversion.
Governments face price and quantity risk with regard to tax

revenues, particularly where tax rates rise as commodity prices rise
(generally the case with metals and energy exports) or if support or
other payments depend on the level of commodity prices.

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TYPES OF MARKET RISKS:INTEREST RATE RISK

INTEREST RATE RISK AT BNAKS

FOREIGN EXCHANGE RISK

quoted as "the rate on longer-term government bonds." These are

Price risk (Risk arising out of adverse movements in the world

Cost risk (Input price risk)

Producers (farmers, plantation companies, and mining companies)

Buyers (cooperatives, commercial traders and trait ants) face price

Governments face price and quantity risk with regard to tax

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