Risk Management : Challenge and Opportunity

by Frenkel, Michael; Hommel, Ulrich; Rudolf, Markus

• ISBN13: 9783540671343
• ISBN10: 354067134X
• Format: Hardcover
• Copyright: 2000-06-01
• Publisher: Springer Verlag

Summary

Dealing with all aspects of risk management that have undergone significant innovation in recent years, this book aims at being a reference work in its field. Different to other books on the topic, it addresses the challenges and opportunities facing the different risk management types in banks, insurance companies, and the corporate sector. Due to the rising volatility in the financial markets as well as political and operational risks affecting the business sector in general, capital adequacy rules are equally important for non-financial companies. For the banking sector, the book emphasizes the modifications implied by the Basel II proposal. The volume has been written for academics as well as practitioners, in particular finance specialists. It is unique in bringing together such a wide array of experts and correspondingly offers a complete coverage of recent developments in risk management.

Table of Contents

A Word of Greeting	vii
Professor Gunter Dufey's Career Contributions:	ix
Preface	xiii
Part 1: Expanding the Focus of Risk Management
Does Risk Management Make Financial Markets Riskier?	3	(22)
Ian R. Harper
Joachim G. Keller
Christian M. Pfeil
Introduction	4	(1)
Increased Risk through Risk Management?	4	(1)
Market Risk as a Regulatory Concern	5	(1)
The Measurement of Market Risk	6	(5)
Some Comments on Different Approaches to VaR	6	(3)
VaR as an Amplifier of Volatility?	9	(2)
Some Empirical Results on Volatility in Major Stock Markets	11	(9)
Model Set-up, Data and Hypotheses	11	(8)
Estimation Results	19	(1)
Conclusion	20	(5)
The Relevance and Management of Reputation Risk in the Global Securities Industry	25	(14)
Ingo Walter
Performance Benchmarks	25	(1)
Between Values and Expectations	26	(1)
Between Expectations and Public Policy	27	(1)
Management's High-Wire Act	27	(2)
Pricing Reputation Risk: An Example	29	(4)
Managing Reputation Risk	33	(1)
What Can be Done?	34	(2)
Balancing the Pieces	36	(3)
Managing Catastrophic Risk with Financial Instruments	39	(24)
Ulrich Hommel
Introduction	39	(4)
CAT-Linked Securities -- A New Asset Class	43	(2)
Traditional and ART-Based CAT Reinsurance	45	(4)
Optimizing the Issuer's Risk Portfolio	49	(2)
Hedging Strategies with CAT-Linked Securities	51	(4)
Excess-of-loss Contract Replication with PCS Call Option Spreads	51	(3)
Ex-Post Capital Provision and Funding Cost Reduction with CAT-linked Bonds	54	(1)
Valuation Issues	55	(2)
Concluding Remarks	57	(6)
Introducing New Risk Classes to Organized Exchanges: The Case of Electricity Derivatives	63	(22)
Christian Geyer
Werner G. Seifert
Introduction	63	(1)
Building on New Paradigms	64	(8)
The Integration of the Markets is Accelerating	65	(1)
Consolidation of European Market Infrastructures	66	(3)
A New Understanding of Roles, New Technologies, and New Abilities Need a Different Form of Capitalization	69	(3)
New Risk Classes in Electricity	72	(6)
Challenges and Opportunities in the Emerging Power Market	72	(1)
Competition in the Electricity Industry	73	(1)
Opportunities Offered by an Electricity Exchange	74	(1)
Why Power is Different	74	(1)
Determinants of Power Prices and Related Risks	75	(1)
Limitations of Black/Scholes With Respect to Electricity	76	(1)
New Evaluation of Assets and New Products	77	(1)
Price Discovery: Reshaping the Power Industry	78	(4)
The Role of the Forward Curve	78	(1)
Price Discovery in Bilateral and Exchange Markets	79	(1)
Reshaping of the Energy Industry has Begun	80	(1)
The Creation of the European Energy Exchange	81	(1)
Transfer to Other Risk Classes	82	(3)
The Future of Deutsche Borse: Developer and Operator of Markets for Tradable Products	82	(3)
Challenges and Solutions for the Management of Longevity Risk	85	(18)
Petra Riemer-Hommel
Thomas Trauth
Introduction	85	(1)
Establishing the Relevance of Longevity Risk to the Insurance Industry	86	(4)
Economic Reasons for the (Re)insurance Gap	90	(5)
Possible Solutions for Longevity Risk (Re)insurance	95	(3)
Conclusions	98	(5)
Part 2: Risk Measurement Issues
The Key to Risk Management: Management	103	(18)
Adrian E. Tschoegl
Introduction	103	(2)
Some Examples of Financial Debacles	105	(7)
Barings Brothers	105	(2)
Daiwa Bank	107	(2)
Sumitomo Corporation	109	(3)
Conceptualizing Debacles and their Prevention	112	(5)
Conclusion	117	(4)
Market Risk: Benchmark and Standard Model	121	(20)
Claudia Holtorf
Markus Rudolf
Introduction	121	(1)
VaR Calculation	122	(10)
Regulatory Reporting, VaR, and Capital Requirement	132	(2)
Internal vs. Standard Model	134	(4)
Summary and Outlook	138	(3)
KMV Credit Risk Modeling	141	(14)
Florian Rehm
Markus Rudolf
Introduction	142	(1)
Option Pricing and the Market Value of the Assets	142	(4)
EDF Calculation	146	(1)
KMV Credit Monitor Compared to Agency Ratings	147	(4)
KMV Portfolio Manager	151	(1)
Summary	152	(3)
Value at Risk: Tool for Managing Trading Risks	155	(26)
Wolfgang Eisele
Alois Paul Knobloch
The Concept of Value at Risk and its Role in Contemporary Risk Management	155	(5)
The Value at Risk Measure and Significant Trading Risks of Concern	156	(2)
Applications and Regulatory Background	158	(2)
Calculating Value at Risk: Methods and Inherent Sources of Inaccuracy	160	(6)
Delta-normal and Delta-gamma Approach	161	(3)
Simulation Methods: Historical and Monte Carlo Simulation	164	(2)
Risk Reduction and Capital Allocation within a Value at Risk Framework	166	(5)
Minimizing Value at Risk	166	(3)
Delta-normal as a Tool for Capital Allocation	169	(2)
Shortcomings of Value at Risk as a Measure of Risk	171	(5)
Conclusions	176	(5)
The Real Option Value of Operational and Managerial Flexibility in Global Supply Chain Networks	181	(22)
Arnd Huchzermeier
Introduction	182	(1)
The Benefit of Operational Flexibility	183	(6)
The Original Problem	183	(1)
Supply Chain Network Cost Optimization	184	(2)
Profit Maximization	186	(1)
Shareholder Value Maximization	186	(1)
Transfer Pricing	187	(1)
Knowledge Management	188	(1)
Real Exchange Rate Risk	188	(1)
The Option Value of Managerial Flexibility	189	(9)
Demand Risk	190	(2)
Exchange Rate Uncertainty	192	(6)
Summary	198	(5)
Problems of Evaluating R&D Projects as Real Options	203	(10)
Klaus Brockhoff
A Sketch of Developments Towards R&D Project Evaluation	203	(3)
R&D Projects as Options	206	(4)
Research Projects	206	(1)
Development Projects	207	(3)
Conclusion	210	(3)
Financial Hedging and Banks' Assets and Liabilities Management	213	(18)
Jack E. Wahl
Udo Broll
Introduction	213	(2)
Bank Hedging and Interest Rate Risk	215	(2)
Assets and Liabilities Management without Hedging	217	(2)
Assets and Liabilities Management with Hedging	219	(5)
No Basis Risk	219	(2)
Basis Risk	221	(3)
Welfare and the Value of Hedging	224	(1)
Concluding Remarks	225	(6)
Part 3: Regulatory Issues
Governance of Global Financial Markets: Risk of Hubris	231	(16)
Arvind K. Jain
We are Rational People -- More or Less?	233	(1)
Good Guys Like Us Would Never Do That!	234	(9)
Moral Hazard	234	(2)
Herding	236	(2)
Poor Analysis and Simply ``No Analysis''	238	(4)
Disaster Myopia	242	(1)
Concluding Remarks	243	(4)
Risk Management, Corporate Governance and the Modern Corporation	247	(16)
Fred R. Kaen
Introduction	247	(1)
``Scientific'' Theoretical Perspective On Risk Management	248	(2)
From Theory To Practice: Why Firms Should Manage Risk	250	(7)
Using Risk Management to Lower Taxes	251	(1)
Reducing Financial Distress and Bankruptcy Costs	251	(1)
Using Risk Management to Encourage and Protect Firm Specific Investment	252	(2)
Using Risk Management to Monitor and Control Managers	254	(2)
Using Risk Management to Improve Decision Making and Capital Budgeting	256	(1)
Risk Management and Dividends	256	(1)
Back to Berle and Means	257	(2)
Summary and Conclusions	259	(4)
Governing the Corporate Risk Management Function: Regulatory Issues	263	(14)
Ehrenfried Pausenberger
Frank Nassauer
Introduction	263	(1)
Risk Definition and Risk Management	264	(1)
The Reform of Corporate Control by the German KonTraG	265	(4)
Specifying the Duties of the Management Board	265	(1)
Professionalization of the Supervisory Board	266	(1)
Reform of the Auditing	267	(1)
Survey of the New Regulations	268	(1)
Subtasks of the Corporate Risk Management Function	269	(5)
Identification and Classification of Risks	269	(1)
Measuring of Risks	270	(2)
Formulating a Strategy to Manage Risks	272	(1)
Taking Counteracting Measures	273	(1)
Monitoring the Risk Management Process	273	(1)
Concluding Remarks	274	(3)
Statutory Regulation of the Risk-Management Function in Germany: Implementation Issues for the Non-Financial Sector	277	(18)
Jurgen Weber
Armin Liekweg
Introduction: New Statutory Regulations Cause a New Discussion in Germany on Risk Management	277	(2)
Enterpreneurial Risk and Risk Management: a Holistic Approach	279	(1)
Opportunity, Risk, and Their Definitions	279	(1)
Opportunity, Risk, and Their Dimensions	280	(1)
The Process of Entrepreneurial Opportunity and Risk Management	281	(10)
Opportunity/Risk Strategy	282	(2)
Opportunity/Risk Identification	284	(1)
Opportunity/Risk Analysis	285	(1)
Opportunity/Risk Reporting	286	(3)
Opportunity/Risk Management	289	(1)
Opportunity/Risk Monitoring	290	(1)
The Process-External Monitoring and Audit Function	291	(1)
Summary: the Critical Factors for Implementing the Risk-Management Function	292	(3)
Financial Reorganization in Japan: Can Japanese Banks Survive?	295	(18)
Mitsuru Misawa
Current Status	295	(4)
Demise of the High Growth Period and Birth of the Bubble Economy	299	(2)
The Japanese Big Bang (Financial Overhaul)	301	(2)
Reforming the Financial System	303	(4)
Shift Toward the ``Business-Category Subsidiary'' System	303	(1)
Legalization of Financial Holding Companies	304	(3)
Revitalization Through Coordination and Consolidation	307	(6)
International Trade in Risky Foods: The Policies of the European Community and the World Trade Organization	313	(22)
William James Adams
Introduction	313	(2)
The Hormone Beef Dispute Between the EC and the US	315	(3)
The Mad Cow Dispute Between the EC and the UK	318	(2)
Genetically Modified Foods	320	(2)
Discussion	322	(9)
Conclusion	331	(4)
Part 4: Risk Management from an International Perspective
Economic Risks of EMU	335	(22)
Michael Frenkel
Paul McCracken
Introduction	335	(1)
Risk to Stability Stemming from National Developments	336	(5)
Risk of High Adjustment Costs Stemming from European Labor Markets	341	(9)
Risks Associated with EMU Enlargement	350	(2)
Risks in EMU Financial Markets	352	(2)
Conclusions	354	(3)
Estimating the Exchange Rate Exposure of US Multinational Firms: Evidence from an Event Study Methodology	357	(16)
Kathryn L. Dewenter
Robert C. Higgins
Timothy T. Simin
Introduction	358	(2)
Sample Selection and Event Study Methodology	360	(3)
Event Study Measures of Exchange Rate Exposure	363	(2)
Determinants of Exchange Rate Exposure	365	(4)
Conclusion	369	(4)
Foreign-Exchange-Risk Management in German Non-Financial Corporations: An Empirical Analysis	373	(30)
Martin Glaum
Introduction	373	(2)
Theoretical Framework: Measurement and Management of Foreign-Exchange Risk	375	(3)
Methodology of the Empirical Study	378	(1)
Results of the Empirical Study	379	(11)
Exposure Concepts	379	(3)
Exchange-Risk-Management Strategies	382	(4)
The Use of Foreign-Exchange-Rate Forecasts	386	(1)
Organization of Exchange-Rate Management	386	(2)
Further Arguments and Hypotheses on Exchange-Risk Management	388	(2)
Conclusion	390	(13)
Authors	403