Operational Risk

Operational risk (according to Basel II) is a risk of loss due to the inability or failure of internal processes, people, systems or from external events. More operational risks can also be caused by the legal risk (Regulatory and legal requirement). 
Although the definition of Operational Risk in Basel II does not include business risk, strategic risk and reputation risk, banks should include risks at the time of the RBC. 
Operational risk is the most important risks that affect our customers every day. Because of that bank to increase attention on the process, procedures and controls relating to operational risks. 
In the last 20 years, the operational risks of mismanagement have created a great loss to the bank as well as credit risk and market risk. 
Daily problem that affects every bank, among others: 
failure to reconciliation of payments made / created bank 
error transactions by trader or back office staff is a result of an error position in the market and cause problems in the bank reconciliation 
failure to balance the debit and credit received by banks 
system failure due to the computer system upgrade 
external events such as floods or power off 
Changes in the banking sector caused a change in operational risks. Incident which caused the loss is replaced by a small incident by a rare but provide a big impact (Low Frequency / High Impact). 
Therefore, Basel II requires banks to: 
Calculate / mengkuantifikasi operational risks 
Measuring operational risk 
allocate capital as credit risk and market risk 
Some of the reasons why the risk of bank operational changes: 
Automation 
Dependence on technology 
Outsourcing 
Terrorism 
Globalization 
Trader who prankish (rogue trader) 
Increase in value and volume of transactions, and 
Increase in the legal process.

Credit Risk

Credit risk is the risk of loss due to counterparty not fulfilling their obligations or where the risk of borrowers not paying debts 
Credit risk may occur when the loan is given, or bonds purchased by the bank unpaid. Credit risk can also arise because of non-performance of other parties, such as a failure of payment of a derivatives contract. 
For most banks, credit risk is the risk that they face. While the margin is relatively small compared to loans that were distributed, so that losses due to credit can quickly spend bank capital. 

Methods that can be done by the Bank to manage the Credit Risk / Credit Risk Mitigation 
a.Grading models 
b.Loan portfolio management 
c.Sekuritisasi 
d.Collateral 
e.Cash flow monitoring 
f.Recovery management 

a. Grading Models 

With the grading model, banks can perform the test against the risk, allowing banks determine the likelihood of a result of the ugly / bad outcome (referred to as the probability of default - PD). Bank can ensure that their loan portfolio is not concentrated on the ugly credit (poor quality loans) with the possibility of a default rate. 
Pemeringkat agencies such as Moody's, S & P using the grading model to calculate the credit risk of a bond. 
In practice, grading model to consider other factors, such as% of debtors that are used to pay interest on loans, job history and old loan borrowers compared to the age of borrowers. 
Basel II specifically emphasized the grading model as part of the credit risk framework. 

b. Loan Portfolio Management 

Avoid the concentration of the industry / geographic region specific. 
Portfolio loans terdiversifikasi well mean that the risk of a default is also lower. 
Analysis of the portfolio is called the 'cohort analysis' and can be applied to a loan corporation or individual. 

c. Sekuritisasi 

Other steps that can be done to guard from the 'shock economy' is a mem-'package 'portfolios and to sell some loans to investors sekuritisasi → 
Sekuritisasi allows banks to reduce lending big prosentasenya in the credit portfolio and the high-risk loans. The bank funds can invest in assets that have assumed a lower risk. 

d. Collateral 

Collateral is defined as assets by the debtor diagunkan to guarantee loans and can be confiscated when going TORT. 
The Bank must ensure that the collateral can minimize risk at the time of going TORT. The Bank must ensure that the value of collateral stand still (not down) when going TORT. 
Type of collateral in Basel I was very limited. 
Type of collateral in the Basel II more knowledgeable, especially on the approach to the Internal Ratings-Based (IRB) for credit risk. 

e. Cash flow monitoring 

Bank can reduce credit risk by: 
Limit the level eksposure → Exposure at default - EAD 
Ensure that customers react quickly to changing circumstances. 

f. Recovery Management 

Many realize that the management of bank bad debts that can efficiently reduce the losses that occur due to the bank so formed a special division to handle bad debts. 
Loss Given Default (LGD) is the estimated amount of the loss is capable of dipikul by the bank as a result of a default. LGD and the establishment of management plays an important role in the IRB approach to calculate credit risk capital. LGD value in the IRB approach is directly influenced by the bank estimates about how much recovery can be done in bad debts.

Market Risk

Market Risk is the risk of loss in the 'on and off balance sheet' due to market price movements (changes in interest rates, exchange rates and market prices, such as stocks and commodities). 
Banks are exposed to the risk of the market due to: 
Traded market risk - the risk of loss of value of an investment bank to which the trading activity for a profit. 
Interest rate risk in the banking book - is the risk that caused the structure of a business run by banks such as the provision of credit and union funds. 
To avoid the above conditions, the Bank must perform matching between the interest rate funding and lending (hedging) to secure the value of DPK or credit, by: 
offer the same interest rate loans with interest rates DPK. Interest rates change based on the credit interest rate discount from the central bank change the interest rate or a fixed deposit rate of 5 years. 
Lend funds to other banks with a fixed rate for 5 years 
When available derivatives market, banks can do the swap transactions with other banks, which pay other banks with interbank interest rates 1 month and receive 5-year fixed rate. 

The yield curve shows the relationship between interest rates (Y) that is paid to the maturity (X) of an investment in a certain period. Yield curve is used to calculate the market price on the trading position.

Bank Regulation

Basel I
In 1988 the Basel Committee set a 'standardized methodology to calculate the number of RBC that a bank must be met.
Accord 1 only mengcover Credit Risk and the relationship between risk and capital. In the Basel I set the target capital ratio is equal to government debt, bank debt, corporate debt and individuals amounting to 8%.

The Market Risk amendment
Bank supervisors in some countries of Basel I want to be more 'risk-sensitive' so that they adapt the calculation of risk is used by some banks manage the risk in the transaction 'dealing' they (the banks need to set their own internal capital) ..
This is done by banks as a result of:
growth of derivatives market
option pricing model that directly connects volatilitas level of income with the price of the instrument being → risk-based pricing
In 1996, Basel Committee introduced a Market Risk amendment. In addition to set simple method to calculate the market risk, Basel Committee recommends bank supervisors to use the method of calculation of risk-based pricing that is using the Value at Risk models (Var).

Basel II
Introduced in 2004 and will be implemented in the year 2006 - 2007.
Key Basel II:
Connecting the capital of a bank directly with the bank's business risk
Capital for market risk is not substantially changed from the Market Risk amendment in 1996.
Banks are encouraged to use a 'model-based approach' to credit risk pricing.
To include operational risks for the first time, and also encourage banks to use a 'model approach'
There are provisions on the 'other risks' in the RBC, but other risks are not dicover by' model approach '

Bank supervisors responsible for the implementation of Basel II in accordance with local laws and regulations. Consistency in implementation it is important to avoid confusion for the reporting of 'home' (country where the bank was established) or 'host' (the state where the branch of the bank to operate).

Comparison of Basel I and Basel II 
Basel I Accord: 
Focus on the single measure 
Simple approach to the risk sensitivity 
Using the 'one-sizes-fits-all approach' to risk and capital. 
Include credit risk and market risk 

Basel II Accord: 
Focus on internal methodologies 
The higher sensitivity of the risk 
Flexible to meet the needs of each bank is different. 
Include credit risk, market risk, operational risk and other risks.

Economic Shock,Systemic Risk,Risk Capital

Economic Shock & Systemic Risk

Although the diversification of the bank to loan portfolios, many banks are still very affected by economic risks in his country. Economy of a country is influenced by:
external shock, eg natural disasters, human caused disasters;
Economic management that incorrect (economic mismanagement)
Bank that is affected by economic conditions may have increased the number of customers in a significant traffic jams. Increasing the 'default rate' this could be caused by:
'Credit standing' companies affected by the declining economy in the country
Increasing the level of sharp penggangguran
Increasing interest rates
Steps to minimize the influence of economics, among others:
Follow the regulations (including Basel II) so that the bank will create economic scenario and ensure that banks have enough capital to protect the influence of stakeholders' economy shock '
Estimate the level of bad debts and the resulting bank to ensure that adequate capital.

Risk and Capital

Above example shows that the risk of a business, the greater the capital required to cover the level of risk faced by the so-called Capital Adequacy.
Risk Based Capital (RBC) is the level of capital that is based on the level of risk. RBC was due to the emergence of international banking market growth in the year 1970 - the 1980s was due to the increase in oil prices so that countries with a surplus at USD menginvestasikannya countries that deficit. This causes the growth of the banking sector is very fast, high-level competition, the emergence of syndicated loans to developing countries / multinational companies, etc..

Banking

The Bank is an institution that have a banking license, accept deposits, provide loans and receive checks & publish.
Financial Services company is an institution that offers financial products to customers such as pension funds, insurance or bonds. Bank, including financial services company.
Risk is the possibility of a loss / natural / results of the ugly (bad outcome) so is the risk of situations that produce negative things and the results can be predicted in advance.
Two terms related to risk:
Risk Event is an occurrence that causes damage or potential for bad outcome.
Risk Loss is loss (financial or non-financial) that occurred as a result of the direct / indirect risk from the event.
Financial services industry is set to protect customers and increase trust in their products so that products are regulated.
Unlike the bank, which is regulated banking institutions themselves, not only the products and services offered. This difference was due to the failure of a bank will give the impact of the old and in to the economy.
Unlike other industries, the bank is not free to determine their capital structure. Capital structure / capital structure is how a bank finance the business, generally through a combination of issuing shares, bonds and loans.
Capital structure is determined by a bank supervisors bank (BI) that determines the minimum capital and minimum level of liquidity that must be owned by banks, as well as the type and structure of loans granted.
When a bank has sufficient capital, banks have financial resources / liquidity is sufficient to mengcover financial losses, so the bank can finance the assets and meet its obligations at maturity. Note: The minimum capital requirement ratio of = Regulatory capital to RWA (BI → ATMR x 8%).
Basel focuses on banking regulation and not in the financial industry as a whole.
Bank must be set as: 1) the risks inherent in the operational activities; 2) offers of money, so that 3) the failure of a bank (total or partial) can cause a "systemic risk".
Systemic risk is the risk of a bank failure which can destroy the economy and the impact on employees, customers and shareholders.
Solvency of a concern not only the bank's shareholders, customers and employees, but also all those responsible for managing the entire economy.
Term systemic risk are closely tied to 'run on a bank' which occurs when the bank can not cover their obligations, ie does not have enough cash to pay for the deposannya. The failure of a bank is not necessarily a reality, but can also be a perception (rumor) from some customers.
Before the year 1930-an, 'run on banks' solvency problem and often occurred (last year occurred in 1933 in the USA and the UK in 1957), causing the government control the banks through regulation to ensure that banks have capital and adequate liquidity.
Bank supervisors must ensure that the bank may:
Meet the obligations of the depositor without requesting borrowers pay off loans
Maintain a reasonable level of losses caused by 'poor lending' or declining economic activity, for example, due to economic recession
Initially the capital of a bank associated with the percentage of the loan. Akan but this way there is a 'missing link' in calculating the appropriate level of capital as
In other words' of lending economic 'is a balance between the' margin 'and the losses that might occur → less risk - less margin.
So 'missing link' is over the amount of risk that is owned by a bank.