brief definitions Flashcards
(30 cards)
Sovereign risk
This is the risk of a country defaulting on its financial obligations.
It also encompasses risks associated with changes in a country’s political landscape, such as significant policy changes or regime changes.
which might affect the country’s ability or willingness to meet its financial obligations
Market Risk
This is the risk of financial loss due to changes in market prices or rates, such as interest rates, equity prices, commodity prices, or exchange rates.
These changes can be influenced by a variety of factors, including economic indicators, natural disasters, political instability, etc.
Operational Risk
This refers to the risk of loss resulting from inadequate or failed internal processes, people, and systems or from external events.
It includes risks arising from fraud, system failures, business interruptions, inadequate procedures, legal risks, etc.
Liquidity Risk.
This is the risk that a company or individual will be unable to meet short-term financial obligations due to an inability to convert an asset into cash without a loss of capital and/or income in the process.
Liquidity risk can also refer to the market’s ability to buy or sell assets without causing a significant movement in the asset’s price.
Moral Hazard
a situation in which one party gets involved in a risky event knowing that it is protected against the risk and the other party will incur the cost.
For example, if you buy AppleCare+ you will tend to not care about the phone breaking because you know it’s insured. Therefore, might leave it with no case.
Transaction Costs
expenses incurred when executing a financial or economic transaction.
These costs are not limited to monetary expenses but also include time, effort, and resources involved in completing the transaction
agency costs
internal expenses that come from an agent acting on behalf of a principal.
Examples include booking the most expensive hotel when travelling.
liquidity transformation
a financial process in which financial intermediaries, take in funds from savers (e.g., deposits or investments) which have a high level of liquidity (e.g., savers can quickly and easily withdraw funds) and use them to finance loans or investments that have much lower levels of liquidity.
it creates risk if too many savers want their money back at the same time (like a bank run).
Size transformation
Exploiting economies of scale, banks transform many small deposits into larger-size loans.
maturity transformation
Creating a maturity mismatch on their balance sheet, banks convert demand deposits into long-term financing for borrowers
required reserve ratio
The fractional reserve amount a bank takes out to face withdrawals.
This is important for liquidity management and promoting financial stability
commitment mechanisms
tools or strategies used to lock oneself into following a financial plan, essentially making it harder to deviate from set financial goals.
For example, you might automatically have part of your paycheck moved to a retirement account every month, so you’re committed to saving for the future.
these mechanisms help individuals and companies stay disciplined about their finances,
The brokerage function
when financial intermediaries match transactors and provide transactions and other services. As a result, they reduce transaction costs and remove information costs.
The asset transformation function
when financial institutions issue claims that are far more attractive to savers (in terms of lower monitoring costs, lower liquidity costs and lower price risk) than the claims issued directly by corporations
What is securitization?
-it is a form of bank financing that allows lenders to sell off their loans repackaged as securities (ABS) to other banks or investors and to use the raised funds to increase lending
Ratio analysis
quantitative method of gaining insight into a company’s liquidity, operational efficiency, and profitability by studying its financial statements such as the balance sheet and income statement.
Financial Ratios are used both internally and externally to assess bank performance and can be used to identify early warning signals
Credit risk
the possibility of loss due to a borrower’s defaulting on a loan or not meeting contractual obligations
The source of this risk is the deterioration of the creditworthiness of the borrower.
Expected losses due to credit risk are covered with PLL. Unexpected losses are expected to be covered with bank capital.
Balance sheet
Financial statement of the wealth of a firm on a given date.
This is usually at the end of the financial year.
The balance sheets report the assets and liabilities of the bank
Income statement (or Profit and Loss - P/L)
A financial statement that reports a firm’s profitability over a time period by subtracting all costs from all income.
The income statement reports the revenues and costs and measures bank performance between the two-year-end balance sheet.
Country risk
the risk that economic, social and political conditions of a foreign country will adversely affect a bank’s commercial and financial interests.
Foreign exchange risk .
It is the risk that liabilities and off-balance sheet activities are denominated in foreign currency (both in the banking and trading book).
A bank that lends in a currency that depreciates more quickly than its home currency will be subject to foreign exchange risk
A whole life
A whole-life policy protects the individual over an entire lifetime.
In return for periodic or level premiums, the individual’s beneficiaries receive the face value of the life insurance contract on death.
Thus, there is a certainty that if the policyholder continues to make premium payments, the insurance company will make a payment—unlike term insurance.
An Endowment life
An endowment life policy combines a pure (term) insurance element with a savings element.
it guarantees a pay-out to the beneficiaries of the policy if death occurs during some endowment period (e.g., before reaching retirement age).
An insured person who lives to the endowment date receives the face amount of the policy
A variable life
variable life insurance invests fixed premium payments in mutual funds of stocks, bonds, and money market instruments.
Unlike traditional policies that promise to pay the insured the fixed or face amount of a policy if a contingency arises.
Usually, policyholders can choose mutual fund investments to reflect their risk preferences.
Thus, the value of the policy increases or decreases with the asset returns of the mutual fund in which the premiums are invested.
