Market price risks consist of the risks to the value of positions due to changes in market parameters including interest rates, volatility and exchange rates among others. These risks are quantified as potential losses of present value using a present value model that differentiates between risks related to interest rates, options and currency rates.
Interest rate risks are divided into two categories: general and specific interest rate risks. General interest rate risks refer to risks arising from changes in the market value of investments or liabilities that are dependent on the general level of interest rates, and which will react negatively if interest rates change.
Specific interest rate risks are also referred to as (credit) spread risks, and are included under market price risks. Credit Spread is the term used to describe the difference between the yield generated by a risk-less bond and a risky bond. Spread risks take into account the danger that this difference in interest rates can change although credit-worthiness ratings remain unchanged. The reasons for altered yield premiums are:
The Bank’s portfolio of bonds issued by euro area countries more heavily affected by the sovereign debt crisis, or in bonds issued by banks domiciled in these countries, remained at a moderate level. The Bank has not made any new investments in countries located on the periphery of the euro area since 2011. We do not believe that our investments are in danger of default. We are of the opinion that measures taken by individual countries, as well as protective mechanisms enacted at EU levels, are sufficient to ensure the repayment of the affected liabilities. In the case of bank bonds issued by banks domiciled in these countries, all of these bonds are covered bonds so that in this instance we also anticipate that they will be repaid as contractually agreed.
Among other risks, options involve the following risks: volatility risk (Vega; risk that the value of a derivative instrument will change due to increasing or decreasing volatility), time risk (Theta; is understood to the risk that measures how the passage of time impacts on the value of a derivative instrument), Rho risk (risk associated with a change in the value of the option due to a change in a riskless rate of interest), and Gamma risk (risk of a change in the option’s Delta due to a change in the price of the underlying security; the option’s Delta thereby describes the change in the price of the option due to the change in the value of the underlying security). The volume of risks assumed is moderate as options are generally not employed in the capital market business for speculative purposes. Option positions are almost solely entered into on an implied basis due to debtors’ option rights (for example the right to give legal notice of termination per Art. 489 of the German Civil Code – BGB) and are then hedged if needed. These risks are attentively monitored in the daily risk report and are limited.
Currency risk defines the risk arising from changes in the market value of investments or liabilities dependent on currency exchange rates and which will react negatively due to changes in currency exchange rates. MünchenerHyp’s transactions outside Germany are hedged against currency risks to the greatest extent possible and only margins involved in payment of interest are not hedged.
Stock risks play a minor role for MünchenerHyp as our total investments in this asset class consist of investments in enterprises within the Cooperative Financial Network. The Bank additionally invested in a mixed fund (a special fund) in 2017. This fund can also invest in equities. The calculation of the risk figure is thus transferred to the company managing the investment fund. The results will be examined for their plausibility and then integrated into our own system.
Market price risks are managed by determining the present value of all of MünchenerHyp’s transactions on a daily basis. The Bank uses the “Summit” IT programme for these calculations. The backbone of our interest rate risk management is the “bpV-vector”, which is calculated on a daily basis. This figure is determined by the change in the present value incurred per range of maturities when the mid-swap curve is shifted by one basis point. Furthermore, sensitivities regarding the currency exchange rates, rotations of the interest rate curve, as well as changes in the basis spreads and volatility are also determined.
MünchenerHyp uses the value-at-risk (VaR) figure to identify and limit market risks. Linear as well as non-linear risks are taken into consideration using a historical simulation when calculating VaR. In addition, different stress scenarios are used here to measure the effect of extreme shifts in risk factors and the effects of other risk categories.
The current daily stress scenarios (others are conducted less frequently) are:
The Value at Risk (VaR) of the banking book (interest, currencies and volatilities) at a confidence level of 99 percent at a ten-day holding period in 2017 amounted to a maximum of € 21 million. The average figure was about € 14 million.
Although MünchenerHyp is a trading book institution (only for futures), as in the past the Bank did not enter into any futures deals in 2017.
MünchenerHyp manages its credit spread risks by calculating the present value of its asset-side capital market transactions on a daily basis to determine credit spread risks. The Bank uses the Summit valuation system to calculate the credit spread VaR, credit spread sensitivities and various credit spread stress scenarios.
MünchenerHyp uses the VaR figure to identify and limit credit spread risks. The VaR figure is calculated based on historical simulation.
The current (daily) credit spread stress scenarios are:
The credit spread VaR for the entire portfolio using a 99.9 percent level of confidence and holding period of one year stood at a maximum of € 101 million in 2017, while the average figure was about € 92 million.