商业银行管理英文课件：第15章 The Management of Capital

1、Chapter FifteenThe Management of CapitalCopyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.Key TopicsThe Many Tasks of Capital Capital and Risk Exposures Types of Capital In Use Capital as the Centerpiece of Regulation Basel I and Basel II Planning to Meet

2、 Capital Needs15-2Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.IntroductionWhat is capital?Funds contributed by the owners of a financial institutionRaising and retaining sufficient capital to protect the interests of customers, employees, owners, an

3、d the general public is toughWhy is capital so important in financial-services management?It provides a cushion of protection against risk and promotes public confidenceCapital has become the centerpiece of supervision and regulation today15-3Copyright 2013 The McGraw-Hill Companies, Inc. Permission

4、 required for reproduction or display.The characteristics of the Banks capitalSome domestic scholars think:Commercial bank capital has a dual nature, that is equity capital + debt capitalThe owners equity (equity capital), also known as tier one capital or core capital, debt capital is also known as

5、 the secondary capital or subsidiary capital. The composition of Banks capital1. Generally made up of average capital, preferred capital and debt capital. (1) Average capital： Including common stock, capital surplus and undistributed profit and capital reserve account. (Note: the priority of the liq

6、uidation of creditors rights and income distribution: deposit, loan, subordinated debt, preferred stock and common stock)related conceptCommon stockCapital surplus (reserve) :Refers to the difference between the par value and the market price of the stock when banks issue shares or additional new st

7、ock.Undistributed profitEquity reserves account: Reserve funds withdraw according to a certain proportion of bank assets dedicated to deal with unexpected events, usually held in equity reserve account. (2) preferred capital and debt capital preferred capital ：A stock with fixed returns issued by ba

8、nks (Preferred Stock).debt capital ：to raise capital by a capital promissory note issued and capital debentures. Capital promissory note bank ious with different issuance ,and much shorter. Capital debentures debt securities with a longer period.The Many Tasks Capital PerformsProvides a cushion agai

9、nst the risk of failureProvides funds to help institutions get started Promotes public confidence Provides funds for growthRegulator of growthRegulatory tool to limit risk exposure15-8Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.Capital and RisksKey

10、Risks in Banking and Financial Institutions ManagementCredit RiskLiquidity RiskInterest Rate RiskOperational RiskExchange RiskCrime Risk15-9Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.Capital and Risks (continued)Defenses against RisksQuality Manage

11、mentDiversificationGeographicPortfolioDeposit InsuranceOwners Capital15-10Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display. Types of Capital in UseCommon stockPreferred stock cumulative preferred stock noncumulative preferred stock3. Surplus4. Undivided

12、profits5. Equity reserves 6. Subordinated debentures7. Minority interest in consolidated subsidiaries8. Equity commitment notes15-11Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.Equity reserves -Be charged or unpaid dividends reserves.Subordinated deb

13、entures -Long-term debt capital invested by outside investors, the claim is inferior to depositors.Equity commitment notes - The debt securities By selling shares to repay.PERCENT OF CAPITAL BY BANK SIZEThe division of bank capital: FunctionCore capital：Tier one capital, the most complete in the sen

14、se of capital.Supplementary capital：Tier II capital1. Core capitalCapital stockCommon shares issued and fully paid enoughPermanent noncumulative preferred stock.Disclosed reserve公开储备Retained income, transformed by other revenue（such as equity premium）, publicly indicated in the banks balance sheets.

15、2. Supplementary CapitalReserves are not publicAsset revaluation reserve资产重估储备Added value of securities assets should be a discount of 55%, to reflect its potential volatility, tax fee, etc.General reserve or general loan loss reservesBe limited to 1.25% of the risk assets.Hybrid capital instrumentS

16、uch as cumulative preferred stockLong-term subordinated debtTraditional unsecured, Long-term subordinated debt tools period more than 5 years, No more than 50% of core capital.Subordinated Debt Also known as the late payment debt, subordinated & long-term debt.When the debtor bankrupt liquidation, i

17、t can be paid only after other debt which has a higher claim paid.As bank capital, in the last five years, there is a cumulative discount of 20% of this part of capital each year, reflecting the value reduction of it as a source of capital.Bank capital under the BaselElementLevelComponentcore capita

18、lTier One4%Paid-in capital /common stock Reserves has been disclosed (Capital reserves, retained earnings) Permanent non-cumulative preferred stock supplementary capitalHigh-grade Tier twoGeneral reserve Permanent Cumulative preferred stock Revaluation reservesupplementary capitalLow-grade Tier twoS

19、ubordinated bondFixed period, non-cumulative Preferred stock TABLE 151 Capital Accounts of FDIC-Insured U.S. Commercial Banks, December 31, 2010 15-19Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.One of the Great Issues in the History of Banking: How

20、Much Capital Is Really Needed? Regulatory Approach to Evaluating Capital Needs Reasons for Capital Regulation To limit risk of failuresTo preserve public confidenceTo limit losses to the government and other institutions arising from deposit insurance claims15-20Copyright 2013 The McGraw-Hill Compan

21、ies, Inc. Permission required for reproduction or display.One of the Great Issues in the History of Banking: How Much Capital Is Really Needed? (continued)Regulatory Approach to Evaluating Capital NeedsResearch Evidence Research has been conducted on the issue of whether the private marketplace or g

22、overnment regulatory agencies exert a bigger effect on bank risk takingMost studies find that the private marketplace is probably more important than government regulation in the long runRecently government regulation appears to have become nearly as important as the private marketplaceEspecially in

23、 the wake of the great credit crisis of 2007-200915-21Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.One of the Great Issues in the History of Banking: How Much Capital Is Really Needed? (continued)Regulatory Approach to Evaluating Capital Needs Resear

24、ch EvidenceWe are not at all sure market disciplining works as well for small and medium-size insured depository institutionsSome of the most pertinent information needed to assess a banks risk exposure is known only to government regulatorsResearch has found that increased capital does not material

25、ly lower a banks failure risk15-22Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading NationsThe Basel AgreementAn international agreement on new capital st

26、andardsDesigned to keep their capital positions strongReduce inequalities in capital requirements among different countriesPromote fair competitionCatch up with recent changes in financial services and financial innovation In particular, the expansion of off-balance-sheet commitmentsFormally approve

27、d in July 1988Included countries such as:The United States, Belgium, Canada, France, Germany, Italy, Japan, the Netherlands, Spain, Sweden, Switzerland, the United Kingdom, and Luxembourg15-23Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agr

28、eement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Basel I The original Basel capital standards are known today as Basel IVarious sources of capital were divided into two tiers:Tier 1 (core) capitalCommon stock and surplus, undivided profits (r

29、etained earnings), qualifying noncumulative perpetual preferred stock, minority interest in the equity accounts of consolidated subsidiaries, and selected identifiable intangible assets less goodwill and other intangible assetsTier 2 (supplemental) capitalAllowance (reserves) for loan and lease loss

30、es, subordinated debt capital instruments, mandatory convertible debt, intermediate-term preferred stock, cumulative perpetual preferred stock with unpaid dividends, and equity notes and other long-term capital instruments that combine both debt and equity features15-24Copyright 2013 The McGraw-Hill

31、 Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Basel I In order for a bank to qualify as adequately capitalized, it must have:A ratio of core capital (Tier 1) to

32、total risk-weighted assets of at least 4 percentA ratio of total capital (the sum of Tier 1 and Tier 2 capital) to total risk-weighted assets of at least 8 percent, with the amount of Tier 2 capital limited to 100 percent of Tier 1 capital15-25Copyright 2013 The McGraw-Hill Companies, Inc. Permissio

33、n required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Calculating Risk-Weighted Assets Each asset item on a banks balance sheet and each off-balance-sheet commitment it has made are multiplied by

34、 a risk-weighting factorDesigned to reflect its credit risk exposureThe most closely watched off-balance-sheet items are standby letters of credit and long-term, legally binding credit commitments15-26Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The

35、Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Calculating Risk-Weighted AssetsTo compute this banks risk-weighted assets:Compute the credit-equivalent amount of each off-balance-sheet (OBS) item15-27Copyright 2013 The McGraw-Hill

36、Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Calculating Risk-Weighted Assets To compute this banks risk-weighted assets:Multiply each balance sheet item and the

37、 credit-equivalent amount of each OBS item by its risk weight15-28Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Calculating the Cap

38、ital-to-Risk-Weighted Assets Ratio Under Basel I, once we know a banks total risk-weighted assets and its Tier 1 and Tier 2 capital amounts, we can determine its required capital adequacy ratios15-29Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Ba

39、sel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Capital Requirements Attached to Derivatives The Basel I capital standards were adjusted to take account of the risk exposure banks may face from derivativesFutures, options, swaps, inte

40、rest rate cap and floor contracts, and other instrumentsSometimes expose a bank to counterparty riskThe danger that a customer will fail to pay or to perform, forcing the bank to find a replacement contract with another party that may be less satisfactory15-30Copyright 2013 The McGraw-Hill Companies

41、, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Capital Requirements Attached to Derivatives (continued)Basel required a banker to divide each contracts risk exposure into t

42、wo categoriesPotential market risk exposureCurrent market risk exposureOnce the replacement cost of a contract is determined:The estimated potential market risk exposure amount is added to the estimated current market risk exposure to derive the total credit-equivalent amount of each derivative cont

43、ractThis total is multiplied by the correct risk weight, to find the equivalent amount of risk-weighted assets represented by each contract15-31Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Con

44、tinuing Historic Contract Among Leading Nations (continued)Capital Requirements Attached to Derivatives (continued)15-32Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contrac

45、t Among Leading Nations (continued)Capital Requirements Attached to Derivatives (continued)15-33Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations

46、(continued)Bank Capital Standards and Market RiskBasel I failed to account for market riskThe losses a bank may suffer due to adverse changes in interest rates, security prices, and currency and commodity pricesThe risk weights on bank assets were designed primarily to take account of credit risk (n

47、ot market risk)In an effort to deal with these and other forms of market risk, in 1996 the Basel Committee approved a modification to the rulesPermitted the largest banks to conduct risk measurement and estimate the amount of capital necessary to cover market riskLed to a third capital ratio (Tier 3

48、)15-34Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Value at Risk (VaR) Models Responding to Market RiskA statistical framework for

49、 measuring a bank portfolios exposure to changes in market prices or market rates over a given time period, subject to a given probabilityVaR ExampleA bank estimates its portfolios daily average value at risk is $100billion over a 10-day interval with a 99 percent level of confidenceIf this VaR esti

50、mate of $100 billion is correct, losses in portfolio value greater than $100 billion should occur less than 1 percent of the time15-35Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Hi

51、storic Contract Among Leading Nations (continued)Limitations and Challenges of VaR and Internal ModelingVaR estimates and internal modeling are not perfectInaccurate VaR estimates can expose a bank to excessive risk so that its capital position may turn out not to be large enough to cover actual los

52、ses the bank facesThe portfolios of the largest banks are so complex with thousands of risk factors it may be impossible to consistently forecast VaRs accuratelyPromote “backtesting”Even if an individual bank is a good forecaster, there may still be trouble due to systemic risk15-36Copyright 2013 Th

53、e McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Basel IIBankers found ways around many of Basel Is restrictionsCapital arbitrageInstead of making bank

54、s less risky, parts of Basel I seemed to encourage banks to become more riskyBasel I represented a “one size fits all” approach to capital regulationIt failed to recognize that no two banks are alike in terms of their risk profilesBasel II set up a system in which capital requirements would be more

55、sensitive to risk and protect against more types of risk than Basel IBasel II would be gradually phased in for the largest international banks15-37Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A

56、Continuing Historic Contract Among Leading Nations (continued)Pillars of Basel II Minimum capital requirements for each bank based on its own estimated risk exposure from credit, market, and operational risksSupervisory review of each banks risk-assessment procedures and the adequacy of its capital

57、to ensure they are “reasonable” Greater public disclosure of each banks true financial condition so that market discipline could become a more powerful force compelling excessively risky banks to lower their risk exposure15-38Copyright 2013 The McGraw-Hill Companies, Inc. Permission required for rep

58、roduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Basel II and Credit Risk Models Credit risk modelsComputer algorithms that attempt to measure a lenders exposure to default by its borrowing customers or to cr

59、edit downgradingsMost credit risk models develop estimates based upon:Borrower credit ratingsThe probability those credit ratings will changeThe probable amount of recovery should some loans defaultThe possibility of changing interest-rate spreads between riskier and less risky loans15-39Copyright 2

60、013 The McGraw-Hill Companies, Inc. Permission required for reproduction or display.The Basel Agreement on International Capital Standards: A Continuing Historic Contract Among Leading Nations (continued)Basel II and Credit Risk Models Under Basel I, minimum capital requirements remained the same fo