Funding Liquidity Risk: From Measurement to Management
Posted: 28 Mar 2013
Date Written: March 25, 2012
The financial crisis at the end of last decade has called for a comprehensive liquidity risk management framework. The challenge not only lies in finding appropriate liquidity risk measures but more importantly how to apply these measures to implement a risk based liquidity management. A core component in such a framework includes proper risk measures for liquidity risk, the methodology for defining stressed liquidity outflows, the strategy of a constructing an effective liquidity inventory, and the associated management of such a dedicated liquidity hedging portfolio. Of course, firms would like to hold the minimum cost liquidity hedging portfolio that still suffices for hedging stressed outflows. Another core component is the methodology for allocating liquidity risk onto the consuming assets and liabilities and the associated pricing to distribute the correct incentives in raising the firm’s liquidity. This is a necessary step to integrate the liquidity risk management into the profitability aspect of the banking operation. Liquidity risk management is therefore beyond purely prudential purpose.
Keywords: Funding liquidity risk, cash flows, liquidity calculation, liquidity hedging, counterbalancing capacity, optimal liquidity hedging, liquidity execution
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