Market risk is defined at ING Bank Śląski S.A. as a potential financial loss or loss of liquidity that the Bank may suffer due to unfavourable changes in market prices (i.e., interest rates, FX rates, share prices, etc.) and/or market parameters (e.g. volatility of market prices and correlation between movements in market prices) and/or customer behaviour (early loan repayment, for example).
Market risk is managed using top-down approach. The ING Bank Śląski S.A. Supervisory Board defined the overall acceptable risk level, the so-called High Level Risk Appetite Statement concerning regulatory and economic solvency of the Bank, liquidity risk, and also diversification of funding risk and market risk on the consolidated level. These general risk levels were implemented into sub-risk appetite levels (the Acceptable Risk Appetite Report) for individual risk areas; risk limits were set as well.
Market Risk Processes
Market risk management within ING Bank Śląski S.A. covers market risk identification, measurement, monitoring and reporting, both within the Bank itself and in its subsidiaries. Being independent from the Bank units generating market risk, the Market Risk Management Department provides the Bank Management Board, the ALCO Committee and the FM Management with market risk updates. An important advisory role in the market risk management process is performed by the Bank’s majority shareholder – ING Bank N.V.
The Market Risk Management Department is sub-divided into two sections: the Trading Risk Management & FM Product Control Section (deals with risk of the business activity conducted on one’s own account) and the ALCO Management Section (concentrated on balance sheet and liquidity risk management).
The purpose-based Bank books structure reflects the types of market risk and areas where market risk should be internally transferred/ hedged within the Bank. Hence, the Bank keeps the following books:
Trading Book. Comprises FM books (FX transactions, FX options and interest rate options), where open positions are generated to earn short-term profit on market fluctuations and arbitrage operations. Additionally, the positions stemming from the operations of the Sales Department are also hedged in the Bank’s trading books.
Banking Book. The risk of commercial deposits and loans is transferred to the Financial Markets via internal transactions to centralise all market risks within the specialised management function. The primary objective of banking books like the Funding and Liquidity Management Book and ALM is to ensure that all liquidity and interest rate risk positions are managed at the Bank.Risk Identification
Being a universal bank, ING Bank Śląski S.A. has numerous market risk categories. The following ones can be enumerated in particular:
interest rate risk,
FX risk,
funding risk,
cash liquidity risk and liquidity price risk,
optionality risk.Market Risk Measures
The Market Risk Management Department applies various measures to control the identified risk categories and adjust them to high level and specific acceptable market risk appetite defined by the Bank Supervisory Board and Management Board.
Value at Risk (VaR) is the main methodology used to calculate market risk in FM books, both in Trading and Banking. It is also used for periodic review of market risk in commercial books (non-FM books). The VaR ratio gives the maximum potential loss, assuming certain confidence (probability) level. The Bank calculates VaR separately for individual interest rate (IR), FX and FX options portfolios. VaR for IR and FX risks is calculated using variance-covariance method. For FX options, which are an instrument with a non-linear risk characteristic, ING Bank Śląski S.A. applies VaR historical method. This method is more precise in measuring FX options portfolio risk. Since VaR method does not offer a full picture of market risk under conditions of extended stress, the Bank also calculates incident risk (applies stress testing). For each type of activity, there has been set VaR limit that is not to be exceeded.
To value the derivatives portfolio, ING Bank Śląski S.A applies all risk parameters so as to arrive at zero-risk valuation. The Bank implemented the OIS curve for valuation of derivatives as well as credit risk valuation adjustment (CVA/ DVA adjustment) for the portfolio of non-hedged derivatives and added both elements to the valuation process.
The Earnings at Risk (EaR) and Net Present Value (NPV) at Risk concept is used to measure the IR risk for interest-bearing positions in the banking book. The calculation covers the period of one year and shows the scale how incremental interest can change at the set shocks of +/-1% and +/-2%. The Bank applied two approaches: a simple approach for positions comprising forwards/ futures and/or small volumes of demand positions and an advanced approach for material demand positions (at present: the Bank’s PLN demand deposit base and internal investments thereof in FM banking books). For the positions in commercial banking books, non-linear interest rate risk is also measured. Specifically, the Bank measures optionality risk (the potential losses on those positions given early withdrawal of term deposits and/or early repayment of loans) and underlying risk (the potential losses on those positions arising from non-standard interest rate-setting mechanisms).
For liquidity risk management, the Bank introduced the notion of the minimum survival period (by currency) for stress scenario to make sure that it would safely outlive any market disturbances. The minimum survival period for individual currencies was set as 3 months. In order to satisfy the said minimum requirements, the Bank made special transactions to hedge funding of CHF-denominated mortgage portfolio. In consequence, the CHF lending portfolio received a dynamic funding structure which can be adjusted as needed in response to early repayments of loans.
ING Bank Śląski S.A. implemented numerous controls to manage exposure funding effectively. The Bank set concentration limits for its funding positions and the consolidated limit for liquidity mismatch gaps. It is this approach that ensures that the way in which the Bank’s balance sheet develops remains under control in terms of liquidity risk. So as to diversify the funding risk, the Bank issued 5Y own bonds.
To make sure that each risk measure is set on an adequate level, the Bank tests market scenarios from various perspectives. In addition to employing the scenarios defined by the Polish regulator (Polish Financial Supervision Authority) and the Dutch regulator (Dutch Central Bank), the Bank performs stress tests both per portfolio and for the entire Bank with the use of in-house test scenarios. The aforementioned scenarios include back-testing elements as well as elements of probable future events; they are developed in co-operation with the Bank Chief Economist. Liquidity testing results are considered in establishing the liquidity contingency plan for the Bank.
VaR Exposures and Limits in 2012
In 2012, the Bank maintained its trading exposures at low levels compared to the effective limits. The average limits utilisation was respectively: 20% for interest rate risk, 27% for FX risk and 12% for FX options. In 2012, the Bank did not report any VaR limits overrun.