Risk Management

Mistakes to Avoid
Chapter 24

Risk Management and Financial Institutions 3e, Chapter 24, Copyright John 1C. Hull 2012
 Big Losses (Business Snapshot 24.1, page 510)
Allied Irish Bank ($700 million)
Barings ($1 billion)
Enrons Counterparties ($ billions in lawsuits)
Hammersmith and Fulham ($600 million)
Kidder Peabody ($350 million)
LTCM ($4 billion)
National Westminster Bank ($130 million)
Orange County ($2 billion)
Procter and Gamble ($90 million)
Soc Gen ($7 billion)
Subprime Mortgage Losses ($ tens of billions)
UBS (2.3 billion)
Risk Management and Financial Institutions 3e, Chapter 24, Copyright John C.
2 Hull 2012
 Risk Limits (page 509-512)
Risk must be quantified and risk limits set
Exceeding risk limits not acceptable even when
profits result
Do not assume that you can outguess the
market
Be diversified
Scenario analysis and stress testing is important

Risk Management and Financial Institutions 3e, Chapter 24, Copyright John C.
3 Hull 2012
 Managing the Trading Room
(page 512-514 )

Do not give too much independence to star

traders
Separate the front middle and back office
Do not blindly trust models
Be conservative in recognizing inception
profits
Do not sell clients inappropriate products
Beware easy profits

Risk Management and Financial Institutions 3e, Chapter 24, Copyright John C.
4 Hull 2012
 Liquidity Risk (page 514-517)
The credit crisis of 2007 has emphasized the
importance of liquidity risk
Need to ensure that liquidity funding needs can
be met in stressed market conditions
Beware when many are following the same
strategy
Using short-term borrowings for long-term
funding can be dangerous
Market transparency is important

Risk Management and Financial Institutions 3e, Chapter 24, Copyright John C.
5 Hull 2012
 Lessons for Non-Financial
Corporations (page 517-518)

It is important to fully understand the

products you trade
Beware of hedgers becoming speculators

It can be dangerous to make the

Treasurers department a profit center

Risk Management and Financial Institutions 3e, Chapter 24, Copyright John C.
6 Hull 2012
 A Final Point (page 518-519)
Three types of risk
Known
Unknown

Unknowable

Flexibility is important

Risk Management and Financial Institutions 3e, Chapter 24, Copyright John C.
7 Hull 2012