Luận văn thạc sĩ liquidity risk management in lienviet commercial joint stock bank quản trị rủi ro thanh khoản tại ngân hàng thương mại cổ phần liên việt luận văn

VIETNAM NATIONAL UNIVERSITY, HANOI SCHOOL OF BUSINESS a VAN THU HUONG LIQUIDITY RISK MANAGEMENT IN LIEN VIET COMMERCIAL JOINT STOCK BANK MASTER OF BUSINESS ADMINISTRATION THESIS Ha

VIETNAM NATIONAL UNIVERSITY, HANOI

SCHOOL OF BUSINESS

a

VAN THU HUONG

LIQUIDITY RISK MANAGEMENT

IN LIEN VIET COMMERCIAL JOINT STOCK BANK

MASTER OF BUSINESS ADMINISTRATION THESIS

Hanoi - 2010

VIETNAM NATIONAL UNIVERSITY, HANOT

SCHOOL OF BUSENESS

VAN THỰ IUƠNG

LIQUIDITY RISK MANAGEMENT

IN LIEN VIET COMMERCIAL JOINT STOCK BANK

Major: Business Administration Code: 60 34 05

MASTER OF BUSINESS ADMINISTRATION THESIS

Supervisors:

1 Dr Chu Thanh

2 MBA Ha Nguyen

Hanni - 2010

12.3 Main risks in Commercial Bank cà căn en 8

13 Liquidity Risk Management in Commercial Bank

13.2 Basel and Bassl ]Ïrequiremens eo neo LỆ

1.3.3 International Framework for Liquidity Risk Management in Commercial

Bank 16

vi

1.3.3.2 Strategy & Policy ae 18

1.3.3.3 The responsibilities to manage liquidity risk l9 1.3.3.4, Liquidity Risk Management Prooess "

1.3.3.6 Internal Audit

.4.— Liquidity risk in Vicnam Commercial bank system

1.4.1 Some typical events of liquidly risk in Viet Nam before year 2006 27

1.4.2 From the beginning of year 2006 to the end oŸ year 2007: 38 1.4.3 From the begiming of year 2008 — the end of year 2008 29 1.4.4 From the beginning of year 2009 to the ending of year 2009 30

15 - State BankofVietnamregulafions e eo 33

1.6.1, The Hongkong and Shanghai Bank Corporation

2.1.2 Business Results .0ccecesceseesseessesessseesseesssseessenseecceenseeesiaessnessies -44

2.1.3 Orgamizationsirugte ào eeeeeeesreseooe 46

2.2.1, SBY’s regulations on liquidity ratios in the activities of credit institution

vii

46 2.2.2 Supplies of Liquidity

2.2.3.1, LienVietBenk’s Liquidity Gap report in VND (see table 2-11}

2.2.3.2 LienVietBank’s Liquidity Gap report in USD (see table 2-12)

2.2.4 Assessment on current status of Tiquidity risk

2.3, General situation of risk management at LienVietBank

2.3.1 From establishment to ond 2008

2.3.2 For the year of 2009

2.3.3 From the beginning of 2010 to nơw

2.4, Liquidity risk management in Lien'VielBank

2.4.1, Strategy and Policy

2.5.2.2 Organization structure 78

2.5.2.3 Process of hquiđïy risk managsment and cantingeney plan 79

2.5.2.4, Management information system sec 7U

3.1 §ome pefiions fr LiznVietBank eccececec

3.11 Bưilding a culture of risk management in Lien VietBank 2 3.1.2 Building Liquidi risk strategy and pohey - 8

3.2 Some pettions for SBV ennniireerririeeiereoeo TỔ 3,3 Some petitions for Govctrupeil

Asset and Liability Committee Board of Directors

Board of Management

Capital Equity Ratio

Hurnan Resource Lien Viet Commercial Jaint Stock bank

Non performing loans

State Bank of Viet Nam

Sai Gon Thuong Tin bank

Vietnam Technological and Commercial Joint stock bank

‘The Bank for Foreign Trade of Viemam

LIST OF TABLES:

Tale 1-1: Products & services provided by commercial barks 6

‘Table 1-2: Summarized the principles of Basel 2 " 14 Talte 1-3: International Framework for Liquidity Risk Management in Commercial

‘Table 1-4: The differences between Decision No.A57 and Circular 15 & 13 36 Tablc 2-1: Busincss Rosuls - LienVietBank ccoeeeeesrsoseoooe 4E

‘Table 2-3: The ratio of liquid assets to total as86fs ào eo 4Đ Tablc 2-4: Comparison of the ratio o£ liquid asscts to totnÏ asscfs 38 Talte 2-5: The average ralio of the component io liquid assets sl Table 2-6: Comparison of the portion of the items out of ]iquid assets S2

Table 2-9: Comparison of LDR vo sessesssninentenenestionensnnsnnaesimatinnnesen in SS

‘Table 2-10: Mobilized funds from corporate and individualz of Lien VietBank 57 Table 2-11; LuenVietBank’s Liquidity Gap report in VND Ø2 Tabte 2-12: LicnVictBank’s Liquidity Gap report in USD - 64

‘Table 2-13: Summarize assessment on current status of liquidity risk in

LienVietBank

Table 3-1; Recommendation for Process of liquidity risk management (contenÐ) 91

Table 3-3; Recommendation for Action planning

xi

LIST OF FIGURES

Figure 2-1: Comparison of the ratio of liquid assets to total assets 50

Figure 2-3: The number of accounts of incoming customer deposits sự Figwe 2-4: Rating liquidity risk inanagement in LVB c7

Figure 3-2: Recommendation for Organization structure - 87

Figure 3-2; Recommnerdation for Process of liquidity risk managuroent (procedures)

cv 5

INTRODUCTION

1 Necessity of the thesix

The mature of the bank is making ä profit, based on busine

activitics many types of risk cxist (credit risk, liquidity risk, markct risk, ete.) In

risk, Tn banking

Vietnam, the banking activities are often associated with credit risk, However, liquidity risk, the type of risks that can immediately make a bank collapse is less focused, because if the banking activities took place on a normal schedule, the tisk was not disclosed Only when a certain event happens to have a negative impact on the bank, then the liquidity risk is exposed, in the worst case, banks have no liquidity, leading to banlauptey, and affecting the entire banking

system

Jn Vietnam, liquidity risk ean be # problem just say "old problem" was just 4

matter of “new problem" Calling it "an old problem" is because amy bank

manager knows about this kind of risk, understands the importance of it and they are also managing liquidity risk based on experience and traditional methods

And calling it "a new problem" is because not many banks in Vietnam really understand it and find ways to reach new approaches to liquidity risk management by international standards Only after the events on the liquidity Tisk from 2006 through to now did banks begin to explore and consciously implement the management of liquidity risk, according to a scientific and more

syslcrratic taethod The starting point of thal process must be derived from the banks which arc fully cquipped with theorctical knowledge about liquidity nsk

management

LienVietBank was established in April 2008, and in more than 2 years the bank has gained outstanding achievements in business results, but besides that, the issnes of tisk management are all complex The organizational structure is not stable, risk management personnel frequently change, the bank only cares about

1

credit tisk management and pays no ullention lo tisk management activilics, particularly the management liquidity risk,

And if there is a crisis similar to the liquidity crisis in 2008, the bank will fac the cnomnous difficulty It is the reason why I decided to choose the topic

“Liquidity risk management in Lien Viet Commereial Joint Stock Bank” for my thesis

and periadic, suience reviews

= Tnformation gathered fiom dircel obs vation as # person dircetly involved in

6 Limitation

The assessment focuses on the liquidity risk management in LienVietBank, due

to time constramt, limited analysis tools and the ability to approach data sources the research can not be analyzed fully and deeply all aspects of the problem

7 Expected result

‘Thesis systematizes the basic knowledge of liquidity risk management in commercial bank, to apply this knowledge to assess liquidity risk and liquidity disk management in LienVietBank From there thesis contributes practical ideas

to LiewViefRank t improve liquidity risk management, enhance

competitiveness of LicnVietBank in the market

8 Thesis structure

TOPIC: “Liquidity risk mangement in Lion Viet Commurcial Joint stock bank CicnVietBank)”

Tntroduction

Chapter 1: Literature Review

Chapler 2: Liquidity risk managewont in LienVielBank

Chapter 3: Recommendations and Solutions Conclusion

References

CHAPTER [: LITERATURE REVIEW

This chupler aims fo answer the rescarch questions about Hquidily risk, Firstly, definitions related 1o commereia) bank, risk management i cornmerciat bank Sccondly and finally, definitions rclated to liquidity risk and liquidity risk management in commercial bank, expressing by Basel II and international framework for liquidity risk management

1.1 Commercial bank

There is still much confusion about what exactly a commercial bank is, And many definitions have been given by organizations, “Commercial banks" can be defined based on: (1) Its fimetion in the economy, (2) The services it offers to customers or (3) based on legal institutions that exist:

“A financial institution that accepts demand deposits and makes loans and

provides other services for the public™’

“A full-service institution that offers customers deposit, payment and credit

services, im addifion to other financial setvicus”

“A financial intermediary which collects credit: from lenders m the form of deposits and Jends m the form of loans.”

? Source: bttp://wwnw.investorg) ossary.cam:'commercial-hank.hta

4 Source: &.Rose, Peter and C Hudgins, Sylvia, (2008), Rank management & Financial Services, page 6

1.1.2 Products & services provided by commercial banks

Commercial banks offer many types of products and services which can be

Other Services

Include investment advisory services, corporate

finance consulting, custodial services for estates and

trusts, safekeeping of securities and other valuable

items, and money transfer services

11.3 Roles of commercial bank in economics

Commercial banks play an important role in economic development Economic development involves investment in various sectors of economy Commercial

banks collect savings from the people and mobilize saving for investment in

industrial project or making loans to individuals The investors borrow from

banks to finance the projects Special funds are provided to the investors for the

* Souree: John B.King, 2010, Ehow contributor journal

completion of projects Coranercial banks also represent a vital Tink in the transmission of government’s ceonomic policics to the rest of the economy, when bank credit is scare and expensive, spending in the economy tends to slow and unemployment usually increase, Or if interest rates are very high, the cost of bank credit will be high and this could be inflationary

1.2 Risk management in Commercial Bank

1.2.1 — Risk in commercial bank’

Risk in a banking organization is possibility that the outcome of an action or event could bring up adverse impacts Such outcomes could either result in a direct loss of earnings/capital or may result in imposition of constraints on bank’s ability to meet its business objectives Such constraints pose a tisk as these could Irinder a bank's abilily to conduct iis onging business or bo take

benefit of opportunitics to enhance its business

Barks often distinguish between expected and amexpcotod losses, Expeeted losses arc those that the bank knows with reasonable certainty will ocour (c.2., the expected default rate of corporate loan portfolio or credit card portfolio) and are typically reserved for in some manner Unexpected losses are those associated with unforeseen events (e.g losses experienced by banks in the aftermath of muclear tests, Losses due to a sudden down tum in ecomomy or falling interest rates) Banks rely on their capital as a buffer to absorb such

losses

Risks are usually defined by the adverse impact on profitability of several distinct sources of uncertainty, White the typos and degree of visks an organization may be exposed to depend upon a numiber of factors such as its

size, complexity business activities, volume ete, it is believed that generally the

‘State Bank of Pakistan, (2002), Risk Management- Guideline for Commercial Banks & DFIs paxe

1

?

banks face Credit, Markel, Liquidity, Operational, Compliance/Legal/Regulatory and reputation risks Before overarching these isk categories, given below are some basics about risk Management and some guiding principles to manage risks in banking organization

1 Main risks in Commercial Bank

Banks face a number of risks in order to conduct their business, and there have been four main risks faced by commercial banks inchide:

Credit risk arises trom the potential that an obligor 1s either unwilling to perform

on an obligation or its ability to perform such obligation is impaired resulting in

economic loss to the bank."

Market Risk: It is the risk that the value of on and off-balance sheet positions of

a financial institution will be adversely affected by movements in market rates

such as interest rates, foreign exchange rales, equity prices, credit

or pri

spreads and/or commodity priues resul fing ina Toss to carnings and capital”

Liquidity Risk: Liquidity is the ability of a bank to fund increases in assets and

3

mect obligations as they come due, wilhoul ineurring unaceuptable los:

Operational Risk: the risk of loss resulting from inadequate or failed internal processes, people and systems or fiom extemal events The detimition includes

legal risk but excludes strategic and reputational nisk.*

1.2.3 Risk Management in Commercial Bank!

' State Bank of Pakisim, (2002), Risk Adaxagenent Guideline for Commercial Backs & DEIs, page §

? State Bank of Pakistan, (2002), Fist Management Guideline for Cononencial Banks & DF Is, page 17

3 Source: Basel Coummittee on Banking Supervisinn, (2008), Principles [or smnd liquidity risk mamagem ent and supervision, page 1

4 Source: Hunk for Internulional Scitfements, Sound Practices for lhe Management and Supervision of

“Ranks are in the Business of Managing Risk, Pure and Simple, that is the Business of Banking” (Walter Wriston, Chairman an CEO Citicory 1970- 1984)”

The acceptance and management of financial risk is inhcrent to the business of banking and banks’ roles as financial intermediaries Risk management as commonly perceived does not mean minimizing risk, rather the poal of risk management is to optimize risk-reward trade-off Bank accepts risks that are uniquely part of the array of bank’s services

Risk management activities broadly take place simultaneously at following different hierarchy levels

Strategic level: Ìt encompasses risk management fimetions performed by senior

‘Macro Level: Wt encompasses risk management within a business area or across business lines Generally the risk management activities performed by middle management or units devoted to risk reviews fall into this category

Micra Level: It involves ‘On-the-line’ risk management where risks are actually created, ‘This is the risk management activities performed by individuals who take risk on organization’s behalf such as front office and loan origination functions The risk imanagement in those areas is confined ta fullowing operational provellures and guidelines sot by management

What Renefits of risk management in Banking?

= Aulicipale adverse changes

= Be fess valncrable from negative envi ommantal changes

= Increase compelitive advantages

= Be able to gain the expertise to price risks and take opportunities

1.3 Liquidity Risk Management in Commercial Bank

1.3.1 Defining liquidity risk

"Liquidity" refers to a financial institution’s capacity to meet its current and

anticipated liquidity obligations as they come due, without incurting

considerable losses '

The Demand for ant Supply of Liquidity’

The Supply of Liquidity

+ Incoming customer deposits

= Revenmes from the sale of nondeposit services

+ Customer Loan repayments

“ _ Borrowing from the money market

= Selling assets

= Capital and Reserve

The Demand for Liquidity

= Customer deposit withdrawals

* Credit requests from quality loan custe:

' Source : Antorite Des Marches Financiers, (2009), Liquidity risk management guideline, pase 7

* Source: 8.Reze, Peter and C.Hudginz, Sytvia, (2008), Bank management & Financial Services,

Chapter 11: Liquidity and Reserve Management: Strategies and Policies ant iquidity ng rates

= Repayient of nondsposit borrowing

= Operating expenses and payrnent of tax

= Payment of dividends by cash

Net liquidity position

The following sources of liquidity and supply come together to determine each

bank’s nel liquidity position al amy moment of tire

Net liquidity position = Supplies of liquidity — Demand of liquidity

> Liquidity Shortage: Net liquidily position > 0 (greater tham zero)

Implications of liquidity deficit:

= Offering higher rate of profit to deposits

«Shortage of financial resources to invest against commitments

= Loss of competitiveness

> Liquidity smplus: Net liquidity pos ion <0 (Staller than zero)

Lmplications of liquidity surplus

+ Underulitixation of financial resour

= Lower income and higher cost,

= Loss of competitiveness

Liquidity risk’

Liquidity tisk results frorn a financial institution's difficulty or inability te honor its Hiquidity commitments ina timely marmer at a rcasomable cust Liquidily risk can also extend to a financial institution’s inability te take advantage of business

opportunities and sustain the growth forecast in its strategic plan (strategic risk) due to a lack of liquidity or difficulty in obtaming funding at a reasonable cost

* Source : Autorite Dex Marches Financiers, (2009), Tỉ Nợ risk management guideline, page 7

Main causes of liquidity risk

Maturity mistuatch Bank lakes large amoumil of short term deposil and then

quake invest in lemg-lerm (raturily rrismatch) The problem related to maturity

uisinatch situation is that bank held an unusually high proportion of liability

subject to immediate payment

* Sensitivity to rate change: rate of protit by other banks on deposits

rise/change of profit rate of deposit

* Loss of public confidence

+ Unanticipated change in cost of capital

+ Abnormal behavior of financial market

+ Incorrect judgments and complacency

* Conversion of non-tunded based limit into fianded based

+ Severe deterioration of assets quality

1.3.2 Basel anil Basel IT requirements

The Bascl Committee on Banking Supervision is a commillse of banking supervisory authorities that was established by the central bank governors of ‘the Group of Ten countries in 1975, It consists of senior representatives off bank supervisory authorities and central banks from Belgium, Canada, France, Germany, Italy, Japan, Luxembourg, the Netherlands, Spain, Sweden, Switzerland, the United Kingdom, and the United States It usually meets at the Bank for International Setilements in Basel, where its permanent Secretarial is

Tucuted

Basel Tis the sevond of the Basel Accords which are recommendations on

banking laws and regulations issued by the Bascl Committee on Banking

Supersion Basel II uses a "three pillars" concept (1) mininmum capital

12

requirements (addressing risk), (2) supervisory review and (3) market discipline

— to promote greater stability in the financial system

Figure 1- 1: Three pillars of Basel I

(Source: http:/Avww.oenb.at/en/img/threepillars_tem16-154242 jpg)

The first pillar deals with maintenance of regulatory capital calculated for three major components of risk that a bank faces: credit risk, operational risk and market risk Other risks are not considered fully quantifiable at this stage

The second pillar deals with the regulatory response to the first pillar, giving regulators much risk, strategic risk, reputation risk, liquidity risk and legal risk, which the accord improved 'tools’ over those available to them under Basel I It also provides a framework for dealing with all the other risks a bank may face, such as systemic risk, pension risk, concentration combines under the title of residual risk It gives banks a power to review their risk management system

The third pillar greatly increases the disclosures that the bank must make This

is designed to allow the market to have a better picture of the overall risk position of the bank and to allow the counterparties of the bank to price and deal

13

appropriately

The Basel Committee has conducted a fundamental review and emphasized

seventeen principles for managing and supervising liquidity risk (see Table 1-2)

Table 1-2: Summarized the principles of Basel 2!

- Establish a robust liquidity risk management framework that ensures it maintains sufficient liquidity, including a Fundamental cushion of unencumbered, high quality

principle for the liquid assets, to withstand a range of stress

management and | Principle 1 events, including those involving the loss or supervision of impairment of both unsecured and secured liquidity risk funding sources

- Supervisors should assess the adequacy,

of both a bank's liquidity risk management

framework and its liquidity position

- Should clearly articulate a liquidity risk tolerance

- Should develop a strategy, policies and practices to manage liquidity risk in

Govertanice oF accordance with the risk tolerance and to

liquidity risk Principle 2, | ensure that the bank maintains sufficient

- Should incorporate liquidity costs, benefits and risks in the product pricing,

performance measurement and new product

approval process for all significant business activities (both on- and off-balance sheet)

* Source: Bank for Intemational Settlements, (2008) Principles for Sound Liquidity risk Management and

‘Supervisor

14

Measurement and

Tmanagernent of

hiquichty tisk

Principle 5, 6,7, 8,9, 10, 11,12

+ Should have « sound process for identi fying, measurmg, monitoring and

controlling liquidity isk

- Should actively manage liquidity risk

exposures and funding needs within and

across legal entities, busmess lines and currencies

- Should establish a funding strategy that

provides effective diversification in the

sources and tenor of funding

- Should actively manage its intraday

liquidity positions and risks 10 me2L

payment and scttlement obligations on a

tincly basis under both mortal and stressed

conditions

- Should actively manage its collateral

positions, differentiating between

encumbered and unencumbered assets

- Should conduct stress tests on a regular basis for a variety of institution-specific and market-wide stress scenarios

- Should have a formal contingency

funding plan (CFP)

- Should maintain a cushion of

unencumbered, high yuslity liquid assets

to be held as insurance agaist a range of

liquidity stress scenarios

+ Supervisors should regularly perform a comprehensive assessment of a bank’s overall liquidity risk management

framework and liquidity position

- Supervisors should supplement their regular assessments ofa bank’s liquidity risk management framework and liquidity position by monitoring a combination of internal reports, prudential reports and

market information

> Supervisors should intervene lo require effective and timely remedial action by a bank

+ Supervisors should communicate with other supervisors and public authorities

1.3.3 International Framework for Liquidity Risk Management in

to adapt to the characteristics of each bank, these banks are subject to a risk management framework common liquidity Its contents are summarized in the table 1-3 and presented conorete below

" Source: Bank Supervision Department, (2008), Liquidity Risk Management Guideline, The Central Bank of Barbados

? Saurce: Haslem Carihbean Central Bank, (2006), Guidelines em Liquidily risk Management for inslitdions,

licensed to conduct banking business under the banking, act

* Source : Autorite Des Marches Financiers, (2009), Liquidily risk management guideline

* Source: Reserve Bank of Fiji, (1995), Liquidity rizk management requirements for banks

* Source: Base! Committee nn Banking Supervision, (2008), Principles for sonnd liquidity risk management and supervision

* Source: HSBC Holding ple, (2008), Capital and Risk Management Pillar 3 Disclosures as at 31 December

2008

16

Table 1-3: International Framework for Liquidity Risk Management in Commercial Bank

risk tolerance Strategy & Policy Responsibilities risk management Planning Internal Audit

toletance liquidity risk Director Adentity Early warning signs) | ;viyy

Guidance of ALCO Measurement —_| Responsibilities ina

Management Process | Semo¥ manager testing Action plan

1.3.3.1 Liquidity risk tolerance

Risk lolorance is the measurement of a bask's willingnsss to suffer a decline (or

repuated declines) im the value of investments (assets or capital), Banks must

determine level of corporate risk tolerance and liquidity nisk tolerance

1.3.3.2 Strategy & Policy

Financial institutions consider the importance of capital adequacy in managing

liquidity risk and the potental impact ofa liquidity crisis on their solvency

Liquidily risk management sialcgy help the Guuneial institution protcet its

capital, maintain marketplace contidence, take advantage of business

opportunities and, finally, sustain its growth forecast

A liquidity risk management strategy should include:

Capital adequacy m managing liquidity risk and the potential impact of a

liquidity crisis on their solvency,

‘The responsibilities to manage liquidity risk;

Polices, processes and procedures to be implemented in order to identify, measure, monitor, mitigate and control liquidity risk

The crisis contingency plan

Intemal Audit

The policy addresses the bank's objective of protecting financial strength even for stressful events It prescribes the following minimum liquidity risk management requirements for banks

Provide clear guidance on the composition and role of the asset/liabulity committee or stich other group responsible for managing liquidity,

Establish approval processes to ensure adherence to liquidity risk

management roe

= Establish tiquidity ratio benchmarks

= Establish Jinits ơn the degree of concentrations to cnsure diversification

of funding by origin and by term structure, for examplc, guarding against

concentration by individuals or groups of depositors, types of deposit, sources of deposit, geographical, maturity period, and ewrencies; (5)

= Establish a framework for the composition of assets;

= Detail procedures fox cfltetively managing domestic and forcign currency liquidity; and establish procedures to solve the problem that have internal control breaches;

= Regularly review of the deposit structure, include the volume and trend

of various types of deposits offered, maturity distributions of time

deposits, interest rate paid on each type of deposit, prevailing market

interest rate, limits on large time deposits, public funds, and non-resident

deposits Review of altermale fimding sowces including stand-by

fucilitios and lines of credit,

= Evaluate the acceptable mismatch in combination with cunency commitments, for each currency individually and all cwrencies Set and regularly review limits on the size of cash flow mismatches over

particular time horizons,

1.3.3.3 The responsibilities to manage liquidity risk

> The Board of Directors

= Establishing and guiding the institution’s strategy and tolerance for liquidity sk,

* Ensuring appropriate policies and procedures are established to guide the

19

mwmagememi of the institution's liquidity tisk These policies and

procedures should be reviewed periodically; at least anmmally

» Sclsoling scmior mwmmgels wHh the authority, responsibility and competence to manage liquidity tisk

= Monitoring the institution’s performance against the established liquidity tisk profile

= Ensuring that liquidity risk is identified, measured, monitored and controlled

= Specrtying the content and frequency of management’s liquidity reports

= Ensuring adherence to the lines of authority and responsibility that the board has established for managing liquidity tisk

= Reviewing periodic management liquidity reports

= Reporting comprehensively on the liquidity management program to the

board al least quarterly

> Role of Senior Management

= Implementing policies and procedures, i.e translating the board's goals,

Measuring and monitoring the liquidity necds of the inslitutiem ơn am ongoing basis

Ensuring thal liquidity is managed and controlled within the parameters

of the liquidity policy

Establishing and utilizing a method for accurately measunng the institution’s current and projected liquidity needs

Referring issues outside the scope of their authority to the ALCO

Reporting periodically (ut least monthly) to the ALCO

1.3.3.4 Liquidity Risk Management Process

> Identification of Liquidity Risk

Sourees of risk relate Lo its balance shect structure, off-balance shee aclivilics,

exposure to other risks or market conditions, For example:

Inflows fiom the realization of assets (cither upon maturity or at the time

of sale) are less than anteipated because of default risk or price

volatility;

Sigmificant concentrations within the asset portfolio (e.g, in relation to the distribution of exposures by counterparty, instrument type, geographical location or economic sector);

Concentrations of funding sources or changing market conditions on the funding structure; concentration by individuals or groups of depositors,

lypes of deposit, sources of deposil, geographical, maturily period, and

euntenci

Besides, loan cornmituents given by banks ta their customer draw on Tiquidity

Banks should be able to estimate and incorporate in their cash-flow projcctions

the amount and timing of unused commitments (including those arising, from

a

mortgage loans, retail overdrafts and credit cards) that, will possibly be drawn,

The divsetion and amount of cash flows for derivatives, options and ofhor

contingent items are affected by market alerest rates, exchange rates and other special terms under the contract Banks should cstimate such cash flows with

care, having regard to the nature of individual transactions and market

conditions; and

The unpredictable cash flow of the contingent liability embedded credit derivatives gives tise to liquidity demands It is expected that banks will undertake some scenario analysis to better establish the impact if the contingent liability is called upon

Insummary a financial institution should clearly identify its sources of liquidity risk as well as their impacts on is risk profile and liquidity position

> Measurement of Liquidity Risk

Analyze the liquidity positions in all of the major currencies in which they deal,

both individnally and all currencies, on a day to day 8 for the shorler time

horizons and over # series of spucified time poriods thoreaNer, inuluding for more distant periods, in order to manage effectively and monitor the net tunding

requirements

= Liquidity Ratios:

- Liquid Assets to Total Assets

- Loans to Deposit

* Maturity Gap Analysis (MAP)

MAP is a simple teetmique far the measurement of tiquidity tisk, which also includes a note on the behavioral matunty of savings portfolios and its influence on maturity gap analysis, Banks will calculate the gap between

asscts and hubilitics in terms of taturitics If the maturity mismatch (GAP)

in any period (c.g., day, month, quarter) exceeds the limit allowed, the

Asset/Liability Committee must take decisions to rectify the stuation The

basic steps are as follows

- Choose time intervals used to analyze banking company liquidity

- Distributing assets and liabilities into appropriate time intervals

- Observing the Asset/Liability maturity profile

and total liabilities pertaining to each time interval A negative mismatch

- Estimate the difference (positive or negative) between total asst

in the short-term may be cause for concern as it may indicate that the banking company is going to have problems funding, at a reasonable cost, all contractual obligations

> Scenario and Stress Testing

Scenario analyses and stress tests should focus on the following:

= Potential tightening or disruption of unsecured and secured loans

markets;

= Prolonged unavailability of medium- and long-term funding sources (securitization, issuance of medium- to long-term securities, bonded debt, cte.) The simulation should reflect the correlation between short-term tmarkets Grterbank lending, repnrchase and reverse repurchase agreements, etc.) and medium to long-term markets, The assumption that in the event of a crisis, a financial institution will ultimately be able

to rely on short-term funding may not be supported if the liquidity crisis undermines market confidence;

= Limits to the diversity of funding sources in the event of a crisis In a ctisis situation, the securitization market may be completely frozen, the

2z

bond market may be partially froven and the interbank market may incur lower trading volumes and post shorter maturitics The simulation should aiso assume that markets may be volatile in various foreign currencies simultaneously;

= The ability to convert liquidity fom one curency to another during a caisis,

> Monitoring of Liquidity Risk

Establishing and maintaining appropriate systems for monitoring liquidity risk Systems that produce liquidity reports should be linked to the bank's core system and the data should reconcile with the bank’s financial data The liquidity management framework should provide the Board, senior management and other appropriate personnel with timely information on the liquidity position of the bank These reports should indicate breaches of limits or when the bank is approaching the limit and general compliance with the bank’s established policies and procedures, Such systems need to be flexible enough to deal with various contingencies that may arise,

> Mitigation of liquidity risk

= Holding an appropriate amount of liquid assets and diversify its sources

of financing Moreover, the financial institution should place importance

on its relations with funds providers ‘The quality of these relations can be

a determining factor in times of crisis Identify the types, qualities and quantity of liquid assets it must hold in order to meet its liquidity requirements adequately base on such oriteria:

- The market's availability, the time to liquidate asscts and the sclling Price;

- The percentage of total asscl or net funding requirement,

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- The cununey of the assets; the maturity date, in view of a possible redemption or carly sale;

+ The possibility of pledging the assels as collateral to borrow funds or

as part of repurchase agrecments,

- The concentration by type of asset, counterparty, geographic location

and industry,

= Diversification of financing, sources, bank should analyze the various characteristics of its liabilities and their impact on its liquidity position in light of the following:

- The maturity date and volatility of liabilities:

- Percentage of holdings of secured and unsecured funding;

- The number of funds provider, the geographic location of the funds providers and their industry or area of activity

= Analyze the various conditions that apply to liabilities: (1) Liabilities that are stable even in times of crisis, (2) Liabilities likely to be withdrawn gradually after the first signs of a crisis; (3) Liabilities withdrawn

+ Rapid assct growth, especially if funded with potentially volatile liabilities;

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= Repeated breaching of internal und regulatory Timils

«Significant decline in profitability, asscl quality and overall financial

condition of the imstitulior

= Credit rating downgrade,

«Difficult o oblaining market funding or irability to ae

such funding, rising funding costs

© Going down or clirsination of lines of eredit granted to the institulion by counterparties,

* Worsening in cash flow positions due to greater mismatching of maturities, particularly short-term maturities;

+ Increase in deposit withdrawals for short-term periods,

+ Changes in market conditions,

Effective contingency plans should include:

« Spocific provedures to ersure timely and wrinterrupted information flows

to senior management;

* Clear divisions of responsibility within management ma exists;

+ Action plans for altcring the composition of assets and liabilitics (ic market assets more aggressively, sell assets intended to be held, raise

interest on deposits etc.),

+ An identification of back-up sources of funding, including unused credit lines, the circumstances in which they can be accessed, the amount expected and the priority attached to each altemative source of funds (i.e designate primary and secondary sources of liquidity),

+ A classification of borrowers and trading customers according to their

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importanee to the institution in order lo maintain customer relationships Identify the information and data, necessary for đecisiơn-rmaking and ensure they arc available in a tinwly manner and on a continuous basis

throughout the crisis:

Plans and procedures for communicating with the media, Determine the acuons to be taken as regards clients, market participants, the media, compensation bodies and its regulatory agency, determine the potential impact of the actions to be taken on market perception, the reputation of the financial institution and its solvency,

> ‘The contingency plan should be reviewed and updated regularly and also be

tested 1o ensure that it is effective and appropriate

1.3.3.6 Internal Audit

Banks should use an independent review process to:

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14.1

Ensure that established policies and procedures are being followed:

Ensure that procedures are achieving their objectives;

Review the liquidity management process to identify any weaknesses;

Ensure prompt corrective actions are taken

Liquidity risk in Viemam Commercial bank system Some typical events of quidiy risk in Vict Nam before year 2006

Some events of liquidity risk occurred with the consequences are small and only affect a small number of banks, but have revealed signs of weakness and passivity of the Vietnamese banks in liquidity risk management

In Oct 2003, rumor had it Mr Pham Van ‘Thiet, General Director of Asia Commercial Joint Stock Bank (“ACB”), had committed pecuiation and fled The bank’s depositors immediately demanded cash withdrawal As of 21:00

a

Octsber 14, ACB Wad made payments to their customers totaling carly YND700 billion, inclusive of USD16 million On October 15, the Governor of State Bank of Vietam (“SBV”) Mr Le Due Thuy had approved the discount limit of VND960 billion for ACB and at the same time denied such rumor Only with this support did ACB overcome the problem,

On 22/07/2005, due to the fact that Pimong Nam Bank had lent to ineligible staff of 30 organizations in Soc Son District with estimated amonnt of nearly VND1 billion, customers flocked at the bank’s office to claim their money Phuong Nam Bank had to draw VNDS3 billion from its agcount wilh SBY Al the end of the day, supported by SBY and Neposit Insummee of Vietnam

(DIV, the bank had stopped the withdrawal

In Inly 2005, from hearsay that Ninh Bink Rural Joint Slock Bank had been involved in the USD10 million loan for the project of Nguyen Due Chi who had been previously arrested, together with rumor of the disappearance of the bank’s director Mdm Nguyen Thi Hue, the pubhe had swarmed the bank and drawn YNDD20 billion from their accounts The incident was quite a serious problem for this small-sized rural joint stock bank Eventually the attempt of DIV had

coased such withdrawal

1.4.2 From the beginning of year 2006 to the end of year 2007:

Business booming coupled with potential Hiquidity risk

As of the end of 2007, there were 80 banks in the local market including 5 state- owned banks, 37 commercial joint stock ban foreign bank branches and 5

juint venture lanks This poriod also witn

soale in the banking Gicld, In 2007 total assets of the banking system cxeecded

‘YND1,500 trillion or equivalent to 130% of the year’s GDP, The ammal growth

of credit and deposit activities was reported at very high rate of over 35% Particularly loan growth in 2007 increased by 53.89% against 2006, nmch

d the breakout in the operation

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higher than the inercase by 25.44% of 2006 over 2005 Fund mobilization in

2007 prow by 47.64% (2006: 36,53%)

Capital adequacy ratio (CAR) — an important criterion representing the repayment capacity of the bank’s term borrowings — had improved, The average ratio for state-owned commercial banks had increased from 7% in 2006 to 9% in

2007 while the number for jamt stock commercial banks stood at about 12% However, the banks faced potential risks, especially liquidity risk, im view that the bank lending to customer deposit ratio of the whole system stably stood at 90% (regional average was at 83%) Specifically a few banks whose ratio exceeded 100% were largely dependant in borrowings from interbank market

1.4.3 From the beginning of year 2008— the end of year 2008

Liquidity risk occurred in severity and affected the safe operation of the entire banking system

Since early 2008 the global economy has been suffering from the worst crisis in history The impacts of this crisis lngether with the tightened monetary policy of SBV had Vietnam commercial banks facing sorious issue iw regard 1o Hquidity:

= On 30.1.2008, SBV announced the upward adjustment of base lending rate trom 8.25% per annum (“p.a.”) to 8.75%p.a., refinancing rate tom 6.5%p.a

to 7.5%p.a and discount rate fiom 4.5%p.a to 6%p.a,

= On 30.1.2008, SBV pumped VND12 tillion to meet banks’ liquidity requirement

= On 31.1.2008, SBV announced the offering of VND1S trillion for 2 weeks

= On 13.2.08, SBV announced the issuance of obligatory VND Treasury bill

on 17.3.08 totaling VND20.3 trillion at tenure of 364 days and coupon rate at 7.8%p.a, to alll 41 commercial banks

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= On 19.2.08, interbank tate skyrocketed to 42%p.a

The potential risks previously forceasted had elcarly exposed In order to meet

liquidity requirement and to cnsure operation security, commereial banks

temporarily ccased lending, concentrated on debts collection and sought funds

to cover liquidity ‘The race for funding had accelerated the average interest rate

fiom 12%p.a to 18.6%p.a and distorted the interest rate curve where short term

deposit rate became higher than long term deposit rate Some small banks’ operation became stagnant and those were categorized under special inspection The level of liquidity problem differed among commercial banks Small banks were more exposed to potential risks while big commercial banks, taking full

Hy, thus their Kquidity risk was at tclalively

By the ond of 2008, as a result of drastic measures for liquidity management, liquidity position of Vietnam banking system had improved as could be seen fiom the static liquichty ratios as of the year end

1.4.4 From the beginning of year 2009 to the ending of year 2009

Liquidity risk in the commercial banking system continued but at lower levels thanks to the timely intervention of SBV

Year 2008 was an extremely difficult period for liquidity of banks as SBV tightened monetary policy to reduce inflation, and that time deposit rates had been pushed at up to 19% per year In 2009, the above scenario reaccurred but

at a lower level because the banks were more alert after the shortage in liquidity

in 2008

Eanly in 2009, affected by the financial crisis, banks had a large surplus of capital mobilization And Slate Bank asked banks to inorease loan to

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mamufacturing scelor at the same time the Govermnent decided to suppart the interest rate on loans for manufactuting and business Due to low cost

businesses could easier access to bank Jans

The cconomy has hit a bottom at the first quarter of the year GDP increascd by only 3.1% and then gradually recovered in the later quarters, Accordingly, the demand for bank loans of enterprises increased, and growth of bank credit also increased by the same time, the risk of re-inilation was mentioned Credit growth in 2009 was 38%, quite far from the 30% target that SBV set Faced with tho risk of v-inflation, SRV had in tum made the monctary tightening measures such as redueing the shorl-term funding for medinm and long term financing ratio from 40% to 30%, increasing base rate from 7% to 8% after maintaining it for more than a year, and requinng banks to focus lending for production, With the measures, the banks that took short-term funding for long-term financing or borrowed too much fiom the interbank market to provide for adjustment lending had to increase deposit rates to attract finds from corporate and individuals

Trom July to November, the commercial banks contimed to raise VND interest

rates for all tenures Highest interest rates subsceunfly wend up to 9%, 10% anu

peaked up to 10.5% per year Interest rate curve was distorted when many banks

applicd a consistent high Icvel of interest rates for most tenures

1.4.5 The first six mpnths vf year 2010

Banks overcame the most difficult period but there were still some indications

of the potential liquidity risk in banking activities

On 06/01/2010, SBV pumped sbout 15,000 billion through open market in oxder

to relieve stress issues on interest rates at commercial banks and reduce liquidity pressures on banks Immediately, the interbank interest rate decreased, one-week down to 11% per year, overnight interest rates still at 8.5% per year Whereas

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