summary of doctoral dissertatio market risk management at vietnam joint stock commercial bank for industry and trade

AND TRAINING VIETNMAMTHE BANKING ACADEMY HOANG XUAN PHONG HOANG XUAN PHONG MARKET RISK MANAGEMENT AT VIETNAM JOINT STOCK COMMERCIAL BANK FOR INDUSTRY AND TRADE FIELD OF RESEARCH: FINANC

AND TRAINING VIETNMAM

THE BANKING ACADEMY

HOANG XUAN PHONG HOANG XUAN PHONG

MARKET RISK MANAGEMENT

AT VIETNAM JOINT STOCK COMMERCIAL BANK FOR INDUSTRY AND TRADE

FIELD OF RESEARCH: FINANCE – BANKING

CODE: 62.34.02.01

SUMMARY OF DOCTORAL DISSERTATION

HA NOI - 2014

Instructors: 1 Assoc Prof., PhD To Ngoc Hung

2 PhD Hoang Viet Trung Opponent 1:

INTRODUCTION

1 The necessity of the project

After the access into the World Trade Organization (WTO), theintegration degree of Vietnam into the global economy has becomeincreasingly deep and wide The world integration can bring to the banks

in Vietnam with opportunities to learn, to acquire administrationexperiences as well as make full use of advanced technologies, todiversify products and services from countries with developedeconomies However, the integration also raises many difficulties andchallenges, of which the incalculable challenge for local banks is theforce of risks in the business together with increasingly complex marketfactors, which have been liberated and appear more and more complexnatures It is because that: the higher the diversification of banking andfinancial products, the more the risk level is growing; the financialenvironment has changed constantly and is hard to be controlled and this

is very likely to cause the domino reaction Meanwhile, Vietnam'scommercial banks have still lacked practical experiences, been perplexed

in operating and controlling the activities of currency trading Therefore,

in parallel with the comprehensive development goals, the good marketrisk management to create a stable business environment is now a greatpressure over all commercial banks in Vietnam

In that context, studying and managing the market risk to minimizethe losses for commercial banks is a very important issue with theoreticaland practical pressing significance both on the global level and in eachcountry From the late 2002, to further enhance the tolerance ofcommercial banks against bad situations in business operations, as well

as to ensure the safety of the system, the Commission on BankingSupervision headquartered in Basel has issued regulations to standardizethe market risk management Since then now, the tools and methods of

quantifying the values with market risks have been improved andcontinuously invested

In recent years, Vietnam Joint Stock Commercial Bank for Industryand Trade has adopted a number of policies on minimizing the marketrisks in order to be able to stand strongly in the competition anddetermined to implement its strategies of building Vietnam Joint StockCommercial Bank for Industry and Trade into a powerful financialconglomerate of Vietnam, the region and the world However, under thecurrent volatile economic environment conditions, interest rates andexchange rates , which have been changing constantly andunpredictably at various times, have brought considerable damages to thebank Also, due to lacking experiences, comprehensive views, socio-economic conditions, and the application of market risk managementstandards in accordance with current international standards intoactivities of the commercial banks in Vietnam in general and of VietnamJoint Stock Commercial Bank for Industry and Trade in particular is avery difficult issue and should be further discussed and clarified

From the theoretical and practical issues, I have choose the

project titled: “ Market risk management at Vietnam Joint Stock Commercial Bank for Industry and Trade” in order to study and

defend my doctoral dissertation

2 Research situation

So far, there have been many scientific research projects regardingthe risk management at commercial banks such as Hennie van Greuingand Sonia Brajovic Bratanovic with the research named “ANALYZINGAND MANAGING BANKING RISK” 2003 In their research, authorshave mainly demonstrated the method of quantifying the market riskswith the Value At Risk (VAR) techniques Methods of calculating VARinclude: Historical Method, The Variance-Covariance Method andMonte Carlo Simulation Currently, there has been no project on the in-

depth research of this issue in Vietnam, however, it should mention the

master thesis of Du Thi Minh “Managing exchange rate risk in forex trading operations at Military Bank-Actual situations and solutions”,

2012, The Banking Academy; “Solutions to managing interest rate risk

at Vietnam Bank for Agriculture and Rural Development” – the

economic doctoral dissertation of the author Do Thi Kim Hao-2005

In general, researches on market risk management at commercialbanks in a comprehensive manner is very limited The sector-levelscientific research project on "Methods of managing market risk atcommercial banks in Vietnam", PhD Pham Huy Hung coded KNH2008-

02, 2010 is one of the most comprehensive research projects to date onthe contents of market risk management in Vietnam However, researchobjectives of the project focus on several methods of quantifying marketrisk and applying the above methods of quantifying for the commercialbank system in Vietnam

Most of research projects in Vietnam have not yet accessed to thecomprehensive market risk management at commercial banks in anoverall manner, including interest rate risk and foreign exchange risk, notcombined theoretical issues with practical operations in order to clarifythe basic objectives and contents of the market risk management,generally researching methods for quantifying market risks; previousresearches have not raised complete solutions, overall recommendationsfrom models, procedure of market risk management, methods employedfor administrating, forecasting market movements especially associatedwith the specific conditions of Vietnam Joint Stock Commercial Bank forIndustry and Trade

The above “blank spaces” have suggested the author new researchdirections in order to well implement the dissertation

Therefore, it can be confirmed that the thesis titled “ Market risk management at Vietnam Joint Stock Commercial Bank for Industry and

Trade” is the first doctoral dissertation which has systematically and

comprehensively studied contents of market risk management at banks astheoretical basis for assessing the actual situation and proposing solutions

to improving capacities of market risk management at Vietnam JointStock Commercial Bank for Industry and Trade

3 Dissertation objectives

On the basis of clarifying the general theoretical issues about marketrisk, methods of identifying, measuring and controlling market risk, thesystem of market risk management softwares at commercial banks;analyzing and evaluating the status quo of the market risk management inVietnam Joint Stock Commercial Bank for Industry and Trade; the thesisproposed solutions to improving market risk management ability atVietnam Joint Stock Commercial Bank for Industry and Trade inaccordance with international practices

4 Research subjects and scope

- Research subjects of the dissertation: The theoretical and practical

issues about market risks and market risk management at commercial banks

- Research scope: Managing market risk (including interest rate risk

and exchange rate risk) at Vietnam Joint Stock Commercial Bank forIndustry and Trade from 2008 to 2012 and vision up to 2015

5 Research methodologies

Method of dialectical materialism and historical materialism, logicalmethod, statistical and synthesic methods, other methods such as:

comparative, inductive, deductive moethods.

6 Contributions of the thesis

The dissertation systematizes, clarifies theories on market riskmanagement in the context of world economic integration andincreasing competitive pressures in the business activities ofcommercial banks; introducing basic contents about market risk(within the scope: interest rate risk and exchange rate risk) of

commercial banks Especially, the thesis has suggested ways ofbuilding a standardized system about market risk management atcommercial banks from model, procedure and policy of market riskmanagement; stating experiences about market risk management atsome foreign commercial banks and drawn lessons for Vietnam.Based on surveyed information, practical materials, the thesis hasintroduced the overview about Vietinbank, analyzing the status quo ofthe market risk management at Vietnam Joint Stock Commercial Bankfor Industry and Trade, pointing out basic successes and shortcomings,weakness and causes of market risk management of the Bank - as thebasis for proposing innovation solutions, completing the market riskmanagement of Vietinbank in the coming time.

The dissertation has recommended 06 systems of solutionsappropriate to the conditions of Vietnam Joint Stock Commercial Bankfor Industry and Trade from building the risk management framework inaccordance with international standards; building, completing policy onmarket risk management; completing model, procedure, methods andtools of market risk management ; solutions to enhance modern technicalequipments, set up risk management softwares; strengthening thepredictabilities to training to the staff of officials in charge of market riskmanagement to better implement the market risk management ofVietinbank market risk in the future

7 The dissertation structure

In addition to the introduction and conclusions, the thesis isstructured into 03 chapters as follows:

Chapter 1: General issues about the market risk management of

commercial banks

Chapter 2: Market risk management in Vietnam Joint Stock

Commercial Bank for Industry and Trade

Chapter 3: Solutions to improving ability of the market risk management at

Vietnam Joint Stock Commercial Bank for Industry and Trade

Chapter 1 GENERAL ISSUES ON THE MARKET RISK MANAGEMENT

OF COMMERCIAL BANKS 1.1 Market risk in operations of commercial banks

1.1.1 The concept of market risk

The market risks may be defined as the possibility of loss to the bankcause by the changes in market variables It is the risk that the value ofon-/ of- balance sheet positions will be adversely effeced by themovements in equity and interest rate markets, currency exchange ratesand commodity prices, or risks for earnings and capital of the bank due

to changes in the market level of interest rates, prices of securities,foreign exchange and equities as well as the volatilities of those prices

1.1.2 Types of the market risks

In general, the market risk includes interest rate risk, foreignexchange risk, securities risk and commodity risk

1.1.2.1 Interest rate risk

a The concept of the interest rate risk

The interest rate risk at commercial banks is potential losses whichthe bank shall bear when the market interest rate fluctuates Theinterest rate risk is the risk of fluctuations in income and net value ofthe bank when the market interest rate changes

b Types of interest rate risks:

The interest rate risk consists of three types: Outright Risk, YieldCurve Risk and Basic Risk

c Effects of the interest rate risk

It affects the earning perspective of the bank

It also has effects over the market value of assets

1.1.2.2 Exchange rate risk

a The concept of the exchange rate risk

Foreign exchange risk is the current or future risk potential on incomeand capital due to adverse fluctuations in currency exchange rates

Foreign exchange risk in this thesis consists mainly of exchange rate risk

- which is the losses caused by the fluctuations of the exchange rate

b Risk types in currency exchange business

It includes operational risk; liquydity risk; settlement risk; market risk

c Effects of exchange rate risk

A bank with a large open foreign currency position is capable ofcoping with significant losses when the exchange rate changes The bank

is under the currency exchange risk when maintaining the open foreignexchange position (open position)

1.1.3 Market risk quantification

According to the latest updated theories, the market riskquantification can be applied in accordance with four methods and basiccriteria: (1) consequences of risks and (2) the probability of risks.Consequences and probability of risks are of two levels from the low tothe high With the two above criteria, the market risk quantification can

be described in the following table:

Table 1.1: Methods of market risk quantification

Measurement methods Measurement Consequences Probabilit

y

1 Interest rate gap Interest rate risk No No

2 The interest rate sensitivity

(PVBP/Duration) Interest rate risk Yes No

3 Currency revaluation (mark -

to- market) Exchange raterisk Yes No

4 Value at risk (VaR) Interest rate risk

and Exchangerate risk

CEO

Front office Middle office Back office

monitoring, controlling market risks of banks in order to minimizepossible negative effects on the bank's earnings in the event of the marketchanges In the aspect of operations, the market risk management is theapplication of financial instruments to limit or minimize financial losscaused by market risks

1.2.2 Objectices of the market risk management

1.2.2.1 Minimizing losses for the bank

One of the important objectives in the market risk management is tolimit, to the maximum extent, any adverse effect of fluctuations ininterest rates and exchange rates over the bank's income Althoughinterest rates, exchange rates change, banks always want to achieve theirexpected incomes at a relatively stable level

1.2.2.2 Increasing profits for the bank

In addition to minimizing losses caused by market risks, the bank canmaximize its profits with the correct predictions about the volatility ofinterest rates, exchange rates in future

1.2.3 Contents of the market risk management

1.2.3.1 The risk management model

The standard risk management model can be referred and applied as follows:

Figure 1.1: Risk management model

Risk management

Source: Consultation documents of ING

The bank needs to build a model of risk management in accordancewith business scale and features However, in the modern business modelthere is still a clear bound of duty among three departments: business, riskmanagement and operation in order to support and monitor each other

1.2.3.2 Market risk management policy

Market risk management policy is a system of limitations anddocuments on risk activities for the entire bank Effective riskmanagement rule needs to start with the highest level, which is thefunctions implemented by the Board of Directors and Executive Board

1.2.3.3 Process of monetary risk management

a Risk identification

Commercial banks need to set up a market risk management system toidentify all the market risk source as well as to evaluate the fluctuation ofinterest, exchange rate… to the bank’s operation scope, to recognize andquantify the sources that cause the risks for the bank

b Risk measurement:

The bank can apply the market risk measurement techniques for both profitand economic values Nowadays market risk measurement or quantificationcan be carried out by 4 methods: (1) Interest rate gap (2) Interest rate sensitivity

(3) Revaluation of exchange rate (4) Value at risk (VaR), the content mentioned

in the part of monetary risk quantification above.

c Risk monitoring and controlling

The bank should consider if the present strategies are suitablewith risk files as bank’s periodical expectation Senior managementboard and the bank should build a report system which allows them

to monitor current and potential risks to ensure the consistence withthe proposed target They also should set up and maintain an

effective controlling system They need to check and update eachstep of the quantification process to guarantee the honesty andreasonability.

1.2.3.4 Limit management

The market risk management limits include: Opening positions; loss limits; Total book Limits; Counterparty Limits; Interest rate gapslimits, interest rate sensitivity Limits; Value at risk limits (VaR)

Stop-1.2.3.5 Using derivative products to avoid market risk

We use derivative tools to change the risks These derivatitve toolsare: interest rate forward contract, foreign currency forward contract;interest rate swap, foreign currency swap; foreign currency option,interest rate option; future contracts

1.2.4 Influential factors of market risk management in commercial banks

Technology, professional qualification; legal environment andfinancial market development; forecasting system of market, interest andexchange rate

1.3 EXPERIENCES OF MARKET RISK MANAGEMENT

IN SEVERAL FOREIGN BANKS

This thesis works on the experiences of these prestigious banks: KDB(The Korea Development bank) – Korea and Calyon Bank, Ho Chi Minhbranch On that basis it abstracts several lessons of market riskmanagement:

The advantages of these two banks’ market risk management methodsare: (1) Apply advanced market risk management method, (2) Modernsoftware with high expense, high trustworthy, (3) Methodical andstandardized market risk management procedure, (4) market riskmanagement with value at risk is the most popular method in these days

General Shareholders' Meeting

Board of Directors

Supervisory Board

Auditing dept

Compliance and Performance Auditing Dept Committees

Secretariat

to the Board

- HR and Remuneration Committee

- Assets and Liabilities management Committee

- Risk Management Committee

- Policy Committee

- IT Development Strategy Committee

Credit Committee, Financial Institutions Committee

Branches

Dept Transaction office

Training center Vietinbank

Southern Branch Middle Branch

Affiliates

Branches

Board of Management

Operational Monitoring and Auditing Dept

CHAPTER 2 MARKET RISK MANAGEMENT IN VIETNAM JOINT STOCK COMMERCIAL BANK FOR INDUSTRY AND TRADE

2.1 Overview of Vietnam Joint Stock Commercial Bank for Industry and Trade (Vietinbank)

2.1.1 Establishment and development of Vietnam Joint Stock Commercial Bank for Industry and Trade

It is a state-owned bank which was founded in 1988, capitalized in

2008 With core product of bank services, Vietinbank has a bankingnetwork on the whole nation The number of staff is above 18.000, whichranks the second of number in Vietnam bank system Vietinbank is theofficial member of many prestige organizations

In the process of establishment and development, from a specializedbank, Vietinbank has been through many steps to reinforce its position of

a big state-owned commercial bank in Vietnam

2.1.2 Organizational structure

The organizational structure of Vietinbank is described as below:

Chart 2.1 Targeted operational model in period 2013 - 2015