Risk Management

in Banks

Risk Management at JPMC Bank

Submitted By:-

Angir Gupta

09BSHYD0097

Seat No. 21

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 Risk Management at JPMC Bank

Table of Contents

BANKS RISK-AN OVERVIEW.........................................................................................................................3

About JP Morgan Chase & Company.................................................................................................4
RISK ORGANIZATION STRUCTURE............................................................................................................6
CREDIT RATING of JPMC Bank.................................................................................................................7
Internal Control Mechanism at ICICI........................................................................................................7
BASEL I and BASEL II................................................................................................................................8
CREDIT RISK...............................................................................................................................................10
MARKET RISK.............................................................................................................................................19
OPERATIONAL RISK....................................................................................................................................28
CONCLUSION.............................................................................................................................................31
BIBLIOGRAPHY...........................................................................................................................................32

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BANKS RISK-AN OVERVIEW

What is Risk?
It is the potential that events expected or unexpected, may have an adverse effect on a financial
institution’s capital or earnings. Risk is inherent in all business and financial activities. The
greater the RISK associated with an activity the greater potential to generate a high return.

BANK RISK
Taking risks can almost be said to be the business of bank management. The biggest RISK for a
bank is not taking a RISK. A bank that is run on the principle of avoiding all risks or as many of
them as possible, will be a stagnant institution, and will not adequately serves the legitimate
credit needs of its society. On the other hand a bank that takes excessive risks or credit is more
likely, takes them without recognizing their extent or their existence will surely run into
difficulty.

RISKS FACED BY THE BANKS MARKET RISKS

Market risk is the risk to a bank’s financial condition resulting from adverse movements in the
market prices. Accurately measuring an institution’s market risk requires timely information
about the current market values of its assets liabilities and off balance sheet positions. Market
risk arises from factors such as changing interest rates, the liquidity of the markets for specific
commodities or financial instruments, and local or world political or economic environment.
Market risk includes the following
a) Price Risk: It includes:
• Changes in market price
• Changes in market volatility
• Lack of Market liquidity
b) Interest Rate Risk: It includes:
• Changes in the interest rates
• Changes in the interest rate volatility
c) Currency Risk: It includes:
• Changes in the exchange rate
• Changes in the exchange rate volatility
CREDIT RISK
Credit or counterparty risk is the risk that obligation to the financial institution. Instrument issuer
will not be able to pay the interest or repay the principal according to the terms specified in the
credit agreement. Credit risk means that payments may be delayed or ultimately not paid at all
which can in turn cause cash flow problems and affect a bank’s liquidity.
Credit risk includes the following:

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• Direct Credit Risk: Here the counterparty defaults on products, e.g. loans or issued
debts, where the exposure is full face value.
• Credit Equivalent Exposure: Here the counterparty defaults on off-balance-sheet
products, e.g. swaps or options, where the credit equivalent exposure is the function of
current market prices.
• Settlement Risk: Here the counterparty defaults on transactions in the process of being
settled and where counterparty but not yet received in return.
LIQUIDITY RISK
The risk that a bank will be unable to accommodate decreases in liabilities or to fund increases in
assets. Such risks arise when the re-pricing or maturities of assets do not match those of
liabilities.

OPERATIONAL RISK
Operational risk is by far the most extensive risk category. It can be defined as everything that is
not market and credit. It includes matters such as in organizational structure, inadequate system,
failure to properly supervise, defective control, fraud, legal and regulatory issues and human
error.

About JP Morgan Chase & Company

JP Morgan Chase & Co. is one of the oldest and largest financial services firms in the world
behind Citigroup Incorporation and Bank of America Corporation. It has operations in 60
countries. It is a leader in financial services with assets of $2 trillion, and the largest market
capitalization and third largest deposit base. The hedge fund unit of JP Morgan Chase is the
largest hedge fund in the United States with $53.5 billion in assets as of the end of 2009. Formed
in 2000, when Chase Manhattan Corporation merged with JP Morgan & Company, the firm
serves millions of consumers in the United States and many of the world's most prominent
corporate, institutional and governmental clients.
Its global commercial banking services, conducted under the JPMorgan name, encompass
investment banking, wealth management, institutional asset management and private equity. The
company offers consumer and commercial banking services throughout the United States under
the Chase name. Its consumer operations, which include more than 3,000 bank branches, 8,500
ATMs, and 270 mortgage offices, offer retail banking, credit card, small business, home and auto
financing, and insurance products and services. On the commercial side, Chase is a leading
player in middle-market banking, corporate banking, commercial real estate, business credit, and
equipment leasing.
Industry: Banking, Financial Services

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Headquarters: New York, USA

Markets Served: Global
Key People: Jamie Dimon (Chairman, President & CEO)
Website: www.jpmorganchase.com
Employees: 226,623
Employee growth: 1.2%

JP Morgan Chase Co. has more than 5,100 bank branches in USA and is also among the nation's
top mortgage lenders and credit card issuers. Active in some 60 countries, it also boasts
formidable investment banking and asset management operations. The company's subsidiaries
include the prestigious JPMorgan Private Bank and institutional investment manager JPMorgan
Asset Management (with some $1.7 trillion in assets under supervision). In 2008 JPMorgan
Chase bought Bear Stearns and the operations of failed thrift Washington Mutual.

Key numbers for fiscal year ending December 2009

Sales: $115,632 Million
Net income: $11,652 Million
Income growth: 215%
Total Assets: $2.031 Trillion
Competitors: Bank of America, Barclays, Citigroup

Company Logo

Vision Statement of JP Morgan Chase & Company

"At JPMorgan Chase, we want to be the best financial services company in the world. Because
of our great heritage and excellent platform, we believe this is within our reach."

Mission of JP Morgan Chase & Company

To be Number One

Slogan or Motto of JP Morgan Chase & Company

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“Strengthening Communities”

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Business Structure of JP Morgan Chase & Co.

The figure below depicts the diversified business offerings of JP Morgan Chase & Co.

Source: http://investor.shareholder.com/jpmorganchase/annual.cfm

RISK ORGANIZATION STRUCTURE

Risk is an inherent part of JPMorgan Chase’s business activities and the Firm’s overall risk
tolerance is established in the context of the Firm’s earnings power, capital, and diversified
business model.

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CREDIT RATING of JPMC Bank

The cost and availability of financing are influenced by credit ratings. Reductions in these ratings
could have an adverse effect on the Firm’s access to liquidity sources, increase the cost of funds,
trigger additional collateral or funding requirements and decrease the number of investors and
counterparties willing to lend to the Firm.

The credit ratings of the parent holding company and each of the Firm’s significant banking
subsidiaries as of January 15, 2010, were as follows.

On March 4, 2009, Moody’s revised the outlook on the Firm to negative from stable. Ratings
from S&P and Fitch on JPMorgan Chase and its principal bank subsidiaries remained unchanged
at December 31, 2009, from December 31, 2008. At December 31, 2009, S&P’s outlook
remained negative, while Fitch’s outlook remained stable.

The figure above depicts the total economic capital for the JPMC for different types of risk.

CREDIT RISK
Credit risk is the risk of loss from obligor or counterparty
default. JPMC provides credit (for example, through loans,
lending related commitments, guarantees and derivatives)
to a variety of customers, from large corporate and
institutional clients to the individual consumer. For the
wholesale business, credit risk management includes the
distribution of the Firm’s syndicated loan originations into the marketplace with exposure held in
the retained portfolio averaging less than 10%.

Credit risk management is overseen by the Chief Risk Officer and implemented within the lines
of business. The Firm’s credit risk management governance consists of the following functions:

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 Establishing a comprehensive credit risk policy framework

 Monitoring and managing credit risk across all portfolio segments, including transaction
and line approval
 Assigning and managing credit authorities in connection with the approval of all credit
exposure
 Managing criticized exposures and delinquent loans
 Calculating the allowance for credit losses and ensuring appropriate

Risk based Components and Assets

(in $ Millions)
CAR Calculations 2009 2008
Tier 1 Capital   132,971 136,104
Tier 2 Capital   44102 48616
Total Risk Weighted Assets   1198006 1244659
Total Adjusted Avg Assets   1933767 1966895
Total Capital   177,073 184,720
CAR = Capital/ Risk Weighted Assets   14.78% 14.84%
Source: Calculations done from the Annual Report, 2010

Risk measurement

To measure credit risk, the Firm employs several methodologies for estimating the likelihood of
obligor or counterparty default. Methodologies for measuring credit risk vary depending on
several factors, including type of asset.

Risk reporting

To enable monitoring of credit risk and decision-making, aggregate credit exposure, credit
quality forecasts, concentrations levels and risk profile changes are reported regularly to senior
credit risk management.

During 2009, the credit environment experienced further deterioration compared with 2008,
resulting in increased defaults, downgrades and reduced liquidity.

CREDIT PORTFOLIO

Total credit exposure at Dec 31, 2009, decreased by $322.6 billion from 2008, reflecting
decreases of $170.5 billion in the wholesale portfolio and $152.1 billion in the consumer
portfolio. JPMorgan Chase’s consumer portfolio consists primarily of residential mortgages,
home equity loans, credit cards, auto loans, student loans and business banking loans, with a
primary focus on serving the prime consumer credit market.

JPMC focuses on the management and diversification of its industry exposures, with particular
attention paid to industries with actual or potential credit concerns.

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Provision for the Credit Loss

The managed provision for credit losses was $38.5 billion for the year ended December 31,
2009, up by $13.9 billion from the prior year. The prior-year included a $1.5 billion charge to
conform Washington Mutual’s allowance for loan losses, which affected both the consumer and
wholesale portfolios.

ENPA Model Calculation Mar 31,2010

(In $ Billion)
PBT 53.45
PAT 40.25
NPAs 96.27
ROA (in %) 1.1
Total Assets 3,634.00
ENPA = (PBT/TA)/(NPAs/TA) 55.52%
Source: Calculations done from the Annual Report, 2010

Comments:
1. CAR is sufficiently high. It has improved from the last year significantly.
2. NPAs are reasonable on the lower side. They have decreased from the year 2010.
3. The credit quality of the bank is fine right now.

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MARKET RISK

Market risk is the exposure to an adverse change in the market

value of portfolios and financial instruments caused by a change in
market prices or rates.
Market Risk seeks to facilitate efficient risk/return decisions,
reduce volatility in operating performance and make the Firm’s
market risk profile transparent to senior management, the Board of
Directors and regulators.

Each business segment in JPMC is responsible for the comprehensive identification and
verification of market risks within its units. The highest concentrations of market risk are found
in IB, Consumer Lending, and the Firm’s Chief Investment Office in the Corporate/Private
Equity segment.

JPMC uses various metrics, both statistical and non statistical measures to measure risk:

1. Non Statistical Measures

 Non statistical risk measures other than stress testing include net open positions,
basis point values, option sensitivities, market values, position concentrations and
position turnover.
2. Statistical Measures
 VAR
 Risk identification for large exposures (“RIFLE”)

JPMorgan Chase’s primary statistical risk measure, VaR, estimates the potential loss from
adverse market moves in a normal market environment and provides a consistent cross-business
measure of risk profiles and levels of diversification. VaR is used for comparing risks across
businesses, monitoring limits, and as an input to economic capital calculations.

To calculate VaR, JPMC uses historical simulation, based on a one-day time horizon and an
expected tail-loss methodology, which measures risk across instruments and portfolios in a
consistent and comparable way. The simulation is based on data for the previous 12 months.

In the third quarter of 2008, the Firm revised its reported IB Trading and credit portfolio VaR
measure to include additional risk positions previously excluded from VaR, thus creating a more
comprehensive view of the Firm’s market risks. In addition, the Firm moved to calculating VaR
using a 95% confidence level to provide a more stable measure of the VaR for day-to-day risk
management.

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The Firm maintains different levels of limits. Corporate-level limits include VaR and stress
limits. Similarly, line-of-business limits include VaR and stress limits and may be supplemented
by loss advisories, non statistical measurements and instrument authorities.

LIQUIDITY RISK

Liquidity Risk is the current and prospective risk arising

from a bank’s inability to meet financial obligations as they
fall due, through available cash flows or selling of assets at
fair market value. It is the risk due to the inability to manage
unplanned decreases or changes in sources of funds at
appropriate maturities at a reasonable price. The other source
can be the failure to identify or address the changes in
market conditions that might affect the ability to liquidate assets quickly with minimal loss in
value.
The goal of liquidity risk management of ICICI Bank is to meet all liability repayments on time,
and to fund all investment opportunities by defining an adequate amount of cash, promptly
marketable assets and other instruments for quick raising of funds even under adverse conditions.
This can be done either by increasing liabilities or by converting assets into cash at reasonable
cost.

ORGANISATIONAL SET-UP

As per its ALM Policy, the ICICI Bank manages its liquidity risk. This policy is framed as per
the extant regulatory guidelines and is being approved by the Board of Directors. The Risk
Committee of the Board supervises ALCO. The changes are incorporated by reviewing it
periodically as required by regulatory stipulation or to realign with the changes in the economy.
The formulation and review of strategies are done by ALCO of the Bank and it provides
guidance for the management of liquidity risk within the framework laid out in the ALM Policy.

RISK MEASUREMENT AND REPORTING FRAMEWORK

As a part of its ALM activities, the Bank proactively manages liquidity risk as a part of its ALM
activities. The Bank uses various tools like statement of structural liquidity (SSL), liquidity
ratios, dynamic liquidity gap statements and stress testing through scenario analysis for
measuring liquidity risk.

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The SSL is used as a tool for measuring net funding requirements and assessment of excess or
deficit of funds in different maturity buckets in the future. The cash flows pertaining to various
liabilities, assets in the balance sheet and off-balance sheet items are placed in various time
buckets based on their contractual or behavioral maturity. The SSL is prepared for the domestic
as well as for the global operations of the Bank. ALCO reviews the utilization against gap limits
laid down for each maturity bucket.

The Bank monitors various liquidity ratios as a part of its Stock and Flow approach, and limits
are laid down for the ratios under the ALM Policy. ICICI Bank has also framed a Liquidity
Contingency Plan (LCP) which includes various triggers which are monitored regularly. In the
event of tight liquidity crunch, this serves as a framework for early identification and calibrated
action. This also lays down the mechanism for crisis management ,escalation and remedial action
until return to normalcy.

The Bank prepares dynamic liquidity gap statements, considering the liquidity requirements in
addition to the scheduled cash flow, pertaining to incremental business and its funding. The
dynamic liquidity gap statements are prepared periodically in close coordination with the
business groups. The cash flow projections based on the statements are submitted to ALCO.
Further, the Bank has a Board which approves the liquidity stress testing framework. As per the
bank specific and market-wide stress scenarios, the Bank gauges its liquidity position. On a
monthly basis, the results of liquidity stress testing are reported to ALCO. The potential impact
on the Bank’s balance sheet for meeting the stress outflows under the scenarios is measured and
is subjected to a stress tolerance limit which is specified by the Board.

LIQUIDITY MANAGEMENT

The bank has a conservative approach towards managing liquidity. This Bank has various
sources of liquidity to allow for flexibility in meeting immediate funding requirements. Current
accounts and savings deposits payable on demand form a significant part of the Bank’s funding
for its domestic operations. It works with a concerted strategy to sustain itself and grow this
segment of deposits along with retail term deposits. Loan maturities and sale of investments
provide liquidity These deposits are augmented by wholesale deposits, borrowings and through
issuance of bonds and subordinated debt on a periodic basis. The Bank holds good quality liquid
assets to protect against distressed conditions.
In addition to this, the Bank also has the option of managing liquidity for domestic operations by
borrowing on a short-term basis in the inter-bank market. The overnight market, which is a
significant part of the inter-bank market, is affected by the volatile interest rates. To limit the
effect on such volatile funding, the ALM Policy in the inter-bank market has stipulated limits for
borrowing and lending. The Bank has access to refinancing facilities given by the RBI.

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For the global operations, the Bank has a well-defined borrowing program. The US dollar has
been defined as the base currency for the international branches of the Bank, apart from the
branches where the currency is not freely convertible. The wholesale borrowings are in the form
of bond issuances, syndicated loans and inter-bank bilateral loans, money market borrowings and
deposits, including structured deposits. The Bank raises fund from banks against the buyer’s
credit and other forms of trade assets
The Bank has also focused on increasing its share of retail deposit liabilities, in accordance with
the regulatory framework at the host countries. The frameworks are designed considering the
host country regulatory requirements which are applicable.

ICICI bank has a robust governance structure,strict policy framework and vigilant review
mechanism to ensure availability of sufficient liquidity even under stressed market conditions.

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OPERATIONAL RISK

An operational risk is, as the name suggests, a risk arising from

execution of a company's business functions. It is a very broad
concept which focuses on the risks arising from the people, systems
and processes through which a company operates. It also includes
other categories such as fraud risks, legal risks, physical or
environmental risks.

The Basel Committee defines operational risk as:

“The risk of loss resulting from inadequate or failed internal processes, people and systems or
from external events"

However, the Basel Committee recognizes that operational risk is a term that has a variety of
meanings and therefore, for internal purposes, banks are permitted to adopt their own definitions
of operational risk, provided the minimum elements in the Committee's definition are included.

Operational risk management governance & framework

To monitor and control operational risk, the Firm maintains a system of comprehensive policies
and a control framework designed to provide a sound and well-controlled operational
environment.

JPMC’s approach to operational risk management is intended to mitigate such losses by

supplementing traditional control-based approaches to operational risk with risk measures, tools
and disciplines that are risk-specific, consistently applied and utilized firm wide. One of the ways
operational risk is mitigated is through insurance maintained by JPMC. JPMC purchases
insurance to be in compliance with local laws and regulations, as well as to serve other needs of
the Firm.

The Firm’s operational risk framework is supported by Phoenix, an internally designed

operational risk software tool. Phoenix integrates the individual components of the operational
risk management framework into a unified, web-based tool. Phoenix enhances the capture,
reporting and analysis of operational risk data by enabling risk identification, measurement,
monitoring, reporting and analysis to be done in an integrated manner, thereby enabling
efficiencies in the Firm’s monitoring and management of its operational risk.

JPMC has categorized the operational risk events as follows:

• Client service and selection

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• Business practices
• Fraud, theft and malice
• Execution, delivery and process management
• Employee disputes
• Disasters and public safety
• Technology and infrastructure failures

Also, JPMC has a process for monitoring operational risk-event data, permitting analysis of
errors and losses as well as trends. Such analysis, performed both at a line-of-business level and
by risk-event type, enables identification of the causes associated with risk events faced by the
businesses.

The Firm is a founding member of the Operational Riskdata eXchange Association, a not-for-
profit industry association formed for the purpose of collecting operational loss data, sharing data
in an anonymous form and benchmarking results back to members. Such information
supplements the Firm’s ongoing operational risk measurement and analysis.

CONCLUSION

Hence it can be concluded that the JPMC being the leading global bank of World, has prudent
risk measurement and proper mechanism to mitigate it. JPMC bank has made ensure that various
risks are understood, measured and monitored and that the policies and procedures established to
address these risks are strictly adhered to.

Concepts like Key Risk indicators, ICAAP/Stress testing and tolerance limits are unique and
proving beneficial for the bank in a longer way. The best of the industry standards followed by
the Bank are certainly sustaining the leadership position and also keeping it immune from the
tough times like that of recession or the tight federal laws.

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BIBLIOGRAPHY

Books:-

1. Risk Management in Banks- ICFAI Publications.

2. Risk management- IIBF Mumbai taxman publications.

Websites:-

 www.jpmorganchase.com
 www.en.wikipedia.org
 www.datamonitor.com

Literature Review:-

1. Asia Pacific Journal of Finance and Banking Research, Vol.2, No.2. 2008

2. Basle Committee on Banking Supervision, Sep 2008

Apart from the websites, the Annual Reports of different years for JPMC bank are also
referred.

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