Financial Risk Management

Course Syllabus
Personal Information
Instructor Name: Ming-Yuan Leon Li
Instructor Tel: Ext 53421
E-mail: lmyleon@mail.ncku.edu.tw
Office Hours:
Wednesday: 10:00-12:00 AM
Office Number: 63315
Course Descriptions/Objectives
Help students to better understand the topic
relating to financial risk management by
textbook studying and extra handouts.
The goals of this course are the following
Provide quick access to the whys and how of risk
management
Provide easy-to-understand information, including
equations and examples that can be quickly applied
to most risk management problems.
Provide information about how risk measurement is
used in the management of risk and profitability

Course Descriptions/Objectives
After studying the course , you should be
able to answer the following four questions
How much could we lose
Can we absorb a significant loss without
going bankrupt
Is the return high enough for us to take risk
How can we reduce the risk without
significantly reducing the return


Grading
1st Exam (25%): held in the 7th week
2nd Exam (25%): held in the 13th week
3rd Exam (30%): held in the 18th week
Class participation (20%)
Grading
Class participation
Homework
Writing report and/or oral report
Quick Quiz
In the ending of each chapter, I will
provide a quick quiz including several
simple questions to review today's
content
Your performance will be evaluated into
your score
Textbook
Chris Marrison, Fundamental of Risk
Measurement
Book store:
Mr. , 0936-968488
TEL: 02-2381-9277
Course Calendar/Schedule
Before 1st Exam:
The Basic of Risk Management (Ch 1 to Ch 2)
Market Risk Management (Ch 5 to Ch 8)
Between 1st and 2nd Exam:
Market Risk Management (Ch 9 to Ch 11)
Asset Liability Risk Management (Ch 12 to Ch 13)
After 2nd Exam:
Asset Liability Risk Management (Ch 13 to Ch 15)
Credit Risk Management (Ch 15 to Ch 19)

Course Policies
The purpose of this class is to identify the hidden
agenda in this subject
I will follow the textbook to present the important
topics of risk management, especially for banks
It is expected that every student attend all
classes and take all examinations when
scheduled
In order to maximize your learning and to
receive credit for your classes, you must attend
at least 80% of classes
Slides
The slides in PowerPoint file
How to find them
My personal web-site
http://140.116.51.3/chinese/faculty/mingyuan/
myweb11/index.htm
Some suggestions
Download them and study them before the
class

Certain Important Perspectives
Review
What is the risk?
A potential loss in the future
How to measure the risk
Use the historical data to simulate the distribution of
return rate of your portfolio
For example, 2-year data to picture the distribution
curve
Assume the return rate in the next trading day will be
drawn from the same distribution
How to picture the distribution?
Mean and Standard errors
Correlation coefficients
Some Important Perspectives
Review
Two Examples
The daily return rates of U.S. S&P 500 stock
index
The daily return rates of Taiwan company:
Acer 2353

Distribution of Return Rate for U.S. Market
0
0.05
0.1
0.15
0.2
0.25
0.3
0.35
-4 -3 -2 -1 0 1 2 3 4
Use 2-yea data (near 500
daily return rates data) to
simulate the underlying
distribution of return rates
of our portfolio
R
t
, for t=1 to 500
Assume the return
rate in the next
trading day is drawn
from the same
distribution
Rt, for t=501,502,
Standard
error,
Standard
error,
If we assume the return
rate follows the normal
distribution, then the
potential loss can be
presented by standard
error
Distribution of Return Rate for U.S. Market
0
0.05
0.1
0.15
0.2
0.25
0.3
0.35
-4 -3 -2 -1 0 1 2 3 4
Standard
error,
(0.94%)
Standard
error,
(1)If we assume the return rate follows the normal distribution, then the potential
loss can be presented by standard error
(2) The P[ return rate<-2.33X]=1%
The P[ return rate<-1.96X]=2.5%
The P[ return rate<-1.645X]=5%
(3) If we assume the initial investment money is 100,000, the loss
of >100,000X 2.33X in the next day will have 1% probability of occurrences
Homework (1)
Please pick up one company
Figure the distributions of their daily stock price
returns
One-year daily data at least
Estimate its mean and standard error
Assume the initial investment is 1 million dollars
(1,000,000)

Calculate the potential 1% loss in the next day

Homework (1)
Does the distribution follow a normal
distribution?
Normalize the returns: (returns-mean)/SD
The 1% critical value of the distribution vs.
2.33

More Discussions
One asset versus Portfolio?
Variance and covariance/correlation
Risk contribution?
stock: 100 units, bond: 50 units;
Q: a portfolio=stock + bond: 150 units?
Normal distribution?
Other types of risk?


Structure of Financial Risk
Management
Define the risk
Market risk
ALM risk
ALM interest rate risk
ALM liquidity risk
Credit risk
Measure the risk
Use the historical data to picture the
distribution of the loss

Structure of Financial Risk
Management
Manage the risk
Reduce the risk
Hedge
Diversification
Capital preparation
Risk allocation
Which unit takes the risk?
Performance evaluation
Risk-adjusted performance

Market Risk
Credit Risk
Floating rate vs. Fixed rate:
interest rate risk
Long-term vs. short-term: Liquidity Risk