Identifying Systematically Important Banks Case Solution And Analysis, HBR Case Study Solution & Analysis of Harvard Case Studies

Definition of Systematic Risk and the Importance of Monitoring Systematic Risk

Systematic risk is the risk that is related to the whole market. It mainly affects the overall market does not merely affect any particular industry or stock relatively. Other than that, the systematic risk is completely unavoidable and quite difficult to be predicted. This risk is known by different terminologies such as un-diversifiable risk, market risk or volatility risk. Being an un-diversifiable risk, it cannot be reduced through diversification, but it can only be reduced via hedging and by making an effective use of the allocation strategy based on the right asset.

It can also be referred as the risk that is originated within or it may spread through the banking sector by having severe effects on the financial institutions. The reason behind this is that thebuffers are related to liquidity or the insufficient solvency in the financial intermediaries. Systematic risk can also be mentioned as the chances and the extent of negative consequences in the whole market.

however, it is the systematic risk assumed by every investor when he is going to make an investment in the market. There is a way to put some assets in stocks and some of the assets in the bonds, respectively. This will ultimately result in the mitigation of systematic risk because due to change of interest rate on the bonds, which will make it less valuable as compared to the market stocks that will become more valuable. The sources of systematic risk that are going to create an impact on the market as a whole include the fluctuations in the interest rates, the effect of inflation on the overall economy, the recessions in the economy and wars etcetera (HARTMANN, 2000)

Moreover, the most vital element of systematic risk is the shadow banking. Shadow banking is the involvement of financial institutions in a facilitating role of credit through the global financial system. Despite this, the members of these financial institutions are not involved in the regulatory oversight of activities related to the financial intermediaries. It can also be referred as the unregulated activities that are performed by the regulated banks.

On the other hand, the regulations that are not included as a subject to regulation mainly include the hedge funds and other unlisted instruments. The primary reason behind the shadow banking escaping the regulatory environment is that they did not accept the deposits of traditional banks. Due to this, many of the financial institutions were able to employ higher market, the risks related to liquidity and the credit risk and furthermore they did not have any requirements related to capital expenditure. However,in 2008 due to the subsequent meltdown, there were a vast scrutiny and regulations imposed on the shadow banking system.

The systematic risk should be monitored very carefully due to the involvement of several important risks like the credit risk, liquidity risk and lastly the market risk. The credit risk has to be monitored because it is the key risk in the most of the financial systems. If these risks are not monitored carefully, then it may result in the bankruptcy of the financial institutions.

Despite this, there has been a massive complexity in the several channeled related to transmission during the financial crisis globally. Nowadays, there is a large amount of information that is required by the public that has to be provided by financial institutions by publishing the financial statements. Moreover, in this type of risk, the failure of a single entity or a combination of entities can have a major impact on the overall market.

However, the systematic risk related to the financial institution is the changes of occurring and the degree that the financial institutions are going to have a major impact on the larger economy.Identifying Systematically Important Banks Case Solution

Calculation of the Total Score and Sensitivity Analysis

As per the exhibits, the calculation has been performed that is based on the four indicators that have been taken. The indicators that have been used in this calculation process include; Size indicator, inter-connectedness indicator, Non-sustainability indicator and lastly the indicator based on the complexity. Firstly, the weighting has been given to the inter-connectedness indicator. The reason behind this is that due to the inter-connectedness between several banks, the substantial risks may arise, which will ultimately result in a major threat to the financial system of the banking industry.

Hence, due to this threat, the bank will not be able to pay out its existing liabilities, so a result the chances of distress among the other institutions are going to increase................

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