Risk Management and Financial Institutions

An Indispensable "Tool of the Trade" for Both Students and Finance Professionals

Risk management is part of everyone′s job in today′s finance industry. Written by an internationally recognized authority on derivatives and risk management, this new edition of the premier guide to risk management for financial institutions helps you gain a deeper understanding of risk and how it functions in the markets.

Clearly and succinctly, John Hull explains the various forms of risk, how and where they appear in different types of institutions, and how the regulatory environment affects risk management practices.

Fully revised and updated, Risk Management and Financial Institutions, Fifth Edition:

Describes the activities of different types of financial institutions and how they are regulated Covers market risk, credit risk, operational risk, liquidity risk, and model risk Includes a new chapter on financial innovation discussing how technological developments such as machine learning and blockchain are reshaping financial services Updates material on the regulation of OTC markets, FRTB, operational risk, and model risk Provides readers with access to a companion website offering valuable free software, practice questions, and unique learning aids

Risk Management and Financial Institutions, Fifth Edition is still the most complete, up–to–date guide to risk management in finance for finance professionals and students alike.

Business Snapshots xxiii

Preface xxv

Chapter 1 Introduction 1

Part 1: Financial Institutions and Their Trading 23

Chapter 2 Banks 25

Chapter 3 Insurance Companies and Pension Plans 47

Chapter 4 Mutual Funds, ETFs, and Hedge Funds 75

Chapter 5 Trading in Financial Markets 97

Chapter 6 The Credit Crisis of 2007 2008 127

Chapter 7 Valuation and Scenario Analysis: The Risk–Neutral and Real Worlds 145

Part 2: Market Risk 159

Chapter 8 How Traders Manage Their Risks 161

Chapter 9 Interest Rate Risk 185

Chapter 10 Volatility 213

Chapter 11 Correlations and Copulas 243

Chapter 12 Value at Risk and Expected Shortfall 269

Chapter 13 Historical Simulation and Extreme Value Theory 293

Chapter 14 Model–Building Approach 317

Part 3: Regulation 345

Chapter 15 Basel I, Basel II, and Solvency II 347

Chapter 16 Basel II.5, Basel III, and Other Post–Crisis Changes 377

Chapter 17 Regulation of the OTC Derivatives Market 399

Chapter 18 Fundamental Review of the Trading Book 415

Part 4: Credit Risk 429

Chapter 19 Estimating Default Probabilities 431

Chapter 20 CVA and DVA 459

Chapter 21 Credit Value at Risk 479

Part 5: Other Topics 495

Chapter 22 Scenario Analysis and Stress Testing 497

Chapter 23 Operational Risk 515

Chapter 24 Liquidity Risk 537

Chapter 25 Model Risk Management 565

Chapter 26 Economic Capital and RAROC 585

Chapter 27 Enterprise Risk Management 603

Chapter 28 Financial Innovation 621

Chapter 29 Risk Management Mistakes to Avoid 643

Part 6: Appendices 655

Appendix A Compounding Frequencies for Interest Rates 657

Appendix B Zero Rates, Forward Rates, and Zero–Coupon Yield Curves 661

Appendix C Valuing Forward and Futures Contracts 667

Appendix D Valuing Swaps 669

Appendix E Valuing European Options 673

Appendix F Valuing American Options 677

Appendix G Taylor Series Expansions 681

Appendix H Eigenvectors and Eigenvalues 685

Appendix I Principal Components Analysis 689

Appendix J Manipulation of Credit Transition Matrices 691

Appendix K Valuation of Credit Default Swaps 693

Appendix L Synthetic CDOs and Their Valuation 697

Answers to Questions and Problems 701

Glossary 745

RMFI Software 773

Table for N(x) When x 0 777

Table for N(x) When x 0 779

Index 781

JOHN C. HULL is the Maple Financial Professor of Derivatives and Risk Management at the Joseph L. Rotman School of Management, University of Toronto, and codirector of Rotman′s Master of Finance and Master of Financial Risk Management programs. He has been a consultant to many North American, Japanese, and European financial institutions.