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CS Professional · Banking and Insurance - Laws and Practice · Risk Management in Banks and Basel Accords

Kaveri Bank holds a large portfolio of fixed-rate government securities. After RBI raises the policy repo rate, market yields rise and the market value of these securities falls, causing a mark-to-market loss. Which risk has materialised?

It is market risk, specifically interest rate risk. When yields rise, prices of existing fixed-rate securities fall, producing a mark-to-market loss on the investment book. The loss does not come from borrower default or from any internal process failure.

  1. AMarket risk, specifically interest rate risk on the investment bookCorrect
  2. BCredit risk arising from default by the Government
  3. COperational risk arising from process failure
  4. DReputational risk arising from adverse publicity

Explanation

Rising yields reduce the price of existing fixed-rate bonds, which is interest rate risk, a component of market risk. Government securities carry no default risk in rupee terms, so credit risk is not the cause. No internal process failure occurred, so operational risk does not apply.

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