Nalysis of credit, liquidity, interest rate risk, scenarios analysis on the impact of income and capital, and hedging proposal for viettinbank 2018 2020

Trang 1 HANOI UNIVERSITYFACULTY OF MANAGEMENT AND TOURISMTOPIC TREASURY MANAGEMENT 2021ANALYSIS OF CREDIT, LIQUIDITY, INTEREST RATE RISK, SCENARIOS ANALYSIS ON THE IMPACT OF INCOME AND C

HANOI UNIVERSITY FACULTY OF MANAGEMENT AND TOURISM

TOPIC TREASURY MANAGEMENT 2021

ANALYSIS OF CREDIT, LIQUIDITY, INTEREST RATE RISK, SCENARIOS ANALYSIS ON THE IMPACT OF INCOME AND CAPITAL,

AND HEDGING PROPOSAL FOR VIETTINBANK 2018-2020

Member

:

1 Nguyen Thi Hoai Huong Tut 4 1604040050 3TC18

Course: TRM Spring 2021

Due date: 14 May 2021

HA NOI 2021

Peer contribution

Vietnam’s banking industry was expected to weaken in 2020 as a result of decrease in credit growth, rising loss provision and along with worsening of asset quality, and inadequacy of capital in this a weak economic environment However, in the beginning of

2021, credit growth and asset quality improved That should a good signal of recovery in bank profits

The aim of this research on ViettinBank (2018-2020) is to analyze risk exposure including credit, liquidity and interest rate risk and set up different scenarios to detect the bank have problem

The final result indicates that ViettinBank did not meet capital requirement, however liquidity is not shown problematic

Table of content

Abstract 3

I Introduction 5

1.1 Financial crisis and covid-19 pandemic 5

1.2 Background of ViettinBank 5

II Analysis of liquidity risk, credit risk, interest rate risk 7

2.1 Liquidity risk 7

2.2 Credit risk 9

2.3 Interest rate risk 13

2.4 The impact of inflation in bank’s performance 16

III Scenarios analysis on the impact of income and capital and hedging proposal 16

3.1 Recession scenarios 16

3.2 Credit risk hedge 19

3.3 Interest rate risk hedge 20

Reference 22

I Introduction

I.1 Financial crisis and covid-19 pandemic

After a decade of the Great financial crisis 2007-2008, covid-19 pandemic clearly gives fear

to bank industry In the historical records, a sudden stop lending by bank might feed awarning signal of recession in the economy Furthermore, as a domino effect, recession alsodamages to bank via credit losses, declines in the value of investment, reduction in a bankrevenue Even worse, the situation can spiral downward as damage to banks cuts into creditavailability, force bank to cut back further

However, Viet Nam has performed well in comparison to the rest of the world by consideringfollowing key macroeconomic factors:

 GDP has continued to growth over the 6 months of 2020, albeit at a slower pace than inthe past

 Inflation has been contained despite the easing of monetary condition by the SVB, whichlead to the expansion of credit by commercial banks to business

 Country has been able to cope with the pandemic by maintaining a trade surplus

I.2 Background of ViettinBank

The background of Viettinbank is summarize as a following table

In the following parts, we will discuss and assessing risks related in the bank and proposehedging plans which the bank can employ to reduce the uncertainty situation

Type Joint-stock company

Traded as HOSE: CTG

Industry Financial services

Founded 1988

Headquarters Hanoi

Area serves Vietnam

Key people Lê Đức Thọ (Chairman); Trần Minh Bình (Diretor)

Owner State Bank of Vietnam

Website www.viettinbank.vn

II Analysis of liquidity risk, credit risk, interest rate risk

II.1 Liquidity risk

When discuss about liquidity problem, in general, it is important to look back for the lessonsfrom Global financial crisis in 2007-2008 It is a shadow pictures to the economy of numerousnations, including Viet Nam However, Vietnamese banking system has not seriously sufferedfrom the impact of this catastrophe since it only at the beginning of integration Thedifficulties its banking system has been faced to the extent of: Limitation of carrying outinternational transactions that impacts negatively on Viet Nam’s short-term loans Theconsequence is that many bank’s profits have reduced, NPLs increased including ViettinBank,hence, the impact for banking system can remain in several year

Due to that fact, liquidity risk should be detected, analyzed and managed carefully in bankand in any financial institutions That is the very first step in order to prepare for the futureunexpected events because, practically speaking, the economic cycle is, in fact, fluctuated andmost of the time future prediction is beyond the human ability

Follow that, in this part we are going to examine the liquidity situation of ViettinBank overthree year from 2018 to 2020: discussion of fundamental liquidity; statement of structuralliquidity maturity gaps

II.1.1 Liquidity risk background

Liquidity problem occurs when banks do not have enough cash to meet depositor withdrawalrequest When a bank is in cash-strapped situation, it is may forced to borrow or quickyliquidate some of its assets at less than market value in order to meet unexpected withdrawaldemands Moreover, it can happen because banks finance long

Funding liquidity and funding liquidity risk

Those two terms sound similar however they are different concepts

Funding liquidity is defined as the ability to settle obligation with immediacy If the bank in

the trouble of illiquid, it simply means that bank is unable to settle obligation in time and bankdefault can be the possible consequence then both shareholders and depositors will incur

losses On the other hand, funding liquidity risk derives by the chance that over the specific horizon the bank will become unable to settle obligation immediacy Therefore, we can see

funding liquidity risk has two components: future cash flow in- and outflow; and future price

of obtaining liquidity from different sources In another words, to distinguish those two terms,

we can consider the number of possible results and also time horizon Funding liquidity is a

binary concept since only 2 possible outcomes: able to settle or not able to settle obligations Funding liquidity risk has infinite outcomes because it is in the relation with the changes in

future cash flow and future price (future price is a very random factors) in addition, thecombination of different scenarios creates uncounted results

To detect liquidity risk, it is worth to trace back statement of structural liquidity and maturitygaps of the bank

II.1.2 Analyze statement of structural liquidity and maturity gap of ViettinBank

Statement of structural liquidity is reported as per their maturity profile (bucket) and play a

vital role for ALCO to draw ideas of mismatches depending on cash inflow and outflow ofeach bucket It can serve as early warning signal of impending liquidity problem

The tables below illustrate Viettin bank statement of structural liquidity in short form and alsocompare the maturity gaps over 3 years

*The detailed tables are provided in indexes section

from 3m to 12m

from 3m to 12m

from 1y to 5y above 5ys Total Total

from 3m to 12m

from 1y to 5y above 5ys Total Total

from 1y to

2018 14,171,811 5,799,721 -94,671,875

22,247,06 2

102,101,03

-3 64,521,628 218,263,486 83,736,676

2019 11,403,411 5,677,439

125,808,97

-2 -41,397,411

100,039,76

-1 97,771,739 251,301,046 98,907,491

2020 9,592,414 2,799,154 -92,365,421 18,795,183 -84,995,682 2,594,416 242,892,717 99,312,781

1m

to 3m

from

3m

to 12m

from

1y

to 5y

abov

e 5y

s

Total

2018 2019 2020

Graph: Maturity gap, 2018-202, ViettinBank

According the graph, in general, positive gaps are seen at the buckets of above 5 years; over 3months and three months maturity in all periods and also gap positive in the year of 2018 and

2019 for bucket from 1 year to 5 years maturity However, negative maturity gaps are clearlydraw from 1 month maturity up to 1 year It can be seen that in the 2 tails of the graph,maturity gaps are positive and in the middle period they are mainly negative A positivematurity gap shows that value of rate sensitive assets is more than the value of rate sensitiveliability and vice versa

Moreover, the gaps in 1 month maturity, from 3 months up to 1 year statically significant Thelarger the negative gap, the higher degree of potential risk or more volatile

And also, the upfront discussion of funding liquidity risk depicted that this problem has thecomponent of future value of the instruments It makes sense that longer repricing periodshave higher sensitivity to the change in interest rates and repricing means that its most likely

to happen the interest rate in the long future is very different from the past

II.2 Credit risk

Obviously, the best indicator of credit risk is overdue debt Overdue debt is unavoidable in thecontext of a credit relationship Overdue debt rates are always of interest to administratorsbecause they can result in doubtful accounts, irrecoverable debts, or bad debts

II.2.1 Credit risk factors

This factor represents the proportion of credit items in assets; a high proportion of credit itemsindicates a high profit and a high credit risk exposure

Unit: million VND

Total assets 1,164,289,661 1,240,711,475 1,341,436,468

Outstanding loans 864925948 935,270,945 1,015,333,270

Table 1.1: Credit risk factor

The table shows that the credit item in the bank's total assets is quite high, resulting in anincrease in profit In principle, credit risk increases accordingly However, the bank hadstrengthened the appraisal and strict control of loan projects, and the bank's credit operationremains effective, to the extent that special-mentioned debt in 2020 is half that of 2019; baddebt accounts for a small proportion of total outstanding loans.The table depicts thesignificant impact of outstanding loans on total assets; total assets will fluctuate in the event

of a credit operation difficulty

II.2.2 Analysis of overdue debt structure

Based on Decision No 493/2005/QD-NHNN and additional Decision No NHNN dated 25/04/2012 made by the Governor of State Bank overdue debts are classifiedinto 5 groups as follows:

18/2012/QD-Group 1 (Standard debt)

Group 2 (Special-mentioned debt)

Group 3 (Sub-standard debt)

Group 4 (Doubtful debt)

Group 5 (Bed debt - possibility of principal loss)

Overdue debts are categorized from group 2 to group 5, while bad debts are classified fromgroup 3 to group 5 To put it another way, overdue debts include both group 2 and bad debts

Table 1.2: Analysis of overdue debt structure

Despite an increase in outstanding loans, overdue debts in groups 2 - 5 in 2020 decreasedsubstantially, as seen in the table above Over the years, the bank's standard debt (group 1) hasalways made up a large percentage of overall overdue debts, reaching 97.81% in 2018,98.24% in 2019, and 98.79% in 2020 Although debt of group 2 had risen slightly from

5194126 million in 2018 to 5677439 million in 2019, in 2020, it plummeted to 2799154million From 2018 to 2020, the debts of groups 3, 4, and 5 were effectively managed, whichdecreased steadily

Over the last three years, there has been no discernible trend in the number of outstandingdebts However, it is clear that the bank has made significant efforts to manage overdue debts.The bank's standard debt is still held at a rate of over 98%, which is regarded as a majorsuccess In 2020, the Covid-19 pandemic has a great impact on enterprises in Vietnam,including domestic private enterprises and foreign direct investment (FDI) enterprises Thesupport in interest rate from the Government facilitated the business activities of enterprises.Therefore, despite economic difficulties, in 2020, enterprises had carried out actively andeffectively construction work, projects, etc Many enterprises specializing in garment,information and communication, electrical equipment manufacturing, real estate, agriculture,fisheries, etc receiving loans from the bank can earn high profit and be able to repay debt onschedule

II.2.3 Bad debt situation over the years

NPL-to-total outstanding loan ratio 1.59% 1.16% 0.94%

Table 1.3: Bad debt situation over the years at the bank

In general, bad debt has been decreasing over time In 2019, the NPL ratio was 10813411VND million, down VND 2895937 million from the previous year In 2020, NPL was VND

9519101 million, a decrease of VND 1294310 million from the previous year

The overall NPL-to-total outstanding loan ratio, according to current State Bank regulations,

is between 3 and 5 percent This ratio at the bank is just around 0.94 percent to 1.59 percent,which is much lower than the permissible limit, as seen in the table above This implies thatthe bank's credit operations are stable, safe, and effective The bad debt situation is alwaysunder control, with the bank completing a comprehensive settlement

I.1.1 Risk reserve fund

Unit:million VND

Provision For Credit Losses (PCL)5011682 8644513 6326933

Balance at the end of the year 13059964 12945694 12561402

Table 1.4: Reserve fund at the bank

process of overcoming risk Viettin bank has been steadily restructuring loans, cleaning upfinancial activities, managing outstanding debts, etc It also applied measures to creditactivities in order to enhance professionalism and bring productivity to work in order toimprove credit quality and minimize risk Furthermore, the bank has established an adequateprovision to cover risk in banking activities by making risk provision at the prescribed ratebased on the classification of overdue debt and cost identification, and using the risk offset.This strategy aids in reducing the bank's debt burden, relieving psychological strain on creditofficers and the bank's leadership in the case of a credit risk during the period when thecollateral is to be enforced.

I.2 Interest rate risk

Interest rate risk (IRR) is an integral part of banking business, which can be a source ofprofitability and shareholder economic value (Basel committee on banking supervision) IRRusually occurs when there is a large fluctuation in the input interest rate and the output interestrate Excessive IRR, which is an important element creating the failure of the bank, threatensthe bank’s earnings and capital base Changes in interest rates may have an impact on a bank'snet interest income, level of interest-sensitive income, and operating expenses Moreover, due

to the fact that present value of future cash flows changes when interest rates have a newtendency of increasing or decreasing, which effect on underlying asset, liability and off-balance sheet instruments (Basel committee on banking supervision) Consequently, interestrate risk management, predicting interest rate trend changes is a crucial issue that every bankwould have its efficient strategies to minimize the risks and maximize the institutionalvalue/profit

In Vietnam, interest rate decisions are regulated by the State Bank of Vietnam (SBV) Thispicture shows the annual interest rates of Vietnam from 2017 to January 2021 It can easily beseen that the interest rates have a gradual decreasing trend from 6.5% down to 4%

Graph : Interest rate in Viet Nam

The central bank must have the adjustments in the interest rates due to the strong relationbetween IRR and environmental risks such as monetary, fiscal and economic policies of theGovernment The purpose is to manage the national financial market (Hien, 2013)

I.2.1 Sources of interest rate risk

There are many different sources that causes interest rate risk in commercial bank such as Gaprisk, Basis risk (also known as Spread risk), Net Interest position risk, Embedded Option