Risk Management
Identifying and Mitigating Treasury Risks
Treasury risk management covers financial risks (market, credit, liquidity) and operational risks (fraud, errors, cyber). Candidates must understand risk identification, measurement (VaR, duration, gap analysis), and mitigation techniques (diversification, hedging, internal controls). You should also know counterparty credit risk assessment, liquidity risk metrics (current ratio, quick ratio, cash conversion cycle), and operational risk frameworks (segregation of duties, dual authorization).
Traps in questions:
- Mixing up market risk (price movements) with credit risk (non-payment).
- Assuming VaR captures all risks; it ignores tail events and liquidity risk.
- Overlooking settlement risk (Herstatt risk) in FX transactions-the risk that one party delivers but the other does not.
- Forgetting that segregation of duties is a key fraud prevention control; questions may test scenarios where one person initiates and approves payments.
Worked example / rule of thumb: For liquidity risk, monitor the cash conversion cycle (CCC) = days inventory outstanding + days sales outstanding – days payables outstanding. A shorter CCC means less cash tied up. Rule of thumb: If CCC increases, investigate whether it is due to slower collections or faster payments; both strain liquidity. Use scenario analysis to stress-test cash flows under adverse conditions.
Key Points
- Market risk = price movements; credit risk = non-payment; liquidity risk = cash shortfalls.
- VaR estimates potential loss but ignores tail risk and liquidity.
- Settlement risk (Herstatt) is the risk of non-delivery in FX.
- Segregation of duties and dual authorization prevent fraud.
- Cash conversion cycle measures liquidity efficiency.