FIS Blog

Do You Know What Your Treasury Risk Exposure Is?


Andrew Bateman | Wednesday, February 24, 2016

A question that every board asked their treasurer in the dark days of 2008/2009 was, “What’s our risk exposure?” – particularly to banks that were, or were considered to be, under threat. While many treasurers were already managing their counterparty risk, and could therefore answer this with confidence, for others, it was a trigger to review the way they assessed their risk, set exposure limits and monitored these limits. While some of the immediate threat of bank collapse may have subsided, this is still a vital area on which treasurers need to focus given the speed with which markets can change.

Have you changed the way you set credit limits?

Many treasurers have changed the way they set and manage credit limits in recent years. In the past, treasurers typically used external credit ratings to set counterparty limits, but these are now more likely to be used alongside a variety of other criteria, such as regional/country risk, capital structure, CDS spreads and other measures. Similarly, treasurers are measuring their exposure more precisely, particularly for FX and interest rate derivatives, applying a series of rules to calculate limit utilization, such as a combination of percentage of principal, tenor, etc.

Is your treasury risk management policy reflected in treasury processes?

While these measures reflect a more robust way of assessing and measuring counterparty risk, they only become valuable when used in practice. According to FIS’ recent treasury risk management market study, nearly half of corporations that monitor limits before dealing use spreadsheets to do so. Without a direct feed from a market data provider, it can be difficult to update limits quickly in line with changing counterparty credit conditions. As a result, companies may inadvertently have a higher exposure to a counterparty than their policy would allow. Conversely, the ability to raise limits can be very useful for companies which struggle to find highly rated counterparties with sufficient limit headroom. Maintaining limits also becomes highly resource intensive.

Another challenge is that given that the calculation of limit utilization can be complex in the case of derivative transactions. In particular, it takes time and leads to the potential for error if this is done in a spreadsheet. If a company has more than one dealer, and/or dealing takes place across more than one location, such as regional treasury centers, dealers cannot monitor limits accurately if working concurrently, and it is impossible to define and monitor global limits.

Not just for appearance’s sake

Another finding from the treasury risk management market study that causes concern is that 25 percent of companies do not actively monitor limits at all before dealing. Setting and monitoring counterparty limits therefore becomes a reporting function rather than a practical tool for managing risk. Limit breaches are reported in retrospective and then need to be remedied, as opposed to being control on dealing activities. Alternatively, limits are set at a (high) arbitrary level to avoid breach during normal daily activities. In both cases, the value of a credit limit policy becomes questionable.

The only way of setting and maintaining limits according to counterparty credit criteria, proactively monitoring limits and preventing or alerting breach is to use specialist treasury and risk management technology. Counterparty risk is managed in accordance with policy, with automated monitoring. Breaches are avoided through real-time limit checking while the resources required to maintain and update limits are significantly reduced. Without this, treasurers could unintentionally be exposing the business to additional risk, as well as utilizing valuable treasury resources.

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Tagged in: Treasury Risk Management, Corporate Solutions

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