Sample Essay
Market risk is the risk of loss from variations in the market. This risk can be divided into two categories which are general market risk and idiosyncratic risk. General market risk is attached with macroeconomic, political, geographic and other areas affecting market mechanism. The general market risk includes risk due to changes in the interest rates, commodities such as metals and stock market indices. Idiosyncratic risk refers to the risk directly affecting a particular bank with respect to prices of debt and securities linked to that bank in some way or the other.
UBS is exposed to both general market risk and idiosyncratic risk in various areas. Much of the clientele of UBS is in the US which makes it more vulnerable to the changing market conditions of USA. The investment banking division is highly affected by the real estate crisis as much of the asset backed loans have proven to be a major loss for the bank. The bank is now trying to bail out of such commitments and clearing the remaining commitments in the real state and securitization areas. Another thing which affects the market risk for the bank is fixed income trading and the bank has also been trying to reduce the investment in this area to reduce the overall market risk of the bank. UBS measures market risks through two basic tools which are Value at Risk -VaR and Stress Loss. VaR estimates the loss to the bank from severe movements in the market but VaR has limitations according to the management of UBS as the realized losses can be different from the potential losses identified by VaR[1]. The bank did not anticipate the severe losses of 2008 as the Var failed to indicate significant losses from market risk. The bank is now turning the preference to stress testing which is more reliable in terms of market risk analysis and is based on future assumptions rather than tools like the VaR.
[1] UBS. Annual Report 2008. Annual Report, Zurich: UBS, 2009.
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