Accounting and Finance

Financial Risk Management

Module code: N1569
Level 6
15 credits in autumn semester
Teaching method: Workshop, Lecture
Assessment modes: Coursework, Essay

Financial risk management is the art of: (1) estimating risks; (2) deciding which are acceptable and which should be mitigated; and (3) determining the level and mode of any risk-mitigation strategies. Some price risks may be (almost) completely eliminated by hedging with futures contracts. The content of this module is driven by industry demands. We equip you with the detailed knowledge and skills that you will need for entry-level jobs in market risk management. If you work hard on this course, you will be well-versed for questions during job interviews. You will develop your ability to perform advanced operations and to analyse historical data on equities and interest rates, using Excel. These transferable data-analysis skills are invaluable in the current economic environment. Risk measurement requires many mathematical tools, from Linear Algebra, Statistics, Econometrics and Calculus. Topic 1, which takes two weeks, re-teaches you all the maths you need to know for this module, setting notations and focusing exactly and only on what you need. Topic 2 also takes two weeks. It revises everything you have learned about finance, up to this point, that is relevant for this module. We provide this in the context of an overview of financial risk management -- focusing on the different instruments and the role of institutions. This is set within the context of the US Federal Reserve and other central bank's responses to Covid-19 and the likely effects that this extreme financial economic policy will have on future generations. Financial risks are of three broad types -- market, credit and operational. We cover all three, but this module takes a deep dive rather than a broad-brush approach. For this reason, Topics 3 to 8 (each taking one week) focus on the measurement of a wide range of market risks, for equity, currency, cash flows and options, at the aggregate portfolio level and at the level of individual securities or risk factors. You will learn how to map portfolios to risk factors, compute risk metrics, some rudimentary risk model validation and stress testing. Most of the core market risk material is illustrated using Excel workbooks which will be demonstrated during the weekly in-person lectures and seminars. Each topic in the module is interspersed with a multiple-choice practice quiz containing a set of short questions on the preceding topic. Your results on the quizzes do not count towards your final grade, but you do need to finish each quiz before you can progress to the next topic. This course builds on the materials learned during your first two years. However, we spend the first three weeks consolidating that material to bring all students up to speed before the new material is presented. Students do find it useful to know that everything they need in terms of mathematical and finance background is given in the lectures and seminars and problem sets presented during the first three weeks. This way, you can adopt a more relaxed attitude to the knowledge required, and also allow you to change modules if you are struggling with the pre-requisites for this module.

Module learning outcomes

  • Identify and compare different sources of financial risks, and understand how to distinguish between systematic (non-diversifiable) and idiosyncratic (diversifiable) risks
  • Recognize the major characteristics of derivative instruments and understand how to balance an options book so that it is delta-gamma-vega neutral.
  • Implement models for measuring the market risk of portfolios of equities, interest-rate-sensitive products, commodities, futures and options.
  • Critically assess the application of regulatory and economic capital to financial risk management policies and test the performance of models used for assessing this capital.