Financial risks in turn comprise two types of risk. Traditional banking risks including balance sheet and income statement structure, credit and solvency risks can result in loss for a bank if they are not properly managed. Treasury risks based on financial arbitrage, can result in a profit if the arbitrage is correct or a loss if it is incorrect. The main categories of treasury risk are liquidity, interest rate, currency and market (including counterparty) risks.
Financial risks are also subject to complex interdependencies that may significantly increase a bank’s overall risk profile. For example, a bank engaged in the foreign currency business is normally exposed to currency risk, but it will also be exposed to additional liquidity and interest rate risk if the bank carries open positions or mismatches in its forward book.
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