Thesis (M.A.) from the year 2010 in the subject Economics – Finance, grade: 2, 0, University of Portsmouth, language: English, abstract: Risk management has been pivotal banking activity, particularly for the last 20 years. Volatile
economic conditions and ever‐growing competitive forces have compressed profit margins and
forced UK banks to look up to sophisticated and more comprehensive methods of identifying optimal
risk‐return positions. Advanced technology and global business focus has presented opportunities to
utilize comprehensive quantitative techniques to contain and manage risk exposure. Technology has
played crucial role in establishing and dispersing electronic trading platforms giving access to equity
and derivatives hence reshaping capital acquisition and risk management frameworks. The topic of
risk management has been even more contextual in times of severe economic/financial crisis.
Analysts have not only been critical of banks’ uncollateralized lending but also of their excessive
trading with derivative instruments. Assuming that no arbitrage opportunities exist, the question
remains as to whether banks attempt to hedge their risk exposure or purely speculate on the
direction of price movements. In this context, central task of this dissertation is to examine the role
derivative instruments play in the UK banking system through aggregately assessing risk position of
largest UK banks relative to aggregate trading volumes. Empirical analysis is conducted utilizing a
two‐stage SUR technique. Results from first stage of empirical analysis confirm that risk premium on
banks’ equity securities is strongly related to market risk premium. More importantly, findings
illustrate that exchange rate exposure of UK banks has more significant impact on stock returns
compared to interest rate risk exposure. Second stage of the analysis fails to provide comprehensive
conclusion due and produces controversial results. Nevertheless, exchange rate derivatives are found
to have impact on exchange rate risk albeit only marginally
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