RiskTech Forum

Wolters Kluwer: Reinforcing Market Confidence With Consistent Stress Testing

Posted: 1 December 2014  |  Source: Wolters Kluwer


Financial institutions must be able to identify their strength as well as robustness against unexpected and extreme stress performance of the financial risk factors that they are exposed to, at any Point in Time (PIT). The direct impacts of stressed risk factors are risks in capital, liquidity, value and income. Moreover there are many side effects e.g., in the exposures to concentration and systemic risks. It is therefore very important that financial institutions are able to absorb any possible resulting losses due to stress conditions but at the very same time are able to serve the market as it is expected to e.g., by providing the demanded liquidity. This will also imply that stress conditions will have the minimum impact on the entire market.

It is worth mentioning that as the financial industry is linked directly or indirectly to global markets, they are indeed exposed to stress conditions that may rise somewhere in the world. Statistically1, the world economy faces financial crisis at least once a year. Moreover, there are significantly high exposures and interactions across the markets that are under stress. In other words the financial industry must be able to deal with stress conditions frequently.

Knowing the very significant role that financial institutions play, it is rather crucial to ensure that the financial system is capable to work efficiently not only under expected but also under unexpected extreme conditions. The main approach to identify and measure this capability is by applying stress testing.

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