Trading Book
| Trading Book |
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| See also |
Trading Book is a company's book that shows and accounts for shares that are acquired or sold by a given entity[1].
It is a collection of financial instruments owned by a brokerage house or a bank. It includes all securities that the institution regularly buys and sells on the stock market. These securities are accounted for in a different way than those in the banking book, which are meant to be held by the institution until they mature and are not usually affected by market activity. Trading books can vary in size, from several thousand dollars to tens of millions, depending on the size of the institution[2].
Process
The trading book of a financial institution includes assets designated for active trading. They can be:
- currency Exchange
- debt
- derivatives
- goods
- other financial agreements
The portfolio may be sold for many reasons. For example, they can be bought or sold:
- to benefit from short-term price fluctuations
- to meet the company's needs
- to use them to protect against various forms of risk
- to facilitate commercial activities for clients
Banks, due to regulatory purposes, divide their activities into trade and banking. Registration in the profit and loss account (P & L) takes place whenever there is fluctuations in the portfolio. In contrast to assets in the banking book, they have to be valued on the market[3].
Genesis
The purpose of the commercial book was to store market-related assets (bonds, derivatives, etc.), not traditional banking operations. The trading book is an asset that is to be highly liquid and easy to trade. The development of banking operations in the early 1990s contributed to the growth of the trade book. The legislators decided to allow banks to use value-at-risk models to calculate the capital charges for the trading book. Considering how many banks may be tempted to leverage, it gave the institutions the incentive to allocate as many assets to trading as possible in the trading book instead of in the banking book[4].
History
In 2008, especially at the time before the credit crisis, many banks placed large amounts of assets reminiscent of banking books in commercial books in order to benefit from lower capital requirements. Thus, the great history of the crisis has become the way in which banks have accumulated everything in their trading books. After the disaster, the main conclusion drawn by the regulatory authorities was the conclusion that the supervision of the trading book was conducted very casually, which allowed the banks to abusively deal with this matter, which had adverse effects. Nowadays, the review of commercial books is conducted very thoroughly, and regulators are trying to avoid repetition of the situation from the past[5].
Footnotes
References
- Basel Committee on Banking Supervision (2013), Fundamental review of the trading book: A revised market risk framework, "Consultative Document";
- Laurent J., Sestier M., Thomas S. (2016), Trading book and credit risk: How fundamental is the Basel review?, "Journal of Banking & Finance", vol.73;
- Nilsson B. (2019), Fundamental review of the trading book, "Lund University School of Economics and Managements";
Author: Filip Piszczek
