Interest risk

Interest rate risk is one of the most important elements of market financial risks, which results from changes in the interest rate.

Interest rate risk is a fundamental part of the operation of banks, so they have to constantly take this into account. This is the bank's book interest rate risk. Banks have to create capital with complicated risk management methodologies, but here we are more concerned with the interpretation of interest rate risk that arises when an individual or a company credit takes up 

We usually talk about interest rate risk when our loan is not in full for term fixed interest rate, i.e. we do not know in advance the amount of interest to be paid during the term. In fact, however, we have an interest rate risk even if the interest rate and the repayment installment are fixed, because if the general interest rate environment results in low interest rates during the entire term, then our previous loan with a higher fixed interest rate is considered expensive. 

In the case of a fixed interest rate, however, the borrower knows exactly how much interest he will pay, so he can calculate the cost of his loan in advance. In this case, the borrower's risk is limited from above, since he does not pay more than the fixed interest rate even if the external economic environment deteriorates significantly. The risk above this is therefore run by the bank , for which, of course, it charges a price. 

The variable interest rate in the case of a loan, the interest rate is typically linked to some external reference interest rate independent of the creditor. In this case, the rate of interest is composed of a to a reference interest rate we add the interest surcharge. The contract already determines how the interest surcharge can change per interest period and what the reference interest rate interest rate is related to, according to which it changes. For loans with variable interest rates, the creditor can decide for each interest period whether to use its right of unilateral amendment. Of course, this right to change is also limited by the contract and legislation.

For loans with variable interest rates, choosing the right interest period is also a critical issue. A loan with a frequently variable interest rate is usually cheaper at the time of taking out the borrowing , as the creditor can quickly react to market trends. However, on the borrower's side, this means frequent changes in installments and poor planning. Fixed for a longer period of time interest payment more predictable, but for this very reason it is usually more expensive when borrowing. 

Not so directly, but we are talking about interest rate risk even when the various investments yield we compare it to interest rates that are easily available on the market, for example fixed deposits. If the interest rate on bank deposits rises, but the expected return on investments does not improve, we achieve a lower relative return with greater risk. In such a case, the overall attractiveness of our investment deteriorates. In the worst case, it may even happen that bank interest rates rise above the realistically expected yield of the investment, in which case we can already speak of an actual interest loss.  

Just like that exchange rate risk in the case of interest rate risk management, there are also developed assets. Such are, for example, interest hedging and interest option assets, which can provide protection against future adverse interest rate movements.