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A finance company should identify and document all liquidity risk it is exposed to, in the short and long term, arising from company-specific or market-wide events. In the process of identification, the company should identify and recognize each significant on-and off-balance sheet position that can have an impact on its liquidity in normal and stressed conditions. The company should consider the types of events that can expose it to liquidity risk including the impact of other financial risks such as credit, market and operational risks.
Liquidity risk can also arise due to failure or weaknesses in business decisions and company policies, including shortcomings in business strategy. Indicators of liquidity risk, inter alia, may include a high concentration in particular asset or liabilities, asset-liability maturity mismatches, deterioration of the company's financial conditions evident from decreased earnings, deterioration in asset quality and credit rating, increased funding costs and collateral requirements, rapid growth in assets funded with less stable sources of funding, repeated instances of approaching or breaching tolerance limits and deterioration in market indicators (e.g., share price) that are correlated with the financial condition of the company.
A finance company should identify incidents that can negatively influence its perception in the marketplace about creditworthiness and fulfillment of its obligations and hence leading to liquidity risk.
