EFFECTS OF FINANCIAL RISK ON PROFITABILITY OF COMMERCIAL BANKS LISTED IN THE NAIROBI SECURITIES EXCHANGE

LEONARD EMBENYWA MUDANYA, PROF. WILLY MUTURI

Abstract


Profitable and strong banking system promotes broader financial stability and increases the economy’s resilience to adverse macroeconomic shocks. The very nature of the banking business is so sensitive because more than 85% of their liability is deposits from depositors. The current challenges’ facing the financial services industry includes customer retention, financial risk, legal and compliance risk, strategic risk, technological risk and stiff competition from MFIs, mortgage firms and SACCOs. The problem facing Kenyan banking sector focused in this study is the effect of financial risk on the profitability. This study therefore seeks to fill the existing research gap by conducting study to establish the effects of financial risk on profitability of commercial banks listed in the Nairobi Securities Exchange. The study used quantitative research design. Time Series Cross Sectional (TSCS) data was used to establish the effects of financial risk on profitability of commercial banks listed in the Nairobi Securities Exchange. Panel data estimation technique was adopted because it takes care of heterogeneity associated with individual banks by allowing for individual specific variables. The target population of this study comprised of all the 11 commercial banks in Kenya that are listed in the Nairobi Securities Exchange. The study employed secondary data that was extracted from audited financial statements and annual reports of listed commercial banks over the 10-year period, 2007 to 2016. This data was collected through a data collection form. Data was obtained for the last ten years (2007 to 2016).The secondary data was quantitative in nature (continuous data). The collected quantitative data was edited and coded and entered into a Stata version 14 for analysis. Both descriptive and inferential statistics was used to analyses the quantitative data. In descriptive statistics, the study used frequency distributions, mean, standard deviation and percentages. The time series analysis tests that were performed on the model include correlation analysis, normality test, Heteroscedasticity Test, Autocorrelation, Linearity test, Stationarity and Unit Root Test and Co-integration test.  The study established that there was a strong correlation between profitability and credit risk; this strong relationship was found to be statistically significant. The study found that an increase in market risk would lead to decrease in profitability. The study revealed there was strong correlation between profitability and market risk. The study found that an increase in credit risk would lead to decrease in profitability.  The study found that increase in liquidity risk would lead to decrease in profitability. The study also found that liquidity risk was statistically significant in affecting profitability of commercial banks.  The study revealed that an increase in operational risk would lead to decrease in profitability. The study further revealed that there was statistically significant in affecting profitability of commercial banks. The study recommends there is need for the management of commercial bank to control their credit risk, through non-performing loan level as it was revealed that credit risk negatively affect the financial performance of commercial banks in Kenya. The management of commercial banks in Kenya should hedge against market  risk as it was found that market risk negatively affect the profitability of commercial bank in Kenya.


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References


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