International Journal of Social Science Research (IJSSR)

An Assessment of the Role of Financial Risk Management in Reducing Investment Risks: Evidence from Afghan Commercial Banks

This study investigates whether financial risk management reduces the investment risk of commercial banks in Afghanistan over the period 2015–2024. Bank financial stability, measured by the Z-Score as a proxy for the distance to insolvency, serves as the dependent variable, while liquidity risk management, proxied by the loan-to-deposit ratio (LDR), and capital risk management, proxied by the equity ratio (ER), serve as the explanatory variables. A balanced panel of forty bank-year observations was constructed from the audited annual financial statements of four Afghan commercial banks. Fixed-effects and random-effects estimators were compared through the Hausman test, and robustness was verified with AR(1) and first-differenced specifications alongside cluster-robust standard errors. The results show a positive and statistically significant association between the equity ratio and the Z-Score, while the loan-to-deposit ratio shows no statistically significant influence on stability in any correctly specified model. To the author’s knowledge, this is the first study to combine the Z-Score framework with both liquidity- and capital-based indicators for Afghan banks, and it offers practical guidance to bank managers, the regulator, and policymakers seeking to strengthen stability in a fragile economy.