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Enterprise Risk Management. Roadmap. Definition & Background Framework Benefits Challenges Future Action Points. Definition. “An integrated framework for managing credit risk, market risk, operational risk, economic capital, and risk transfer in order to maximize firm value.”

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Presentation Transcript

Roadmap l.jpg
Roadmap

  • Definition & Background

  • Framework

  • Benefits

  • Challenges

  • Future

  • Action Points

Risk Management Dept.


Definition l.jpg
Definition

  • “An integrated framework for managing credit risk, market risk, operational risk, economic capital, and risk transfer in order to maximize firm value.”

  • ERM is also referred to as:

    • Integrated Risk Management (IRM)

    • Holistic Risk Management (HRM)

    • Global Risk Management (GRM)

Risk Management Dept.


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Background – Basel II

  • Pillar I: Minimum Capital Requirement

    • Banks may choose one of the many approaches to calculate capital for credit, market & operational risk

  • Pillar II: Supervisory Review Process

    • Contains the key principles according to which bank supervision should be done:

      • Board and management

      • Risk management models and process

      • Internal control

      • Stress Testing

    • One of the targets is also to try motivate banks to hold capital buffers in excess of the minimum requirement.

    • Financial Supervision should be proactive before bank capital goes under the minimum requirement

Pillar III: Market Discipline

  • Includes recommendations and requirements especially regarding disclosure information.

Risk Management Dept.


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Evolution of Industry Practices

Early Adopters

Barclays

GE Capital

Citigroup

JP Morgan Chase

CIBC

Fidelity Investments

Goldman Sachs

Merrill Lynch

Deutsche Bank

Bank of Montreal

Enterprise

Risk Management

Organizational

Business

Financial

Risk Management

Operations

Credit

Risk Management

Market

Market

Credit

Credit

Credit

Risk Management Dept.


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Silo Approach to Risk Management

Credit

Risk

Market

Risk

ALM

Risk

Operational

Risk

  • Chief Credit Officer

  • CFO

  • Business Managers

  • Treasurer

  • Asset/Liability Manager

  • Internal Audit

  • Corporate Actuarial

Who

  • Investment Limits

  • Portfolio Return

  • Growth Limits

  • Exposure Limits

  • Portfolio Measurement

  • Securitization/ Derivatives

  • Trading and ALM Limits

  • Value at Risk Management

  • Financial Derivatives

  • Controls

  • Validation

  • Audit Review

  • Insurance

How

Risk Management Dept.


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Interdependence of Risks

Financial Risks

Credit Risk Associated with Investments

FX risk in a new foreign market

Enterprise-Wide Risks

MarketRisk

Asset Liquidity

FinancialRisk

CreditRisk

LiquidityRisk

Business Risk

OperationalRisk

Credit Risk Associated with Borrowers and Counterparties

Derivatives documentation and counterparty risk

Funding Liquidity

IT and business process outsourcing

Risk Management Dept.


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Integrated Framework

Performance Measurement & Management

ALM and

Investment

Strategy

Business Portfolio Management

Risk and Economic Capital Measurement

Pricing

Limit Setting

Reinsurance Optimisation

  • Common measurement standard leading to common language

  • Common risk ‘currency’, interpretation as capital

Risk Management Dept.


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Integrated Framework

1. Corporate Governance

Establish top-down risk management

3. Portfolio Management

4. Risk Transfer

2. Line Management

Transfer out concentrated risks

Business strategy alignment

Think and act like a “fund manager”

6. Data and Technology Resources

5. Risk Analytics

Develop advanced analytical tools

Integrate data and system capabilities

7. Stakeholders Management

Improve risk transparency for key stakeholders

Risk Management Dept.


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Dashboard Approach

Board of directors

Executives

Strategic risk

Enterprise risk management and chief risk officer

Credit risk

Market risk

Operations risk

Boards, senior executives, internal audit, finance, compliance, insurance/underwriting, risk management, legal, business continuity, business operations

Users

Managed. Efficient use of capital, resource allocation, compliance, earnings volatility, operational integrity

Informed. Fewer surprises, communication of policies,less scrutiny, ability to meet strategic objectives and cope with change

Impact. Minimize loss, improve shareholder value, appropriateness and adequacy of control, accountability

Benefits

Risk Management Dept.


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Dashboard Approach

ERM Dashboard

BUSINESS RISK

CREDIT RISK

MARKET RISK

OPERA-TIONAL

RISK

RISK “PILLARS”

Data Mining

Internal and External Data

  • Basic ERM applications:

  • Executive reporting

  • Key risk indicators

  • Loss/incident tracking

  • Control self assessments

  • Early warning indicators

  • Risk mitigation projects tracking

  • ERM content management

  • Advanced ERM applications:

  • Risk transfer

  • Economic capital

  • Scenario analysis

  • Shareholder value management

Risk Management Dept.


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Compliance with risk policies and regulations

Exposures vs. policy limits

Regulatory compliance

Earnings-at-risk

Major internal drivers

Key external variables

Risk/return performance tracking

Business units

Customer segments

Products

“Right time” risk reporting

One touch visibility

Drill down capabilities

24x7 escalation

Early warning signals

An ERM dashboard should provide full Risk Transparency

Risk Management Dept.


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How much value are you creating and where?

Where is your equity capital invested?

Economic Capital Allocation

Risk Management Dept.


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How much value are you creating and where?

What is it earning?

RAROC

Risk Management Dept.


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Business Integration

Executive Committee

Risk/Return Analysis

Credit

Market

Operational

Organizational

Other

Total

Risk

Risk

Risk

Unit

EconomicCapital

Rs

Rs

Rs

Rs

Business Unit

%

%

A

%

%

RAROC

Business Unit

B

  • Product/relationship management

  • New product/business development

  • Business strategy and planning

  • Mergers and acquisitions

  • Compensation strategy

  • Resources allocation

Business Unit

N

Rs

Rs

Rs

Rs

Rs

TOTAL

%

%

%

%

%

Risk Management Dept.


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ERM is driven by Best Practices, not Regulations

Proactive Approach

Reactive Approach

Currentstate

CEO

?

?

?

  • Benchmarking

  • Gap analysis

  • Recommendations

?

?

Desired state (best practices or best-in-class practices)

Sarbanes- Oxley

Basel II

  • Common themes

  • Unique standards

New industry standards

Sarbanes- Oxley

New industry standards

Basel II

Governance Requirements

Governance Requirements

Risk Management Dept.


Benefits l.jpg
Benefits

  • Broadens risk awareness

  • Aligns risk profile and strategy

  • Minimizes surprises and losses

  • Rationalizes capital requirements

  • Assures regulatory compliance

  • Improves ROE and shareholder value

Risk Management Dept.


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Banks should integrate ERM into Business Processes and Value Drivers

Risk Management Impact

  • Risk-based pricing

  • Target customer selection

  • Relationship management

Revenue

-

Expenses

-

Losses

  • Risk oversight costs

  • Insurance/hedging expense

  • Credit, market operational write-offs

ROE

  • Capital management

  • Risk transparency

Equity

Shareholder Value

New Business

  • New business development

Growth

M&A

  • M&A/Diversification strategy

  • Risk Management by Silos (5, 6)

  • Integrated risk management (4–7)

  • Enterprise risk management (1-10)

Risk Management Dept.


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Challenges Drivers

  • Data availability & integrity

  • Data warehousing/ mining

  • Building up processes & systems

  • Developing Human Resources

  • Strengthening skills

  • Model validation – requires greater collaboration with regulator

  • Cost - investment in risk analytics and risk technology – getting management buy-in

  • Stress testing, scenario analysis – building capabilities

Risk Management Dept.


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Balancing the Hard and Soft side of Risk Management Drivers

Hard Side

Soft Side

  • Measures and reporting

  • Risk oversight committees

  • Policies & procedures

  • Risk assessments

  • Risk limits

  • Audit processes

  • Systems

  • Risk awareness

  • People

  • Skills

  • Integrity

  • Incentives

  • Culture & values

  • Trust & communication

Risk Management Dept.


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Future Drivers

  • ERM will become the industry standard

  • Chief Risk Officer will be a visible figure in risk-sensitive banks

  • Audit committees will evolve into risk committees

  • Emergence of Economic capital

  • Risk transfer executed at Enterprise level

  • Technology key to advancement

  • Measurement standards will emerge for Operational Risk

  • Risk-based/ Economic reporting becomes a Standard

Risk Management Dept.


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Challenges Drivers

  • Data Availability (as per Basel II requirements)

  • IT Systems (non-networked environment, integration with legacy systems, software)

  • Change Management & Culture Shift (Risk and Corporate Governance systems, Operational Risk Measurement and Management, Emphasis on independence of risk from business etc)

  • Analytical Skills (Modeling of default histories, Statistical analysis, Banking knowledge, VaR calculations etc)

  • Retention of Human resources (specifically resources related to implementation i.e., IT specialists, Risk specialists etc)

Risk Management Dept.


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Action Points Drivers

  • The business units to decide on strategy/ timeframe

  • The strategy could be growth or consolidation

  • The Finance/ Planning to decide on capital allocation to business units and assess the risk as well as the return

  • Risk Management to measure & monitor risks and enable estimation of risk premium

  • Risk Management should not be biased by consideration of profits or performance evaluation

  • I T infrastructure to enable data being provided for various analysis for risk evaluation and monitoring

Risk Management Dept.


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Thank You Drivers


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