The key business of a bank is to efficiently manage risk and ensure exceptional ROI to shareholders as per the acknowledged risk profile. The credit crisis and the following recession have impacted the core business of global banks.
According to the consultancy firm A.T. Kearney, “The framework for risk management in a bank is fundamentally no different than it was prior to the credit crunch and recession. Indeed, the risk function lacks certain business acumen, and continues to be considered a hand-brake on growth”.
Some of the key tenets in managing risk are as follows
Establish a System to Classify Risk
Every activity in a bank has its own characteristics that provide value in a specific environment. If they are removed from their environment, they could be misunderstood. Therefore, risk stakeholders in a bank must convert risk issues into a medium that is easy to comprehend.
Create a Holistic View on Risk Exposure
Risk experts must emphasize the critical risks because not all risks are created or are equal. Banks must manage credit, market and operational risks efficiently.
Bank experts leverage tools such VaR (Value at Risk), Monte Carlo simulations, CFaR (Cash Flow at Risk), stress testing among others to determine the risk proportion.
Under any given circumstances, distinct risks could be more pertaining in comparison to others, but the bank must understand its risk framework and track them. Hence, banks must establish discreet and effective risk management practices.
Centralized Process Management and Decentralized Decision Makin
Risk management is efficient if it is enforced regularly covering the banking operations with procedures that have been created by risk stakeholders.
Bank personnel must use the tools and processes to create a positive customer experience. Customer queries must be replied expeditiously.
According to experts, banks that adopted a decentralized business model were hampered by a lack of transparency in business practices. Hence, they could not manage the risks and fail.
However, centralizing critical processes with respect to risk, while facilitating a decentralized approach to decision making provides security against insignificant risk.
Role of Leadership
The senior leadership in a bank must drive the process while interpreting the roles and responsibilities throughout the organizational hierarchy to control risk profiles.
The leadership team must not only define the vision but also function in line with the organization’s vision.
Quantify Risk Vulnerability and Cost/Benefit Analysis of Managing Risk
The risk of credit derivatives must be quantified to ensure an effective risk management. In-depth risk assessment on a regular basis and quantification of the net benefits of properly handling the risk is mandatory to avoid any financial crisis.
Top Notch IT Infrastructure to Manage Risk
The banking sector is increasingly leveraging top-notch IT systems to manage complex banking operations and negate risk. It is imperative that the IT systems are developed based on the requirements of the end user.
A robust IT infrastructure (control and compliance assessing technology, databases and research/communication tools) could support an organization in effective risk management.
They are vital to ensure the delivery of concerned information for decision making by senior management.
An Organizational Transformation
For a bank to be effective in managing risk, an organizational transformation with an emphasis on a cultural change in risk management is essential.
Again, the establishment of systems and programs would create the environment for efficient organizational transformation.