The mad ramblings of an Englishman

Last week I was out in New York attending the Global Association of Risk Professionals' (www.garp.com) annual conference.  Part of my extra curriculum activities involved hosting a dinner at the Craft restaurant (www.craftrestaurant.com) at 47 East 19th Street.  A great restaurant if ever you are stuck in New York and looking for some private dinning in New York.     

Those of you that know me know the extent I am away from home and also know that my wife is a saint.  No she truly is, since I leave her behind to look after my four children whose ages range from 11 all the way down to 2. 

One of my kids is my 7 year old daughter, Amy. 

The reason for mentioning all of this is that before I left for the airport Amy asked where I was off to on this trip and what was I going to do when I got there.  

Ever the inquisitive one is our Amy.   

If you have children and especially daughters (I am well versed as I have three boys and one girl), you know what I mean! 

You try explaining that you are going to America to address some distinguished bankers and discuss the topic of Risk Management and the Bank of the Future. 

So what did I do?   

I told her I was going to New York. No issue there my conscience was clear, but........  

I told her I was going to drive a subway train around the New York underground system.   

Oopppsssss…………….. 

During the conference we heard from industry peers about a multitude of risk and compliance topics (well I was at a risk conference): 

The Bank of International Settlement discussed what the recent financial turbulence has taught us about the nature of tail risks, what had been anticipated, what were the surprises, what the industry had learnt and, one could say most importantly, what could the future hold? 

A number of Chief Risk Officers discussed "The future of risk management" in a lively panel session where one of the panelists informed us "we are in the business of predicting the future" as well as "all risk models we use are wrong yet some are useful". 

We heard from Wachovia's SVP of Credit Risk Management, Gary Wilhite, about avoiding decisions in the portfolio mix that destroy shareholder value. 

It was a truly diverse agenda that covered operational and credit risk as well as exploring the areas of regulation and capital requirements, it truly got me thinking. 

What is certain is that we are living and operating in a world of constant change and unrest, politically, socially and economically. 

The landscape of financial services is constantly changing, traded instruments and service offerings are becoming more complex, and business is becoming more global,  all in an environment of increased regulation and oversight.   

Industry initiatives are shortening settlement windows, increasing risk exposures and demanding heightened regulatory controls. 

If we take the example of derivatives markets, since the late 1990’s investments within the equity and commodities markets have been booming.  In 1998 the trading in Credit Derivatives was in its infancy, by the end of June 2007 (according to ISDA www.isda.org) the notional value of these instruments had exceeded US$ 45 trillion.   

What do these numbers really mean for us?  It's a massive growth in volumes, value and therefore risk if the back office processes aren‘t handled properly. 

If we looked in the back-office, most firms have been struggling with the risk and compliance issues that such volume increases and trade complexities have presented, most have been opting to apply manual labour to the workload rather that leveraging advancements in technology.   

This in turn has resulted, in a number of high profile breakdowns in control and oversight where traders have effectively gambled the Bank.  

These markets incorporate not only commodities and equities but also encompass currency and therefore cash, so one big ecosystem. 

It is safe to say that new instruments do not really stay new instruments for long. They go through a lifecycle. Some are bound to stay and others are bound go away again. One thing has become very clear over the years: new instruments evolve constantly. There is no end in sight and the simple reason being – these things are profitable! 

From a risk management point of view we need to ask ourselves what does it mean if a new instrument comes online? When does it become established? Reality shows that there is still very little standardization, even for commonly traded derivative instruments.    

How do we position the bank and its risk systems to cater for change, what is the requirement for the Bank of the Future? These are the key questions for which we need to seek answers.  

So in summary.  And to generalize a little, we have a huge amount of integration, connectivity and dependency between the instruments traded and products offered. 

Our risk models need to be well documented so we can demonstrate control to all the stakeholders, management, shareholders, regulators, the government and even our customers. 

Risk models need to be flexible and scalable to support new products, changes in legislation, geographical nuances as well as trading peaks and troughs. 

Economic capital, product and customer profitability are becoming all important when looking for a sustainable business. 

Hang on, isn’t this very similar to the New York underground system, many routes that all inter-connect, a map that helps you navigate, the ability to handle large volumes of passengers and as for profitability well we are only a few days away from plan fare increases by the MTA. 

So really we are all subway drivers and my conscience was clear and Amy along with the other three were all waiting to give me a big hug when I walked through the door!!