Neil Brown June 13 2006

8/3/2019 Neil Brown June 13 2006

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Neil Brown

Managing DirectorNoteWell Associates [email protected]

Asset Managers have been subjected to significant changes in the way that they arerequired to manage risk within their business. Some of these relate to Basel 2, but there isa responsibility to implement and evidence an enterprise wide risk framework thatsupports ICAAP. This can be complicated by the evolving approach to regulation ofcomplex groups resulting in changing regulatory relationships for asset managers. This

talk will address the issues involved in achieving this wider risk framework.


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Slide 1

Mitigating Risk by Evidencing Risk Control

..we will scrutinise proposals for new UCITS III funds and

conversions of existing funds and will engage in a thematicreview of the risk management of firms that are proposing tooperate or are operating UCITS III funds.

Hector Sants, 19th September 2005


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Slide 2

.financial services regulators around the world are rightly concerned

that the business and affairs of financial services firms are responsibly

and effectively organised and controlled at senior management level and

that firms senior management take responsibility for this

a firm is required to establish, implement and maintain adequate risk

management policies and procedures which identify and set the tolerable

level of risk relating to its activities and effectively manage those risks.

A firm also has to have a separate risk control function, where this is

proportionate depending on the nature, scale and complexity of its

business. This function will be responsible for assessing the risks that

the firm faces and for advising the firm's governing body and senior

managers on these risks.

Mitigating Risk by Evidencing Risk Control

Christine Sinclair 15th May 2006


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Slide 3

Generic Risk Process

Define Risks the firm is prepared to take (Risk Appetite) Identify risks the firm owns (to capital, reputation, earnings, brand.)

Categorise and identify the drivers of these risks (investment performance, market,credit, operational, event.)

Agree measurement techniques (attribution, VaR, stress testing, scenarios, other)

Agree limitations of these techniques (Correlations, Fat Tails, model validity understress)

Design / Build / Implement systems and processes to capture this information

Set and operate appropriate controls (limits, delegated authorities, escalationprocesses

Apportion responsibility for managing these risks

Business management to own them

Risk management to provide oversight


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Slide 4

Objective of the ICAAP

with respect to capital adequacy.

How much and what composition of internal capital the firm

considers it should hold as compared with the capital

resource requirement(CRR) pillar 1 calculation , and

the adequacy of the firms risk management processes


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Slide 5

Risk Framework

What are the risks?

Strategy

Earnings

Reputation (Brand?)

Investment Performance

Failure to deliver mandated product

Includes TCF, Advertising

Operational Risks

Legal & Compliance Risks


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Slide 6

What Risks Should Be Considered for ICAAP?


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Slide 7

Other issues?

Group Structuresstrengths and weaknesses.

Outsourcing (and insourcing!)

Where applicable, details of any other business-unit-specific orbusiness plan stress tests selected

Differentiation between ICAAP requirements and good businessmanagement.


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Slide 8

ICAAP

Annual?

Risk types considered to justify exclusion?

Capital required to mitigate worst case occurrence

Not a process to manage the business.


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Slide 9

An Appropriate Risk Management Infrastructure

Who owns this and why will it happen?

Senior Management

CEO/SEO / Apportionment Officer

SIAPs

If you dont understand it, you shouldnt be responsible!

Others

Line Management

All staff


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Slide 10

What Is Involved?

TABLE OF CONTENTS

Overview

Governance

Roles and responsibilities

Definition of risks and risk appetite

Risk Management Framework

Risk and Control Assessment processes

Incident Management processes

Reporting and Monitoring

Company Risk Framework


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Slide 11

Example: Roles and Responsibilities

Senior Management are responsible for implementing

An effective and appropriate operating structure that has transparent

and formal responsibilities including:

implementing risk management frameworks within their part of

business.

developing and implementing processes and procedures for

measuring and managing risk in all of the material products,

activities, processes and systems of their part of the business.

understanding and evaluating the risk profile and ensuring

appropriate risk mitigation within their part of the business.producing reporting to demonstrate the effectiveness of the risk

mitigation they have applied


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Slide 12

What Does This Mean?

Much of this will exist, some is documented.

Document from the top down, pull all existing frameworks

together

Quality not Quantity (substance not form)

Ensure that Management Information produced by all areas can

support the risk framework (evidences management control)


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Slide 13

Reporting Structure

Risk Management

Monthly / Quarterly reporting

Business area Heads / Senior Management

Monthly / Quarterly Reporting

Chief Executive

Officer

Business Activity

Daily/ Weekly/Monthly /Quarterly Reporting

Line Management

Monthly / Quarterly Reporting

Board of Directors

Management / Board / Risk Committee


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Slide 14

Example - New Product Process Risks?

Strategy

Earnings

Reputation

Investment Performance

Failure to deliver mandated product

Includes mis-selling,TCF, advertising

Operational Risks

Legal & Compliance Risks


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Slide 15

Example - New Product Process

Initial idea - (Marketing?)

product, marketplace, competition, asset target, costs, profitability....

Management support

Front Office design (Portfolio Management?)

Middle/Back Office ability to support proposal

Legal/Compliance/Risk review

Is the proposal legal and are we allowed to build/distribute?

Do all areas of the business understand what is required of them?


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Slide 16

Product Marketing Responsibilities

Clearly defined product characteristics

objectives,

sources of alpha / absolute return

risk controls & characteristics

fees and commissions

Clearly defined target marketplace

Clearly defined target sales and

timescales

Clearly defined product review process

Compliant marketing materials

Brochures / Applications

IFA materials

Advertising

TCF considerations

Place in market

Place in portfolio

Family/friends..

Internal External


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Slide 17

Product Investment Management Responsibilities

Through what clearly defined investment process and risk controls &characteristics will they capture the alpha / absolute return to deliver

the clearly defined fund objectives ..........

Credibility of how they will deliver consistent product/performance.

Ability to explain/demonstrate sources of absolute and relativeperformance (Attribution)

Ability to explain demonstrate current portfolio positioning/bets (risk

analysis)


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Slide 18

Middle/Back Office Responsibilities

What new systems or people are required?

On what platform / how will you

price

account

risk measure

report

What processes change as a result of this?

What manual processes are introduced?

What processes are special/different for this product?

Ensure continuity and disaster recovery


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Slide 19

Risk Management Process

Investment Risk

Review proposed product characteristics versus proposed objectives /

market / clients for goodness of fit

Ongoing review of the performance, attribution and risk analysis of product

using appropriately designed statistics and techniquesstill true to label?

Operational Risk

Ensure

specific accountability, policies & controls, reporting at launch & ongoing

segregation of duties at launch & ongoing

Key Risks, Key Controls, Control Enhancements identified and addressed

Integrate into ongoing OpRisk reporting enhance where necessary


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Slide 20

Additional/Enhanced Processes.?

Instrument / portfolio pricing

Instrument / portfolio risk analysis

Risk Management oversight

Management oversight

Board reporting


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Slide 21

Who Owns What?

Product design

Investment delivery

Product support

Product launch

Oversight

Ongoing product life

Marketing / Distribution (/ Investment Management)

Investment Management

Middle/Back Office

CEO

Senior Management/CEO

Legal/Compliance/Risk Management

All of above

but ultimately, CEO..


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Slide 22

Conclusions

Senior Management resolve is key

Dont build the Bugatti Veryon *

Model Bugatti Veyron 16.4Engine type 7993cc, 16 cylinders in a WPower/Torque 1001bhp @ 6000rpm / 922 lb ft @ 2200rpmPerformance 0-62mph: 2.5sec / Top speed: 253mph

Price 810,345Verdict Blows away all the other supercars

Set senior responsibilities and deliverables to drive framework down throughthe business

Ensure reporting is appropriate and evidenced

Having created this framework, be ready for internal/external review

* Source: Times Online

Neil Brown June 13 2006

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