MANAMA, Bahrain--(BUSINESS WIRE)--Financial institutions did not empower their risk management functions enough to curb the activities of risk takers which played a major role in the near collapse of the international financial system in 2008, according to a report from the Economist Intelligence Unit (EIU) co-sponsored by insurer ACE (NYSE:ACE).
Whilst the negative perceptions of operating risks in the Middle East have reduced sharply in the 12 months prior to the survey, according to ACE, the region faces specific challenges from the global recession that may pose future risks..
ACE believes that whilst the region has so far been relatively well protected from the full impact of the global credit squeeze - buoyed by reserve cushions built up during the oil boom – it potentially faces challenging times as its ambitious investment programmes could suffer as the impact of the crisis grows.
Giles Ward, Regional Managing Director of ACE Insurance MENA, comments: “Whilst the operational risk picture in the Middle East has greatly improved, there are signs that the ‘de-coupling’ from those countries worst hit by the credit crunch is not cushioning the blow. We have already seen markets suffer a significant slowdown in key sectors, such as real estate, and there may be more to come.” Ward continues: “The level of damage caused by the economic crisis within the region will vary by country depending on individual circumstances, but there will certainly be an impact. At the moment what we see in the EIU’s report is that some risk managers may be taking an over-optimistic view of their position.”
The EIU survey revealed that risk management functions within organisations appeared to lack the authority needed to take decisive and necessary action. The report, based on in-depth interviews with leading participants from the financial services sector and independent risk experts, explores the lessons learnt and recommends some practical steps financial institutions should now take to facilitate recovery and the rebuilding of trust.
The central conclusion of the report is that, while many institutions are already reappraising their internal risk management procedures, there is often a far more fundamental question to be addressed relating to the actual culture of the organisation. The question is whether the individual concerns of risk managers have until now all too often been marginalised. Only by adopting the steps suggested, the report says, can institutions start to overcome the challenges they face in providing an effective risk management capability for the 21st century.
Managing risk in perilous times: Practical steps to accelerate recovery
is available free to download here:http://www.aceeuropeangroup.com/AceEuropeRoot/Media+Centre/Research/EIU+Survey/
Notes to Editors
The measures put forward in the report include:
While risk management has absorbed a rising proportion of investment in recent years and occupied an increasingly senior position in the corporate hierarchy, it says that it has ultimately still lacked the authority to stand up against a potential opportunity for profit. As a ‘support function,’ the warnings of risk managers, were too easily sidelined by those running profit centres. Going forward, risk management must be an independent function with sufficient authority to challenge risk-takers effectively.
The mismatch between the short-term incentive structure and long-term risk exposure that caused the crisis has already been identified by many as a key area for reform. The bonus culture and remuneration models for senior banking executives must be overhauled to ensure that some rewards are withheld to match the maturity of the underlying business.
New financial instruments and trading strategies make the task of risk managers even more difficult. Institutions must ensure that they have sufficient risk expertise at a senior level and that risk staff offer experience in a diverse range of risks. There must be access to the appropriate tools, information and communication channels to enable the effective communication of concerns and issues. Risk managers must monitor developments in the ‘real world’ and update their risk management assumptions and systems on a continual basis.
The limitations and over-reliance on quantitative techniques and computer modelling must be recognised. These quantitative methods must be backed up with the inputs of human judgement and dialogue. In addition, regular stress testing should be integrated with the firm’s overall risk management processes.
The financial crisis has demonstrated that there is difficulty in identifying and aggregating risks at a firm-wide level. The new culture must focus on risk as a concern for everyone in the business facilitated by clear and frequent communication across organisational and operational boundaries.
The report also recommends that, while a central risk function is essential to set a strategy and provide an oversight of the firm’s risk position across its various business units and geographies, institutions must combined this with an approach which enables risk is embedded in the regional office or business unit so that each profit centre has ownership of its own risks.
The events of the past year have demonstrated the dangers of the failure to update or question assumptions about risk. Those developing systems need to continuously feedback real world observations into their design on a regular basis.
Alongside a central risk function within a business to set risk appetite, implement and monitor controls and provide oversight of the company’s overall risk position, risk management must be embedded in regional or individual profit centres.
Financial institutions must recognise the limitations of external ratings and risk information and supplement ratings with their own analysis, which should be continuously updated.
About the research
The research for this report is based on a series of in-depth interviews with senior risk professionals and independent experts, combined with a process of desk research that comprised a review of current literature on risk management. Interviews and research were conducted by the Economist Intelligence Unit.
The ACE Group of Companies is a global leader in insurance and reinsurance serving a diverse group of clients. Headed by ACE Limited (NYSE:ACE), the ACE Group conducts its business on a worldwide basis with operating subsidiaries in more than 50 countries. Additional information can be found at: www.acelimited.com
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