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Risk management - Evolving challenges and models

- By Mayur Bansal and Ashima

The post-crisis era has witnessed a slew of compliance regulations in the finance industry. New products, increased government scrutiny, and a strong focus on compliance, has brought greater risks and a larger set of rules and regulations. Financial institutions (FIs) must now review their compliance practices and the technology infrastructure that supports them, and pursue a broad range of compliance and risk initiatives. According to predictions, the global IT expenditure by FIs on risk IT services and systems is expected to be US$70 billion in 2016. This expenditure has been mainly driven by investments in the areas of governance and systems, and process integration. However, expenditure in additional areas, such as compliance, stress test reporting, data aggregation, enterprise crime and fraud, are also important for the growth of risk IT spending.

Industry participants and regulators are focusing on managing risks due to various costs associated with enterprise fraud, money laundering, market and credit positions. In addition to US$12.4 billion in monetary fines (till 2014, as per CEB TowerGroup), there are various hidden associated costs such as fraud remediation and ongoing monitoring costs, suspension of licenses, opportunity costs, reputation damages, and higher risk premium costs. FIs face various challenges when attempting to improve their risk management practices. One big challenge involves identifying, developing, and adapting to new technologies. The other is adopting proactive risk management and compliance methodologies. Availability of good quality data, ever increasing pressure to maintain / increase profitability, reducing margin of error, and growing complexity in impact analysis, are key factors that make it necessary for FIs to understand risk with a fresh perspective.

Risk management approaches adopted by FIs are being enabled by technology in many ways. Their current approaches utilize advances in the fields of big data, analytics, and storage technologies to make risk management more futuristic and predictive as compared to the traditional and backward-looking methodologies. The approaches are being fine-tuned to make them more integrated and holistic for real-time analysis and reporting, as per regulatory requirements. Risk management in financial services is continuously evolving with the expansion of the role of the Chief Risk Officer (CRO) or Chief Finance Officer (CFO) being introduced to take care of capital utilization, cash management, and regulatory compliance. CROs have now become the first line of defense with the responsibility of overall risk management. In addition, it is now crucial to invest and innovate in risk platforms. For instance, innovations such as blockchain technology and crypto-currencies have removed various intermediaries in the transaction processes. The innovations must focus predominantly on risk reduction with efficient and predictive technology.

Looking ahead, the business models of FIs will need to be risk-based with a focus on just-in-time risk management and analysis. The technology infrastructure will need to be reinvented to bring improved controls and compliance while decreasing operational costs. Further, holistic risk management frameworks will need more investments, as a fragmented approach will adversely affect the complexity, efficiency, and sustainability of FIs and their systems.

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