Operational Risk Management
Running Head: Operational Risk Management
OPERATIONAL RISK MANAGEMENT-NEED OF THE HOUR FOR
FINANCIAL INSTITUTIONS
Ramya Raghavan
White Paper for Professional Writing (GEB5212 1694)
Dr. Priscilla Berry
University of Florida
November 20, 2013
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Operational Risk Management
OPERATIONAL RISK MANAGEMENT-NEED OF
THE HOUR FOR FINANCIAL INSTITUTIONS
Author:
Ramya Raghavan
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Operational Risk Management
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Executive Summary
Financial institutions have undergone major changes in their method of
operation, over the last few years. This complex mode of operation has
resulted in major losses due to various risks. Due to the financial downfall,
many financial institutions have started to pay more attention to risk
management practices.
Financial institutions face numerous risk. One of the main risks they face is
operational risk. Nigel Drury, head of operational risks for global banking at
RBS says that the increase in operational risks in financial institutions is due
to massive changes within the organizations. The losses incurred due to these
risks has led to downfall of many financial institutions.
The results of Deloitte’s biennial survey on risk management practices show
that at least 65% of the financial institutions have now increased their
investments on risk management practises as shown in figure 1.
Increased focus on managing risks
Less priority for risk management
Fig 1: Key survey Findings
What is the
solution?
Taking risks play an
important role in the Banking
industry. Operation risks has
been a part of the banking
industry for a very long time.
Many institutions have
invested millions of dollars,
trying to find a solution to
avoid operational risks. In
spite of all this, finding the
best solution for operations
risk remains a mysterious
goal for many institutions.
Developing an operations
risk management (ORM)
strategy is one of the targets
many financial institutions
are looking to achieve. This
makes ORM a growing and
an important risk
management practice.
Organizations have to measure and prioritize risks .Banks must give the same priority to operational risk as given to
credit risks. Banks have to adopt risk management strategies to reduce losses. Developing an appropriate risk
management strategy to avoid operations risk has become the need of the hour.
This white paper briefs:
a) The need to develop strategies to avoid operational risk
b) Methods that can be adopted to reduce operational risk
We encourage you to share this document with C-level executives of your company as it outlines issues that will
serve to aid improvement of your organization’s Operational Risk Management framework.
Operational Risk Management
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Introduction
“It would be a mistake to conclude that the only way to succeed in
banking is through ever-greater size and diversity. Indeed, better risk
management may be the only truly necessary element of success in
banking.”- Alan Greenspan, Chairman of the Federal Reserve American
Bankers Association (Operational Risk Management (ORM) Framework
in Banks and Financial Institutions)
Operational risk is a key risk that many organizations are dealing with.
Operation failure was the reason for most of the losses that has occurred
in the last 15 years. The prime reason for this failure is that many
organizations allotted a small capital for operation risks when compared
other risks. Operational risks have become more difficult and has
increased the possibility for failed processes.
The term operational risk has many interpretations as banks have varying
approaches for managing operational risk. Operational Risk is nothing but
the risk of loss from an operation failure. Institutions incur huge monetary
losses due to operational risk, as shown in figure 2.
e:Source: Operational Risk
What is Operational Risk?
Operational Risk is the risk of
loss resulting from inadequate
or failed internal processes,
systems, external events and
people. (Operation Risks)
,
Figure 2: Monetary losses incurred due to Operational Risks
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An Operational Risk Management program will help to avoid operational risks.This will also help in increasing the
institution’s revenue generation.
Need for Operational Risk Management (ORM)
Analysis over risk management methods have led financial institutions to invest more on risk management
practices. According to Chris Harvey, Deloitte UK and global managing director, “Financial institutions are
becoming increasingly confident in their risk management abilities, but they also recognize there are gaps”.
(Deloitte(2013,November,11). Financial Institutions Increase Risk Management Focus and Resources) Operational
risks are the major concern for these institutions. Operational risks such as a cyber-attack or a management
breakdown can harm the reputation of a firm.
According to a survey conducted by Deloitte, only 45% of the financial firms are able to manage operational risks.
Operational risks mainly depend on execution. Some of the aspects that the firms need to analyse upon regarding
operational risk are the following:




Is prevention of cyber-attacks possible with help of firewalls?
Are the vendors reliable?
What happens when data is lost due to some accident?
Is there any back up data?
If the firm does not have any answer to the above questions, there is a high chance of facing operational risk. As
per a survey conducted to determine how organizations managed risks, financial institutions are not properly
managing the risks pertaining to data security, product introductions and disruptive technology, as shown in figure
3.
Source:PwC
Figure 3 : Key Survey Findings
Operational Risk Management
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Institutions that do not have an ORM in place, face trouble in measuring operational risks, as there is lack of data
availability. So, an ORM is required to analyse risks that have occurred in the past and ensure that these risks do not
occur in the future
Implementation of Operational Risk Management Program:
Operation Risk Management Framework:
An operational risk management framework is used to measure and mitigate operational risk. Every institution can
build the framework that is suitable for their organization.The framework should help in reducing risks and help in
improving the risk culture.There are certain factors that any organization should consider while developing a
framework:
a)Strategy
b)Structure
c)Execution
d)Risk appetite
e)Communication of Policies
Institutions must apply certain mitigation procedures for risk and review them periodically .The Operational Risk
Management ensures that the risks are monitored and controlled.The framework for the ORM can be built as
shown in figure 4.
Source:MetricStream
Figure 4: Operational Risk Management Framework
Steps involved in ORM process:
ORM process consists of the below steps:
a)Identification of Risk
b)Assessment of the risks
c)Reporting the risks
d)Managing and Monitoring the risks
Operational Risk Management
Source:Operational Risk
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Figure 5: Operational Risk Management Process
Benefits of Operational Risk Management
a)
b)
c)
d)
Enables institutions to measure,monitor and control the risks
Risk capital can be allocated and used properly
Monitoring helps to bring potential risk areas in focus
Allows continuos improvement
As per a survey conducted among financial institutions, there are a lot of benefits implementing the operational risk
management strategy, as shown in figure 6.
Source: PwC
Figure 6:Key Survey Findings
Operational Risk Management
Conclusion:
Operational Risk Management helps financial institutions to analyse and mitigate risks.Executed correctly, it
provides a clear view of the risks that the institution may face.ORM will help institutions have a sound view of the
risks in past and the risks which may occur in future.Operational Risk Management is highly recommended for
institutions that are looking to build an efficient framework to avoid risks.
gege
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References:
All Banking Solutions.Operational Risks[Web log post].Retrieved from
http://www.allbankingsolutions.com/Banking-Tutor/operation-risk.shtml
Deloitte(2013,November,11). Financial Institutions Increase Risk Management Focus and Resources [Web log
post].Retrieved from
http://deloitte.wsj.com/riskandcompliance/2013/11/11/financial-institutions-increase-risk-management-focus-andresources/
Drury,N. Why has operational risk returned to the limelight?[Web log post]. Retrieved from
http://www.markit.com/assets/en/docs/markit-magazine/issue-6/MM06_RandD.pdf
Muehlenbrock,S., Messin, F, Segui, B(2012). Operational Risk [PowerPoint Slides].Retrieved from
http://www.kpmg.com/lu/en/services/advisory/riskconsulting/financialregulatoryreporting/documents/operational-risk.pdf
Operational Risk Management (ORM) Framework in Banks and Financial Institutions [Web log post].Retrieved
from http://www.metricstream.com/solution_briefs/ORM.htm
PwC (2011).Top drivers of Risk, Future Risks, and Risk Management in
Organizations, Risk Management Strategies, Benefits of Risk Management [Web log post].Retrieved from
http://www.pwc.com/us/en/risk-assurance-services/key-survey-results.jhtml
Operat
http://deloitte.wsj.com
/riskandcompliance/20
13/11/11/financialinstitutions-increaserisk-managementfocus-and-resources/
http://www.frbsf.org/e
conomic-:
implementation diag
fig 3 and 5: http://www.pwc.com/us/en/riskassurance-services/key-survey-results.jhtml
http://www.frbsf.org/economicresearch/publicationsnuary/what-is-operationalrisk
http://www.allbankingking-Tutor/operationrisk.shtml
http://www.kpmg.com/lu/en/services/advisory/risk
-consulting/financialregulatoryreportin