Aerice Consulting excited to be working with the CITB
We are very pleased to announce that Aerice Consulting is working with a new public sector client.
CITB are the Sector Skills Council and Industry Training Board for the construction industry, working with industry, for industry to deliver a safe, professional and fully qualified UK construction workforce.
CITB have engaged Aerice Consulting to provide expertise, impartial comment and lead practice guidance for a recent ERP (Enterprise Resourcing Platform) implementation of Epicor9. This latest engagement further cements Aerice Consulting's ability to deliver meaningful results, expert guidance, support and lead technology surrounding ERP implementations and associated processes and platforms, both internally built and off the shelf solutions.
Portfolio Risk Challenges: De-risking the Trading Environment
Aerice Consulting's latest article on de-risking the trading environment and the importance of having a structured risk framework.
The raft of post-crash capital adequacy regulations and demands for increased transparency mean that banks, pension funds and trading desks - some in-house at large treasuries - are having to carry out extensive de-risking exercises. The increased reporting requirements should theoretically make it easier for treasurers to assess bank and counterparty exposure risk, pension exposures and other risks, but is this happening in reality? A risk management protocol is essential to be able to tell and to ensure best practice.
With the majority of financial institutions and regulated pension funds undertaking extensive de-risking of their respective trading portfolios, it is imperative that robust risk frameworks are in place to ensure that all aspects of the portfolio are managed in a transparent and efficient way, particularly in terms of asset diversification. Financial institutions' balance sheets are currently undergoing major asset reductions in order to achieve their regulatory capital requirements, without compromising their core business revenue targets. Given these regulatory demands, it is now more crucial than ever to ensure that adequate investment in process, controls and systems is maintained in order to achieve the accuracy, timely risk, position reporting and benchmarking for both management and regulatory disclosure.
Trading desks are being assessed not only on the revenue that they produce but also on the capital utilisation being used to achieve this income. This requires risk managers within their respective organisations to work closely with the business across all risk functions and asset classes. They need to analyse the specific concentrations and diversifications in order to determine the most appropriate de-risking and hedging strategies to be implemented. This can only be effectively achieved with the existence of a comprehensive risk framework that empowers policies to incorporate updated regulatory requirements and the risk appetite of the institution.
Risk Framework Objectives
The overall objective of any risk framework is to ensure that all regulatory requirements are maintained, without impinging on the commercial needs of the business. At the same time, it needs to be scaled appropriately against the risk appetite of the organisation's board of directors. With this in mind it is important to ensure that a 'best-in-class' risk framework is used and to be confident that this framework has the ability to produce transparency and accurate reporting of the risk portfolio. That way an analysis of de-risking strategies can be accurately carried out for management consumption.
An organisation's risk framework has to be reviewed periodically across both policies and procedures in order to ensure that all aspects of the business are clear on the ownership of risk, along with the governance structure and standards of measuring, monitoring and reporting on an accurate and timely basis. The delivery of an appropriate risk framework essentially enables an organisation to meet its regulatory requirements while facilitating the business needs of its trading desks, in-line with the risk-reward appetite in order to achieve defined revenue targets.
The risk strategies and the risk-bearing capacity of an organisation for the individual business divisions needs to be consistent and continually developed as part of an interactive process. The regulatory environment has matured considerably in recent years in this regard, with organisations now required to articulate and report on their risk-bearing capacity, risk strategy and risk appetite as part of the Basel II requirement of the Internal Capital Adequacy Assessment Process (ICAAP). Basel III is on the way as well.
The Core Principles of Risk Management
The management of risk can be defined through the following core principles:
- Ownership.
- Integration.
- Alignment.
- Transparency.
- Engagement and approval authority.
Incorporating these principles into a robust risk framework enables an organisation to de-risk and manage its capital requirements across all asset classes effectively and efficiently.
Within the risk framework, it is the responsibility of each trading desk, fund manager or business area, which may include some treasurers at advanced multinationals that look to profit from their hedging activities, to manage their risk exposures. Both the hedging/de-risking strategies and positions that they implement are a fundamental component of ownership and responsibility, providing the framework on which a trading portfolio can be hedged or positions closed for de-risking, on either a micro or a more high-level management of exposures across a business line. Ultimately, the responsibility for implementing any de-risking strategy lies with the individual business line manager or fund manager on a daily basis, and with central management or the board at the very top level.
The Fundamentals of the Review Process
As part of their primary function, risk managers should undertake a review of the de-risking strategies that are being undertaken, at either a macro level or business line, or on a daily basis within the trading group in order to determine both concentration and diversification effects. When performing such reviews of de-risking strategies, a number of considerations need to be taken into consideration; such as the choice of instrument, the size of the hedging position, market liquidity and concentration, and the degree of basis risk between the underlying and hedging instrument, along with timing factors for implementation of the de-risking strategy. This is even more relevant to fund managers where concentration risk in industry sectors, countries and counterparties can make de-risking difficult to achieve in a short period due to market conditions and liquidity.
Where de-risking is being performed, risk managers also need to weigh up the individual capital impacts on credit, market, liquidity and operational charges, along with the diversification and concentration effects across the portfolio in respect of the asset classes. Where concentration risks arise, either as holding positions with similar characteristics to a significant size, or an adverse development of a limited number of risk factors, this could lead to both a significant loss and major capital requirement under current regulatory rules.
Defining Risk Appetite and Strategy
Given these potentially dangerous and unwanted outcomes, it is important that the appropriate governance and supervision that the risk framework provides is matched to the overall risk appetite and strategy set by senior management. By establishing limits and monitoring, an organisation is guaranteed the key control and transparency needed to manage both the portfolio and capital requirements effectively. The use of key metrics, such as economic capital, value-at-risk (VaR), stress testing, sensitivity and position limits, credit and default limits and concentration risk, combined with robust, accurate and timely reporting, effectively allows an organisation to de-risk appropriately.
On the reporting of de-risking strategies, such as the implementation of hedge positions, it is important that the calculations used in determining the risk are easily decomposed at each stage of the risk reporting process to give transparency and validation. Risk managers often request macro hedges to be segregated, to enable more accurate monitoring of the de-risking strategy as well as standalone analysis to be undertaken.
Within a robust risk framework, reporting principles such as standardised reporting platform, materiality and relevance of reports, production scalability and flexibility along with infrastructure enhancement are required to enable efficient risk management to undertake both de-risking and hedging strategies. This has become paramount over recent years with the regulatory requirements of both Basel II and III, and the Capital Requirement Directive (CRD3), coupled with every organisation attempting to rebalance their respective balance sheets by focusing on their core businesses. Don't forget either that the final CRD4 proposals, associated with the incoming Basel III changes, are due to be unveiled in Europe next year.
Senior management is now more focused on analysing the drivers and diversification affect that macro hedges have across the portfolio, on the basis of managing the risk weighted assets (RWA) for capital efficiency effectively. This has created an operational strain on risk infrastructures, in order to produce and maintain transparent and accurate reporting, especially for regulatory requirements. This puts further emphasis on the need for an infrastructure that provides timely, transparent and accurate reporting of the risk portfolio, to support de-risking decisions in an effective and efficient manner by senior management.
The steep demands of the CRD3 changes, such as stressed VaR and incremental risk charge (IRC) on a timely basis for regulatory reporting, have impacted the vast majority of institutions. Their ability to leverage their current risk framework is no longer feasible due to capacity constraints on the systems' infrastructure. In turn, this has dictated the need for a greater integration of risk reporting within the organisation's hierarchy, combined with the flexibility to undertake scenario analysis to determine the diversification impact of macro hedging.
Robust processes and systems are essential for accurate and timely risk reports, combined with the ability for increased capacity of usage at all levels of the business. This requirement has necessitated further investment in the current infrastructure, together with ensuring transparency of the risk factors being used in both VaR and economic capital calculations, if the de-risking and capital management strategies are to be effective.
Overall, it is important that institutions have a robust risk framework in place to provide management and the business with the transparency needed to enable efficient de-risking to be performed. That being said, the significance of a robust systems infrastructure cannot be underestimated, complete with the appropriate controls and capacity to facilitate these requirements. Only then can it be managed efficiently with timely and accurate reporting in place.
Aerice Consulting Flags Up Portfolio Risk Challenges
Aerice Consulting Flags Up Portfolio Risk Challenges for Pension Fund Managers.
Aerice Consulting has flagged up some key issues facing a number of pension fund managers, with regard to risk management strategies - including the importance of focusing on risk concentrations at portfolio level, and implementing measures to capitalise on risk return beta.
Commenting at a recent Aerice Consulting round table briefing, director Stuart Owers explained:
"In these challenging economic times, pension fund managers are under increasing pressure to diversify their portfolios in order to deliver return on assets (RoA). This can involve raising the stakes in terms of risk exposure, particularly for long-term investment strategies. Pension fund managers are required to constantly consider the macro risk framework, in order to form the basis of the leverage ratio's and where to de-risk in the trading environment as much as possible, while still capitalising on a potential market upturn. Being able to understand, evidence and clearly articulate the impact risk has on portfolio behaviour is key here through robust systems reporting. Through the use of strategic platforms and more accurate and timely reporting as part of a risk framework fund managers can have a greater understanding of the portfolio's behaviour and thus positively impact its Net Asset Value (NAV) in order to maximise RoA. This relies in turn on adopting best-practice risk management - across the key risk pillars of portfolio, people, process and systems. Integration across these areas is key as it helps to provide timely and more accurate information from the risk framework."
Latest High Profile Financial Projects for Fast-Growing Management Consultancy Aerice
Aerice Consulting announces its latest activity in the financial services sector.
Specialist London-based management consultancy Aerice Consulting announces its latest activity in the financial services sector, involving the successful completion of a number of high profile projects across Europe. Aerice Consulting has been steadily expanding its project base in the past 12 months, building a reputation for successful high-level implementations.
Two high profile projects for Deutsche Bank and Lloyds TSB feature among Aerice Consulting's latest successfully completed project activities. For Deutsche Bank, Aerice Consulting has completed a challenging implementation that focused on global market risk management. The LloydsTSB project involved providing support for its integration with HBoS.
Aerice Consulting Directors Stuart Owers and Dev Sharma explain: "Financial sector organisations are looking for a different style of consultancy approach, and Aerice Consulting is clearly fitting that model, both in terms of delivery and fulfillment. We are gaining a reputation for delivering high profile programmes across business and IT, using highly qualified and experienced consultants with an implementation approach that ensures lower costs to the client.
"At Aerice Consulting, we adopt a business ethic that we believe to be very different to the norm - we define our exit strategy from the outset with our client, as part of the project planning process. This ensures that a programme/project is focused on tangible project delivery, matched to clearly stated objectives, with a finite end-point for client handover."
Liquidity Risk Management and the Changing Risk Landscape
Stuart Owers and Dev Sharma, publish their thoughts on these current hot topics.
With continuing market volatility and the associated reductions in available funding, risk managers have to stay firmly on top of their liquidity requirements. Careful system selection that delivers the appropriate reporting tools is an essential component in a successful liquidity risk management strategy - without this in place, there is a very danger of getting caught without the appropriate cash flow required for efficient operation.
The risk landscape is getting ever rockier, as the global market turmoil continues and regulation gets even tougher. The fact remains that regulation is only going to get tougher, irrespective of whether organisations have failed to apply sufficient risk mitigation strategies in the past, or whether the new regulations demand too much complexity too quickly. This process is certainly going to be further accelerated by the damaging impact of activities as illustrated in the recent UBS news headlines. Organisations that fail to face up to the new regulatory world are at best only postponing, or at worst augmenting the cost and challenges of addressing it.
It is therefore no surprise that 'risk framework' is the corporate buzzword of the moment. Everyone wants one, reflecting recognition of the pressing need to ensure that liquidity risk strategies are robust, effective and flexible. Risk needs to be properly tasked, funded and governed. There are a myriad of options to weigh up, and ever more complex regulations to contend with - as illustrated by the introduction of Basel III, with its potentially conflicting implications for both liquidity and solvency. Liquidity operations represent a key element to any risk framework. Overall, the challenge is to develop an effective risk management policy that reduces exposure without constraining business flexibility, matching an appropriate structure and risk appetite to an organisation's selected markets, trading environment and business objectives.
The Impact of Recent Events
Post Lehman's bankruptcy, the financial market suffered a liquidity crisis that had not been experienced since the Great Depression of the 1920s. With financial institutions' balance sheets heavily exposed to sub-prime debt, inter-bank liquidity disappeared as institutions felt that they could not expose themselves further to possible bankruptcy from others. Central banks, as lenders of last resort, created financial facilities (through the Troubled Asset Relief Programme (TARP) and quantitative easing (QE)) to enable liquidity by purchasing any securities, regardless of rating. This led to a crisis of confidence, where the normal overnight market no longer trusted each other's ability to meet their funding commitments. Three years on, the market still has liquidity issues, due to the possible default of European sovereigns. Central banks have again stepped in to provide US dollar funding that institutions need in order to ensure their funding commitments are maintained.
The credit crisis taught us that there was a clear need for fundamental changes in risk management practices. And the learning curve is still continuing. It is too early to tell whether the recent UBS issue was due to a lack of a structured approach to risk or was purely brought on by fraudulent activity. A risk framework cannot prevent such eventualities such as the lack of adhering to controls, fraudulent activities or rogue traders. It can, however, highlight them at a much earlier stage through accurate reporting based on a structured framework, thereby limiting the impact. It stands therefore, that any risk framework needs to have the correct level of controls associated to it, taking into account organisation's operation and its appetite for risk.
Devising an Effective Risk Framework: The Considerations
There is no easy route to realising a liquidity solution. The often-adopted belief that implementing a liquidity risk control will result in a liquidity solution is completely false. It is essential to define a structured approach to risk as a whole, throughout an organisation, and as such liquidity risk forms in integral part of an entire risk framework. Even the Financial Services Authority (FSA) has demonstrated its acceptance that it is not possible to remove risk entirely from the financial system. It does, however, regularly review how much risk it is prepared to tolerate. The same applies to corporations - where risk will always exist to a certain degree. The level needs to be effectively determined, managed and reviewed via a well-conceived and executed structured risk framework.
When dealing specifically with liquidity risk, the regulations clearly state that committed credit or liquidity facilities cannot be leveraged. During the 2007-2008 credit crises, many organisations decided to conserve their own liquidity or reduce their exposure to other banks. This strategy can cause a knock-on effect that sends shockwaves through the financial institutions, making those that are over-leveraged in serious danger of default or collapse. As a result, the ability to report clearly on current status and liquidity exposure has never been more important.
The regulations clearly stipulate that an organisation must not be over-leveraged. It follows that in order to effectively manage its liquidity risk, an organisation must ensure that it has the effective means of which to monitor and report on it. This requires the correct monitoring tools and metrics to be put in place, with readily available reporting. As liquidity risk covers the reflection and management of open market positions and commitments, it is a prerequisite to implement an effective system in which to report such positions. This is where an effective risk framework comes into its own, providing the tools to not only highlight the risk, but also to report on and provide meaningful up- to-the minute information. Never has the phrase "knowledge is power" been more appropriate. With the correct knowledge base, it is within an organisation's power to manage and mitigate any upcoming risks truly effectively.
We have also seen another paradigm shift with the recognition that liquidity is no longer restricted to just emerging markets or obscure stock, but can in fact be widespread. This has been witnessed with increasing regularity even in the most established of markets.
As already stated, a successful risk framework must effectively control, manage, escalate and in turn mitigate or process any associated risk. A miss-sold, incorrectly designed or wrongly implemented framework can have long-lasting, detrimental and potentially catastrophic effects - actually reducing a large corporation's revenue stream if it is too risk averse, or placing unnecessary risk on a trading structure that witnesses very little gain. Devising an appropriate risk framework is about achieving balance and harmony within an organisation, enabling proactive risk management without restricting growth or adding layers of red tape to any trading process.
System Considerations
There are many risk platforms and systems in the market, offering varying degrees of complexity and solution-based processes in and around risk management. Finding the most appropriate solution for a particular organisation relies on a careful process of review and needs assessment. There is a very real danger associated with driving risk management by system selection, leading to the misconception that investing in the 'best' system is a simple way of resolving all risk management issues. As with enterprise risk planning, customer relationship management (CRM) and other business enterprise systems, it is imperative to understand both your business and the data you need in order to get the best out of the system. There are many systems on the market, but experience shows us that when defining an all encompassed risk management framework, it is imperative to understand the business requirement before going down the system selection route.
Getting to Grips with Liquidity Risk Management
With regulators, investors, shareholders and boards all demanding a much more structured and transparent approach to risk management, what are the options on the table? There are many risk management systems in existence that offer the ability to develop and build specific scenarios relating to liquidity risk, thereby ensuring that any funding gaps are negated. A system also needs to be able to forecast funding and liquidity requirements accurately over various time horizons.
In the future, liquidity risk will only become more regulated, with tighter controls being enforced on organisations to ensure they have adequate funding and reserves to meet their cashflow commitments. The painful lessons of the past three years have demonstrated the need to ensure that not only are interbank facilities in place to ensure that funding can be met, but also that internal controls are well-defined, supported by good systems to enable the liquidity risk profile to be well understood by all levels of management. This latter point was recently enforced by London risk manager Daniel Geoghegan, when he was quoted as saying: "Best practice in risk management through a well-defined risk framework needs to be constantly monitored and refined, so that it is in adherence to any new regulations; and therefore it is imperative that any new framework be allowed to reflect any new regulations. This requires organisations to take a strong, dynamic and pragmatic approach to their liquidity risk operations to ensure that there is no exposure to the organisation in mitigating any potential risk losses."
Conclusion
With continuing market volatility and the associated reductions in available funding, risk managers have to stay firmly on top of their liquidly requirements. Careful system selection that delivers the appropriate reporting tools is an essential component in a successful liquidity risk management strategy - without this in place, there is a real danger of getting caught without the appropriate cashflow required for efficient operation.
Aerice Consulting work with May Gurney/Kier
May Gurney/Kier engage Aerice Consulting to support Local Government transformation programmes.
May Gurney provides integrated construction, engineering and maintenance services. They deliver essential services to their clients' customers. Aerice Consulting have been engaged to work with May Gurney's local authorities clients to help transform key services. This includes the design and implementation of Maximo Asset Management software.