Banks Experimenting With Op Risk Methodologies, Says BIS Survey

ZURICH--Banks are beefing up internal controls and experimenting with methods to quantify operational risk, according to a report on operational risk management released by The Basle Committee of the Bank for International Settlements (BIS). The report stems from a series of interviews that the committee conducted with some 30 banks.

Many banks are working towards developing a methodology to quantify operational risk, says the report. However, it says thus far the methodologies are "relatively simple and experimental". The report suggests an industry standard for operational risk measurement is difficult to establish because operational risk is institution-specific.

Most of the banks developing operational risk systems rely on risk factors that provide some indication of the likelihood of an event occurring, says the report. To devise a comprehensive methodology for quantifying operational risk, these risk factors are related to historical loss events.

Some banks have begun collecting data on external loss experiences and have created a proprietary database, adds the report. These banks are examining how actuarial-based insurance methods might be applied to operational risk measurements.

Technology Efforts

Industry observers note the software industry is taking a similar approach. NetRisk, the Connecticut-based software and risk consultancy firm is developing a technological operational risk solution dubbed RiskOps (Derivatives & Risk Technology, June 22). The software will collect public and private operational loss data from a consortium of banks, which will then be collated to create a statistical distribution of loss levels.

Banks are increasing spending on operational efforts and assigning specific responsibility for operational risk oversight in new or existing risk management units, says the report. Deborah Williams of Massachusetts-based Meridien Research predicts that spending will continue to increase in 1999, but very slowly.

"Banks have too many other things to worry about right now, like Year 2000 and the euro. Though industry focus has shifted from market to credit risk, it will probably be another 18 to 24 months before it shifts to operational risk," says Williams.

Op Risk Insurance

According to the report, banks are looking to insurance and reinsurance products as provisions against operational risk losses. Swiss Re has just teamed with NetRisk to further develop RiskOps and create insurance-based hedging instruments for operational risks (RMO, November 16).

Earlier this year, UK-based Lloyds of London sold its first insurance policy that provides institutions with coverage against the risk of unauthorized trading by employees (RMO, February 9).

Industry observers note similar efforts being taken by the insurance industry to protect against credit risk-related losses. Washington-based ICI Mutual Insurance Company has just announced the immediate availability of a new insurance product designed to protect money market funds against losses due to payment defaults, issuers' insolvencies and other credit-related events affecting the fund portfolio's securities.

The money market bond fund, as it is called, will be issued by ICIM Reinsurance Company, a subsidiary of ICI. The product may be purchased with liability limits of up to $100 million, says a spokesperson for ICI.

The BIS report on operational risk says all banks are beefing up internal controls and audits to mitigate operational losses. Earlier this year, the Basle Committee issued a report, Framework for Internal Control Systems in Banking Organisations, describing the essential elements of a sound internal control system and providing a framework for a supervisor's evaluation of internal controls (RMO, January 26).

The BIS document has been published on its World Wide Web site, located at http://www.bis.org.

--Adriana Saraceni

Only users who have a paid subscription or are part of a corporate subscription are able to print or copy content.

To access these options, along with all other subscription benefits, please contact info@risk.net or view our subscription options here: http://subscriptions.risk.net/subscribe

You are currently unable to copy this content. Please contact info@risk.net to find out more.

Most read articles loading...

You need to sign in to use this feature. If you don’t have a Risk.net account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an individual account here