Evolving from a Plain Vanilla to a State-of-the-Art Model

Rafael Cavestany

Previous chapters have described the components of a state-of-the-art operational risk capital model. However, institutions generally start with much simpler models and progressively evolve by adding the analytics required for much more realistic and forward-looking capital estimates. In this chapter we look at the progressive steps that an institution may take to evolve the model from plain vanilla to fully developed.

The process of building a state-of-the-art operational risk capital model that accurately reflects a forward-looking risk profile has various phases, which include an initial regulatory approval of the capital model. Although there is no equal case in how an institution arrives at a fully developed capital model, Figure 10.1 represents a common path.

Figure 10.1

Along the implementation of a mature operational risk capital model, institutions pass by different typical model development stages, which are summarised in this chapter and are based on the experiences of the authors. The capital model enhancement drivers are the understanding and automation of the required analytical processes, as well as the integration of the capital results into daily management. The last in

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