Today, the practice of financial services risk management has become increasingly sophisticated, relying on an ever-increasing number of mathematical and statistical approaches. Over time, Value-at-Risk (VaR) analysis has become a must-have for investment and commercial banks to measure and mitigate their risk exposure.
VaR has become popular due to its flexibility. It could be applied to a single given position, to entire portfolios, as well as to the broader risks of the institution. However, VaR and other risk models have shown their limitations in recent years. Standards such as the Fundamental Review of the Trading Book (FRTB) have been proposed to further improve financial services risk management and provide institutions with uniform benchmarks for more accurate comparisons.
Faced with all these developments, updating risk management solutions is essential. Banks and other lending services can no longer hope to effectively control their risk exposure unless they move to a contemporary risk management system that takes into account all these recent changes.
Here are some of the features that no modern credit risk management solution should be without.
Meeting the challenges posed by the Fundamental Review of the Trading Book (FRTB)
Any software acquired for financial services risk management must be able to accommodate the various FRTB requirements and challenges out of the box. This ensures less hassle and better reliability when performing complex risk calculations compared to ad-hoc FRTB compliance solutions. This will be especially important for institutions choosing to implement the Internal Models Approach (IMA) given the immense computational requirements involved.
In addition to requiring new computational models, FTRB also has requirements for data governance, storage, and cleansing. Purchasing a solution that is already pre-configured and fully optimized for all FTRB requirements reduces the risk of fundamental errors, delays and failures while saving time compared to customizing an older system that does not not natively support the standard. This will also ensure full compliance with the FTRB and other relevant standards.
Supports multiple models
FRTB and IMA are not the only models used in risk management. Financial services risk management software should also be able to run VaR and other models to validate calculations and give analysts and managers a more nuanced understanding of market risks. Ideally, the system should also be flexible enough to use any risk calculation model required by the institution’s analysts.
Mitigate current and future market risks
The core functionality of risk management solutions should not be compromised. The system should also be able to identify a full selection of risk factors and allow users to fully define different risk criteria that could be run in the different risk analysis models. Additionally, the software should allow users to assess risks with any level of granularity they require.
These characteristics are necessary to provide decision-makers with a well-nuanced view of the credit risk presented by entities of all sizes at different levels. This potentially allows for better risk management across a wider selection of clients.
Additionally, more advanced features such as simulations and forecasts should be included to help analysts and managers understand different potential scenarios. These could leverage data from the risk management system as well as other parts of the institution for a better understanding of potential risk exposure.
Integration with current facility systems
Following on from the previous point, system compatibility is a must when looking for a new risk management solution. Traditionally, data was often highly siloed, making it difficult to get a complete picture of an institution’s financial condition. Experiences from the previous generation have shown that the ability to leverage “big data” can be a game-changer for institutions engaged in financial services risk management.
Being able to instantly have relevant information available to everyone in the organization who needs it eliminates the need to manually process data, improving data transparency and accuracy. It also allows traditionally separate departments such as sales and customer relationship management to fully synergize with credit risk managers, reducing cross-departmental friction and enabling better service.
Scale according to the needs of the establishment
Financial institutions do not operate in a static environment. For this reason, systems must also be easily scalable to meet the needs of the facility. This way, a sudden expansion or downsizing will not render the chosen risk management solution inadequate or unduly expensive.
Today, the most common way to provide scalability is to use SaaS solutions that allow hosting on an offsite server. To scale up or down, an institution just needs to choose a more suitable subscription plan. In addition, it has the advantage of allowing the institution to locate where it needs to without having to maintain a large financial IT team.
It’s time to update your credit risk management solution Changes in the credit risk environment have time-limited the viability of many commonly used risk management solutions. Fortunately, upgrading to a better system is easier and more convenient than ever. Additionally, institutions that obtain modern credit risk management solutions not only mitigate threats but also improve their overall competitiveness in a rapidly changing marketplace.
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