Changing the Organizational DNA – The Spread of Risk Culture Sekhar Thodla Independent Professional Member – Board Governance Committees, National Bank of Fujairah Strategic Advisor – Finesse Global November 2014 The views expressed in the following material are the author’s and do not necessarily represent the views of the Global Association of Risk Professionals (GARP), its Membership or its Management. 2 A few Quotes on Risk Management to set us off……….. Better to have a simple model backed by excellent people than the other way around. Paul Carrett "Nothing will ever be attempted, if all possible objections must be first overcome." -- Samuel Johnson "It’s impossible that the improbable will never happen." Emil Gumbel (Il est impossible que l’improbable n’arrive jamais, in Statistics of Extremes, 1958.) 3 | © 2014 Global Association of Risk Professionals. All rights reserved. And a couple of funny but far reaching thoughts…… DILBERT by Scott Adams 4 | © 2014 Global Association of Risk Professionals. All rights reserved. Risk Defined The ISO 31000 (2009) / ISO Guide 73:2002 definition of risk is the 'effect of uncertainty on objectives'. In this definition, uncertainties include events (which may or may not happen) and uncertainties caused by ambiguity or a lack of information. It also includes both negative and positive impacts on objectives. Many definitions of risk exist in common usage, however this definition was developed by an international committee representing over 30 countries and is based on the input of several thousand subject matter experts 5 | © 2014 Global Association of Risk Professionals. All rights reserved. Risk Management …. A Natural Process 6 | © 2014 Global Association of Risk Professionals. All rights reserved. Milestones in the history of Risk Management 1730 First futures contracts on the price of rice in Japan 1864 First futures contracts on agricultural products at the Chicago Board of Trade 1900 Louis Bachelier’s thesis “Théorie de la Spéculation”; Brownian motion 1932 First issue of the Journal of Risk and Insurance 1946 First issue of the Journal of Finance 1952 Publication of Markowitz’s article “Portfolio Selection” 1961-1966 Treynor, Sharpe, Lintner and Mossin develop the CAPM 1963 Arrow introduces optimal insurance, moral hazard, and adverse selection 1972 Futures contracts on currencies at the Chicago Mercantile Exchange 1973 Option valuation formulas by Black and Scholes and Merton 1974 Merton’s default risk model 1977 Interest rate models by Vasicek and Cox, Ingersoll and Ross (1985) 1980-1990 Exotic options, swaptions and stock derivatives 7 | © 2014 Global Association of Risk Professionals. All rights reserved. Milestones in the history of Risk Management - Continued 1979-1982 First OTC contracts in the form of swaps: currency and interest rate swaps. 1985 Creation of the Swap Dealers Association, which established the OTC exchange standards 1987 First risk management department in a bank (Merrill Lynch) 1988 Basel I 1997-1998 Asian and Russian crisis and LTCM collapse 2001 Enron bankruptcy 2002 New governance rules by Sarbanes-Oxley and NYSE 2004 Basel II 2007 Beginning of the financial crisis 2009 Solvency II (not yet implemented in April 2013) 2010 Basel III Risk management: History, definition and critique 6 September 2013 Georges Dionne 8 | © 2014 Global Association of Risk Professionals. All rights reserved. The Impact of Cultures on Risk Management The Adventurous Types The Impulsive and Emotional Types The Calculative Types The Conservative Types ………. And a whole lot of combinations in between………. 9 | © 2014 Global Association of Risk Professionals. All rights reserved. The Lewis Model – The Coming together of Cultures 10 | © 2014 Global Association of Risk Professionals. All rights reserved. Age of Globalization and Risk Management “The challenge is to not only deal with management of risks confronting every decision and action of the organization but to manage it in multi-ethnic, multicultural and multi-language environments” 11 | © 2014 Global Association of Risk Professionals. All rights reserved. Lessons from the past - Case Studies Revisited Throw-Back to Barings!! Classic Cultural Clash!!! • Misplaced Trust – Acceptance (“Greed Blinds You”) • Cultural mismatch – Conservative bank getting “Adventurous” • Gamblers’ syndrome – I can make it up in my next bet!! • Structural anomalies – Conflicting responsibilities • Small but dangerous signals overlooked • And of course, …. Very little understanding of risk-reward relationship • Paid the price many times over 12 | © 2014 Global Association of Risk Professionals. All rights reserved. Lessons from the past - Case Studies Revisited (Continued) ENRON – Going up in smoke!! • Loophole fully leveraged • 3% SPE rule • Fraudulent accounting and dubious business practices • Complex web of deals and structures to confuse/cheat • Conniving management – you can rarely stop this bomb from exploding • Blinded – Auditors, Bankers and so on………. • And seriously look at the connected entities names: • JEDI, CHEW CO, Big River, Little River?? 13 | © 2014 Global Association of Risk Professionals. All rights reserved. And the Risk Management Function? Incidentally, did anyone find a reference to risk management function in any of these cases? 14 | © 2014 Global Association of Risk Professionals. All rights reserved. Classical Risk Management Structure Board of Directors Board Committees Risk Management Function The Management Committees The Risk Function sits right at the center of the classical “Three Tiers of Defense” Model 15 | © 2014 Global Association of Risk Professionals. All rights reserved. Increasing Expectations from the Risk Management Function • Legislative actions across the globe • Recommendations on best practices in corporate governance • Regulatory requirements • Spreading awareness through corporate awards and recognitions • Stakeholders understanding and expectation management • Understanding and revamping the risk culture • Common understanding of the objectives but diversity in methods to achieve the same – Need for harmonization 16 | © 2014 Global Association of Risk Professionals. All rights reserved. Do you really see everything? The Match Stick Trick!! 17 | © 2014 Global Association of Risk Professionals. All rights reserved. Hurried views – Being hustled into taking decisions - Confronted with a situation for the first time - All factors have not sunk in - Mind searches known bits of data - Urge to be the first to crack it - Views/ Decisions: Unknowingly hustled - Mind assimilates, categorizes and decides - Jump to the first option that fits known logic 18 | © 2014 Global Association of Risk Professionals. All rights reserved. Tackling the Risk Culture Survey Involving Participants?! 19 | © 2014 Global Association of Risk Professionals. All rights reserved. Setting the tone Tone at the Top • How high is the top? • Actions, and not merely words, need to convey the message • Generating the ground-swell • Keeping up the momentum • Training, training and training 20 | © 2014 Global Association of Risk Professionals. All rights reserved. Creating the ground-swell and keeping up the momentum Identify the • The Thinkers • • • Knowledgeable Understand the risk scenario Come out with plans and processes • The Drivers • • • Dynamic Experts in taking the changes through The models to follow • The Catalysts • • Passive, but….. Enablers 21 | © 2014 Global Association of Risk Professionals. All rights reserved. The impact of proper induction Induction is not restricted to • On the job training • An HR run show • Something that is delegated to “people who can be spared” Induction is (among other things) • Imbibing the culture • Setting the tone on what the organization stands for • Making employees understand the culture of the organization • Be it in risk management • Be it in behavioral standards • Be it in acceptable quality of output and so on 22 | © 2014 Global Association of Risk Professionals. All rights reserved. We dealing with what and how but do we say “why”? An extremely important aspect of changing the organizational DNA Employees are trained on “what” to do • • • • Job descriptions Roles and responsibilities Objectives Targets and the like Employees are trained on “how” to do • • • • Process run-throughs Standard operating procedures Step-by-step task accomplishment System usage and the like Do we ever seriously pay enough attention to training on the “Why”? 23 | © 2014 Global Association of Risk Professionals. All rights reserved. The “Why” way to risk culture development Broad steps: • Identify all critical processes • Document the step-by-step process • Identify all the control points in the process • Against each control point, document the reason why the specific control/ check is required • If possible, reference reasons to case studies (Nothing sticks better than a story!) • Progressively build this discipline across all processes within the organization Once the understanding of why a certain control is being exercised, risk awareness develops at the lowest level. 24 | © 2014 Global Association of Risk Professionals. All rights reserved. Concluding thoughts Top-down and bottom-up approaches do not work in isolation On the contrary, they complement each other The top-down approach has the advantage of “authority” behind it • Easy to get the message that the tone is set at the top • Desired impact is easy to achieve The bottom-up approach gets the necessary buy-in from the lower levels early on Through the combined efforts of the Thinkers, Drivers and the Catalysts, the desired organizational change is easy to achieve Both approaches are essential to achieve the desired objective 25 | © 2014 Global Association of Risk Professionals. All rights reserved. THANK YOU Questions & Answers 26 | © 2014 Global Association of Risk Professionals. All rights reserved. C r e a t i n g a c u l t u r e r i s k a w a r e n e s s ® o f Global Association of Risk Professionals 111 Town Square Place 14th Floor Jersey City, New Jersey 07310 U.S.A. + 1 201.719.7210 2nd Floor Bengal Wing 9A Devonshire Square London, EC2M 4YN U.K. + 44 (0) 20 7397 9630 www.garp.org About GARP | The Global Association of Risk Professionals (GARP) is a not-for-profit global membership organization dedicated to preparing professionals and organizations to make better informed risk decisions. Membership represents over 150,000 risk management practitioners and researchers from banks, investment management firms, government agencies, academic institutions, and corporations from more than 195 countries and territories. GARP administers the Financial Risk Manager (FRM®) and the Energy Risk Professional (ERP®) Exams; certifications recognized by risk professionals worldwide. GARP also helps advance the role of risk management via comprehensive professional education and training for professionals of all levels. www.garp.org. 27 | © 2014 Global Association of Risk Professionals. All rights reserved.
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