Areas of competency
Compliance risk management is a process of internal controls designed to manage and control risks throughout the company. It is imperative to first, identify the types and areas of risks. Compliance risk analysis is carried out, either by the compliance unit of an organization, or in some companies, self-assessment is conducted by the individual business units. The existing controls to detect risk occurrence and minimise loss exposure are subjected to regular checks and monitoring to measure their efficiency. An effective compliance risk framework depends on the execution of efficient controls and monitoring. The success of such a framework would also depend very much on the commitment of the management and the employees.
Reference: http://www.compliancerisk.net/
Deloitte
Operational risk defines the risk that originates from an organizations people and processes. This type of risk accounts for fraudulent activity, mistakes by employees, and even legal risks. Since the implementation of Basel II, creates international standards that regulators can use to mandate capital reserves that banks must set aside to protect against various operational risks that exist for banks. There are three common types of calculations that Basel II calls for in order to calculate operational risk: Basic indicator approach, standardized approach, and the advanced measurement approach. The basic and standardized approaches are relatively straight forward; they calculate capital requirements based on revenue. The basic indicator approach is based on annual revenues while the standardized approach is based on annual revenues by business segments. The advanced measurement technique is a customized approach using a home grown risk measurement platform which adheres to industry standards.
Reference: http://www.mysmp.com/fundamental-analysis/types-of-risk.html
Hedge funds, including fund of funds (“Hedge Funds”), are unregistered private investment partnerships, funds or pools that may invest and trade in many different markets, strategies and instruments (including securities, non-securities and derivatives) and are NOT subject to the same regulatory requirements as mutual funds, including mutual fund requirements to provide certain periodic and standardized pricing and valuation information to investors. There are substantial risks in investing in Hedge Funds. Persons interested in investing in Hedge Funds should carefully note the following:
Hedge Funds represent speculative investments and involve a high degree of risk. An investor could lose all or a substantial portion of his/her investment. Investors must have the financial ability, sophistication/experience and willingness to bear the risks of an investment in a Hedge Fund.
An investment in a Hedge Fund should be discretionary capital set aside strictly for speculative purposes.
An investment in a Hedge Fund is not suitable or desirable for all investors. Only qualified eligible investors may invest in Hedge Funds.
Hedge Fund offering documents are not reviewed or approved by federal or state regulators
Hedge Funds may be leveraged (including highly leveraged) and a Hedge Fund’s performance may be volatile
An investment in a Hedge Fund may be illiquid and there may be significant restrictions on transferring interests in a Hedge Fund. There is no secondary market for an investor’s investment in a Hedge Fund and none is expected to develop.
A Hedge Fund may have little or no operating history or performance and may use hypothetical or pro forma performance which may not reflect actual trading done by the manager or advisor and should be reviewed carefully. Investors should not place undue reliance on hypothetical or pro forma performance.
A Hedge Fund’s manager or advisor has total trading authority over the Hedge Fund.
A Hedge Fund may use a single advisor or employ a single strategy, which could mean a lack of diversification and higher risk.
A Hedge Fund (for example, a fund of funds) and its managers or advisors may rely on the trading expertise and experience of third-party managers or advisors, the identity of which may not be disclosed to investors
A Hedge Fund may involve a complex tax structure, which should be reviewed carefully.
A Hedge Fund may involve structures or strategies that may cause delays in important tax information being sent to investors.
A Hedge Fund may provide no transparency regarding its underlying investments (including sub-funds in a fund of funds structure) to investors. If this is the case, there will be no way for an investor to monitor the specific investments made by the Hedge Fund or, in a fund of funds structure, to know whether the sub-fund investments are consistent with the Hedge Fund’s investment strategy or risk levels.
A Hedge Fund may execute a substantial portion of trades on foreign exchanges or over-the-counter markets, which could mean higher risk.
A Hedge Fund’s fees and expenses-which may be substantial regardless of any positive return- will offset the Hedge Fund’s trading profits. In a fund of funds or similar structure, fees are generally charged at the fund as well as the sub-fund levels; therefore fees charged investors will be higher that those charged if the investor invested directly in the sub-fund(s).
Hedge Funds are not required to provide periodic pricing or valuation information to investors.
Hedge Funds and their managers/advisors may be subject to various conflicts of interest.
Reference:http://www.hedgefund-index.com/
It is defined as the potential loss resulting from declining prices in the financial market.It includes stochastic market risk factors: Interest Rate, FX, Commodity and Equity.There are two drivers of the market risk exposures: Investment Position and Market Volatility (σ).
– Market Risk Management works through several steps including:
– Market Risk Factors Identification
– Sensitivity analysis
– VaR for Market Risk: Riskmetrics (JP Morgan) 94
– Stress Testing and Scenario Analysis
– Economic Capital Adequacy Level
Reference: www.caa.com.bb/files/Aaron_Hou.pdf
Credit risk is most simply defined as the potential that a bank borrower or counterparty will fail to meet its obligations in accordance with agreed terms. The goal of credit risk management is to maximise a bank’s risk-adjusted rate of return by maintaining credit risk exposure within acceptable parameters. Banks need to manage the credit risk inherent in the entire portfolio as well as the risk in individual credits or transactions. Banks should also consider the relationships between credit risk and other risks. The effective management of credit risk is a critical component of a comprehensive approach to risk management and essential to the long-term success of any banking organisation.
Reference: www.bis.org/publ/bcbs54.htm
Idiosyncratic risk (IDIORISK): calculated by LN (1-r2)/r2. Ferreira and Laux (JF,2007) used this relationship to analyze of governance to idiosyncratic risk, specifically board independence and stock price informativeness. By definition, this variable is independent of the market. Ang, Hodrick, Xing and Zhang (2008) find negative association between average return and idiosyncratic volatility.
Bêta: systematic risk of the firm calculated using daily stock over period t. It would be associated negatively with rating. Studies show that firm size has effects on crosssectional returns in particular with book-to-market.
Book-to-market (MTB): ratio of book to market value of equity calculated similar to the Fama and French (1992)’s procedure. Firm with high ratio could be associated with high risk and negative rating.
Author: Paul Klumpes
Source: EDHEC-Risk Institute
The Risk Analyst 