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5 core elements of the risk management agenda for 2021 and beyond

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Covid-19’s impact on risk management and the subsequent lessons in strengthening resilience, managing uncertainty, improving leadership, and adapting to evolving regulatory challenges have sparked an acceleration of transformation-led projects within risk teams. As a result, what are the five core areas of discussion that dominate the risk management agenda in 2021 and beyond? Eleanor Halsey, RiskMinds Editor-in-Chief, explores.

Leadership

Leading in a world of increased uncertainty, market volatility, and emerging risks, how does the Chief Risk Officer stay on top of it all? Examining the types of risks that have arisen following the pandemic and leveraging the many lessons learnt along the way have brought leadership back into focus. Firms want to re-design existing structured and comprehensive approaches in order to strengthen business resilience, and to manage emerging risk frameworks more effectively, whilst ensuring that strong leadership will drive this new dynamic approach forward. Chief Risk Officers across the globe have been grappling with mature risks that have been pushed back into the limelight following the pandemic, whilst also operationalising climate change risk. How can leaders streamline processes more effectively to prioritise risks better? There has been much discussion around how leaders can be more agile, with a focus on improved, tailored communication that will push businesses forward.

In addition to seeing a shift in how leaders are becoming more agile in staying on top of key risks, across the board, organisations are asking: how can we become the leaders of tomorrow? What sets us apart from our competitors? How can we be more customer centric in managing expectations, our reputation, and also improve company culture, embrace diversity, and employee satisfaction? Wider societal expectations are influencing leaders in risk, as well as leaders across the financial services industry, to become more socially conscious, environmentally friendly, and simply encouraging them to do the right thing.

Managing uncertainty

Managing uncertainty has been a key topic of conversation throughout the pandemic with risk managers examining the industry’s response, the lessons learnt from Covid-19, and the induced credit crisis. From a market risk perspective, in addition to the IBOR transition preparations and FRTB framework, risk managers have concerns that the stock market was over-valued by government backing during the pandemic, increasing the risk of defaults. Assessing industry trends for 2021/22 in managing credit risk and the challenges these pose are dominating discussions currently. Towards the end of 2021, there will be further insight into how prices have unfolded and as such, risk strategies will be analysed further.

Questions have also arisen regarding credit risk and systems:

  • how are models advancing given the massive overhang in credit space from government guarantees?
  • how did firms come out of this crisis?

The more mature a market is, the better it can be managed from a risk perspective. However, the crisis highlighted several key areas that need improving. One key focus is on model risk and how models reacted during the crisis. A lot of systemic risk came from failing models and as such, risk managers have been looking at validation, model explainability, discriminations, capital estimation, re-modelling, and predicting how distributions change. Post-pandemic, second generation risk models and emerging risk practices are dominating a lot of debate in the industry.

In relation to models and stress testing, questions around what the model power and performance will be under different conditions are arising, too. What can affect both linear and more sophisticated models? How do risk mangers adjust linear dependencies and organise data sets better within the organisation? Should model risk professionals work in a more agile manner or should certain functions be centralised?

Regulatory changes

Pressure has been mounting on the regulatory and supervision front this year due to the sheer volume and complexity of evolving regulatory challenges, which has unsurprisingly been keeping risk managers busy. Conversations around how the industry can better support regulators and how old-style approaches do not work has been accelerating the push to a more agile type of engagement. This is particularly apparent within technical risk topics, because concerns over banks’ investment into unnecessary areas has suggested that a more tailored level of communication is required. Being on the same journey ensures that regulators truly understand the challenges in banking, while also helping certain projects get prioritised.

Regulatory topics identified as core focus areas for 2021/22 have been centred on how the latest Basel regulatory standards are impacting banks, and where IBOR infrastructure change can be used strategically. In addition to Basel and IBOR, financial disclosures on stress testing, scenario analysis, and ESG risk exposure have been pushed further into the limelight this year and are making a lot of noise on the regulatory agenda. We cannot forget about IFRS 9 either! How did the standard perform during the crisis? This, in particular, has been a key area of debate, alongside digital regulatory reporting.

Climate change risk and ESG

Whilst risk managers’ attention and resources somewhat shifted back to financial risks during the pandemic, the climate risk agenda remains more pressing than ever, as firms must meet core requirements, including both national and government targets. Consequently, we are seeing a huge increase in climate risk-based solutions being offered by service providers and consultancy firms.

ESG ratings, scenario modelling, and incorporating sustainable development into the risk management agenda are key challenges, not only for 2021/22, but for the foreseeable future. We expect to see continued progress with further high-profile pledges made and long-term strategies announced as firms transition their portfolios over to meet the necessary demands of a low carbon economy. Frank and open discussions are required to keep the community engaged for continued progress.

Further challenges over operationalising climate change risk and what role the financial sector needs to play in mitigating climate change risks have been the subject of much debate. For example, how do you assess risk appetite and overcome the difficulties of modelling climate risk in banks? What do boards, businesses, and risk managers need to know and act on? How can firms demonstrate that they are responsible and ethically oriented organisations? These are all debates that are taking place across the industry with an emphasis on sustainable capital generation, transparency challenges, and, more broadly, what more should firms be all be doing. The latter is not only important for the risk management agenda and financial institutions specifically, but society in general.

Technology risk and digital transformation

As the financial services industry continues to digitalise the sector at great speed, major advancements made over the last few years in automation, AI, and machine learning have seen a real shift towards technology as an enabler in reducing costs and driving efficiencies. However, digital transformation is also met with many evolving technological risks to consider. For example, cyber resilience, data risk, customer protection, and vendor risk are still at the forefront of risk managers’ agenda moving through 2021.

Because of the mounting pressure from competitors and all-time high customer expectations, firms are transforming faster to establish a different way of doing banking. Indeed, banks’ increased efficiency led to greater customer satisfaction. However, this also comes with a certain degree of reputational risk, as firms need to ensure the highest level of customer protection, with particular care given to vulnerable customers. With so many digital developments taking place across the industry, to what extent can we measure and (more importantly) quantify risk exposure?

For businesses, the pandemic has arguably generated a greater need for technology-led benefits, both in the risk and cost reduction area. Therefore, strengthening operational resilience took up a huge part of the risk management agenda, which has been analysed closely following banks’ response to the pandemic, with particular reference to how reliant the industry has become on cloud services providers. Although in the past, firms focussed on outsourcing to reduce costs, nowadays, it is recognised that too much reliance on third parties poses several risks, especially around data governance and legislation. These risks prompt the question: is our legal framework keeping pace with innovations?

Share your thoughts and join the discussion at RiskMinds International this December!

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