The Future of Bank Risk Management: Preparing for Change
In our previous installment, we listed the six trends that are shaping the role of risk functions in banks. These trends suggest a vision of a high-performing risk function within a few years. Risk management will need to be a core part of banks’ strategic planning, collaborate closely with businesses, and act as a center of excellence in analytics and de-biased decision making. Its ability to manage multiple risk types while complying with existing regulation and preparing for new rules will make it more valuable still, while its role in fulfilling customer expectations will probably render it a key contributor to the bottom line. However, for most local banks, their risk function is some way off from being able to play that role.
Ideal attributes of risk function in banks
The optimal risk function process would have the following qualities and capabilities:
Full automation of decisions and processes with minimal manual interventions
Increased reliance on advanced analytical models to de-bias decisions
Close collaboration with businesses and other functions to provide a better customer experience, de-biased decisions, and enhanced regulatory preparedness
Strong advocacy of corporate values and principles, supported by a robust risk culture that is clearly defined, communicated, and reinforced throughout the bank
A talent pool with superior advanced-analytics capabilities
Risk Management Initiatives
To put all this in place, banks will need to transform their operating models. Although they cannot prepare for every eventuality, initiatives can be implemented that will bring short-term business gains while helping build the essential components of a high-performing risk function over the next few years. Here are some examples of such initiatives that can be launched immediately:
1. Digitize core processes.
Simplification, standardization, and automation are key to reducing nonfinancial risk and operating expenses. To that end, the risk function can help speed the digitization of core risk processes, such as credit applications and underwriting. Increased efficiency, a superior customer experience, and improved sales will likely be additional benefits.
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2. Experiment with advanced analytics and machine learning.
In the same vein, risk functions should experiment more with analytics, and particularly machine learning, to enhance the accuracy of their predictive models. Risk functions can be expected to use these models for a number of purposes, including financial-crime detection, credit underwriting, early-warning systems, and collections in the retail and small-and-medium-size-enterprise segments.
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3. Enhance risk reporting.
Ever-broader regulation and the need to adjust to market developments require rapid, fact-based decision making, which means better risk reporting. While regulatory requirements have already done much to improve the quality of the data used in risk reports and their timeliness, less attention has been given to the format of reports or how they could be put to better use for making decisions.
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4. Collaborate for balance-sheet optimization.
Given regulatory constraints, balance-sheet composition is arguably more important than ever in supporting profitability. The risk function can help optimize the asset and liability composition of the balance sheet by working with finance and strategy functions to consider various economic scenarios, regulation, and strategic choices. How prepared would the bank be, for example, if the loan portfolio were contracted or expanded? Such analyses, optimized with analytical tools, can help banks find ways to improve returns on equity by 50 to 400 basis points, while still fulfilling all regulatory requirements.
5. Build a strong risk-management culture.
The detection, assessment, and mitigation of risk must become part of the daily job of all bank employees and not only those in risk functions. With automation and more sophisticated analytical and technical capabilities, human intervention is needed to ensure appropriate and ethical application.
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The risk function will have a dramatically different role by 2025. To get there, needed changes will take several years, so time is already short. The actions recommended here can equip the risk function with the capabilities it needs to cope with new demands and help banks excel among its competitors.
Source: McKinsey.com
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