Revolution in Enterprise Risk Management (ERM)

Any firm that has ever attempted to tackle the issue of obtaining and implementing an ERM framework will understand that the biggest obstacles to this effort are:

1. The controversy of how risk should be measured?
2. The ERM system’s architecture?
3. How diversification benefits should be allocated to strategic business units?
4. How will capital be allocated to the strategic business units?
5. How will profitability (RAROC) be measured?
6. What is the appropriate “Event Horizon:” Single period or multi-period?
7. The enormous time and financial commitment an organization has to make to this process
8. Relativity, i.e., once companies develop their internal ERM capabilities they quickly discover they have nothing to compare their result to (See Benchmarking page)

These ERM issues are particularly sensitive because they will ultimately determine how people will be paid and how corporate resources and influence will be allocated within the company. The more capital that is allocated to any strategic business unit (SBU) the lower will be its return on equity (ROE). ROE is often a key performance indicator in determining how executives get paid. At the heart of these issues lies the uncertainty in the ERM stakeholders’ minds that they don’t know what the final result will render for their particular interest. This uncertainty creates an atmosphere of suspicion and distrust among the company’s managers and decision makers that can often bog down an ERM effort; lead to substantial compromises in its integrity if not completely shelve the project. These suspicions are aggravated by the extensive time it takes for a company to plan and build its ERM. Predyct’s ERM solves the problem of this kind of uncertainty by providing a solution in one day that includes:

• The firm’s total Value at Risk (VaR) score
• Predyct’s ERM provides an entire family of risk metrics that includes: VaR, Tail VaR (TVaR), Incremental VaR (IVaR), Marginal VaR, downside risk and Standard Deviation
• The firm’s risk given the level of capital it holds
• The capital requirement for each strategic business unit and dimension of risk, i.e., interest rate risk, equity risk, etc.
• The risk adjusted return on capital for the entire company and for each business activity
• A complete breakdown of risk into the categories of:
• Interest rate risk
• Credit risk
• ALM risk
• Foreign exchange risk
• Insurance risk
• Catastrophe risk
• Operational risk can be added as a customization

Predyct’s ERM offers complete transparency respecting:

• How each risk is calculated
• Reconciliation of ERM values with the firm’s financial reporting

And if desired:

• The company’s ERM score benchmarked to a group of peers that it chooses

No other system offers an “off-the shelf” solution in one day that provides complete transparency that exceeds the risk measurement requirements of all the major international solvency regimes (Basel II, Solvency II, FSA, Sarbox, rating agency)

What makes this capability possible are Predyct’s data retrieval capabilities that allow Predyct ERM to capture all of an insurance company’s assets and liabilities including the key rate durations and cash flow projections of its asset backed securities (ABS) and mortgage backed securities (MBS) portfolios as well as catastrophe risks and the structure of its catastrophe risk reinsurance.

While Predyct cannot assure its clients that ERM will solve all of the problems associated with a successful ERM implementation, we can assure the client that those problems created by the uncertainty of the result (and they are many) and exacerbated by the protracted time it takes to develop an ERM solution are resolved with Predyct’s instantaneous result.

Even firm’s that are committed to building their own internal ERM will find it useful to initially obtain an ERM result from Predyct Analytics. This will enable management to have an understanding of the likely issues they will be encountering as their own internal ERM systems develop.