- December 05, 2012
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OCBC eliminates inefficiencies by automating and standardising end-to-end systems
By Esther Tan
Optimisations in risk trade-offs and business strategy help guide Singapore’s OCBC through troubled times during the subprime crisis.
The persistent Euro crisis, as well as political unrest and natural disasters in certain countries, have affected banks throughout the globe. Despite the turbulent operating environment, Singapore’s OCBC emerged relatively unscathed through prudent risk management by optimising trade-offs in their risk appetite and business strategies.
OCBC employs sound risk management to oversee activities that require a fair amount of risk. To achieve this, OCBC regularly refines its risk management approach and works at building a robust risk infrastructure. Portfolio performance is also constantly monitored to maintain an acceptable level of risk through pre-emptive measures, and timely and appropriate responses to risk activities.
During the subprime crisis, liquidity in the financial industry almost vanished as confidence among financial institutions plummeted. Market prices of assets fluctuated temperamentally due to fire sales by banks for highly sought-after liquidity, exposing banks to a large amount of market risk in the process. Basel III guidelines by the Basel Committee on Banking Supervision that came after the crisis significantly impacted banks, especially those requiring banks to pump up liquidity across key geographies.
The increased pressure from both national and regional regulators to have a larger capital buffer contributed to interest rates fluctuation and with the volatile condition of the past couple of years, banks are susceptible to huge market risk. For OCBC, interest rate volatility is core to its market risk exposure.
OCBC’s market risk management committee oversees its market risk strategy and limits by adhering to the bank’s risk appetite and taking into consideration the overall economy and market conditions. To do this, the committee employs various risk methodologies and systems to govern its risk-taking activities. Risk managers also work with the various business units and top management to identify market risks and review limits on a continuous basis, through establishment of risk management objectives, policies and framework supported by bank’s risk tools. Supporting the market risk management committee at the working level is the independent control risk unit market risk management department (MRMD) of the group risk management division. The MRMD supervises risk levels while implementing its market risk management framework for the development of strategies.
The Murex system was implemented as an automated risk architecture to reduce redundant inefficiencies attributed to having too many systems. The regular pricing of products, and methodology when computing profit and loss and risk measures which are enabled by this system, also eliminate duplicate efforts needed for checking and reconciling.
As for intraday activities such as treasury, intra-day project generating systems and measures are employed, forming a new framework for daily end- of-day (EOD) processes. The system aligns intraday and EOD processes, thus streamlining work required for multiple systems. New risk measures capabilities created that were not in the old EOD processes include additional derivatives, Greeks (Theta, Rho, Vanna, Volga and Cross Gamma), cross-currency risks, moneyness, basis and tenor as well as correlation and dividend sensitivities.
Stress testing, value at risk (VaR), back-testing as well as sensitivities including present value of a basis point (PV01) and Greeks are all part of OCBC’s full revaluation risk framework. Under stress testing are four pillars—historical, anticipatory, sensitivity and business-specific stress testing—each designed to allow managers to view portfolios from different angles. Historical scenarios are also enhanced to complement stress testing to better reflect current portfolio dynamics. Stress scenarios need to be constantly enhanced to maintain their relevance to risk goals and market conditions. Thus scenarios created in the past couple of years consist of granular sensitivity matrices, business-specific stress tests for IR and FX portfolios. A periodic testing process at senior management level involving present market conditions and portfolio characteristics have been activated as well. The group risk management division quantifies and assesses probable large losses from extreme market events via the use of stress testing and scenario analyses.
OCBC included the use of sensitivities for daily market risk measurements such as CS01 (one basis point move in credit spreads) and PV01, which measure the change in value of interest rate sensitive exposures resulting from one basis point, since interest rate fluctuation is the main component of market risk. Derivative Greeks for different exposures are utilised to complement methodologies.
As with other banks, VaR is a key market risk measure for specific market risk components such as interest rate risk, foreign exchange risk, equity risk and credit spread risk. OCBC market risk reports 99% VaR based on a one-day holding period using 250 days of historical data. The time period is designed to enable the bank to capture the most recent market events. VaR is reported on a T+1 day basis which is based on full revaluation of the book’s position. Further, market moves are uploaded every day so that VaR scenarios are up to date with the market events.
To tackle criticism of normal distributions not reflecting true market conditions, OCBC’s price portfolios are spread over an empirical distribution of risk factors allowing for non-linearity and non-normal distributions. Apart from asset class VaR, total VaR is computed to capture inherent correlation benefits rather than rely on model assumptions. The ability to perform stressed VaR in accordance with MAS 637 requirements when the need arises has been achieved. Additionally, daily 10-day VaR computation and the segregation of total credit VaR and equity VaR into generic and specific risk components are being built on.
OCBC achieved a robust end-to-end risk system by eliminating inefficiencies and redundant entries in multiple systems, and reducing human errors with the Murex system. As such, manual processes like Excel macros are eradicated as Murex source files are standardised and automated.
With regular back-testing to ensure the consistency of daily computation of trading profit and loss, the integrity of the VaR model is reinforced to avoid circumstances of a huge loss not captured by VaR. The overall risk management is strengthened when internal controls are coupled with the market risk management committee’s expertise and regular reviews of market risks.
The market risk management group can now monitor group treasury’s EOD position at three additional periods (two at static time, and one ad-hoc) aside from the usual view on the trading next day. Moreover, new positions entered into the system by treasury can be assessed for risk within three hours.
The single source Murex system’s competence in consistent pricing of products and risk methodology as well as removing the need to perform redundant reconciliations or investigations has allowed the framework to be exported to all major overseas centres where Murex is now the source system.
Amid constant challenges, OCBC has emerged triumphant, well guided by its strategic leadership in market risk management and by improvising its risk infrastructure. Portfolios are continuously monitored for threats, risk strategies and implementation of pre-emptive measures. Full comprehension of the level of risk is also in place to support and enable business growth. Going forward, OCBC will continue to keep its focus on improving risk management capabilities.
Categories: Basel III, Operational Risk, Risk and Regulation, Singapore, Technology & Operations
Keywords: OCBC, BCBS, MRMD, Murex System, VaR, PV01, Cross Currency Risks, Moneyness, Market Risk