Get the latest updates and news from FINCAD. Subscribe and never miss a post! 


Buy-side Risk: From the Few to the Many
By Matthew Streeter CFA | May 16, 2014

It was a well-attended and interesting panel discussion earlier this week at the Harvard Club where buy-side industry leaders came together to discuss some of the biggest regulatory challenges and the road ahead for buy-side risk. This is a timely topic indeed, as we see when looking at some regulations, such as AIFMD. It was mentioned on the panel that 80% of firms are unprepared for dealing with the directive, including the 1-year extension, which expires in two months.
Here are some of the primary takeaways from the evening:

Buy-side risk going from the few to the many - With numerous new regulations coming into play, risk as a discipline is making a transition. In the past, a few firms used it as their competitive advantage to better control costs, generate return, and deploy capital to make better investment decisions. Increasingly, we are finding an environment where risk management and measurement is a broadly followed discipline with associated penalties for not managing risk, resulting in lost investment mandates and lack of inflows.

Technology and innovation for better risk - The Holy Grail for risk managers is risk-based asset allocation and not simply historical returns. There will be an expectation of this going forward as we look at the emerging risk requirements for risk measurement and management. In an unprecedented step, statistics about the fund risk profile are being required. Beyond showing risk factors for VaR, firms need to show risk back testing and to decompose the risk profile for the required granularity.

Cultural change - The financial crisis has had some lasting effects, some of them were negative but some have been overwhelmingly positive. The financial crisis fortunately was able to bring about a closer linkage between risk measurement and risk management. Looking at boards, for example, we can note that today’s boards are adopting risk as an integral part of their operation, and tend to appoint a risk committee.

Where we are coming from - It was noted that historically and even at the current time buy-side risk management for asset managers has been performed at the fund-manager level. Now we are beginning to see an evolution that includes dedicated CRO roles, commonly split duties between quantitative and governance. CROs will increasingly serve as the point person in evaluating if organizations become too complex to be properly risk managed. We see this function evolving from an add-on function to a more centralized role, which includes providing internal and managerial education.

The road ahead – As we look forward, investment risk measurement & management is becoming a more continuous feedback loop, rather than one-off / ad-hoc processes to evaluate risk. This is an environment where we see institutions fighting to establish their institutional credibility, to make lasting decisions and not simply to check boxes and this is across all institution types. Regulations will be more prescribed but a lot will rely on the institutions adopting best and evolving practices. This will be needed for firms to remain competitive in a world where risk premia is more refined; to generate returns and stand out from the pack firms will need to utilize new risk metrics, new technology, and better governance.