MSRM Class of 2014 student, Dante Disparte compares the structural balancing act between risk management in finance versus the manufacturing context in a recent article titled, “3D Risk Management: A Survivorship Framework.”
Dante currently serves as the managing director of Clements Worldwide, a leading risk management firm and insurance brokerage serving customers in more than 180 countries. Based in Washington, D.C., he is a specialist in risk reduction through the design and delivery of comprehensive insurance solutions of worldwide scope. Dante is credited with designing the world’s first card-based life insurance program for the United Nations, a plan that placed more than a half billion USD of risk with the markets in more than 140 countries in 12 months. This innovation was heralded as one of the top product innovations of 2011 by the MENA Insurance Review.
The following is an excerpt from the 3D Risk Management article:
For most firms risk management is a necessary evil, increasingly consigned to being an adjunct to compliance, finance and other so called “business prevention” functions. Non-financial firms traditionally address risk through a series of transfer mechanisms, such as insurance, self-funded vehicles or they merely absorb unforeseen losses with their earnings. The financial sector, on the other hand, applies sophisticated statistical methods in a form of speculative risk management that captures the upside and the downside of risk-taking. These approaches are used to calculate value at risk (VaR), regulatory capital and other internal and external risk measures. Many of these methods, however, are based on backward looking book values and a permissive fox watching the chicken coop environment, wherein financial institutions often develop their own internal risk metrics with loose guidance from regulators.
The frequency of potentially preventable losses, along with the calamitous effects of black swans, suggests that quants not only need qualitative tools in their arsenal, they need structural alternatives to one-dimensional risk management. This one-dimensional structure often misses the mark and can suffer from confirmation bias in that centralized risk managers who look for trouble, may in fact find it by chasing misleading risk signals. JP Morgan, long considered a best practitioner in banking risk management, missed the London Whale’s transgressions, despite some fairly obvious warning signs1. Under the first dimension, even though many firms like JP Morgan install ‘native’ Chief Risk Officers (CROs) in their business lines, these individuals are often marginalized and kept on a need-to-know basis. This has the placebo effect of creating a false sense of comfort that risks are being managed, when in reality often excessive risk-taking behavior is carried out in the CRO’s line of sight. The latency and backward orientation of traditional risk measures often negates proactive controls and when the smoke begins to rise, it is often too late.
Read the entire 3D Risk Management article here.