Chapter 26: RIsk identification and classification

Question 1

List techniques available to identify risks (5)

Answer 1

1. Get input from everyone in the organisation, at all levels, e.g., senior management is not aware of weaknesses in the operating model juniors might be aware of.
2. Use classification to ensure all risks have been accounted for
3. Use risk checklists as used by regulators
4. Use staff from a similar organisation
5. Use project management techniques

Question 2

What are the 5 steps to identify risks in a project?

Answer 2

1. Carry out a high-level preliminary analysis to identify if the project should go further
2. Brainstorming session with experts
3. Carry out a desktop analysis to supplement the brainstorming, e.g., consider similar projects by competitors
4. Consulting experts, along with an option on financing
5. Risks identified are stored in a risk register or risk matric

Question 3

What is the expected outcome of a brainstorming session? (4)

Answer 3

• Identify likely and unlikely risks along with their upside and downside
• Discuss the interdependencies of risks
• Likelihood and consequence should risk occurring
• Mitigation options for these risks

Question 4

What are the six main categories of risks?

Answer 4

1. Market risk
2. Credit risk
3. Liquidity risk
4. Business risks
5. Operational risk
6. External risk

Question 5

What are the 6 causes if risk?

Answer 5

1. Political
2. Natural
3. Economical
4. Crime
5. Projects
6. Business

Question 6

What is market risk?

Answer 6

Market risk is related to changes in investment market values or other features correlated with investment markets, e.g, interest or inflation rates. In particular, risks that cause

Question 7

What is the consequences of market risk?

Answer 7

1. Changes in the value of assets
   * Changes in the market value of equities/property
   * Changes in interest and inflation rates
2. Changes in the value of liabilities
   * Liabilities linked to the investment markets/interest rates
   * Changes in provisions due to changes in the discount rate used in valuations
3. Misamatiching assets and liabilities

Question 8

What is credit risk?

Answer 8

Failure of third parties to meet their obligations

Question 9

What is liquidity risk?

Answer 9

Liquidity risk can refer to:

• Individual or company liquidity risk. This refers to not having sufficient financial resources available to meet obligations as they fall due
• Market liquidity risk, where the market does not have sufficient capacity to handle the volume of an asset being traded without adversely impacting the price

Question 10

How is liquidity risk addressed in banking?

Answer 10

LCR (sufficient high-quality liquid assets) and NSFR (address liquidity mismatch between assets and liabilities)

Question 11

What is the difference between marketability and liquidity?

Answer 11

Marketability refers to how easy assets can be bought or sold

liquidity refers to how quickly assets can be bought or sold

Question 12

What is business risk?

Answer 12

The risk relating to the business being undertaken

Question 13

What are 3 categories of business risk?

Answer 13

1. Underwriting risk
2. Insurance risk: More claims occurring than expected
3. Financing risk: More business is being undertaken thus encountering higher new business strain than expected
4. Exposure risk: More exposure to a certain concentration of risks than expected

Question 14

What is the operational risk?

Answer 14

Operational risks related to the inadequate or failed internal processes, people or systems or from an external event

Question 15

What is included under operational risk

Answer 15

1. Conduct risk: Poor conduct to customers
2. Dominance risk: Dominance of a single individual in the business
3. Reliance risk: Reliaing on a third party to carry out a specific function
4. Failure of plans in place to mitigate external risks

Question 16

What is the external risk?

Answer 16

Risks arising from an external event such as:

• Storm
• Fire
• Flood
• Terrorist attack
• Regulation changes
• Tax changes
• Pandemic
• Climate change

Question 17

What are the three types of climate risks?

Answer 17

1. Physical climate risk: Relates to the direct impact of climate change such as sea levels rising, extreme weather or air pollution
2. Transition risk: Relates to economic, political and market changes arising from the effect to mitigate climate change, e.g., moving from fossil fuels to greener energy sources
3. Climate liability risk: Arises when those affected by climate change seek compensation, such as health conditions cause by climate-related conditions

Question 18

When does an external risk become an operational risk?

Answer 18

When there is a failure to mitigate external risks