Operational Risk

Question 1

What is operational risk?

Answer 1

In the most general terms, operational riks is all risks which are not banking.

Question 2

What is the definition of Operational Risk according to Basel?

Answer 2

1. Operational risk is defined as the risk of loss resulting from inadequated or failed internal processes, people and systems or from external events.
2. This definition includes legal risk, but excludes strategic and reputational risk.

Question 3

What are some of the Operational Risk factors?

Answer 3

1. Human: errors, fraud, lack of information, incompetence, etc.
2. Information systemts: interruptions, failures, errors, etc.
3. Procedures: inadequate, obsolete, absent
4. External: political, natural, etc.

Question 5

What is the basic approach to establishing operational risk requirement?

Answer 5

OR Capital Requirement = α * positive annual gross income

α = 15%
Gross income = Interest Rate Margin + Net Fee Income + Trading Gains/Losses

Question 6

What is the standardized approach to establishing operational risk requirement?

Answer 6

OR Capital Requirement = Σ_i β_i * positive annual gross income_i

Each business line has a different β and gets its OR capital requirement
It is expected that most in.l banks will choose this system

Question 8

What is the formula for the business indicator used for Operational Risks capital requirement?

Answer 8

BI = ILDC + SC + FC
ILDC (interest, leases and dividend component) = Min[Abs( Interest Income - Interest Expense), 2.25% * Interest Earning Assets] + Dividend Income
SC = Max[Other Operating Income; Other Operating Expense] + Max[Fee Income; Fee Expense]
FC = Abs(Net P & L Trading Book) + Abs(Net P & L Banking Book)

Question 9

How does one calculate the BIC (Business Indicator Component) from the BI (Business Indicator)?

Answer 9

Multiply the BI by alpha, which is different depending on the BI of the company.

Question 10

What are the two managerial approaches to measure the operation risk?

Answer 10

1.Qualitative models
2. Quantitative models

Question 11

What are the steps to the qualitative measurement managerial approach to measure operational risk?

Answer 11

1. Identification of risk factors
2. Risk mapping and loss event database
3. Frequency/Probability
4. Severity