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Posts Tagged ‘Risk Management’

Do Indian insurance market need a professional CRO forum?

In Finance, Legal, Risk Management, Uncategorized on January 18, 2016 at 3:01 am

Recently, I interviewed CRO’s and senior management of Indian and UK insurance companies and found that most of UK insurance companies CROs often discuss risk related matter locally every month and at least attend two international CRO forums/institutes such as GARP, IRM or CRO forums at London market every year. They have also attended many risk certifications and top risk trainings. Surprisingly, I found rarely any CRO in India discuss risk related matters at local level and very occasionally they attend international level forums.

Decision Making Process, Risk Management

A CRO forum is a group of professional risk managers and CRO developing and promoting industry best practices in risk management. It is a platform where CRO’s can join together and discuss their issues. Recently, there is an increase in financial investments by foreign partners of many Indian insurance companies such as Standard Life, Aviva, AXA, Tokio Marine and Bupa. Efficient risk management is one of the most crucial aspect by these giant foreign MNC’s. India is emerging insurance market and there is high potential for growth.

Insurance companies in India are managing risk in their own silos from long time. Currently, there is no common forum where insurance companies can discuss their problems in managing risk and improve awareness about emerging risks. A platform is needed where foundational information can be provided on how to adopt and implement robust risk frameworks. A common pool of funds needed for research for setting examples of best practices and learning from mistakes. Perhaps, a Centre for Risk Governance would be best option.

Risk management implementation has to be enhanced at local, national and international level but how that remains an open question. Visibility of benefits of improving risk management practices are not short-term. Without enough capital, training of senior management in risk management is practically impossible. In such scenario, a CRO forum can play a promising role in uplifting Indian insurance industry risk management expertise. This is a need of hour.

Building trust and sharing data pose another challenge. Does it risk the reputation of insurance companies? Think of positive side, if it could be possible to have a forum where we can discuss risk related issues, enhance risk capacities and embed risks into strategic decision making, it would be few of the most desired objective for the companies. This obviously, require a professionally managed CRO forum with independent governing body.

Kindly share your views.

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Why Understanding of Risk Management is Important for Managers?

In Uncategorized on September 17, 2015 at 4:25 am

Understanding of risk is complex which scare people to develop its understanding. Michael Power, Professor of London School of Economics (LSE), has brought attention to different boundaries of risk management from ‘Risk Management of nothing’ to ‘Risk Management of Everything’. This can be interpreted: one cannot totally avoid the risk management and cannot claim to include all existing risk. Inclusion and exclusion of risk depends upon the understanding of risk itself within management.

In this blog, first I will discuss what a manager is supposed to do and why he/she faces dilemmas in management of risks. Then how those dilemmas can be tackled through better understanding of risk management.

A manager does not supposed to do all work by himself/herself rather he/she engage in planning, organising, directing and controlling. The management major role is to enhance motivation of the team to deliver work in timely and effective manner with agreed quality to achieve organisational objectives.

Risk navigation can be a tight rope walk

Several questions arise when management process actually followed during practice at grassroot level.

  1. How to estimate the risks during planning of management activities
  2. How to organise work so that it can get complete on time with agreed quality without operational errors?
  3. If I pass on the information to my colleagues, how I will make sure it is understood same and performed in the same manner as directed?
  4. There is a likely chances of realizing a gap between the expectation set and the actual results? How to control the risk to achieve organisational objectives?

Management knowledge of risk should not only confined to resolving dilemmas but also to enhance strategies. A better planning, organising, directing and controlling can only be achieved if management understand their own risks. For example, if a company would like to construct a building and have experience of 5 years. The company recorded its own risks for example 100 risks related to construction in particular geography and use industry risk data. This company can better estimate the risk from a new company in the market having no experience of handling construction risks.

All companies face operational errors whether they are large or small. Understanding of the operational risks can make safety systems more profound and robust to deal with possible errors. It is observed that corrections of errors do not pose much issues rather repetition of errors make blunders and cause failures.

The understanding of risks also support managers to grow in their career path. Board of the director, CEO of the company has to deal with risks at strategic level which have higher impact though, general management has to face only day to day risks. Expectation of understanding of risk from an agent of the company and director would be substantially different. Risk Management is an important part of Management at all level and cannot be separated. Don’t, get frighten from risk just learn to deal with it, the benefits will follow you.

“A ship is always safe at the shore – but that is NOT what it is built for.” – Albert Einstein

Multiple Interpretation of Risk and Uncertainty

In Uncategorized on March 5, 2015 at 3:28 pm

Risk deals with syndrome of multiple interpretations and boundary less. Through this blog, I would like to clarify few terms associated with risk and uncertainty.  

Risk and loss: We usually relate risk with loss.  Loss is a common experience that can be encountered many times during a lifetime by losing someone or something or that result in disadvantage. A common difference between a loss and risk is former results only in negative consequence while risk may have positive or negative consequences though, people often forget benefits out of taking good risks.

Perils and Hazard:  Hazard arises from the material, operational, or occupational characteristics of an insured property. It is a substance for which there is valid evidence that it is combustible, compressed, and explosive or water (moisture) reactive. Though, a peril is something that can cause a loss. Examples include falling, crashing your car, fire and lightning while a hazard is any condition or situation that makes it more likely that a peril will occur.

A hazard may be Physical hazards, like smoking, or skydiving or Moral hazards (most of which are avoidable), like dishonesty for example burning down the stocks in the godown when your company goes bankrupt to collect insurance money or buying insurance on someone with yourself as beneficiary and then killing them or Morale hazards, like a careless attitude since “insurance will pay for it.” Simply put, hazards are the circumstances or source of potential damage whereas peril is a serious or immediate danger.

Insurance companies deals with small, medium and large risk of individuals and corporate. They use plethora of such terms very frequently which is often confused by many. A most classic example is “what is difference between risk and uncertainty”.  Insurance companies are happy to insure predictable risk which should not certainly happen.  

Interpretation 1:  Unpredictable risk cannot be insured. 

Interpretation 1: Unpredictable risk cannot be insured

Interpretation 2:  An uncertainty is insurable or not? For example natural disaster are predictable and unpredictable both – so, some are insured whereas all cannot be insured.

Interpretation 3: The risk which will certainly occur after a period of time or after an event, is also not insurable.

Interpretation 4: Risk has its own characteristics so do the loss.

Interpretation 5: Insurance is more dependent upon perils though, premium rate varies significantly on the basis of hazards.

There can be many more. Understanding of risk and uncertainty is highly debatable so do its measurability and immeasurability. A possible reason for multiple interpretation can be Risk viewed from multiple perspectives. This makes subject interesting however, it appears more complex if seen holistically.

Does Enterprise Risk Management add any value to traditional risk management?

In Uncategorized on April 27, 2014 at 12:06 pm

There has always been a debate over the requirement of ERM specialist when the same work can be done by a risk manager in traditional organisations.  The debate poses questions in our mind – Does ERM make any sense in cost benefit analysis? and How to check that risk is truly embedded in the organisation?

There is high cost, time and money involved in implementation of ERM while under traditional risk management, each unit manager is responsible to manage their own unit risk.  Traditional risk management does not provide interaction among the various risks which is seriously reflected in corporate decision making. It is a small example of how corporate fails if they don’t understand the problems and risks within their own units. This lead to genesis of idea of ‘Enterprise Risk Management’. ERM is an umbrella term which considers all risks in the organisation in holistic manner and helps companies to achieve their objectives within their risk appetite.

The next question that needed to be addressed is What is the right time to implement ERM? The industry realize the value of ERM only in hard times when some CAT event happen, or major regulatory penalty occur. These event wipe out major reserve of the insurance companies if not adequate risk management has been taken care of.  In hard market, the corporates have no money or very less money to spend on procedure for implementation of ERM, so, it is only the good time (soft market), when companies can invest on implementation of ERM.

In the last few weeks, I have visited many insurance companies in Indian insurance market and found that they are still in the position of understanding the value of ERM.  ERM has only positive and negative aspect – if perceived value of ERM is not understood, it will be looked certainly as a cost to the company and if understood it creates efficiency and reduce cost. The common and most adopted approach is defensive approach to tick mark the risk management options which is required by the regulatory bodies. Other developed markets have learnt their lessons in recent financial crisis and realized the value of ERM but now they face problem of understanding of ERM and benchmarking. My next blog will discuss the stages of development of risk management throughout the world. 

Feel free to contact me for any consultation or discussion of ERM in your organization. “ruchi(dot)agarwal at-the-rate cgpworldwide.com” 

Risk learning and ERM go hand in hand

In Uncategorized on October 8, 2013 at 8:52 pm

It is well said by no other than Warren Buffet: Risk comes from not knowing what you’re doing.” 

Enterprise Risk Management is a holistic view to risk management. It involves top management, board of directors in making strategy within the risk appetite of the organization which leads to fulfilment of organizational objective. The definition looks complex but it is based on very simple concepts. Last week during my discussion with Chief Risk Officer (CRO) of an Indian Insurance company, we identified two way of performing a simple task – one way of doing this is to learn from trial and error and repetition of same task, many times which ultimately leads to give us feeling of being expert and experienced and the other approach of doing is to get knowledge about technical aspect of simple task and learn from other experience and start doing it. Same applies to personnel involved in risk identification, assessment, evaluation and risk control. It can be argued that doing same mistakes over a long period of time without realizing what is wrong and right, does not change solvency position of the organization in case of adverse situations like catastrophic event, deep recessions.

Risk learning is an emerging concept and not discussed yet within the academicians and practitioners very often. A good example of this is maintaining a loss register internally within the organisation and for the industry as a whole and share within the group for the betterment. Do we really use it in our working? When we install a new machine or involve new process – do we first spend some time on gaining technical knowledge and experience through risk learning or just start working on it. It can be argued what is good and valuable for the organization in such case? What will be the benefit of spending huge money in gaining expertise vs. cost of risk?

It can be interpreted that Risk learning is way to learn from critical feedback in existing system and learning from error made by others when we apply it in a new system. This new perspective ‘An improvement in ERM program through Risk Learning’ can make revolution in existing system and improve performance to greater degree.

Comments welcome.

Risk Appetite of Insurance Companies – Eat, Drive and Accepts Risk Carefully

In Uncategorized on March 18, 2013 at 10:51 am

Risk Appetite in context of Insurance companies is the amount of risk the insurance company is willing to take to get an optimum risk return balance in their investment portfolio. It is obvious that large companies can accept large risk, small can accept small so what’s difficult, why companies are not able to take the optimum risk according to their capacity. How it works?

Insurance companies accept the risk of individuals/corporate and makes different portfolio of risk eg: fire, marine, motor etc. The Premium for portfolio of risk is invested into the chosen set of risky assets.

Good Risk Appetite statement reflects upon the company’s decision making to take in controlled and orderly manner which will produce profit.  Good Risk appetite statement linked to good strategy can save companies from crisis. Do check your appetite before taking decisions as you take in case of eating food also – overeating makes you fat (In case of insurance companies makes your portfolio risk, provide losses), malnourishment makes you weak (in case of insurance companies, less business makes your survival difficult in the market).

Same applies when we buy a car, when we buy a Maruti 800 small car, it’s really risky to drive it at the speed of 140 km/hr; while if you buy Mercedes Benz, it is average risk to drive at same speed on a reasonable safe road due to built-in safety feature.

“Eat, drive and accepts risk carefully according to your appetite”.Image

Owner of my own Risk – Me or others ?

In Banking, Finance, Insurance, Risk Management on February 25, 2013 at 8:11 am

When an individual see the Risk – it looks 4 letter words. It is well said “This will not happen to me”, it is unusual not to avoid it. Actually what is the risk? It is a threat, loss of opportunity, unexpected happening of loss. Who is the owner of the risk – individuals themselves? It is the duty of risk owner is to prevent, reduce, transfer and control the risk.

 

It is just a Four letter word – RISK

Corporates also own the risk; risk manager owns the risk of each department. He/she may set procedures/systems to prevent/reduce the risk, he may transfer the risk to the insurance companies. Insurance companies owns the risk of various corporates and individuals but here the system works little different. Although insurance companies manage the risk however the risk lies in the hands of insured, It is also in the hand of GOD which can be seen any time in floods, earthquake. Its invisible based on set of calculations and predictions.

These insurance companies retain certain part of the risk in their hand and transfer the risk to the Reinsurance companies. Now situation changes dramatically – Reinsurance companies accepts the risk of same individuals/corporates from Insurance companies without knowing who actually they are, only based on set of terms and conditions and documentation submitted by insurance companies. The ownership of the risk is still in the hands of insured.

The reinsurance companies transfers this risk to Retrocession companies who practically don’t know the country of origin of the insured at the time of acceptance of risk, only a set of group risk based on certain conditions are accepted. The ownership does not change hands, insured still can increase or reduce own risk. Finally the set of risk reached through derivative market eg; CAT bond to the public. Individual own their own risk. “its better not to avoid risk rather deal with that”

James bond or CAT bond, who is our saviour from catastrophic losses

In Banking, Finance, Insurance, Risk Management on October 22, 2012 at 7:17 am

 

“Shocking! Positively shocking!” – Sean Connery as James Bond in Goldfinger

In show business, it is easy to save humankind from catastrophe by James Bond. He can avert nuclear disasters, stop tsunamis and change course of meteorites. The real life is different. Catastrophe means loss to people, society and economy.

The biggest challenge today to the insurance companies is not mere fraud risk, low reserves or depression of the economy – it is the risk arising out of catastrophes, which can severely affect their solvency position.  In last 10 years, catastrophes like 9/11 attacks on WTC, hurricane Andrew, Katrina and Wilma have shaken the reserve and stability of the insurance industry in United States. According to Swiss-Re, a leading reinsurance firm, year 2011 witnessed losses from catastrophes totalled $35.9 billion, greatly surpassing the average of $23.8 billion for the years 2000 to 2010. The insurance company solvency is endangered, when losses increase up to a substantial level – to safeguard either insurance company has to raise the premium or its reserves will be gobbled up by single big catastrophe.

In past 36 years, catastrophic losses have hit the insurance companies’ very hard and resulted in insolvencies of small and large insurers (Stipp, 1997; Swiss Re, 2000; Mills et al., 2001). Between the year 1969 and 1998, nearly 650 U.S. insurers became insolvent (Matthews et al., 1999). According to Guy Carpenter (2007), if one considers the 20 most costly insured catastrophes that occurred in the world (1970–2006) – half of them happened in the United States. Thus, it does not come as a surprise that the Gulf of Mexico has become a world peak zone for the insurability challenge.

Insurers use many tools for reducing their financial vulnerability to losses (Mooney, 1998; Berz, 1999; Bruce et al., 1999; Unnewehr, 1999; III, 2000). These tools include raising prices, nonrenewal of existing policies, cessation of writing new policies, limiting maximum losses claimable, paying for the depreciated value of damaged property, non-actuarially based discounts instead of new-replacement value, or raising deductibles, better pricing & claim handling (Dlugolecki et al., 1996 & Born et al.,2006 ). The catastrophe events will also effect insurer’s pricing policies, shift the default risk indicator and change the risk assessment methods. Sometimes, insurance firms also face regulatory intervention to reduce insolvencies (eg: Solvency II, SOX).

Currently, few Insurance firms hedge their portfolio by catastrophe risk financing by going into equity market. Catastrophe risk securities are of two types – catastrophe bonds (CAT bonds) and catastrophe insurance options. Both types benefit insurers by making money available to offset catastrophic losses. Insurance companies issue CAT bonds to transfer extreme losses from natural catastrophes such as windstorm, earthquake and floods. Property and casualty insurers typically develop catastrophe risk management strategies that combine determination of risk appetite, measurement of exposures, pricing considerations, processes to limit exposure and utilization of reinsurance or capital markets to transfer risk to third parties.  Due to massive increase in insured losses from natural catastrophe, catastrophe bonds (CAT bonds) played a vital role in increasing the underwriting capacity and reducing probability of default for the insurance companies.  There is a wider chance that insurance companies who use securitization methods will be able to reduce or completely avoid the default risk.

There are many similarities between James Bond and CAT bonds. Like James Bond, CAT bond is the hero of Insurance and reinsurance world to save average person from natural catastrophes losses like flood, storms and typhoons etc. James bond will complete his mission by using modern gadgets; CAT bond use advanced equity market financial tools to get success. No doubt, the CAT bond is James Bond of financial world.

But ofcourse nobody entertains the way James Bond 007 does. Like you I am eagerly waiting for the new movie Skyfall. Comments welcome !

Insurance Defined

In Finance, Insurance, Legal on May 3, 2012 at 8:05 am

Insurance is a form of risk management primarily used to hedge against the risk of contingent loss. Insurance is a contract between two parties where in exchange of premium, the risk is transferred from one party to another party.

Insurance classical definition

Insurance is an agreement where, for a stipulated payment called the premium, one party (the insurer) agrees to pay to the other a defined amount upon the occurrence of a specific loss.  The party who pays the amount to the party on occurrence of specified loss is called Insurer. The party who pays a stipulated payment is called Insured. A defined amount which insured pay to Insurer is called Premium.

Financial definition of Insurance

Insurance is the financial mechanism by which cost of unexpected loss is redistributed. Here, loss expenses transferred to insurance pool and loss is redistributed to the members of pool.

We see losses at many stages in our day to day life whether it is corporate or individual. Losses may be of high or low severity, may affect single or group of persons. It may involve single region or multiple region and even countries. Sometimes losses are too low which can be ignored but on the other hand, it can be so severe that it can eat up whole life saving of a person.

For example:

Let’s take an example of Fire insurance pool where losses are redistributed among masses.

In the Mumbai Trombay area, many oil refining and petroleum units have high risk of fire. They transfer their fire risk by paying Rs 50,000 in fire pool. In total 50 units agreed and pool reached to the (Rs 2500, 000). Fire broke out in one of the unit of Trombay area and it affected the one adjoining unit also which resulted loss of Rs 2500,000. Now loss expense of 2 units can be paid from fire insurance pool. If no insurance pool existed, the unfortunate victims will loose 2500,000. Here loss expense incurred by two units will be redistributed among 50 corporates.

Legal definition

Insurance definition under Indian law: “Insurance is legal contract where one party agrees to pay another party an agreed amount to compensate its unfortunate losses.” Here ‘amount’ is called premium and contract is called policy.

Who are the parties affected by Risk in the organization?

In Risk Management on May 3, 2012 at 7:51 am

In every organization from top to bottom, senior to junior, creditor to customer every body is affected by risk.  Example – Satyam Computers, the liability arise for auditors to pay for misleading financial reports which ultimately affected whole organization and various parties involved with organization at different levels and overall affect country risk as well. The parties who affect insurance contract are –

  • Employees – Employees of the organization are affected in many ways. If a risk of fire arises then they need to safeguard the personal property, organizational property and liability risk. They provide information to external agencies. Daily wagers loose their jobs. Environment, pollution norms, safety norms and other regulatory guidelines are taken into consideration by employees.
  • Suppliers – Suppliers are affected when the supplies are suddenly stopped. Example – Due to fire, factory close down for 2 months. Therefore, supplies are closed down for 2 months.
  • Customers and other recipient of services – Customers are directly affected from the risk arise out of the organization. In the above example, the customers will not get the products from the company for next 2 months which will create shortage of the good.
  • Distributors –   Distributors face market competition and deals with retailers for product penetration. Distributor is a link between retailer and Company. Distributor is affected by delay in delivery, affect on quality, loss in reputation of the company due to risk arise.
  • Regulators – Regulators could be IRDA, RBI, Pollution control board, Waste disposal board which provides guidelines to reduce the risk from time to time.,
  • The Media – Media provides information to public regarding various risk and hazard related to companies.
  • Private investors – the shareholders and the private investors are affected by the valuation of the company. Various credit rating agencies analyse the risk of companies and publish the rating through the media which is used by private investor to analyze the risk of the companies.
  • Banking industry – The companies take debt from banking institution to run its business. Risk associated with the companies are first analysed by the banks before giving loans.
  • Business partners – Business tie ups, partners are affected by each and every risk associated with business as their reputation is also affected.
  • The environment – Risk and hazard in the organization affects environment. Example – Fire spread in the industry and resulted in burning of most of plant which produces chemical oil which resulted heavy pollution and produced gases harmful for masses.

Others – Risk from Politics, Industrial associations and competition also plays vital role.