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Handbook of Asset and Liability Management: From models to optimal return strategies by Alexandre Adam

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20

Non-Financial Risks

Qui sème le vent récolte la tempête.

Companies are not only exposed to the financial risks but also to many other kinds of risk:

  • operational risk;
  • model risk;
  • business risk;
  • illiquidity risk;
  • reputation risk;
  • counterparty risk;
  • reputation risk;
  • legal and tax risks, etc.

20.1 OPERATIONAL RISKS

The Basel II framework introduced the notion of operational risk and provided a solution to quantify this risk. The Basel Committee defines operational risk “as the risk of loss resulting from inadequate or failed internal processes, people and systems or from external events. This definition includes legal risk but excludes strategic and reputation risk”.

General definitions of operational risk include:

  • human resources risk;
  • system failures risk;
  • internal fraud;
  • external fraud;
  • damage to physical assets risk;
  • process management risk;
  • legal risk.

The impact of this risk on incomes is clear and rarely smoothed.

The Basel II framework proposes a solution to minimize the impact of the operational risk impact on income with a specific allocation of capital. In order to compute this amount of capital, it is essential to constitute databases. These databases will record the historical costs of the operational risks. Then, a modelling of these costs is possible.

Another solution to minimize this kind of risk is to develop:

  • a permanent control of the processes (with the integration of “product controllers” or of “market controllers” in the operational teams); and

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