Operational Risk Modeling and Measurement

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OPERATIONAL RISK MEASUREMENT

Classification of Operational Risks
Operational risk events are

High Frequency Low
Frequency

High Frequency High Impact Low Frequency High Impact

classified by two factors: frequency – how often the event occurs impact – the amount of the losses resulting from the event Generally, operational risk management focuses on only two of these event types: Low frequency / high impact (LFHI) High frequency / low impact (HFLI)

Impact Low Frequency Low Impact

Impact
31/12/2012

Why?
2

The universe of operational risks spans causes, events and consequences CAUSES
Inadequate segregation of duties Insufficient training Lack of management supervision Inadequate auditing procedures Inadequate security measures Internal Fraud External Fraud Employment Practices & Workplace Safety Clients, Products & Business Practices Damage to Physical Assets Business Disruption & System Failures Execution, Delivery & Process Management Business Interruption Poor HR policies

EVENTS

CONSEQUENCES
Legal Liability
Regulatory, Compliance & Taxation Penalties

Loss or Damage to Assets Restitution

EFFECTS Monetary Losses

Loss of Recourse

• • •
Poor systems design

Write-down

Reputation

OTHER IMPACTS Forgone Income

Loss Distribution Approach (LDA) Methodology

INDIVIDUAL LOSS EVENTS

RISK MATRIX FOR LOSS DATA

LOSS DISTRIBUTIONS

VAR CALCULATION

TOTAL LOSS DISTRIBUTION

74,712,345 74,603,709 74,457,745 74,345,957 74,344,576

Frequency of events

• •
167,245 142,456 123,345 113,342 94,458

INTER N AL FRAU D Corporate Financ e Nu mb er Mean Stan dard De viatio n Tradin g & Sales Nu mb er Mean Stan dard De viatio n Nu mb er Mean Stan dard De viatio n Commerc ial Bankin g Nu mb er Mean Stan dard De viatio n Nu mb er Mean Stan dard De viatio n Agenc y Services Nu mb er Mean Stan dard De viatio n Nu mb er Mean Stan dard De viatio n Re tai l Brokerage Nu mb er Mean Stan dard De viatio n Nu mb er Mean Stan dard De viatio n To tal Nu mb er Mean Stan dard De viatio n 36 35,459 5,694 50 53,189 8,541 45 47,870 7,687 41 43,083 6,918 37 38,774 6,226 44 46,529 7,472 40 41,876 6,725 48 50,252 8069 43 45,226 7,262 435 45,653 7,331

EXTERN AL FR AU D 3 52,056 8,975 4 78,084 13,463 4 70,276 12,116 3 63,248 10,905 3 56,923 9,814 4 68,308 11,777 3 61,477 10,599 4 73,773 12719 4 66,395 11,447 36 67,021 11,555

EMPLO YMEN T PRACT ICES & W O RK PLAC E SAFET Y 25 3,456 3,845 35 5,184 5,768 32 4,666 5,191 28 4,199 4,672 26 3,779 4,205 31 4,535 5,045 28 4,081 4,541 33 4,898 5449 30 4,408 4,904 302 4,450 4,950

CLIEN TS, PR OD UC TS & B USINESS PRACT ICES 36 56,890 7,890 50 85,335 11,835 45 76,802 10,652 41 69,121 9,586 37 62,209 8,628 44 74,651 10,353 40 67,186 9,318 48 80,623 11182 43 72,561 10,063 435 73,245 10,158

DA MAGE TO PH YS IC AL ASSETS 33 56,734 3,456 46 85,101 5,184 42 76,591 4,666 37 68,932 4,199 34 62,039 3,779 40 74,446 4,535 36 67,002 4,081 44 80,402 4898 39 72,362 4,408 399 73,044 4,450

EXECU TION , DELIVER Y & PR OC ESS M AN AG EMEN T 150 1,246 245 210 1,869 368 189 1,682 331 170 1,514 298 153 1,363 268 184 1,635 321 165 1,472 289 198 1,766 347 179 1,589 312 1,812 1,604 315

BU SIN ESS DISRU PT ION AN D SYSTEM FA ILU RES 2 89,678 23,543 3 134,517 35,315 3 121,065 31,783 2 108,959 28,605 2 98,063 25,744 2 117,675 30,893 2 105,908 27,804 3 127,090 33365 2 114,381 30,028 24 115,459 30,311

TO TAL 315 44,215 6,976 441 66,322 10,464 397 59,690 9,417 357 53,721 8,476 321 48,349 7,628 386 58,018 9,154 347 52,217 8,238 417 62,660 9886 375 56,394 8,897 3,806 56,926 8,981

0

1

2

3

4

Re tai l Banking

Pay ment & Settle ments



Asset Ma nag em ent

Insurance

Severity of loss

VaR Calculator e.g., Monte Carlo Simulation Engine
Mean 99th Percentile

Annual Aggregate Loss ($)

0-10

1020

2030

3040

4050

Basel II Approaches on Operational Risk

•Basic Indicator •Standardized •Advanced Measurement
•OPERATIONAL...
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