Journal of Operational Risk

Marcelo Cruz

Welcome to the fourth issue of Volume 16 of The Journal of Operational Risk.

This issue contains a paper that mentions Covid-19: a first for our journal. The paper compares the discipline that banks have developed over more than 20 years of managing operational risk to the discipline that health authorities have used worldwide to manage Covid-19. The pandemic has been such an important (operational risk) event that we are planning to publish a special issue dedicated to the subject during 2022. We might expect to include papers on, for example, the changes the pandemic brought to operational risk management, the challenges and risks posed by managing staff that now work remotely, the impact of the pandemic on scenario analysis and modeling.

We would considerably welcome more submissions on the subject of “operational risk resilience”, which is one of the key areas of interest in our industry right now. As well as resilience, we would also welcome more papers on cyber and IT risks, and not just on their quantification but also on better ways of managing them. We would also like to publish more papers on important subjects such as enterprise risk management (ERM) and everything that this broad subject encompasses: establishing risk policies and procedures, implementing firm-wide controls, risk aggregation, revamping risk organization, and so on. As I have said before, while analytical papers on operational risk measurement should continue to be submitted, we hope they will focus much more on stress testing and actually managing these risks.

These are certainly exciting times! The Journal of Operational Risk, as the leading publication in this area, aims to be at the forefront of these discussions. We welcome papers that can shed light on these subjects.

In this issue as well as a short forum paper on Covid-19 we have three very interesting research papers: a case study that uses real data from an insurance company to estimate the company’s operational risk; an assessment of the impact of ERM on a firm’s performance (spoiler: it has a positive impact); and a discussion of management accounting practices in operational risk. The interesting forum paper, which appears last in the issue, compares Covid-19 management and the discipline of operational risk.

RESEARCH PAPERS

In the issue’s first paper, “Extreme value theory for operational risk in insurance: a case study”, Michal Vyskočil and Jiří Koudelka aim to examine the sufficiency of the standard formula approach as defined in Solvency II in the case of a company with a specific risk profile by presenting a case study modeling a real, unique operational risk claims data set. They used extreme value theory to build a comprehensive model, estimating losses from operational risk events using available historical claims. Low-frequency, high-severity claims were identified using the extreme value theory peak-over-threshold method. These were modeled via the generalized Pareto distribution and compared with the Fréchet, Weibull and Gumbel distributions. The ´ compound lognormal distribution was used for high-frequency, low-severity claims. Using the bootstrapping principle, a plethora of one-year claim portfolio predictions was generated to calculate value-at-risk. Based on the real, unique data set (4245 claims from an anonymous Central and Eastern European insurance company that took place between 2010 and 2018), the authors built a new approach for estimating the solvency capital requirement for operational risk. The paper’s findings show that the application of extreme value theory to internal data provides a more conservative estimate of capital requirements than the standard formula calculation, which means that the insurance company analyzed may be vulnerable to potential losses when the standard formula is applied.

In our second paper, “Enterprise risk management and firm performance: evidence from Malaysian nonfinancial firms”, Aidil Rizal Shahrin and Abdul Hakam Ibrahim note that enterprise risk management (ERM) has become commonplace for most firms. They examine how ERM programs – particularly in risk assessment and corporate governance – impact the performance of firms. Their study focuses on 661 nonfinancial firms listed on the Kuala Lumpur Stock Exchange and they claim that ERM positively affects firm performance. They found that the frequency of risk assessment and the appointment of a chief risk officer and a risk management committee all have a significant impact on firm performance.

In the third paper in the issue, “The role of management accounting practices in operational risk management: the case of Palestinian commercial banks”, Hind Muhtaseb and Derar Eleyan investigate the role played by management accounting practices in managing operational risk in the Palestinian commercial banking sector. To gather data, a questionnaire was mailed to 78 Palestinian bank employees engaged in risk management, internal auditing and finance. Six post-survey follow-up interviews were conducted with Palestinian banking professionals to gain further insights into the findings. Using descriptive statistics and mean scores, the results indicate that financial statements analysis, product profitability analysis and total quality management are the management accounting practices perceived to be the most strongly related to operational risk management in the banking sector. The results also show that management accounting practices are perceived to be most strongly related to monitoring operational risk and reporting findings to management.

FORUM PAPER

The issue’s fourth and final paper, “Fighting Covid-19 in countries and operational risk in banks: similarities in risk management processes” by Thomas Kaiser, presents an interesting comparison between banks’ management of operational risk and the management of the Covid-19 pandemic by governmental authorities. Kaiser claims that the two approaches have many similarities, which span the full risk management process from risk strategy and data collection to modeling and decision-making. In Kaiser’s view, each discipline could learn from the other to help overcome obstacles and to effectively mitigate against major risks, including future pandemics.