“With great risks comes great reward,” especially in banking. Banks are in the business of taking on financial risk to generate profit. However, the stakes are high, and the downside potential is huge. This includes legal repercussions, which have increased steadily since the 2008 financial crisis.
Banks have spent significant dollars on everything from regulatory compliance to litigation and compensation claims. Risk managers are feeling more pressure to build and maintain sustainable risk management frameworks that handle a wider, more comprehensive set of risk types.
Beyond traditional risks like credit, market, and liquidity risk, the impact of model risk and ESG risk is on the rise. Additionally, there’s a whole host of nonfinancial risks, where the downside can be difficult to quantify. This blog lists nine common risk types that we come across when working risk clients at global banks.
Types of financial risks:
1. Credit Risk
Credit risk, one of the biggest financial risks in banking, occurs when borrowers or counterparties fail to meet their obligations. When calculating the involved credit risk, lenders need to foresee and predict the possibility of them making back the loan, principal, interest, and all.
2. Market Risk
Market risk is the risk of losing value on financial instruments on the back of adverse price moments driven by changes in equities, interest rates, credit spreads, commodities, and FX.
3. Liquidity Risk
Liquidity refers to a bank’s ability to meet its collateral and cash obligations while avoiding major losses. Liquidity risk is the risk of incurring losses where certain commodity or investment cannot be traded without impacting its market price.
4. Model Risk
Model use at large banks is growing by more than 20% each year (IDC), which in turn leads to greater model risk. Banks must manage model accuracy to prevent significant financial losses when assumptions grow, models are misused, or other forms of malfunction occur. Read our blog, to learn the four tips that our model risk management experts share on how to increase your model risk management efficiency by 50%.
5. Environmental, Social and Governance (ESG) Risk
Environmental, social, and governance events, from climate change to diversity and inclusion policies, can have material impact on the value of investments. Banks must proactively measure and manage these risks, integrating ESG data, scoring models, and climate models into the investment process and credit risk evaluations.
Types of non-financial risk:
6. Operational Risk
Operational risk is the risk of losses incurred by inadequate internal processes, people, and systems, or from external events.
7. Financial Crime
Money laundering, corruption, fraud are examples of financial crime, leading to economic benefits for individuals through illegal ways. Banks need to make sure they develop fool proof techniques to avoid the losses posed by financial crime.
8. Supplier Risk
Banks often have large, global supply chains. In the event that suppliers disrupt business continuity or put customer data at risk, banks are increasingly held responsible by regulators.
9. Conduct Risk
Conduct risk occurs when banks incur financial loss due to inaccurate management choices or decisions by the employees and team members.
With the many risks banks and financial organizations face, time is of the essence especially as global economies and markets try to recover from the uncertainty brought on by the pandemic.
Whether your organization faces big risks or small, Evalueserve’s Risk & Compliance team can help you manage them with ease, speak to an expert today, visit https://www.evalueserve.com/speak-to-expert/