Category Archives: Financial Risk Management

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The Forbes Risk List: One Honor You Don’t Want

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In May, Forbes put together “The Risk List” of fifty companies “flashing danger signs.” Most of the time, people like to be on lists. But this is one where no one covets inclusion and is basically the exact opposite of Forbes‘ Most Trustworthy Companies list.

Among the unfortunate are household brands like Rite Aid, Sanyo, Borders, the MGM Mirage and US Airways. Fast Company offers a little more perspective on those who made the list:

For most companies, the chart give a pretty rough and dirty approximation–basically looking at revenues against one-time massive expenses such as capital expansion. For example, you’ll see MGM Mirage’s massive spending gamble on CityCenter holding court in the Very Aggressive category. Sometimes, there are wildcards like insurance claims or court cases–expect to see BP blowing up here next year. But usually it’s just big companies spending money they didn’t earn this year, and thus taking on new debt.

For the handful of retailers on this list, risk makes sense; they could gain big when the economy improves. But for some of the other industries it’s harder to understand–so many hospitality corporations are represented it makes you wonder if hotels can indeed absorb all that financial stress.

Interesting stuff.

The more immediate, breaking news here, however, is that a media outlet called Meet the Boss TV has produced a pretty cool infographic that shows how these companies stack up. With just a quick glance, you can see how the 30 riskiest companies relate in terms of revenue and how aggressive they are with accounting and governance.

Click through here to see the full-size version.

risky companies

Mitigating Financial Risk With Tech — Not Regulation

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This weekend, the leaders of the world’s 20 largest economies will meet in Toronto to discuss international financial reforms that will — hopefully — help prevent the type of global recession that occurred after the subprime crisis. Particularly on the heels of the Congressional reforms just enacted in Washington, the G-20 discussions will mostly focus on regulation.

Some feel as though a major overhaul is not altogether necessary, however.

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Some think that technology and greater access to better information can provide all the risk management the financial sector needs. Kevin Heffron, deputy managing director of Trayport, Ltd.

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in London is among them. His company provides electronic trading systems to brokers who trade equities, currencies and commodities, and he recently sat down to share his perspective.

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Jared: This weekend in Toronto, G20 leaders will discuss a whole host of financial sector regulation proposals. Generally, their goal will to be develop some standards and rules that will lessen risks – the risk of over-leveraging, the risk of contagion, the risk complicated trading. What measures do you think are most necessary, specifically in the trading and exchanges world?

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Heffron: A proposal to move all trades to exchanges is among the reforms being considered in Toronto. We believe that this is an overreaction to the events and excesses of the recent past and will not necessarily lead to reducing risk. Eliminating OTC trading is not the solution, doing so consolidates trading into less flexible silos and results in less democratic markets. We believe that regulated, well-organized and transparent OTC electronic trading platforms with connections to a variety of centralized clearing counterparties, when appropriate, can be an equally effective tool to reach the G20’s goals to mitigate risk. We only have to think about the recent ‘’Flash Crash’’ to know that the exchange only model has serious flaws.

The key to mitigating risk in the OTC sector, is to broaden access to information and transparency. This approach can achieve the same regulatory goals now being sought by the G20 and the U.S, Congress without requiring the markets to restructure themselves in ways that might have unintended consequences — including potential losses of liquidity leading to higher and more volatile pricing.

Jared: So the best way to lower these risks is not through regulation, but through better information? Through better technology and more real-time, widely available information about trades?

Heffron: We support regulatory efforts, however we believe all the regulation in the world won’t reduce risk unless the information is available and accurate. It comes down to the reliability of the information — no amount of regulation can overcome the lack of accurate data or intentional manipulation. Access to technology simply focuses more eyes on any nascent problems in the financial markets.

We are developing technical solutions that increase opportunities for market users and their regulators to assess risk. Post-trade, we are providing straight-through processing to a variety of clearing houses, price reconciliation and confirmation services so you know the trade has been cleared without risk. Together with calling for a repository of pricing information, we are turning to technology to achieve the goals of the G20 Summit.

Jared: Is it a matter of the public sector being under-educated to provide proper regulation?

Heffron: While most of the non-investment community — including US Congressional leaders  — believes the world would be better off if all assets were to trade on exchanges, it is important to point out some key facts. For instance, there is a large electronic OTC commodities market operating in Europe that sees some of the world’s largest deals go through hybrid trading screens with counterparties being put together by interdealer brokers. This network provides risk management, straight-through processing, clearing capabilities, counterparty credit management, real-time reporting and transparency. If one were to look at this operation and its components, it would look very much like an exchange. In short we are bringing the same level of trading technology and risk reduction to the OTC community.

Jared: Can this concept of “more information, less risk” work in other areas as well? Both in and outside the financial sector?

Heffron: Here is an example. Large international energy companies, whose primary business is to produce and distribute electricity, trade electric power all the time. They are constantly going to the open market to manage their risks. In order to optimize this external market activity, they need to have a full and timely understanding of the risk profiles of the various operating units of their own enterprises. This requires a top-quality internal risk management system allowing them to optimize internally before executing external market transactions. Simply put, lowering the cost and increasing access to real-time data reduces risk across every industrial sector and at every level.

Treasury Secretary May Gain More Power

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It looks as though the Treasury secretary may soon have a role overseeing individual financial companies. In a move to help monitor systemic risk throughout the financial arena, Senator Chris Dodd (D-Conn) is looking to release a bill next week that would overhaul financial regulation with sweeping reform.

Lawmakers and government officials have agreed that Washington should be working to identify risky activities that could threaten the entire system — a job no single regulator had during the lead-up to the financial crisis.

But because of the financial crisis, that job may now fall under the Treasury secretary’s duties, an idea both Dodd and Senator Richard Shelby (R-Ala), both of the Senate banking committee, favor since “the Treasury secretary has a higher international profile than most regulators” and because that position is more accountable to Congress.

Dodd’s new proposal represents a shift for the senator.

Last fall, he introduced a bill that would have created a separate Agency for Financial Stability. Dodd envisioned an agency responsible for identifying, monitoring and addressing systemic risks and with the authority to break up large, complex companies if they posed a threat to financial stability. He called for it to be governed by an independent chairman, appointed by the president and confirmed by the Senate, as he said, “to provide insulation from political manipulation.”

Shelby and other conservatives did not completely support the idea of a new agency. Dodd then “embraced the idea of a council of regulators, with the Treasury secretary at the head.

” But this bill will, and has, drawn criticism referring to the opportunity for political influence to play a part in the position.

If the bill should pass, it would mark significant milestone by granting a Cabinet member a measure of regulatory authority. For even more on this topic, don’t forget to check out the April issue of Risk Management, in which we will feature an in-depth piece on banking regulation and risk and what is being proposed by the Basel committee.

Iceland Says “No” to Paying Back Billions

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Iceland has not had much good publicity in the past two years, and it doesn’t look like that will change any time soon.

Back in 2008, Iceland’s government and economy essentially collapsed, leaving the country’s 304,000 residents in despair after what is now called the largest banking collapse in economic history.

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Now into 2010, the country is still reeling from the financial crisis that severely weakened the value of its currency, caused a 90% drop in capitalization of its stock exchange and decreased its GDP by 5.5% in the first six months of 2009.

But Iceland’s residents were not the only ones hurting.

The millions of foreign depositors who had chosen the country’s banks as a safe-haven for their savings were faced with the grim reality that every penny that had deposited there was now frozen. Though Britain and the Netherlands stepped in to refund the savers, Iceland is still in debt to those two countries.

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And today, news reports claim that the country’s president, Olafur Ragnar Grimsson, refused to sign a bill to repay a $5 billion debt to Britain and the Netherlands.

The Icelandic banks and their online subsidiaries with their high interest rates had attracted many savers from Britain and the Netherlands. When the banks collapsed 15 months ago, the British and Dutch governments stepped in to refund their savers who lost money. Britain and the Netherlands then negotiated a deal with the Icelandic government to be reimbursed for the money they paid out, and that bill was passed by the Icelandic parliament. Last week, though, President Olafur Ragnar Grimsson refused to sign the bill.

Grimsson references the Icelandic Constitution, stating that a referendum must now happen since he has received a petition signed by a quarter of the country’s population, which urged the president to renegotiate the terms of the repayment.

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 The loan carries a 5.5% interest rate and some feel that the if Iceland were to repay with the current terms, it could potentially cause a national bankruptcy.

Steingrimur Sigfusson, Iceland’s finance minister, understands that the issue is extremely unpopular among residents, but that in order to move forward and continue with economic restoration, the country must meet its obligations.

Whether a referendum happens or not, Sigfusson says, there is something deeper going on in Iceland–a moving away from what he calls the culture of neo-liberal greed and a returning home to its Nordic roots.

Whether or not Iceland will be able to dig itself out of this financial, political and economic conundrum and return to its Nordic roots will remain to be seen. Taking into account the country’s recent track record and its diminutive size in both population and world power, the odds are against it.