Notes from the IPARM conference in Hong Kong, part 3

The second day of the Third Annual Investment Performance Analysis and Risk Management Asia 2010 (IPARM) conference at the Kowloon Shangri-La in Hong Kong, China began with a panel discussion on the lessons learned from the global financial crisis and the roadmap for 2010 and beyond. Jean-Marc Sabatier, Head of Risk Management Asia for Amundi, started off the conversation talking about how 2010 is the year of opportunity for risk management, particularly in Asia. He cited two reasons:

1. Human resources. Management finally sees the need, nay, the requirement, for a real risk management team in place and are finally willing to pay and support to keep a highly respected team in place.


2. The balance of power has switched (a little bit). In the past, if the risk manager said “no,” it was acknowledged, but then everyone moved on. Now, risk managers are more easily and readily able to say “no” to portfolio and managers and marketing groups and actually carry some weight.

Jean-Marc also added that the job of a risk manager is no longer only about reporting; the job of a risk manager begins with the risk report. Oliver Bolitho, Managing Director from Goldman Sachs Asset Management, then discussed the concept of regret risk which in Asia is related “to a ‘face’ thing that leads to taking logic off the table." Oliver believes this is one of the bigger issues facing the industry as he has see countless examples of portfolio managers turning off their thinking when faced with an investment decision.

From the audience, the panel was asked who should have the final say on the risk of a portfolio? The portfolio manager? Risk manager? Combination of the two? Someone else?

Oliver jumped in first by describing risk as a culture. He continued by saying that if we tried to codify risk, it will get boxed in and will not be there when we need it most. By way of example, if we codified risk (e.g, you could only buy securities with a certain rating), just think what people would have bought in the past few years. Oliver concluded that he thought the risk manager should have the final say, but it should not be up to a single person.

Also in response to the question, Dr. Lincoln Rathnam, CFA, Global Head of Investment Management for EM Capital Management, mentioned the positive experience he had working for an investment management firm that was a partnership and anyone at the firm could say no. Anecdotally, Lincoln thought that having a corporate structure of a partnership was a prime reason why Brown Brothers Harriman escaped relatively unscathed from the financial crisis; everyone at the firm had a veto and they avoided the toxic assets that others so readily accumulated. But ultimately, Lincoln’s answer was that he thinks there needs to be a balance of power between the portfolio manager and the risk manager, one party always wants to say yes, the other party wants to say no, and a middle ground that must be found.

There was also a brief discussion about the “age factor” of risk managers (also known as the “value of experience” to the older demographic). In Asia, and perhaps globally, many risk management teams are junior, i.e., it is often a junior member of the investment management team and all too often someone who has not gone through many of the historical ups and downs. There were no firm answers on how to address this issue, although Jean-Marc mentioned that Amundi recently announced a new policy in which all Portfolio Managers must spend at least three years serving in a risk management capacity. Lincoln made the analogy to General Electric back in the Jack Welch days when he mandated as part of their executive management program that everyone had to spend some time in internal audit.

Next up was Dr. Stan Uryasev, Editor-in-Chief of the The Journal of Risk, who gave a talk on deviation CVaR (Conditional Value at Risk). While this risk measure has been around for a while, as a co-inventor of the methodology, Stan was able to expand on the methodology both in theory and practice. Of particular note, Stan emphasized that CVaR is most useful for risk management, not risk measurement. I strongly encourage those of you interested in learning more to check out his slides that he has made available on his website here.

After serving on the panel, Lincoln pulled double duty with a presentation on stress testing, although to me, the most interesting part of his talk was when he touched on the topic of crisis. Contrary to most, Lincoln believes that “crises are not rare events. We go from crisis to crisis to crisis. It is our nature.” Not a comment you can ignore coming from a man with over 30 years of investment management experience, and to solidify his point, he made reference to a list of financial panics, scandals, and failures. Far from comprehensive, I am sure, but it did cement his point that the next crisis is never too far away as it goes through crises starting in the 17th century and ominously ends with nothing next to number 210.

The final panel of the day focused on finding a risk model or performance system that is appropriate for your investment process. Dr. Laurence Wormold, Head of Research at SunGard APT, started things off with his three pillars of risk analysis:

1. Risk measures: The simple stuff, tracking error, VaR, etc.


2. Attribution: In Laurence’s words, “turning 1 number into 100.”


3. Stress testing and scenario analysis: In his mind, this is the most often ignored aspect of risk analysis as he firmly believes in building shocked market risk models.

A member of the audience immediately jumped in questioning Laurence’s assertion as every firm that he knew of did some form of stress testing. Lawrence acknowledged this, but added that for most firms, stress testing is a box ticking exercise that is largely ignored throughout the company. The stress testing that most firms do lack imagination and is too simplified (e.g., S&P 500 goes down 20%). For the most part, the stress testing that is in the marketplace today suffers from a herd approach; everyone is testing the exact same thing. Laurence further suggested that the current tests should be anchored in economic plausibility; a firm should start from a historical event and then invite colleagues to take that information and think about other ways to create realistic scenarios.

Overall, IPARM Asia was a well organized conference with a very solid slate of speakers and I was quite happy to hear that the organizers have already announced that the fourth annual conference will take place in Hong Kong again next February.

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