The advantages of real-time risk management

Sylvain Privat, Head of Investment Management Solutions at Calypso Technology, discusses the advantages of real-time investment risk management in unpredictable financial markets

Real-time risk management should be a top priority for investment managers. The rocky start to 2016 was a sobering reminder that financial markets can be fickle, and managers need to be prepared for whatever lies ahead.

Wall Street rang in the New Year with the worst opening two weeks on record, as the combined pressures of a Fed rate increase, continued weakness in China, and plummeting oil prices temporarily caused the levees to break. Markets have mostly recovered since then, but as of mid-March the Chicago Board Options Exchange Volatility Index was hovering at an average level that is 32% higher than last year. Meanwhile, the S&P 500 has posted daily swings of 1% or more in 26 of 48 trading sessions since December – a rate that if sustained would make 2016 the most volatile year since 1938.

The increased volatility of 2016 underscores the unpredictability of the markets – we don’t know what will cause the next sell-off or how long it will last, but we know it’ll happen quickly and without warning.

That’s why real-time investment risk management is so important. When markets are moving rapidly and decisions need to be made in a hurry, it’s essential to have timely, accurate information. A real-time risk management platform ensures that everyone across your organization has the data they need as soon as it’s available.

“A real-time infrastructure allows investment managers to take control of their operations in a way that isn’t possible with fragmented systems and end-of-day processes”

But a real-time investment risk platform isn’t only useful in a crisis. Regardless of the market environment, a realtime infrastructure allows investment managers to take control of their operations in a way that isn’t possible with fragmented systems and end-of-day processes.

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A real-time platform requires complete front-to-back coverage. Portfolio managers, risk managers, traders, collateral managers, and middle/back office ops teams all have different needs, but each relies on the contributions of the others to optimize their decisions and perform their jobs. A single platform that supports the full range of investment activities is essential for seamless, prompt transfer of information.

Real-time risk is most important in the front office, but it is also the most difficult to deliver. The first challenge is providing the right analytics – investment managers are looking for comprehensive coverage. Sensitivities (the Greeks), VaR, stress testing, back testing, performance measurement, tracking error, and attribution are just some of the metrics they care about.

But even the best analytics are only as good as the data that feeds them; real-time risk management requires real-time data. Accurate trade capture and event-driven lifecycle updates are critical for monitoring intraday position changes. Market data is a separate problem entirely, requiring robust interfaces to a vast universe of available options (e.g., prices, corporate actions, etc.).

Derivatives Challenges

This level of risk management was relegated to academic curiosity in bygone days, but the globalization of portfolios and the interconnectivity of markets have increased the need for accurate measurement of correlations and other complex risk parameters. Perhaps more importantly, the blanket of low interest rates covering the developed world has driven investment managers to pursue sophisticated derivatives-reliant strategies that require substantially better risk-monitoring capabilities. And clearly new solutions are needed – in a recent survey conducted by Asia Risk magazine, 80% of investment managers indicated either significant or modest concerns around derivatives risk management.

“The globalization of portfolios and the interconnectivity of markets have increased the need for accurate measurement of correlations and other complex risk parameters”

The clearing mandate is another driver of change. It’s an encouraging sign that the buy side recognizes the impact of collateral management on returns, but only 37% have real-time, intraday access to their collateral inventory.

It’s evident that the manual processes are not only affecting operational efficiency, but also hampering front office returns. Fortunately, there are multiple technology vendors capable of providing real-time investment risk systems that can remedy these problems.

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But the industry’s reliance on legacy solutions, some of which date back to the 1970s, is more than a simple technical challenge. Investment managers often feel uneasy about changing their core systems – effectively replacing what has become the pacemaker of their institutions’ hearts.

Those who have made the decision to invest in a realtime platform have done more than strengthen their internal processes – they’ve also taken an important step toward distinguishing themselves from their competition. Due diligence is more vigilant than ever, and investors appreciate firms who demonstrate they’re in control of their operations.

With yields still at historic lows and the expectation of continued market volatility in 2016, investment firms with real-time risk management systems will be well-equipped to make informed decisions and ride out the oncoming storms.