LBBW integrates trading and banking book risk

Dr. Ingo Hansen, Head of Asset & Liability Management at LBBW, explains how the bank’s new integrated risk management infrastructure will provide unprecedented transparency and efficiency

Few areas of banking have remained as stubbornly siloed as the treasury. Most institutions have yet to consolidate either their treasury processes or their systems, despite the fact they are at the epicenter of their business – managing critical functions such as liquidity, funding, risk, transfer pricing, and profitability.

No doubt it’s a challenging task. The behavior of the banking book and its various sub-components are quite different from the trading book, and there is a staggering amount of data to manage.

Regardless, fragmented treasury solutions are a material drag on bank profitability. The inefficiencies resulting from operational silos limit adaptability and create redundant costs. And perhaps more importantly, siloed risk management means important investment and hedging decisions may not be fully informed.

German bank Landesbank Baden-Württemberg (LBBW) recognized some of these problems in their own treasury and decided it was time to do something about it. Working in partnership with Calypso, they embarked on a project to integrate their banking book and trading book into a single risk management framework.

“Calypso will lead to a more efficient cost structure, including substantial automation, more efficient interest rate management, and better utilization of resources”

As Dr. Ingo Hansen, Head of Asset & Liability Management at LBBW explains, the new solution fundamentally changes their business. “Storing information for different risks in multiple systems made it very challenging to achieve a unified and standardized risk management approach,” acknowledged Hansen. “Having a complete view of our portfolio and managing the resulting risks in a single solution both improves transparency and reduces complexity. With the full implementation of Calypso we will be able to manage interest rate and liquidity/refinancing risk using the same system.”

Hansen adds, “Integrating our transfer pricing system, managing all market risks within a single platform, and simultaneously monitoring our risk positions and P&L simply wasn’t an option with previous vendors. Calypso was also able to customize portions of its system for German-specific products, like covered bonds and partially covered consumer loans.”

“Having a complete view of our portfolio and managing the resulting risks in a single solution both improves transparency and reduces complexity”

Calypso will help LBBW to further improve risk management in its core business. According to Hansen, “In 2014 our interest rate risk of the banking book was approximately 75% of the whole interest rate risk position (vs. 25% trading book), while the portion of credit spread risk in the banking book was at approximately 85% (vs. 15% trading book). This portfolio risk structure reflects the focus of LBBW on its customer-oriented core business.”

In addition to improving both their risk monitoring and managing capabilities, the new system confers significant operational benefits too. “A major focus of the Calypso implementation at LBBW is optimizing our internal processes,” said Hansen. “It will lead to a more efficient cost structure, including substantial automation, more efficient interest rate management, and better utilization of resources.” The bank will streamline the interactions between its business units and the treasury, as well as between risk management and the bank’s financial controlling units.

Migrating to the new workflows required careful planning, however. “During the implementation phase, we developed several transition processes to maintain the previous management systems while creating the new processes and systems in parallel,” said Hansen.

The new integrated solution also allows further consolidation of LBBW’s IT infrastructure, resulting in additional cost savings. Prior to this project, LBBW was using Calypso only to manage interest rate risk for their interest rate derivatives portfolio. Liquidity and FX risks were managed in other systems.

LBBW faces a variety of familiar challenges, so cost savings are of particular importance – as they are for most banks. Hansen said, “The low interest rate environment, resource intensive regulatory compliance efforts, and fierce competition in the German banking market are putting pressure on margins in our client business.”

“Siloed risk management means important investment and hedging decisions may not be fully informed”

LBBW is confident their enhanced treasury solution will not only help the bank succeed, but also please their regulators. “Several stakeholders benefit from this project. Naturally, our internal controlling units appreciate the increased transparency. But just as importantly, the increased transparency will please regulators as well as our auditors,” said Hansen.

Indeed, it seems LBBW is well-positioned for the future. Enhanced risk management, streamlined operations, and improved regulatory relations will allow them to focus on their clients without distractions and with more confidence.