This site uses cookies.  By continuing to browse this site you are agreeing to our use of cookies.   Find out more.

New Frontiers Of Risk: Revisiting The 360° Manager

February 2014

Debra Baker

Head, Global Risk Solutions, Asset Servicing

 

Dr. Harry Markowitz

Nobel Prize-Winning Economist

This whitepaper features
a Foreword by
Nobel Prize Winner
Harry Markowitz, Ph.D.

Table of Contents

Letter from Debra Baker

Foreword

Risk Management Now

Investment Risk

Credit Risk Management

Emerging Markets Risk

Liability Driven Investing

Operational Risk

Political Risk

Best Practices

Conclusion

In collaboration with Nobel Prize winning economist, Dr. Harry Markowitz, BNY Mellon's Investment Services and Investment Management groups have combined resources with HedgeMark International, LLC to provide an inside look into the institutional investment risk management field.

In our previous white paper, which also included valuable input by Dr. Markowitz, we found that pension funds and non-profits were just starting to take a more serious look at risk management. Now, some eight years later and post the 2008 financial crisis, our 2013 survey shows that risk management is more critical than ever. Among our major findings:

The 2008 Financial Crisis – A New Awakening of Risk Awareness:  The 2008 financial crisis caught many institutional investors off guard. The risk management procedures then in place were widely perceived to be insufficient for a crisis of such magnitude. The drive for more effective, holistic risk management was soon on.

No More Chasing Alpha:  It's down with alpha and up with targeted returns. Institutional investors are placing greater emphasis on achieving absolute return targets as opposed to outperforming a market benchmark. Risk budgets, matching liabilities and avoiding downside risk all play an important role in this shift.

Increased Use of Alternatives:  Survey respondents have expanded their use of alternative investments to improve diversification and potentially help with downside risk. Institutional investors plan to increase their allocations to alternatives over the next five years.

Analytical Tools on the Front Lines of Risk Management:  Analytical tools based upon risk-return analysis and performance attribution continue to be the most commonly used to model, analyze and monitor investments. Total plan/enterprise risk reporting tools are on the rise to encompass traditional and alternative investments, as well as liabilities.

Avoidance of Unintended Bets:  A desire to avoid unintended leverage and to better understand underlying investments has grown markedly since the 2008 financial crisis and appears to be driving institutional investors toward solutions offering greater investment transparency.

 

Letter from Debra Baker for the Institutional Investor

Risk management is a puzzling proposition for institutional investors. Just as we develop meaningful controls to manage the underlying risks associated with the last market crisis, new risks keep emerging and old ones keep evolving. To help you better understand and manage the ever-changing nature of risk, I am pleased to present the latest in BNY Mellon's thinking, New Frontiers of Risk: Revisiting the 360° Risk Manager.

This white paper provides an inside view into the formidable risk pressures that institutional investors are up against. From new regulations, to transparency concerns, to investment risks across the board, we look into the attitudes and actions of institutional investors to find what has worked for them and what hasn't. To that end, we surveyed over 100 institutional investors, including pension funds and endowment & foundations, with approximately $1 trillion in aggregate assets under management. What they told us has led to some surprising findings, especially when it comes to generating alpha, as shown in the pages and charts that follow.

At the start of this study, we turned once again to the expertise of Dr. Harry Markowitz, the pioneer of Modern Portfolio Theory (MPT), 1990 Nobel Prize winner in economics, and longtime friend of BNY Mellon. Dr. Markowitz collaborated with us on our first risk white paper in 2005, New Frontiers of Risk: The 360° Risk Manager. Back then, the need for more structured and holistic risk management was just beginning to be recognized. Now, almost a decade later and in the wake of the 2008 financial crisis, risk management is a foremost priority of just about every institutional investor.

I would like to extend my personal thanks to all of our clients and prospects who participated in this survey. And to Dr. Markowitz, whose contributions in the field of risk management are as relevant and valuable as ever, we are proud to work with such an esteemed luminary. Together, we are advancing our way through the new frontiers of risk.

Regards,

Debra Baker

Debra Baker
Head of Global Risk Solutions
BNY Mellon Asset Servicing

Foreword – Harry Markowitz , Ph.D.

 

ABOUT THE SURVEY

The 2013 Survey comprised over 100 institutional investors from around the world. 53% of the respondents are in the United States, 17% in Canada, 27% in Europe, the Middle East and Africa, and 3% in Asia. For purposes of comparability with the 2005 survey, this paper focuses on 88 respondents, 36% of which were corporate pensions, 32% were public pensions, 16% were endowments/foundations and the remaining 16% consisted of other types of institutional investors. A significant majority of these respondents, approximately 92%, were responsible for managing over $1 billion in assets, with 48% managing between $1 and $5 billion, 18% managing between $5 and $10 billion, and 26% managing more than $10 billion in assets. Another 15 sovereign wealth funds and central banks that participated in surveys and interviews are described separately in the appendix.

 

Sample Survey Findings

Discover How Institutional Investors Rated Investment Policy Measures


Discover How Institutional Investors Rated Investment Policy Measures

Explore Respondents' Views About Risk Management During the Past Five Years


Cost and Benefit of Regulatory Change


Explore Respondents' Views About Risk Management During the Past Five Years

Download New Frontiers Of Risk: Revisiting The 360° Manager to view additional findings »

This white paper is the property of BNY Mellon and the information contained herein is confidential.

This white paper, either in whole or in part, must not be reproduced or disclosed to others or used for purposes other than that for which it has been supplied without the prior written permission of BNY Mellon.

BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation and may also be used as a generic term to reference the Corporation as a whole and/or its various subsidiaries generally. Products and services may be provided under various brand names and in various countries by subsidiaries, affiliates, and joint ventures of The Bank of New York Mellon Corporation where authorized and regulated as required within each jurisdiction, and may include The Bank of New York Mellon, One Wall Street, New York, New York 10286, a banking corporation organized and existing pursuant to the laws of the State of New York (member of FDIC) and operating in England through its branch at One Canada Square, London E14 5AL, England, registered in England and Wales with numbers FC005522 and BR000818. The Bank of New York Mellon is supervised and regulated in the United States by the New York State Department of Financial Services and the United States Federal Reserve and authorized in the UK by the Prudential Regulation Authority. The Bank of New York Mellon London branch is subject to regulation by the Financial Conduct Authority and limited regulation by the Prudential Regulation Authority. Details about the extent of regulation by the Prudential Regulation Authority are available from us upon request. Not all products and services are offered at all locations.

The material contained in this white paper, which may be considered advertising, is for general information and reference purposes only and is not intended to provide or be construed as legal, tax, accounting, investment, financial or other professional advice on any matter, and is not to be used as such. This white paper is a financial promotion. This white paper, and the statements contained herein, are not an offer or solicitation to buy or sell any products (including financial products) or services or to participate in any particular strategy mentioned and should not be construed as such. This white paper is not intended for distribution to, or use by, any person or entity in any jurisdiction or country in which such distribution or use would be contrary to local law or regulation. Similarly, this white paper may not be distributed or used for the purpose of offers or solicitations in any jurisdiction or in any circumstances in which such offers or solicitations are unlawful or not authorized, or where there would be, by virtue of such distribution, new or additional registration requirements. Persons into whose possession this white paper comes are required to inform themselves about and to observe any restrictions that apply to the distribution of this document in their jurisdiction. To help us continually improve our service and in the interest of security, we may monitor and / or record telephone calls. The information contained in this white paper is for use by wholesale clients only and is not to be relied upon by retail clients.

Any discussion of tax matters contained in this white paper is not intended to constitute tax advice and is not intended or written to be used, and cannot be used, for the purpose of avoiding tax or penalties imposed under the United States Internal Revenue Code or promoting, marketing or recommending to another party any transaction or matter. For tax advice, you should consult an independent tax advisor for advice based on your particular facts and circumstances. The contents may not be comprehensive or up-to-date, and BNY Mellon will not be responsible for updating any information contained within this white paper. Some information contained in this white paper has been obtained from third party sources and has not been independently verified. BNY Mellon makes no representation as to the accuracy or completeness of the information provided in this white paper. BNY Mellon recommends that professional consultation should be obtained before using any service offered by BNY Mellon.

The views expressed within this white paper are those of the contributors only and not those of BNY Mellon or any of its subsidiaries or affiliates. BNY Mellon assumes no liability whatsoever (direct or consequential or any other form of liability) for any action taken in reliance on the information contained in this white paper, or for resulting from use of this white paper, its content, or services. Any unauthorized use of material contained in this white paper is at the user's own risk. Reproduction, distribution, republication and retransmission of material contained in this white paper is prohibited without the prior consent of BNY Mellon.

Equity markets are subject generally to market, market sector, market liquidity, issuer and investment style risks, and fixed income markets are subject generally to interest rate, credit, liquidity, pre-payment and extension, and market risks among other factors, all to varying degrees. Investing in international markets involves special risks, including changes in currency exchange rates, political, economic, and social instability, a lack of comprehensive company information, differing auditing and legal standards, and less market liquidity.

Investments in hedge and private equity funds and fund of hedge and private equity funds (collectively, "Funds") are speculative and include the following special risks: Investments in Funds may be suitable only for certain investors. There can be no assurance that a Fund's investment objectives will be realized or that suitable investments may be identified. An investor could lose all or a substantial portion of his or her investment. Funds are generally not subject to the same regulatory oversight and/ or regulatory requirements as a mutual fund. Successfully overcoming barriers to entry, e.g. legal and regulatory enterprise, does not guarantee successful investment performance. Investments may involve complex tax structures resulting in delays in distributing important tax information. Underlying managers or their administrators may fair value securities and other instruments for which there is no readily available market or third party pricing, or for which the manager believes the third party pricing does not accurately reflect the value of those securities, based on proprietary or other models. Funds may not be required to provide periodic pricing or valuation information to investors. Performance may be volatile. Underlying managers may employ leverage and other speculative investment practices that may increase the risk of investment loss. Adherence to risk control mechanisms does not guarantee investment returns. High fees and expenses at both levels in a fund of funds may offset an investor's profits. The investment adviser may have total discretion over underlying manager and strategy selection and allocation decisions. A lack of manager and/or strategy diversification may result in higher risk. There may be restrictions on transferring interests in a fund of funds vehicle. There is generally no secondary market for an investor's interest in a Fund. This is not an inclusive list of all risk factors. Parties should independently investigate any investment strategy or manager, and consult with qualified investment, legal, accounting and tax professionals before making any investment.

Trademarks, service marks and logos belong to their respective owners.

© 2014 The Bank of New York Mellon Corporation. All rights reserved.

02/2014