Risk management is a hard job and is often concerned with the challenge of making difficult decisions. We all know that difficult decisions give rise to an adverse paradigm. To this context, the question arises; how do risk managers utilise the paradigm to produce synergy? But before this, they need to overcome ‘naïve realism’ as the ideas generated from the paradigm shift are still newfangled and many people may not be ready to appreciate the same.
While others see things straight and take decisions based on psychological biases for an immediate outcome, a risk manager takes the decision in an analytical way. He/she evaluates things comprehensively, taking a 360 degrees approach to arrive at a superior result. This is because ‘left of boom booms right of boom’. This does not mean that risk managers stop or slow down businesses; rather they facilitate businesses in a cost-effective and more sustainable way, the outcome of which people may not see immediately, but the goodness of which they realise consequently.
A short case study: A CEO and his business team wanted to avail a huge sum of funds to finance the operations of a giant and well-reputed company dealing in oil exploration in an oil- rich country. The credit memo was presented at the highest management committee meeting, after passing through all delegated offices including risk management. After looking at the financial records and industry analysis, the company seems to favour the strong argument put forward by the business team to approve the credit. Also, the sum of the credit involved was large enough to give them adequate profit to meet the year’s target alone. However, the risk management team, though positively disposed to the transaction, certified the same subject to some major amendments.
The risk management team equally indicated the possibility of novelty risk occurring in near future, and thus requested for more information on regulatory decisions and potential mitigation measures that may be adopted in the case of occurrence. The risk management team further recommended reduction of the amount to be availed to the company to a certain percentage of its large portfolio, and expansion of utilisation period, i.e., disbursement based on ‘observe and go’. But the committee chairman as well as the CEO and other members cared less about the chief risk officer’s position and proceeded to approve the disbursement of the facility in favour of the company, as they needed it urgently to top up the balance sheet target.
The result was ‘too big to fail’. Huge regulatory changes and systemic risk adversely affected the business revenues and payment. The bank failed to meet its capital requirement due to huge loan loss provision and so on. Subsequently, the bank was tagged as an ‘ailing bank’ and it consequently suffered the resultant consequences.
The lesson from the above signifies the value of risk experts’ advice and taking decisions not only based on psychological paradigm but based on analysis. Risk management works better by utilising analytical thought and making decisions based on long term profit and outcome. The meaning of exercising risk management is not just seeing the ‘black swans’ and closing the file, but the approach must be ‘doing it’ with some required management, by enabling all stakeholders ‘to do it’ not just ‘it’s not doable’. This is how golden goose can be found. Historically, chief risk officers (CROs) have been associated with restriction and control. However, as the role evolves, they are increasingly becoming crucial decision- makers in the executive suite. Today’s CROs lead the process of integrating risk and crisis management with internal controls, allowing organisations to better anticipate emerging and operational risks.
This is the state-of-the-art of risk management in today’s world, which is business focused and not just working as a gatekeeper, but as an enabler too. An ideal risk management function should become proactive as well as fast-track, not simply by minimising negative risk but also by maximising opportunities. To do so, Enterprise Risk Management (ERM) should be a continuous process, constantly monitoring and assessing risk in a forward-looking way that provides organisations with a path toward opportunity and value maximisation. It is also important to emphasise risk thoughts on decision-making. In this case, risk managers put themselves in the shoes of the decision-makers and ask, “What risk information they need, what are some potential hazards and opportunities?” By asking these questions, they are able to make intelligent decision, thus selecting the best among all alternatives! A CRO has to be analytical but they must combine this with commercial, strategic, leadership and communication skills. It’s no longer sufficient to be just a good quantitative, or qualitative person.
Businesses are all about taking risk and reaping benefits. Hence, a CRO with a risk averse mind set would not work. A CRO’s thinking focuses on how to find a way to enable others to do business; not only model validation process but using both science and art. A standard risk management paradigm assists in identifying almost all tractable risks but outside the box, while the intractable risks or novelty risks have to be kept in view. After all, CRO’s use a dynamic approach because ‘one size does not fit all’. It should clarify what prominent and vital role CRO plays at the board level, right through to the front line of the business.
A risk manager’s role in Islamic finance is more relevant and ‘a must do’ because of its nature and unique risk profile. Being ethical and responsible paradigm of business, Islamic finance entails the act of proactively adopting a robust risk management system to safeguard the interest of Investment Account Holders (IAHs), who are vulnerable to the risk of losing their capital. A CRO’s role is very important to protect an organisation from various types of unique risks it would be exposed to, aside from the common risks it shares with other conventional finance institutions. This includes, but is not limited to, managing displaced commercial risks by way of putting a robust income smoothing plan to protect its profit and loss sharing partners and shareholders as well. Fiduciary and reputational risks are also paramount to manage, indicators include Shari’a noncompliance and legal risks for example. Any of the above risk categories can cause an Islamic finance institution to go down. They are equally capable of constituting systemic risk for the whole industry as well as market participants since they are working under the same umbrella.
Apart from this, various types of credit, market, liquidity and operational risks related to its assets and operations that are uniquely embedded and managed through a bundle of robust mechanisms in a transparent, responsive and ethical way. In such a peculiar situation, risk managers in Islamic finance utilize proactive as well as more prudent risk management techniques mostly by way of risk transfer within the parameters of Shari’a dictums.
From a leadership perspective, the indispensability of risk management is a ‘MUST DO’. A leader in an Islamic finance can’t ignore the stated risk scenario that can jeopardise the image and even existence of the institution overnight if not well managed. A CRO’s function is like a ‘camel in the desert’. Having journeyed through the desert, a CRO can be in a better position to lead by turning all ‘black swans’ down and grabbing all ‘golden geese’ in more hands-on, professional as well as responsive way. Ethics and responsible approach to business operation needs such leadership, who believes in such responsibility, to understand and appreciate, and to better manage risks while leading the organisation to the Promised Land. To conclude, a risk management-oriented leadership can uplift the business performance and sustainability of an organisation by maximising the value more aptly and ethically than others can do.
