Rogue trading, fraudulent activity, or operational failure does not happen by accident. Uncovering the weaknesses that allows this to occur is not always straight forward but can be comforting.

Experience, a common sense investigative approach, and most importantly, understanding the complete investment process from decision to administration is effective and efficient in uncovering deficiencies which lead to reputation destroying risk events.

Whether the activity applies to treasury investment, physical investment management, derivative trading, financial advisory management, or loan management, some of the more practical approaches to exposing risk deficiencies are discussed below.

 

1. Know the investment and operations process

Understanding the complete investment and operations cycle is key to uncovering investment exposure. This includes the investment instrument and decision process, but also how the decision is applied at every point in the business and administration cycle, regardless whether the process is outsourced.

Rogue trading, fraud or operational breakdown results from incomplete communication, conflict or missing steps in the process chain which are not always obvious and missed if the reviewer is too familiar in one area and not methodical in others.

A typical investment process (see above) generally follows a natural information and decision path, including some crucial feedback opportunities. A common mistake is to concentrate on the glamour investment decision area, and forget the mundane middle and back-office operations that either instill strength or create weakness.

 

2. Know the business and its risks.

Businesses naturally balance risk and continually monitors exposure and its tolerance to risk. This may be in the form of credit, market, investment, operations, social and the like. Uncovering potential unacceptable exposures is the key concern of directors and senior executives.

Knowing where these exposures are likely to evolve is the key to top down application of risks at each point in the investment decision or process. The obvious benefit of mapping risk to investment function, either front, middle or back-office, is the ability to understand where potential problems can occur and what questions to be applied to uncover the potential disaster.

 

3. Know who to talk to and why

Often the least expected function or process proves to be the Achilles Heel in any reputation disaster, but which on retrospect should have been obvious at the time. Knowing where to look, who to talk to and what to ask is the second most important skill.

A common mistake is to concentrate on the high profile investment function and miss more distant, but critical, process areas. Matching risk to process (see above) exposes key areas of concern and avoids fallibility. Picking the right player is also important, I have found that more junior operations personnel doing the mundane work are very valuable if gently managed, rather than senior staff who tend to be conditioned with preconceived ideas, or worse, conflicts of interest.

 

4. Listen to what is not said and what to compare

If usual investment activity is occurring, it is unlikely that the practitioners will post it on the internet or shout it across the trading room. The skill in review is listening to what is not said, rather than what is said, and some practical commonsense techniques are available for this.

Response comparison is another technique that is assisted by a thorough knowledge if the investment and administration process. For example, asking the same question to individuals at key points along the process path can provide some startling discrepancies.

 

5. Bringing it all together

Checklists look efficient, risk matrices have a purpose, but a practical and experienced common sense overlay is key to quickly and effectively uncovering the exposures of most importance to the business.

Reverting to the original investment process and mapping risk and information discrepancies is a practical method to expose systemic weaknesses and it is also a great way of communicating the problem and determining the solution.