Common types of Risks faced by Investiment Banks
The biggest risk takers.
Did you already have serious questions about what to do with your money and your savings? What about investing it in a company, or in fixed income?
Probably, getting information about the risks of each of these options is important. And is even more important for Investment banks such as Goldman Sach (GS) and Morgan Stanley (MS).
They tend to deal with more risks than any other institutions. Perhaps, we could say they are a ‘box of risks’. Why? Firstly, Because they manage risks of people, enterprises, and governments, besides their own. These investment banks assess and monitor risks, evaluate, transfer them, and even can create risks.
Having that said, what are the dimensions of risks in Banks ? The idea is to have a brief talk with you about this topic, based on my readings of important reports from the literature and consulting auditors such as EY.
The Seven Dimensions of Risks in Banks
As you can imagine, risk management in banks is complex, multidimensional, multi-scale and multi-perspective. If you remember other conversations (link here) Risks is most of all, perceptions.
Banks face a significant amount of them; these are the seven most common types:
Operational Risk: This refers to any risk incurred as a result of failure in people, internal processes and policies, and systems.
Example: operational risk in banks includes service interruptions and security breaches.
- Market Risk: Also known as systematic risk, market risk refers to any losses resulting from changes in the global financial market.
Example: Sources of market loss include economic recessions, natural disasters, political unrest, and changes in interest.
- Liquidity Risk: This refers to a bank’s inability to meet its obligations, thereby jeopardising its financial standing or even its very existence.
Example: Liquidity risks can effectively prevent a bank from being able to convert its assets into cash without sacrificing capital due to insufficient interest.
- Compliance Risk: Any risk incurred as a result of failure to comply with federal laws or industry regulations.
Example: Compliance risk can lead to financial forfeiture, reputational damage, and legal penalties.
- Reputational Risk: As its name implies, reputational risk refers to any potential damage to a bank’s brand or reputation.
Example: Banks can incur reputational risk for any number of reasons, from the actions of a single employee to the actions of the entire institution.
- Credit Risk: Retail banks take a credit risk any time they lend money to a borrower without a guarantee that the borrower will be able to repay their loan.
Example: The risk itself is that the bank might incur debt as a result of such an agreement.
- Business Risk: This refers to any risk that stems from a bank’s long-term business strategy and affects the bank’s profitability.
Example: Common sources of business risk to banks include closures and acquisitions, loss of market share, and inability to keep up with competitors.
Conclusion Remarks
Of course the idea wasn’t to go deep into the subject, we would need more than 10 conversations for it, but to give you a fast and simple notion about the risks faced by banks in one of the most complex systems of our era: the financial system.
As you could see, Investment Banks face the risks their clients transfer to them to be mitigated, besides their own. Their clients come from multiple sectors in society: corporations, governments, business and even other banks. These networks of investments, assets, wealth management and others explain why risks in banks are so multidimensional and to deal with them to the best of their abilities is crucial for their surviva and sucess.
