Archive for the ‘Small Companies’ category

Risk Language

November 27, 2010

This is one of the eight Fundamental ERM practices. These practices are the foundations of a new ERM program.

Risk Language is not commonly recognized in most ERM literature as a fundamental practice.  But all you need to do is to talk with a management team that has a common risk language and another who does not and it is difficult to see why it is not.  The management with the common language can much more often articulate a common vision of risk management and especially of risk appetite.  The objectives of the ERM program of a firm without a common risk language are usually not understood similarly by more than a tiny handful of people.

When hearing the story of ERM at a firm it seems to be a much more likely explanation for the firm without the common language that their ERM program exists mostly for the purpose of entertaining outsiders than for impacting the management of the firm.

At the earliest stage of development of an ERM program, the lack of a language should become apparent.  Ask any two managers what they think is meant by an unacceptably large loss and you are likely to get as many different answers as you have answerers.

Ask that same set of people what would be an acceptable level of sales or profits and they will all usually be able to clearly state the company goals for the current year.

So the objective in this area as it is with measurement is to put risk on the same footing as sales and profits, to give it the same clarity and unanimity of understanding and purpose.

There are several steps to gaining a risk language for a firm.

  1. Existing Risk Terms – Making a collection of existing risk terminology used commonly in different parts of the company is a good first step.  Notice where different parts of the company have different terms for one idea and other places where people have different meanings for the same term.  Those conflicts need to be resolved so that there is one main set of terms used within the company for those ideas.
  2. Standard Risk terms – It is not necessary that each firm adopts an entire vocabulary about risk from outside the firm.  But on the same token, there are a wide variety of standardized terms for risk.  Take a look at Risk Glossary, for example.  A good first step would be to take a short list of terms from a source like that and start to make sure that everyone starts to learn those terms.
  3. New Risk Terms – As ERM grows within the company, new terminology will develop for particular ideas.  Some of that terminology will emanate from the risk department and some will come from the executives as they seek to repeat things that they hear at the risk committee meetings.  For some time, everyone needs to be deliberate about the process of coining new terminology.  Conscious that one way of saying something seems to “stick” better than another.  Encourage the formation of this vocabulary.

Besides forming this new vocabulary, it is extremely important that both the risk staff and the other managers who are members of risk committees make sure to use the new risk terminology inn their everyday work.  Language is naturally built by usage, not by dictionaries.

One last thought… ERM practice is a combination of some very expensive things and very simple things.  In general, the largest firms can afford the very expensive things more easily while the simple things are usually executed much more effectively in small firms.  This is one of the simple things.



Most Popular on Riskviews

November 15, 2009

Most Visited on Riskviews:

Since August 2009 when the blog was restarted as a forum for ERM discussions.

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Part of a series of ten reflections on comments by Nassim Taleb on how to create a Black Swan Free World.  This particular discussion is about complexity and simplicity.

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Discussion  of how the unprecedented levels of interest rates affected the US life insurance industry 30 years ago.

Enterprise Risk Management for Smaller Insurance Companies

September 13, 2009

Guest Post By Max J. Rudolph, FSA CERA CFA MAAA

In today’s volatile world insurance companies need an ERM framework in place to help manage risk. The path taken can vary, but iterative movements to improve risk culture and risk identification can lead to an optimization of the balance between risk and reward. Better decisions are made and value is added.

Large insurers tend to have specialized staffs, with pricing actuaries separated from reporting actuaries both physically and culturally. Small and mid-sized insurers have actuarial staffs that do it all. This requires a team of detail oriented generalists, a true oxymoron. These actuaries price the products, develop the projections, and complete any regulatory reporting that is necessary. Managements often use senior actuaries as key members of their team, and this often leads to long and fulfilling careers.

The goal of enterprise risk management is to make better decisions regarding the overall risks taken by a firm. This means looking at specific risks holistically, across all business lines, as well as aggregating risks across the enterprise.

What’s in it for me?

Why should small company actuaries, already stressed by regulatory burdens and increasingly complex models, embrace enterprise risk management (ERM)? In many ways the profile at smaller firms I described means that the actuary is already highly involved in ERM without calling it that. Leadership teams at small firms are asked to address all risks and talk through issues as a group. The senior actuary is typically one of the primary go to employees for financial issues, providing peer review capabilities for the CEO. These teams are tackling ERM, but when an external stakeholder like a rating agency asks about the firm’s ERM process the question might be left blank or given an incomplete answer. This is partly due to newness to the subject for the external stakeholders. The way the question is asked does not elicit a full response. There are generally so many things to discuss during an annual visit that developing ERM with small firms rarely makes the cut for the live presentations.

In many ways, suggestions for small insurer ERM parallel that of larger firms. Identifying and prioritizing risks taken, developing strategies to manage them, and most importantly using this information to improve decision making does not vary in concept. It is the implementation that is different. While large firms will involve many people from a variety of units, small firms can accomplish much of the project with a small group sitting together for a much shorter period of time. This is more efficient but other means must be used to instill the risk culture throughout the organization.

ERM Framework

With limited resources, actuaries must plan in advance how to best leverage an ERM framework to help meet the needs of other projects as well. Principles-based approaches to reserves and capital requirements are right around the corner and serve as an excellent example of how ERM and other projects can leverage each other to accomplish multiple   tasks. Model improvements can be made in a base model that is then used for many tasks, including pricing, cash-flow testing, and strategic planning. Using one base model will save time when others ask you to explain the differences between them. The AAA is also developing tools to help practitioners meet the new regulatory requirements of PBA. Know what is available. For example, the AAA interest rate scenario generator provides a safe harbor for regulatory purposes as well as a learning tool for internal decision making as modelers get more comfortable with stochastic analysis. Using it first can provide an opportunity to better understand the nuances of a firm’s business.

This continues in August Newsletter

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