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Extreme Events – Specimen Answer A.9.2 – Answer/Hints

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Q. You work for an insurance company and you are attempting to promote the use of enterprise risk management within it. Describe some ways in which risks might be better handled when viewed holistically across the company as a whole.

 

Possible ways in which risks might be better handled when viewed holistically across the company as a whole include:

 

(a)    A holistic approach should provide a better appreciation of the ways in which different risks might interact. Extreme events often involve more than one risk appearing simultaneously.

 

(b)   A firm should define its overall risk appetite based on its available capital resources (and its access to further capital should it need some). The precise cause of a loss may be less relevant to this than the magnitude of the loss and its financial consequences. Managing risks holistically should allow the firm to adopt a more standardised, less silo orientated approach to risk management and mitigation, making it more likely that proportionate effort will be applied to each possible source of risk to which the firm might be exposed.

 

(c)    Effective holistic risk management should allow a firm to choose more effectively between the different possible strategies it might adopt for risk management, e.g. retention, hedging mitigation or transfer, enhancing shareholder value. It should also provide a better platform for taking full account of different risks in product pricing and business strategy.

 

(d)   A silo approach might result in lessons from one business area not being applied in another, leading to sub-optimal management.

 

(e)   Some types of risk, e.g. business continuity, may naturally span multiple business lines.

 

(f)     Adoption of a holistic approach may confer advantage in relation to external parties. For example, rating agencies may focus on the extent to which the firm appears to be adopting an ‘Enterprise Risk Management’ approach to risk management. Regulators may specifically require the firm to adopt such approaches and may penalise the company in terms of extra regulatory capital requirements if it is not seen to be viewing and managing risks in a holistic fashion.

 

(g)    The discipline of viewing and considering different risks in coherent holistic manner should result in improved governance and business management.

 


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