This post discusses risk management systems in the banking sector.

RISK MANAGEMENT SYSTEMS IN THE BANKING SECTOR
Risk is inescapable, meaning banks must do everything possible to mitigate it. Risk management is a challenge that many banks need help to rise to. Meeting this challenge demands a clear understanding of the different types of bank risk to look for and the technologies that will help you overcome them.

Banks are highly regulated to promote financial stability, foster competition, and protect consumers. Due to the strictly monitored environment in which banks operate, they must have strategies to keep all their ducks in a row. Risk management is an essential piece of banking operations. To demonstrate why, this guide will provide an overview of risk management in banking, discuss specifically the types of risk management in commercial banks, detail risk management practices in banks, go over the process of risk management in banks, and explain how to use enterprise risk management software for banks.

CATEGORIES OF RISKS IN BANKS
There are two broad categories of risk management systems in the banking sector: systematic and unsystematic.

SYSTEMATIC RISKS
Systematic risk is also known as undiversifiable Risk or Volatility and market risk. The risk is inherent to the entire market or segment and can affect many assets. Systematic risk affects the overall market, not just a stock or industry. Systematic risk is related to the bank’s assets, where systematic factors change their values. It is also known as market risk, and banks usually engage in market activities. Examples of systematic risk include interest rate changes, inflation, recessions, and wars.

UNSYSTEMATIC RISK
Unsystematic risk refers to the uncertainty inherent to a company or industry investment. It is the risk that affects a minimal number of assets. It is also called Non-systematic, Specific, Diversifiable, and Residual Risk. This risk includes bringing the entire financial system to a standstill. Examples include a change in management, a product recall, a regulatory change that could drive down company sales, and a new competitor in the marketplace with the potential to take away market share from a company you have invested in. It is possible to avoid unsystematic risks through diversification.

COMMON TYPES OF BANKS RISKS
Banks are susceptible to several risks. Here are eight common types of risk that banks are susceptible to:
1. Operational Risk: This refers to any risk incurred due to failure in people, internal processes and policies, and systems. Operational risk is a potential source of losses from any operational event, e.g. poorly-trained employees, a technological breakdown, or information theft. Common examples of operational risk in banks include service interruptions and security breaches.

2. Market Risk: This refers to the risk of an investment decreasing in value due to market factors (such as a recession). Market risk or systematic risk refers to any losses resulting from changes in the global financial market. Sources of market loss include economic recessions, natural disasters, political unrest, and changes in interest. Market risk is the most prominent for banks present in investment banking. The four components of market risk are interest risk, equity risk, commodity risk, and foreign exchange risk.

3. Liquidity Risk: This refers to a bank’s inability to meet its obligations, jeopardising its financial standing or existence. Liquidity risks effectively prevent a bank from being able to convert its assets into cash without sacrificing capital due to low interest.

4. Compliance Risk: Any risk incurred due to failure to comply with federal laws or industry regulations. Compliance risk can lead to financial forfeiture, reputational damage, and legal penalties.

5. Reputational Risk: This refers to any potential damage to a bank’s brand or reputation. Banks can incur reputational risk for various reasons, from an employee’s to the entire institution’s actions. Reputational value is often measured in terms of brand value. Advertisements play a significant role in forming & maintaining public perception, which is why banks spend millions in content marketing dollars.

6. Credit Risk: Banks often lend out money. The chance that a loan recipient does not pay back that money can be measured as credit risk. Retail banks take a credit risk any time they lend money to a borrower without guaranteeing that the borrower will be able to repay their loan. The risk is that the bank might incur debt due to such an agreement. There are two variations of credit risk: counterparty and country.

7. Business Risk: This refers to any risk that stems from a bank’s long-term business strategy and affects the bank’s profitability. Familiar sources of business risk to banks include closures and acquisitions, loss of market share, and inability to keep up with competitors.

8. Earning risk is related to a bank’s net income, the last item on the income statement. Changes in the banking sector’s competition level and the law and regulations could cause a reduction in the bank’s net income.

OBSTACLES TO RISK MANAGEMENT IN BANKS
The importance a sound risk management systems in the banking sector cannot be overemphasized. Obstacles to risk management in banks include regulatory changes, increasing customer expectations, cybersecurity breaches, fraud and identity theft, inefficient internal processes, and increasing competition.