Banks and asset management companies manage their investments to spur growth. They continuously monitor the performance of investments and make appropriate decisions. Before investing, banks and asset managers also conduct a number of research-related tasks. After multiple investments, banks monitor their portfolios. They also depend on risk models, financial models and other frameworks to complete daily operations related to investments. All these activities together form the investment process.
An organisation needs to ensure the investment process is conducted smoothly. However, certain risks hamper the continuity of the investment process, resulting in a loss of revenue. Some organisations focus on model risk management technology solutions to reduce the chances of operational mistakes. Others focus on addressing market risks that hamper investments. Risk management has become an indispensable part of investment banks’ and asset managers’ tasks.
For portfolio diversification
Investment banks and asset management firms focus on diversifying their portfolios to reduce risk. An ideal portfolio consists of a blend of small-cap, large-cap and international investments, making sure an organisation has other investments to generate revenue even if the financial market is disrupted. Investment banks and asset management firms are always at risk of holding similar investments. They may feel they have a diverse portfolio, but a closer look may reveal they hold stocks of similar companies, and they could lose all their revenue if a particular sector is affected.
To address portfolio diversification risks, portfolio monitoring is essential. Without portfolio monitoring, an organisation cannot know the risks involved with its investments. Portfolio monitoring could also help prepare for contingencies. Some investment and commercial banks have risk models to determine portfolio health. Organisations also rely on advanced portfolio monitoring solutions to keep tabs on all investments. Risk management, however, is not limited to the portfolio.
To ensure the accuracy of models
Digital or system models are used by every investment organisation – from asset management firms to commercial banks. These models are frameworks uploaded on software systems within the organisation and help complete the investment process. Organisations might use market forecasting models, risk models, financial models, equity analysis models, revenue models and more. Sometimes, these models are interconnected and help with different business operations. If they stop working abruptly, the organisation would be affected significantly.
To ensure all models of an organisation function perfectly, model risk management technology solutions are required. Sometimes, a model could start producing erroneous results, and those employees using it may not be aware of it. In the long run, the organisation may lose funds and not know the cause for this. For example, a market forecasting model with incorrect results could persuade an investment company to pursue the wrong opportunities. Adopting the right model risk management technology solutions, therefore, is crucial for an investment or commercial bank, as only then could it reduce the chances of operational risks.
To handle market disruptions
An investment or commercial bank is also at risk due to market disruptions. Sudden changes in the market impede the performance of portfolio companies. For example, investment banks had to re-evaluate their portfolios amid the pandemic. They tried to reduce portfolio volatility by rebalancing and trading bonds. Sudden market changes are some of the biggest risks for investment organisations.
Investment and commercial banks should have a risk mitigation plan in place to weather market disruptions. This could include market research, forecasting and rebalancing. They would also need expert risk analysts to monitor market conditions, to prepare for the coming changes.
How is risk management improved for the investment process?
Investment or commercial banks should refrain from completing risk management processes internally. It is recommended that they partner with a third-party research firm that could help choose the right model risk management technology solutions.
