The evidence provided by the preceding five sections leads to the conclusion that the able management of exposure has a long list of prerequisites that must be ful- filled. Its exercise also needs a rigorous methodology; which is a basic characteris- tic of any science. Another ‘must’ is steady practice to learn how the system ticks.
This concept has been superbly phrased centuries ago by Roger of Hourden.
Changing only one term, it reads: ‘The science of risk management, if not practised
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beforehand, cannot be gained when it becomes necessary. Nor indeed can the athlete bring high spirit to the contest, who never has been trained to practise it.’6 Training is the key word in any science, and accountants are well placed to train themselves in the control of risk.
Learning risk management is so much more necessary because of the strong anchoring of risk-taking policies in modern business, growing leverage in the economy and the inescapable macroeconomic shocks in the globalized land- scape. All this explains why accounting practices must respond to the need to focus on, and register in no uncertain terms, every signal connected to exposure.
Additionally, accountants constantly have to calibrate their tools to keep risk managers aware of the state of the art in their assessment of exposure. Accountants should also appreciate that the proper definition of risk taken by their firm through its financial instruments and counterparties requires a value differenti- ation provided by the perspective of the executor:
● Traders
● Loans officers
● Risk managers, and
● Senior executives of the firm.
A comment I have heard quite often in my research is that there is no real aware- ness of risk among accountants, and not only among accountants. Evidence pro- vided for this statement has included the overly simplistic notions sometimes adopted for risk assessment. One of the knowledgeable persons who contributed valuable concepts to this book argued that risk control activism is comparable to monetary policy assessment, which must demonstrate the:
● Determination with which a central bank tries to enact its statutory objectives
● Basic features of the macroeconomic environment in which monetary policy is made, and
● Frequency and amplitude of policy moves over a period of time as captured, for instance, by interest rate volatility.
Up to a point, policies connected to effective control of credit risk and market risk, and those targeting exposures associated to systemic factors, correlate. In fact, the most interesting, and important, developments in risk management sci- ence are not those associated with phenomena of a smoothly running economy, but those of practical breakdown.
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In the case of economic and financial crises, the very essence of applying sci- entific method is an effective response to the need of focusing attention on the nature and likelihood of previously unencountered states of a system, particu- larly states beyond its original scope, or issue under investigation.
Based on principles of scientific analysis, this approach contrasts with opin- ion surveys, which sometimes include bias. For instance, a mid-December 2006 survey of oil analysts and traders asking for assessment of whether crude oil futures are likely to rise, fall or remain neutral in the coming weeks gave the fol- lowing result: Rise 12, Neutral 6, Fall 8. ‘Fall’ represented just 30% of opinions, but as the oil market of January 2007 demonstrated, the minority carried the day.
A scientific process of prediction studies interrelationships between critical factors, some of which are only partially known. An analytical approach like input/output protocols assists in identifying, and sometimes projecting, critical points of convergence and divergence, also in assessing the significance of changes of direction presented at crucial junctures.
This type of research often focuses on the specificity of future branching points, which are built into the system under investigation – whose definitions, axioms and postulates are all man-made. Accountants have the mission to pro- vide accurate, timely and analytical data; rocket scientists labour to torture this data (noun, singular) and make it reveal its secrets.
The message to the reader distilled from these references is that, as well- managed entities appreciate, the concept of risk is broadened and deepened at the same time. By contrast, the laggards lack both policies on risk control and tools permitting the investigation of complex situations involving:
● Volatility, and the correlation it generates between markets and instruments.
● Uncertainty, about high-frequency/low-impact expected events and most particularly low-frequency/high-impact unexpected events.
● Liquidity, both market-wide and specific to the firm, given prevailing volatility and uncertainty.
● Solvency, including the possible reasons for insolvency, ways and means for fast realization of assets, and default point (DP) characteristics.
The ability to define, model and analyse complex situations is core to any scien- tific risk management approach. The increasing depth and breadth of financial studies suggests that more intellectual effort has to be organized around the prob- lem to be solved than in connection to traditional functions served by classical accounting. This is a basic premise in science, which now mutates into finance and accounting.
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Notes
1 D.N. Chorafas, Operational Risk Control with Basel II: Basic Principles and Capital Requirements.
Butterworth-Heinemann, London, 2004.
2 D.N. Chorafas, International Financial Reporting Standards and Corporate Governance: IFRS and Fair Value Impact on Budgets, Balance Sheets and Management Accounts. Butterworth- Heinemann, London, 2005.
3 D.N. Chorafas, The 1996 Market Risk Amendment: Understanding the Marking-to-Model and Value-at-Risk. McGraw-Hill, Burr Ridge, IL, 1998.
4 Bryan Burrough, Vendetta: American Express and the Smearing of Edmond Safra. Harper Collins, New York, 1992.
5 D.N. Chorafas, Rocket Scientists in Banking. Lafferty Publications, London, 1995.
6 Jonathan Phillips, The Fourth Crusade and the Sack of Constantinople. Pimlico, London, 2005.
Roger of Hourden had spoken of ‘the science of war’.
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