Optimization – the next frontier for Market Risk

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Blog Financial Services

The standard market risk approach of “explore and explain” has become more complicated since the arrival of FRTB, which requires the daily calculation of many more metrics on infinitely larger volumes of data. Beyond meeting regulatory requirements, the Holy Grail for bankers is to look at the impact of potential trades before they happen, so that they can structure positions and products in full knowledge of the implications for the capital charge on the portfolio or even at the book, desk or enterprise level.

David Cassonnet, Global Head of Business Development at ActiveViam, considers how analytics are moving towards genuine optimization.

Beyond ‘explore and explain’

Over the last decade, banks have faced unprecedented scrutiny from regulators. The result has been rising pressure on managers to track metrics more closely and generate reports on ever-greater volumes of data and at faster speed. The arrival of FRTB is just the most recent challenge, requiring more advanced calculation logic and more output metrics in addition to the standard VaR and PnL explain.

The need to reconcile market risk metrics with PnL analysis involves multiple systems and databases that need to be aligned. Unfortunately, most banks have an architecture of different systems that were developed over time for various, separate purposes. It is a big challenge to pull them together in a way that is both timely and accurate, and many banks are still struggling to achieve that.

But the next challenge is already looming. Banks need to not only calculate and analyze but also to optimize their capital charge. 

This is predominantly important in relation to existing positions. For instance a Market Risk Manager might want to identify where the biggest hit on K may be on his or her FRTB DRC component, and then simulate a change of rating or change of obligor. This is the only way to identify what to recommend to the trading unit to save K. It would also be possible – though more difficult – to know the cost of capital of a new product before it is launched. That would allow bankers to develop products structured specifically with the capital charge implications in mind. Again this might affect the choice of issuer, the duration of the swap (etc.).

Another benefit of an approach focused on optimization rather than just reporting is that bankers are less likely to miss opportunities. With access to more granular information, they also have a much higher chance of detecting risks.

Such optimization requires the ability to analyze an ever larger amount of data, but also to apply ‘what-if’ analytics. Bankers can see the impact of a given position, structured in a particular way, on the capital charge. In turn, this requires a complex capital allocation algorithm to carry out non-linear aggregation, where 1+1+1 does not necessarily equal 3!

What’s more, every bank’s systems are different. The aggregation process has to cope with the existing architecture and therefore be customized to the configuration of each client’s systems. It is a big ask, but the potential rewards are obvious.

How Atoti+ solves these problems

ActiveViam’s Atoti+ offers a way for bankers to tackle the challenge of optimization and deliver the benefits that such an approach can bring.

We do this at scale, handling huge amounts of data automatically and in real time. The importance of volume comes from the fact that bankers need to perform the analysis/optimization at trade level, which means a lot of data. And it needs to be real-time because it requires the ability to manage incremental updates on the fly, whenever a new transaction is ingested.

Atoti+ provides a dynamic picture that reflects current market positions. That is why some of our partners embed our analytics product within their own products.

Atoti+ can also be applied across multiple businesses, which makes for faster, more efficient integration, and reduces the opportunities for error and fraud. Naturally, we expect clients to customize, and our product can cope with any configuration of existing systems without sacrificing speed or accuracy.

Atoti+ is cloud-native, cost-effective and can replace existing systems with a single unified platform. It is perfect for IT managers who want to reduce their stack. It is also designed from the ground up, specifically to meet the needs of finance, from the core aggregation technology to the UI/UX. And it is already trusted by major banks around the world, including HSBC, National Bank of Canada and Société Générale.