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FF Capital Partners, LLC
Strategy - Chess

Managing Partner: Geraldo Filgueiras, PhD

Our Work:
Strategy - Chess

Your Questions:

    Please call 203-609.0177 (or email us and lets set up some time to discuss.

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What is the Strategic Role of Risk Management?

In short, risk management can play two roles: an internal (enabling better business focus, leverage and optimization) and an external one (properly bringing stakeholders in sync with portfolio of holdings). One’s risk management function may require more or less complex tools.

Contrary to simplistic understanding, even plain vanilla holdings may require more complex analyses (e.g., large less liquid holdings of linear products greatly benefit from non linear analyses). One other important use of strategic risk management is to understand valuation drivers across asset classes.

Different asset classes have very different liquidity and traded volume transparency but the consistent use of market information greatly enhances the understanding of the different asset dynamics (e.g., bonds vs. cds vs. equities, their funding and embedded leverage elements).

An example of overall strategic risk planning: Process begins with top-down, risk-appetite-led view of the target balance sheet for the group. Balance sheet usage should then be allocated to divisions on the basis of both nominal and risk-weighted assets".

How can independent risk strategists help?

The objective of risk management is to enable business management to take risks that on an aggregated basis are still intelligent. This is done by avoiding or efficiently transforming tail risks (i.e., focusing on aggregate and correlation issues) but more importantly challenging risk takers’ assumptions.

Independent risk management can bring a new - best practice-perspective to the business. There are ways the work of independent RMs may be shared with outside stakeholders without compromising the day-to-day risk taking operations. Indeed this forms the basis for a significant portion of the business consulting industry.

Not all consultants are created the same. Many come from a systems background, some from a general management background. Others come from the industry with hands on experience within the function.

Is it about which regime we are likely to face next or how to optimally allocating assets?

Risk-returns are what matter, thus, optimal risk taking is the best way to achieve superior returns. However both regime analyses and how to allocate risks matter. Risk management is essential for achieving it.

In the tool kit of risk takers and risk strategists there are several early risk indicators some more subjective (e.g., economic, environmental, geopolitical and societal and technological) than others (e.g., implied volatilities, volume of trading and price gaps).

The key questions for risks managers are:

  1. How much of the risks are priced in? (issues such as noise vs. information and/or risk premium vs risk)
  2. What is the impact of regime changes on portfolio tail risks?
  3. What to do (to optimize positioning)?

How Can Anyone Claim to Control Uncertainties? Wouldn’t Models Create Further Uncertainty?

Effective risk management must be guided by a deep understanding of potential P&L (size and sources) and potentially available actions that can lead to effective action (e.g., pre-locking funding, hedging, positioning). This requires modeling.

The central inputs to risk models are probability distributions. They are at the realm of any meaningful risk metric but they must be put in context of (risk-return) preferences and the short comings of pricing models.

While some simplistic approaches e.g., "notional amounts" can be very useful to convey some issues they are rarely enough.
Factor (and variable) sensitivity measures - driven by pricing models as well as historical data - are the bread and butter of risk analysis. But they too are not enough.

Three other critical elements of risk analysis are future plausible distributions, their structural relation (e.g., the simplistic linear correlation) and position aggregation. However risk models, as any models, carry simplifications and caveats. Those models need to be carefully chosen, maintained and modified. In fact, this choice of models is what characterizes financial risk measurement very differently from the ones in physical sciences.

Are you confident you are seamlessly complying with regulation?

Savvy risk takers know that either disregarding or easily embracing common wisdom is bad for business.

The tricky with regard to risk regulation is to follow them in a robust manner and within reasonable costs.

For instance, those in the structure credit business know that using either the new standard economic capital formula or an approved internal model - accepted by regulators - is likely to crowd out that business (and that the standard formula will kill the business faster!) Thus the work of risk strategy in cases like this must be to:

  1. prepare models and systems (to get approval of internal models),
  2. understand how the new models and rules will affect this as well as other asset classes and markets and
  3. educate and negotiate improvement in the norms.

Your Questions:

    Please call 203-609.0177 (or email us and lets set up some time to discuss.

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Funding, Liquidity and Credit Risk Metrics

New strategies involve new risk factors and requires new metrics. Liquidity has become a central theme in most strategies.

How to capture systematically liquidity risk? It depends on market data as well as instruments held (particularly their non-linear features).

Once properly understood and communicated, new products have arise, old assumptions debunked & value unlocked.

Macro Hedging & Scenarios Analyses

Provided one’s view on the market changes, one needs to translate that into market moves and more importantly find cheaper hedges.

The amount of financial market data is huge but they are only useful if we know which questions to ask, eg. correlations & networks.

Once properly framed, better hedges have been detected. Not only were they more effective but at times less expensive.

Gap Risk & Leverage Analyses

The embedded options on leveraged financing, redemption calls, etc are valuable even when trigger levels are truly unlikely to be reached.

Historical time series may be difficult to get and beyond prices one needs volume, bid-ask but models,e.g., Exp Shortfall, are needed as well.

Once properly computed one may spot potential market distortions, relative value opportunities, needed reserves, VAs, etc.

Risk Frameworks & Processes

Confidence in one’s financial performance can be gained from the ability to easily perform deep dives into one’s portfolio and adapt to potentially drastic changes.

Risk systems are a must but the first and most critical questions are: which variables and assumptions to track. Then equipped with the systems, limits may be meaningful.

Robust frameworks are comprehensive and flexible enough to enable as many what ifs and discussions as needed. They are critical to demonstrate the ability to act

Reputational Risk Issues

While ultimate goals within organizations are the same, objectives & functions -across strategies and departments- aren’t. Contextual analyses & communication are essential.

To prove that different groups, lines of business require different processes and controls requires a deep (multidimensional) understanding of their available actions.

Such analyses and communications lead to much superior products and may even lead to the setting of industry standards.

Your Questions:

    Please call 203-609.0177 (or email us and lets set up some time to discuss.

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Risk Integration. Liquidity, Operational, Market, Credit, Now What?

For decades investment professionals have gotten used to silo thinking: credit vs. market risk, reputational vs. operational, etc. Investors on the other hand, have always been focused on bottom line returns.

The movement towards risk integration will provide a much enhanced set of offerings to investors.
We see this as a great development especially for the firms capable of tearing apart their silos.

Some advisors estimate that proper allocation of risk can lead to 1-3% jump in ROE (up to 20% in returns with same level of “total” risk). However even looking past the recent headlines about market making platforms, reputation, and technology, large financial institutions live in a very different world (CCPs, HFT, etc) and while all of them seem to be preparing for this world, we know that the winner of the competition will depend on the sounder and faster responses.

From RWA Reduction to Risk Optimization, Why Now?

Most large Banks have exited most of their non-core operations. Even with some work remaining to be done (some 8% of dry powder is estimated to be further pulled back), much more needs to be done in the optimization of the new business mix. The challenge will be to do this on a sound manner.

We do have a vast array of new rules and limitations. Finding the proper business mix requires not only the understanding of macro and micro economics but also how the different business and asset classes are likely to move relative to one another.

For instance, for the 2013-16 period while FICC, Equity and IBD groups are still expected to drag ROE down, FICC is the area most likely to drag it down (some 2% lower), Equities and IBD are expected to drag it down by half of that. However FICC results could be much worse if optimizing measures are not used. In fact, FICC is the most amenable to optimization of all these business groups.

Regulation and Optimization - Risk and Impact on Valuation: To Whom?

Regulations have become much more visible during 2013. Their impact on valuation of different asset classes has also become much more clear. While several aspects remain to be finished (not only because of the roll-out calendar), the issue of leverage has been much flashed.

In the US regulators have moved to a leverage ratio of 5% (in Europe the ratio is likely to be 4%). This means that such rules will not only impact the economics of credit, repo, prime and flow rates but also several high margin products. More importantly, the impact on banks portfolio of businesses is perhaps the most important element of the picture (cross subsidies will be under significant pressure).

The latter means business will do well by valuing and “risking” (and pushing those computations) “down” to their divisions.

Liquidity in Credit Markets: Liquidity Again?

Liquidity in the credit market is down some 60% from its peak in 2007. It represents one of the key concerns for investors (as per survey conducted by Oliver Wyman and Morgan Stanley with investors and corporate treasurers in March 2014).

The primary concern is with EM and HY debt but it also includes investment grade corporate credit. Clearly this represents a fertile ground for scenario analyses (both at the macro and sector level) but also should continue to drive the pursuit for liquidity and funding metrics.

Pull Back Areas: How About Risk?

Repo as well as short-term corporate credit are frequently referred as very likely to be affected by business costs pull back. No doubt that several cost redundancies will occur (either by regulation or market innovation and competitive forces).

But how about risk management? In so far there is duplication and technology advancement achieves the significant reporting higher bars, risk control areas may see some cuts in personnel particularly for firms that were forced to provide quick (and not always robust) responses to regulatory demands.

On the other hand, the demand for risk management support including strategy (e.g., collateral management) should continue to be bid up.

Your Questions:

    Please call 203-609.0177 (or email us and lets set up some time to discuss.

Your Questions:

    Please call 203-609.0177 (or email us and lets set up some time to discuss.