Rogue traders are rare but can be extremely dangerous. They can cause major losses, despite the fact that financial and commodity trading firms are generally extremely sophisticated in their use of information technology and analytics. Companies facing immense pressure to generate revenue, however, do not always implement the risk-aware culture and implement the capabilities needed to support their trading and risk management operations.
Rogue trading reflects a breakdown of a firm's risk management governance, culture, processes and technology. Risk management practices designed to prevent rogue trading must be comprehensive but also holistic and integrated. All too often, organizational "silos" prevent effective integration of risk management structures and responsibilities. Gaps in integrated practices and segmentation of front, mid and back offices have been exploited by rogue traders. In addition, the pressure for revenue can incubate a rogue trading culture that turns a blind eye toward the behavior of star traders. Although such individuals represent opportunities to make significant profits in a short period of time, these behaviors can lead to serious consequences.
Accenture's recent Risk Management Research surveyed hundreds of executives across many industries, and found that senior managers face more and larger risks in their trading operations than ever before. We see leading practice companies addressing four key elements in their efforts to manage risk effectively:
1. Governance. A governance structure or internal control system should start with a Risk Management Committee and then extend to the board of directors as well as the following functions: Internal audit, strategy, planning, security management, legal, finance, tax, treasury, accounting and IT. Our research indicates that ownership of risk management is another key issue; having a dedicated executive in place – often called the Chief Risk Officer (CRO) – is essential to mastering this problem.
Having a CRO in place, however, is not enough to make that executive successful. Many CROs at large capital markets and commodity trading firms struggle with independence and the necessary support to stand up to the trading organization. Leading companies often use an independent risk committee to assess positions, and also have the CRO report directly to the Board of Directors.
Within the trading and risk management organization, reporting relationships between front, mid and back offices need to be segmented. Conflict of interest can arise in absence of a robust governance structure of clear checks and balances in reporting and reconciling trading activities.
2. Culture. The strongest systems and measures can be foiled by people who are motivated to attain profit by any means possible. Systems can let an organization down, sometimes with significant downside. Industry-leading risk management organizations value the fine balance of risk and reward and the means at hand to mitigate risks. Compensation structures that ignore the risk-reward balance create an environment for excessive risk taking.