Agencies Beef Up Ability to Evaluate Risk Models

By de Senerpont Domis, Olaf | American Banker, April 30, 1997 | Go to article overview

Agencies Beef Up Ability to Evaluate Risk Models


de Senerpont Domis, Olaf, American Banker


When the risk manager from KeyCorp met the risk management expert from the Office of the Comptroller of the Currency, the tension was palpable.

"At first it was like a couple of bulls stomping and lowering their heads and getting ready to attack each other," said Kevin M. Blakely, KeyCorp's executive vice president for risk management. "Our guy didn't know what to expect from the OCC. But over th e next two or three weeks, they built up a mutual respect."

Similar encounters are taking place in banks nationwide as regulatory examinations increasingly focus on risk management practices. Bankers, proud of their risk management skills, are fast finding that regulators know more than a few tricks of the trade.

The OCC, for its part, has assembled a team of 11 PhD economists to help examiners evaluate the complex mathematical equations that banks use to size up risk.

"Examiners are not trained as quantitative economists, but they are dealing with bankers who are creating and relying on very sophisticated models," said Jeffrey A. Brown, who heads up the team. "Our role is to help our examiners understand what the bank is doing so they can make a judgment about the risks."

In this article and two to follow, the American Banker takes stock of risk management, a practice that is revolutionizing the way banks are managed and supervised. Reflecting the leading role that regulators are playing, today's report spotlights how the OCC is equipping its examiners for the new world.

Headed by Mr. Brown, the team of economists started examining risk models used by the 10 largest national banks nearly three years ago and plans to expand its scope to the top 50 this year. Credit risk models at a handful of community banks have been exam ined as well.

The economists spend two to three weeks participating in an exam, focusing on whether a bank's models work.

"We quiz them about where they get their data, how it is processed, how often they update it," said P.C. Venkatesh, an economist on the team.

Mr. Venkatesh, 43, typifies the level of expertise on the team, known as the risk analysis division.

After earning a PhD in finance from the University of Florida in 1983, he spent eight years teaching at the University of Houston. In 1991 he joined the Commodity Futures Trading Commission as a research economist.

"It wasn't a very hard sell to get me to come over here," he said. "This place is far more interesting-there was certainly no travel at the CFTC and not much going out and meeting people, like there is at this job."

OCC employees say it was essential to bring in people with Mr. Venkatesh's experience.

"As markets developed and got more complex, we felt we needed additional expertise to assist us," explained Alfred P. Crumlish, an OCC examiner assigned to a money-center bank. "The risk analysis division adds a great deal of credibility and integrity to the exam process."

The other banking agencies have taken steps to improve their understanding of risk models but have yet to dedicate a stable of economists to the task.

The Federal Reserve Board has capital markets examiners who are specially trained to evaluate risk models and are called in occasionally to help out on exams, said Michael Martinson, the Fed's assistant director of international supervisory policy.

"We use the personnel we find necessary to check the validations," he said, "and if that requires a specialist coming in to the exam, we have them in every reserve bank."

The institutions supervised by the Federal Deposit Insurance Corp., which generally are smaller than those the Fed and OCC oversee, are primarily exposed to interest rate risk. …

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