Risk Professional - December 2009

Insurers

Reap the

Benefits

For insurance companies, losses from

structured investments and lower inter-

est rates were a risk management wake-

up call. Now they are giving CROs

more latitude and taking a more com-

prehensive view of enterprise risk.

ack in 1995, Stephen Gruppo, then senior vice president in Lehman Brothers’ market risk division, came to a stark realization about navigating through a crisis. He recalls being among 200 financial industry professionals attending a conference on Mexico, which was afflicted by a falling peso, rising inflation and current account deficits, and was heavily dependent on foreign investments and capital inflows. More than $30 billion in short-term tesobono securities were coming due that year; Mexico’s foreign reserves totaled $12.5 billion at year-end 1994.

Yet a speaker at the conference described his bank’s international risk management as follows: It aggregated all of its global exposures, added on 15% as a fudge factor, and then had senior executives discuss action steps accordingly.

When risk management was in an earlier phase of its evolution, not informed by some of the bigger economic upheavals to come, that sufficed as a “best practice.” To Gruppo, however, it was too crude even then.

“It was clear to me that was an inadequate way to work through crisis periods,” he says. “The foundation for working through crises must be good data and good analytics in order to make good investment decisions, rather than relying on [rough] estimates.”

Ahead of many of his peers – coming from the sell side, he was further along than most in the insurance and asset management segments of financial services – Gruppo had already traveled some distance toward the more sophisticated brand of risk management that the industry as a whole has been upgrading in the wake of the 2007-’08 turmoil. A case in point for the insurance and annuity sector is TIAA-CREF, the $402 billion specialist in college and university employee retirements funds, which Gruppo joined in 2004 as head of credit risk management and where he is now executive vice president and chief risk officer. As early as 2003, TIAA-CREF began strengthening its analytics-based approach by creating a formal, independent enterprise risk management group.

With the ERM framework in place, the New York-based asset manager adopted an active strategy to sell any investments it felt could not be appropriately priced based on their risks, and to avoid investing in anything that it could not adequately model or fully risk-assess. As a result, says Gruppo, subprime mortgages and complex products such as CDO (collateralized debt obligations) squared didn’t pass muster.