On its part, the board must not be guilty of paying lip-service to the need for good controls and taking no concrete action. Its unqualified commitment to installing and maintaining a first-class control system must be reflected in the resources it makes available and its attitude to risk control personnel. The board must also ensure that appropriate risk education continues throughout the firm.

It must make the funds available for the necessary hardware and software as well as the recruiting and retention of the right numbers of people with the appropriate expertise, skill and experience. Equally important, senior control personnel must have authority and clout with the board and senior management. They must have access and direct lines of communication with senior management, if not board members. They should not be seen and treated as second-class citizens just because they are not direct revenue-earners.

Box 2

Setting the example

The best way of stressing the importance of risk control is to promote traders (whose jobs are often regarded as desirable and high-profile) to risk management positions which have traditionally been shunned by high-fliers. Another very important signal is the seniority of risk managers within the firm’s organisational hierarchy - whether they are represented in the firm’s management committees (even executive boards) and to whom the most senior risk manager reports. The higher their position in the organisational flowchart, the louder will be the message. The head of the global risk management and policy group at Bankers Trust, Daniel Mudge, is an ex-trader. Mudge traded for eight years (1980- 1988), forming the risk arbitrage group while in London. In 1988, he was promoted to managing director with the responsibility of establishing a risk management group at the bank. Robert Gumerlock is deputy chief risk officer of Swiss Bank Corporation. His division is responsible for constructing the risk policy, structure and processes for SBC world-wide, and for operating an independent risk control unit. Gumerlock moved to SBC’s Zurich office in 1992 to direct the centralisation of market risk control following the Swiss bank’s purchase of Chicago options boutique, O’Connor and Associates. At O’Connor, Gumerlock had been a researcher, trainer and trader. JP Morgan’s head of corporate risk management is Stephen Thieke. As well as being chairman of the firm’s market risk committee and credit policy committee, he is also chairman of JP Morgan Securities. Prior to that, he was head of JP Morgan’s Global Fixed Income (Sales and Securities Trading) business, and a co-head of Global Markets. Thieke joined Morgan in 1989 after 20 years at the Federal Reserve Bank of New York.

The method of compensation is another way of nurturing a risk management culture. The board must adopt a compensation policy which does not encourage its risk-takers to take on unnecessary risk. It is inconsistent for example to base a treasurer’s bonus entirely on the profitability of the firm’s financial transactions, because such a one-dimensional compensation policy will only tempt a risk-taker. Instead, the compensation policy should additionally take into account other factors such as divisional and team performance, and the risk-taker’s value-added to non-trading activities.