Job at time of interview: Financial Risk Manager, Skandinaviska Enskilda Banken Fund Services
My team and I deal with different investment funds, from the simplest ones (e.g., plain vanilla, equity and long-only) to sophisticated ones such as hedge funds or funds of hedge funds. We design risk measures for identification and management of market risk, liquidity risk, operational risk and counterparty risk across different asset classes (equity, fixed income and asset allocation products). We also deploy the implementation of European directives in the fund industry - e.g., those issued by ESMA (European Securities and Market Authority)for the UCITS (Undertaking Collective Investments in Transferable Securities) and for AIFs (Alternative Investment Funds).
A risk manager's skills should go beyond calculus. He or she should be open to gaining more knowledge - especially in economics, behavioral finance and regulatory issues. In order to be successful - that is, to have a full understanding of the business and to be able to react accordingly to different situations - prior experience in trading or portfolio management is essential.
From my perspective, it mostly helps with model validation regarding VaR (Value at Risk) and with carrying out back testing and stress testing. I also now have a better understanding of best practices and can more clearly see the big picture on risk management failures.
My advice is to take it seriously which, in my case, meant studying at least 15 hours a week. I am a bit "old school" when studying, so I took notes and wrote down the formulae and important concepts and, of course, did all the exercises. The exam takes four hours, so one should also be in good physical and mental shape. While studying, I also continued my swimming and running regimens. The credential, once earned, can be leveraged in different ways, starting with the benefits that GARP reserves for Certified Members. Having the FRM is useful, not only from the technical side but also because it provides entry into a very specialized community - one that shares very specific knowledge and experience. It also speeds up your learning process, increases your efficacy at work and enables you to network with people working in very interesting and diverse areas of risk. What's more, when an employer is deciding between several candidates, the FRM can be a differentiator. At my workplace, it is highly valued.
I view portfolio management and risk management as equally important in the value chain of the investment process. I worked for six years as a portfolio manager and I am member of the CFA Institute. The CFA program is well designed for practitioners in that field. It puts more emphasis on fundamental analysis of the portfolio management (primarily from a bottom-up perspective), whereas the FRM focuses more on managing the risks of the whole portfolio (from a top-down perspective). Therefore, both credentials are complementary. I also believe holding both credentials shows a commitment to excellence and to better serving your company's shareholders.
Risk management creates value by enabling proactive behavior in the investment process, so that you can estimate ex-ante risks and avoid failures. A portfolio manager with the right risk education and culture will be more aware of the potential failures and breaches in the investments process, and this is essential in our daily struggle to "forecast the future." For example, in Luxembourg, we frequently market a UCITS fund product. A portfolio manager (PM) with the proper risk background will make sure that the product (a mutual fund that might have lots of derivatives in it) will respect ex-ante the investment restrictions and risk limits and, therefore, make it even more marketable. It then becomes a reliable investment product and more investors would jump in, because they would have trust in the capability of the PM to avoid losses and properly manage the risk. In economics, we call this "positive externalities," because it is beneficial for the society as a whole.
As a rule of thumb, I'd use the Sharpe Ratio for hedge funds and funds of hedge funds, for its simplicity and suitability to absolute return type of funds; the Information Ratio for benchmark-related investment decisions, given its dynamic feature; and the Sterling Ratio for relating the returns to the drawdowns. I personally prefer the risk-factor performance attribution measure. For instance, in a typical UCITS fund, the risk and performance is attributed to: (1) equity risk factors (e.g., sector, geographical exposure and volatility); (2) fixed income risk factors (e.g., credit spread risk and key rate duration); (3) foreign currency risk; and (4) financial derivative risks (e.g., returns on the underlying, volatility and time to expiry). Decomposing the risk-adjusted performance in this way provides more stability over time, better comparability between portfolios and better interpretability by different end-users.
From a market risk management perspective, and as a quantitative measure, we use the number of investment breaches we have in our funds - for instance, we carefully review any fund that has a realized P&L higher than the one forecasted by our VaR model. As a qualitative measure, we use NAV calculation errors, delays in reporting, pricing issues and the number of investor complaints. In terms of human capital, I suggest that indicators such as peoples' education - or their continuing education, such as earning the FRM - are taken into account.
Increased globalization (particularly in the field of regulation) and growth in the fund industry in Luxembourg (about 10% last year) have created a demand for more competencies and for higher- quality services. As a result, our team has grown, and our organization has focused on hiring more senior people. We have been able to leverage our risk expertise to assure a higher quality of service, and have consequently doubled our business over the past two years.
We have firstly the task and responsibility to understand our business and the risks that are going to impact it. Subsequently, we need to educate our managers, clients and prospects. This is one of the challenges I appreciate in my job. The good news is that we are always learning, which helps us keep up with constant regulatory changes, the development of new products (e.g., exchange-traded funds) and the evolution of both risk measurement models (e.g., new VaR models) and risk management tools. I enjoy teaching; therefore, I always put myself in the clients' shoes and try to use simple examples. I also speak different languages, which helps to convey my message and is appreciated by clients.
This is the hottest topic currently in Luxembourg. As a result of the new regulation from ESMA concerning the AIFs and their-cross border distribution, we are seeing more and more demands from funds managing debt-related products. I am currently in charge, from the risk side, of helping develop the risk metrics and the way the controls are set up for AIFs. For instance, with regard to liquidity risk, a private equity fund has different risk characteristics than a traditional fund.
I always surround myself with knowledgeable and experienced people - not only ones with strong quantitative background (e.g., in physics and chemistry) but also with practical experience in managing investment funds. My mentor is a risk management consultant, a former trader and portfolio manager who's now also a professor of financial engineering. I met him at exactly the time when I was preparing for Part II of the FRM Exam. At that time, I was also on the verge of changing my employer, and he was a great resource in guiding my career.
Being a member of GARP is very important for my career development. It offers invaluable opportunities to continue learning, sharing and networking. Through GARP, of course, I earned the FRM, but that designation is only the beginning of the efforts necessary to be an effective risk manager. GARP gives me the opportunity to be part of a specialized community that jointly tries to find solutions to the collective problems of our industry.