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Best Risk Adviser: Deutsche Bank |
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Also nominated: HSBC and BNP Paribas |
Being able to help clients with a rising tide of problems while limiting their own risk is the tricky challenge facing risk management houses today.
Deutsche Bank coped with the pressures applied by tumult in the markets better than others, particularly when it came to structuring neat ways to bring a stretched balance sheet to bear across all asset classes.
Risk management is embedded into the culture and structure of banks such as Deutsche and shortlisted rivals BNP Paribas and HSBC, setting them apart from many competitors that appear to see risk management as an overlay that can be imposed on top of existing businesses. At its heart, good risk management comes down to effective communication across areas of expertise within a particular firm, enabling it to structure solutions that would not be possible in a bank with silos or bad cross-asset and cross-border cooperation. To manage risk well banks need to understand the elements to which they are exposed with absolute clarity.
Deutsche Bank says the key to doing well this year with respect to its own risk profile and the ability to manage the risks of others is the distribution of that risk. “We were able to pass on large amounts of risk taken on during trades to third parties looking for that exposure,” says Deutsche’s Ram Nayak. Several other banks, he added, had to hold the lion’s share of risk on their own balance sheets.
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“We were able to pass on large amounts of risk taken on during trades to third parties looking for that exposure”
Ram Nayak, head of global markets structuring, Deutsche Bank |
Deutsche adds that its ability to hedge longevity risk, which arises because of ageing populations, is a prime example of how it has set itself apart. Longevity risk has always been tricky and expensive to hedge because only a few institutions are willing to assume the risk on their books. In November last year, Deutsche arranged a £3 billion ($4.7 billion) 40-year trade for Rolls Royce that hedged the aero-engine maker against risk on its main UK pension fund. And in February this year it completed a €12 billion hedge for Dutch insurer Aegon, the largest longevity hedge ever done by a corporate.
The bank says the crucial breakthrough was opening up the market to institutional investors to which most of the risk on the Aegon deal was transferred. Historically, such investors have steered clear of buying longevity risk because it is difficult to analyse and has exceptionally long duration. Through a novel structure, the bank found a way to address these concerns by linking the payments to a public longevity index and reducing maturity to 20 years. Immediately following the hedge, the share prices of Aegon and Rolls-Royce rose substantially.
Another aspect of risk management in which Deutsche is playing a leading role is portfolio diversification. Since the global financial crisis, with markets so volatile, beholden to (mainly bad) news and correlated, many traditionally accepted asset allocation procedures no longer deliver true portfolio diversification. Last year, Deutsche Bank worked with PKA, a Danish pension fund, to develop a solution to this growing problem. This involved PKA switching from an asset-allocation model based on geographical and asset-class weightings to one based on risk-premia analysis, with capital allocated to a broad range of trading strategies chosen for their low correlation with each other. This so-called risk-factors approach is becoming an increasingly important aspect of modern portfolio theory.
Deutsche has also advised many banks on reducing risk by selling off non-core assets to raise their capital ratios to levels required by regulations such as Basle III. For example, last year Deutsche advised Bank of Ireland on the disposal of its project finance book.
The innovation displayed by Deutsche was perhaps the main reason it beat impressive rivals in risk management such as HSBC and BNP Paribas. Judging risk management is no easy task as it is by no means an exact science, more a way of doing business that has to flow through a firm from the top down.
An example of innovation comes through Deutsche Bank’s work with European power producers to hedge their exposure against changes in the price of power far beyond the five years at which most banks are willing to do trades. Deutsche surmised that it could take on the positions because it had confidence it would be able to sell electricity to consumers at a later date. These deals enabled clients to proceed with refurbishment and construction of new power stations knowing the internal rates of return they would make. For this and many other structured solutions, Deutsche Bank is Euromoney’s best global risk adviser.
