Risk Management IT Comes to the Forefront in the Wake of Subprime Credit Crisis

Beleaguered firms will shift IT focus to enterprisewide risk assessment and management, and core deliverables, as well as electronic trading and latency reduction.

Like it or not, we are in a cyclical downturn. With the subprime problems continuing to haunt the industry, the fixed-income business still in turmoil and pink slips "gracing" more and more mailboxes, there is no doubt that technology budgets will be socked. But while IT budgets will be pared, not all will be dismal. Yes, there will be blood. But there also will be opportunities.

The easiest prediction is that risk will rock. How can the industry write off more than $235 billion and not invest in risk management? In fact, risk management will be the key industry focus for the next three or four years. While firms have invested significantly in their risk infrastructures over the past 10 years, we will see some significant investment and modifications not only in the way that firms develop their risk infrastructures, but also in the way they manage risk.

The biggest changes, however, will be outside the underlying risk calculations, as the most significant challenges firms face in managing risk are at the operating level. Risk management won't work if the firms don't pay attention to warnings. While heroes are made from taking large bets on specific investment strategies, the problem is that large bets on specific strategies can go seriously wrong. It's the chief risk officer's (CRO) job to stop or hedge the firm from becoming too one-sided.

While this certainly is an oversimplification, most Wall Street firms and major banks clearly were not diversified enough away from subprime and exotic fixed-income products and not adequately hedging themselves against disaster. This will be Opportunity 1: developing an adequate risk platform to provide the CRO and management team with the right information to assess risk across the environment. Opportunity 2, then, will be providing the CRO and management team with either the power to override the individual desks or to develop an overlay strategy in which the CRO, if he or she is uncomfortable with the concentration of risk, can overlay a hedge without the desk stepping in to squash it. Larry Tabb is the founder and CEO of TABB Group, the financial markets' research and strategic advisory firm focused exclusively on capital markets. Founded in 2003 and based on the interview-based research methodology of "first-person knowledge" he developed, TABB Group ... View Full Bio

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