Taking Risks

Credit risk management hasn't been a hot topic in the securities industry since the fall of Enron. At that time, there was a lot of talk about the importance of monitoring the credit of counterparties because so many financial institutions had taken large positions in the energy giant before it collapsed. But, as most crises do, the urgency surrounding the credit losses and the scandal faded and people returned to business as usual.

Today, there is a new threat emerging that may necessitate bringing those credit tools back into the forefront. In our trading section this month, Editor-at-Large Ivy Schmerken examines the new credit threat to prime brokers. Her article explains, based on a report from The Tabb Group, that when firms open up their pipes to hedge funds that draw on credit relationships with prime brokers to trade rapidly, the prime brokers and the counterparties may be leaving themselves exposed (see article, page 17). In the past, when trades were made over the phone, the phone call served as a way to double-check the counterparty, the trade and the risk level. Now, firms are providing access to their pipes via direct-market-access technology. It's more essential than ever that prime brokers see a true picture of their clients' intraday risk exposure. To do that, sophisticated technology is necessary, but is it available and are firms structured to handle it?

Northern Trust also is taking a risk - a risk that it expects will pay off. In this month's cover story on page 34, Associate Editor Maria Santos describes how Northern Trust has created a new platform that could enable the traditional, physical family office structure to be dismantled. The outcome would result in family members and family office employees tapping into Northern Trust's new Web-based platform from anywhere in the world. The virtual office could cut wealthy families' operating costs by as much as 50 percent.

In another cost-cutting move, a new trend is taking hold in the U.S. as investment management firms are starting to outsource more than just custody and shareholder servicing (see "Operations," page 27). Outsourcing of compliance monitoring, risk analytics and performance measurement is a risk some firms are willing to take if it allows them to focus on their core competency - money management.

The securities and investment space is all about rolling the dice. Only time will tell if these risk takers will reap big rewards.