Operational Risk

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control personnel the proper backing and try to explain to traders the
motivation for such investigations. The careful documentation of major
incidents of fraud and the difficulty in detecting them can provide trading managers with tools to use in making this case.

3.1.2 The Risk of Nondeliberate Incorrect Information

It is far more common to have incorrect P&L and position information due
to human or systems error than incorrect P&L and position information
due to fraud. Many of the controls for nondeliberate incorrect information
are similar to the controls for fraud. The separation of responsibilities is effective in having several sets of eyes looking at the entry of a trade, reducing
the chance that a single individuals error will impact positions. Checking
confirmations and payment instructions against position entries, P&L and
cash reconciliation, and the investigation of offmarket trades are just as
effective in spotting inadvertent errors as they are in spotting fraudulent
entries. Equally close attention needs to be paid to making sure customers
have posted collateral required by contracts to avoid inadvertently taking
unauthorized credit risk. (For further discussions of the role of collateral in
managing credit risk, see Sections 4.1.1, 10.1.4, 14.2, and 14.3.3.)
It is every bit as important to have frontoffice personnel involved in
reconciliation (to take advantage of their superior market knowledge and
intuitive feel for the size of their P&L and positions) as it is to have support
personnel involved (to take advantage of their independence). Frontoffice
personnel must be held responsible for the accuracy of the records of their
P&L and positions, and cannot be allowed to place all the blame for incorrect reports on support personnel, in order to ensure that they will
place sufficient importance on this reconciliation. Front offices should be
required to produce daily projections of closing positions and P&L moves
based on their own informal records, prior to seeing the official reports of
positions and P&L, and should reconcile significant differences between
the two.
To prevent incorrect P&L and position information, it is important to
ensure that adequate support personnel and system resources are available,
both in quantity and in quality, relative to the size and complexity of trading. Careful attention needs to be paid to planning staff and system upgrades to anticipate growth in trading volume. Management needs to be
ready to resist premature approval of a new business if support resources
cannot keep pace with frontoffice development.
Should model risk be regarded as an operations risk issue? The viewpoint of this book is that model risk is primarily a market risk issue, since
the proper selection and calibration to market prices of models and the