In 1995, Barings Bank went bankrupt following a $1.4 billion loss due to unauthorized trading activity. Ten years later, JP Morgan agreed to pay a $2.2 billion settlement after the Enron scandal. More recently, Société Générale suffered a €4.9 billion loss following multiple breaches of control in its trading activities.
Events like these highlight the enormous economic impact of operational risk—defined in the new Basel Accord (Basel II) as “the risk of loss resulting from inadequate or failed internal processes, people, and systems or from external events.” Basel II requires financial institutions to hold capital against unexpected losses arising from operational risk.
At Intesa Sanpaolo, we used MATLAB to build entirely new scenario analysis models that enable compliance with Basel II requirements. Scenario analysis is a key component of the advanced measurement approach (AMA) to estimating the capital charge for operational risk. Introduced in Basel II, AMA imposes strict quantitative requirements for measuring operational risk. For example, it requires the calculation of a capital measure to the 99.9% confidence level over a one-year holding period.
By Andrea Colombo, KPMG Advisory, and Stefano Desando, Intesa Sanpaolo
This article was published in The MathWorks News & Notes, 2008