Study: Risk Mgmt. Factors Expanding

October 3, 2005 ( - Pension plans and non-profit groups are increasingly going beyond market risk to consider operational and political risk as part of their risk management practices, according to a new study.

A news release said that the risk management study was released Monday by The Bank of New York in partnership with Wilshire Associates, ING Group, and Harry Markowitz, Ph. D., 1990 Nobel Prize winner in Economics.

The study, New Frontiers of Risk: The 360° Risk Manager for Pensions and Nonprofits, found that while market risk remains the foremost concern for plan sponsors, managers are now spending close to 40% of their risk-related time on operational and political considerations. That represented an increase of nearly 20% from five years ago. About 80% of plan sponsors indicate they will increase the time spent on operational risk over the next five years.

The news release said that, according to the study, several factors are influencing this standard including:

  • Of the participants who provided funding status, more than half categorized their funds as “under-funded” across all types of pension plans.
  • In the last five years many study participants have introduced or increased allocations to non-traditional investments such as real estate, private equity, hedge funds, derivatives and commodities.   More than one-third of the participants have invested more aggressively; two in five of these plans have done so simply to maintain returns, where target returns remain about 8% nominally on average.
  • During the last five years, nearly 55% of study participants increased their allocation to non-domestic equities and 46% increased their allocation to emerging market equities.
  • Legal and regulatory changes, disaster recovery, and extreme or unanticipated events are substantial and growing.

The two operational risks that most concern pension funds and non-profits are headline risk (exposure to negative press) and service-level risk (failure to achieve prescribed service goals).   Plan sponsors felt the most essential elements in mitigating such risks were effective senior leadership, culture of integrity and financial reporting.

Even given the rise in attention paid to political risk, only 36% of study participants indicated that their pension funds measure political risk in some form.   In assessing political risk, plan sponsors identified legal and regulatory changes – such as the European Union Pensions Directive, Myners Report, Sarbanes Oxley Act and USA Patriot Act – as the dominant factors to be considered.   Of those who do attempt to quantify their exposure to political risk, corporate funds tend to use external sources, such as asset managers, rating agencies and consultants, while public funds tend to use internal resources, the study said.

In assessing the relative importance of various market risks, participants rate asset allocation as the most critical, with other risks related to fund level decisions – such as the risk of underperforming relative to the capital market benchmark and fund liabilities – as the next highest rated market risks.