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Business Intelligence: The Basel II Connection

Ignorance No Longer Bliss

Ignorance is bliss says that age-old adage. But in today’s ever-changing business dynamics, can ignorance be any longer considered bliss? It is intelligence, not ignorance that holds the key. Sound and up-to-date knowledge is the crucial differentiating factor responsible for the success or failure of any business venture.

The financial services industry (FSI) is experiencing a tremendous transformation. Factors such as globalization, deregulation, mergers and acquisitions, competition from non-financial institutions and technological innovation are forcing firms to rethink and realign their business strategy.

Firms in the FSI are now required to create new revenue streams, tap new markets, gain market share and cut down operational costs. Over and above this, they are expected to cater to the ever-changing expectations and requirements of customers as they become better informed and more demanding. Thus firms are being forced to transform their management strategy and become more customer centric than product specific. Intelligence is playing a key role in this transformation.

Intelligence is the aptitude to learn, to comprehend or to counter new or trying situations. It is the skillful use of reason and the capacity to apply knowledge to influence one's environment or to think conceptually. Business intelligence is a set of notions, methods and practices, which improves business decisions. It uses information from multiple sources and applies experience and assumptions that helps in understanding accurately the intricacies of business dynamics.

The Intelligent Recipe

Aristotle had once remarked, “It is likely that the unlikely will happen.” If this premise is taken into account, risk management organizations in financial services need all the assistance that they can get. Information procurement is no longer the primary issue. The core challenge that financial service institutions face today is to filter the information and transform it into useful knowledge. This is where business intelligence solutions play a fundamental role.

The term business intelligence was coined by Gartner in the late 1980s and defined as, “a user- centered process that includes accessing and exploring information, analyzing this information and developing insights and understanding, which leads to improved and informed decision making.” Business intelligence applications facilitate real-time, interactive access, scrutiny and efficient managing of mission-critical information.

Business intelligence enables firms to take informed business decisions. It involves assembling, accumulating, analyzing and accessing corporate data. For this purpose it uses a variety of tools including query and reporting tools, online analytical processing (OLAP), data mining and decision support systems. Business intelligence is more and more being identified as a mission-critical, firm-wide technology, which helps firms to create business advantage and reap the rewards of expensive applications such as customer relationship management (CRM) and supply chain management (SCM).

By using business intelligence any potential knowledge loss within an enterprise, which results due to enormous information accumulation, can be prevented successfully. In the recent past, we have witnessed how the business intelligence space is emerging into a storehouse of advanced OLAP tools and platforms. These tools help to forecast and analyze trends but, more importantly, help to diminish risks. The vibrant growth of OLAP technology has generated new and emerging data mining methodologies.

Financial services institutions can use business intelligence techniques in the areas of enterprise risk management (ERM) as well as underwriting. The ERM processes help to identify the critical risks across the company and quantify their impact on financial, strategic and operational spheres. More importantly they help to develop and implement integrated risk management solutions.

Using business intelligence tools, risk managers can identify risk profiles of various customer segments based on claims, loss ratios and other similar criteria. These tools moreover help the risk managers apply suitable policies for each business, based on previous claims and loss experience.

Business intelligence is, therefore, the gathering, management and analysis of data to generate information, which is disseminated to people throughout the organization, to improve strategic and calculated decisions. Business intelligence provides the primary support for developing an intelligent learning organization.

The Intelligent Advantage

Over the last few years, the volume of information available within firms has increased manifold. Financial services institutions are capturing enormous amounts of data on a daily basis. Over and above this, the continuing requirement for firms to react quickly to market forces and trends has created an environment in which the effectiveness of using data cannot be ignored.

Throughout the organization, employees are requiring access to the information, which helps them take better-informed decisions and proactively improve the business processes around them. Information is required to be shared across the organization in real time, thus ensuring that everyone has an upfront view of key information.

The constitution of the modern financial services firms owes much to a history of growth through acquisition or opportunity and the impact of regulation. To ensure efficient information sharing across such institutions has become a real challenge and this is possible only when an enterprise Business intelligence infrastructure is applied.

The numerous advantages that business intelligence creates for financial services institutions are:

  • Reducing costs by reallocating IT staff to projects which add more value to the organization and automating costly information flows between organizations,
  • Improving operational efficiency by adding real- time intelligence to operational systems to measure and enhance the process cycle times throughout the business,
  • Increasing revenue by effectively understanding customer behavior and buying trends and distinguishing pertinent products and services, and
  • Improving communication by sharing consistent management information across departmental boundaries.

Hand in Hand

To adhere to the capital requirements under Basel II, financial services institutions are being forced to monitor credit, market and operational risk even more closely. Financial services institutions are looking for viable options to reduce risk and assist in regulatory compliance. Though the Basel II Accord provides a risk management framework that boosts the stability of financial institutions and global financial markets, those implementing Basel II solutions consider it more as a data integration nightmare. Simply because, in return for the reduced capital reserves offered by Basel II, institutions must adapt advanced risk management practices that take into account the entire scope of business activity.

These requirements are forcing financial institutions to tackle serious data challenges, which include:

  • Building operational loss databases in order to quantify and monitor the risk of operational losses;
  • Identifying data “gaps” to ensure that data required to calculate probability of default, exposure at default and loss given default is available;
  • Conforming to a single enterprise data standard in order to ensure the entire institution defines, gathers and manages risk data in a similar mode;
  • Delivering data in real time to promote continuous risk analysis to keep pace with market demand;
  • Build an audit-proof infrastructure to enable any user, at any time, to track the origins of risk data, its meaning and the business processes performed against it.

Despite the fact that most bankers realize that reducing risk can directly boost earnings, few banks other than the big names have developed and implemented comprehensive risk management programs and platforms.

Although the pressing need today is to understand what risk is, the urgency to measure and mitigate it is even more. This is where business intelligence can play a vital role but it is more a question of understanding how well business intelligence can be applied to mitigate risk rather than simply implementing prescribed solutions.

Under the Basel II Accord, banks that adopt and exhibit the appropriate risk diligence will reap a big financial benefit. They can divert a significant portion of the money formerly used as reserves to fund other businesses. Although the accord officially begins in 2007, the Basel Committee is expecting banks to gear up for risk compliance today. Failure to demonstrate an upward trend in compliance will force “risky” banks, to reserve far more money than they have done earlier.

The technology arsenal of risk managers – data warehousing, multidimensional analysis, data mining and reporting – will all be in demand and will need to be applied in unique ways. Institutions will not only have to gather, organize and analyze new types of data linked to the risk characteristics of financial instruments and transactions but also measure and document the effectiveness of their risk mitigation strategies.

In a recent report the Aberdeen Group estimates that banks will spend $3.2 billion in the next four years preparing for Basel II. When compared with the $400 million that banks spent in 2002 on risk management technologies, the $3.2 billion reflects an annual compounded growth rate of 20 percent. The $3.2 billion signals the significance of Basel II. It holds importance since it determines the amount of a bank’s capital reserves, thus directly influencing a bank’s financial and operational aspect.

Business intelligence is thus ideally positioned to play a key role in this crucial environment. Instead of merely gathering data to gain competitive advantage, business intelligence needs to be used to scrutinize business operations for risk management and look out for any odd event which might trigger a major catastrophe.


Sabyasachi Bardoloi is manager of Pinnacle Research Group of Pinnacle Systems, Inc., a technology consulting and solutions provider to capital markets firms. For more than seven years, Pinnacle has applied in-depth domain expertise and offshore development capabilities to the Capital Markets. Pinnacle’s Capital Markets Excellence Center (CMEC) and its Efficient Delivery Model (EDM) successfully deliver cost-effective project-based solutions to major global banks. For more information visit www.pinnacle- sys.com, call (212) 880-3737 or e-mail Mark Engelhart at mark@pinnacle-sys.com.

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