P2.T7.501. Operational loss data allocation

Nicole Seaman

Director of CFA & FRM Operations
Staff member
Subscriber
Learning outcomes: Explain the process a bank should use to report operational loss data, including the setting of thresholds, determining the loss amount, setting a reference date, and describing the causes of a loss event. Describe criteria for allocating operational losses to individual business lines within a firm and for the handling of boundary events.

Questions:

501.1. A bank experiences a sudden and unexpected loss in its foreign exchange (FX) portfolio. After review, it is determined the loss should be allocated to both market and operational risk. The reason for an allocation to operational risk is that the value at risk (VaR) model used was incorrectly specified. Specifically, per Kevin Dowd's typology, the VaR model was missing key risk factors, which is a manifestation of incorrect model specification (Measuring Market Risk, 16.2.1, Kevin Dowd). To which level one event type category is this operational loss most likely to be classified?

a. Internal Fraud
b. Business Disruption and System Failures
c. Clients, Products, and Business Practices
d. Execution, Delivery, and Process Management


501.2. Each of the following is true about minimum operational loss data standards EXCEPT which is false?

a. The loss data program must include all material losses that are above a de minimis gross loss threshold; the threshold can be zero in some areas, but this increases the firm's reporting burden
b. Because they are not quantifiable losses, the risk event database (aka, loss database) should avoid collecting gains, near-misses, and opportunity costs
c. The gross loss amount should include: direct charges; costs incurred as a consequence of the event; provisions and pending losses
d. The gross loss amount should exclude: costs of general maintenance contracts on property, plant or equipment; internal or external expenditures to enhance the business after the operational risk event (upgrades, improvements, risk assessment initiatives and enhancements); and insurance premiums


501.3. About the allocation of operational losses Girling writes, "There must be documented, objective criteria for allocating losses to specified business lines. Every event needs an owner, or in other words, it must be determined which front office area suffered the loss. This can cause some tension where the cause of the loss may occur in a department outside the front office, but the impact is placed on the profit and loss account of the business area." Each of the following is true about the allocation of operational losses EXCEPT which is not quite true?

a. Boundary events are loss events that straddle both an event type and a business line and should be excluded from an allocation to operational risk due to their inherent ambiguity
b. Basel's Level 1 business lines categories include: Corporate Finance, Trading & Sales, Retail Banking, Commercial Banking, Payment and Settlement, Agency Services, Asset Management, and Retail Brokerage
c. The organizational structure of a firm might well not fit neatly into this categorization structure, and most firms have developed a mapping behind the scenes. This mapping allows them to collect data in a way that makes sense to their firm, but also allows them to group data appropriately for regulatory reporting as needed
d. Each loss data entry must include descriptive information about the drivers or causes of the loss event, and there may be multiple causes, but the cause--i.e., external, people/staff, governance and structure, or processes--is different than the impact; the impact is assigned to a risk type category and allocated to business line(s)

Answers here:
 
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