The connected world and risk management

The connected world – Munich Re chief risk officer, "Today it’s not only about data gathering but trying to figure out the relationship of things." Emerging risks is the new buzz word in risk management. More precisely, I will call this network risks. As the world becomes more interconnected there is more likelihood that a single failure will spill over to other countries or markets. Network risks is not the same as globalization although this is one of the most likely places it will be manifested.

For asset managers, this is the rising correlation across markets when there is a connected shock to the economy. If investors think about a holistic portfolio a shock to equities will carry over to commodity markets as portfolio weights are rebalanced. When risk-taking is compartmentalized or placed in silos, there is less connection. When risk are are aggregated for management, the result may be greater overall systemic risk.

There are also new connections given the increased specialization across businesses. A specialized manufacturer affected by a flood may have ripple effects across many industries. This is further exacerbated if there is just in time inventory management and out-sourcing. Infrastructure or supply chain risk is greater.

Higher correlation is here to stay and rising correlation when shocks do occur will be a part of our normal risk management analysis.