Spreadsheets – An Overlooked Risk for Asset Managers

August 20, 2014

oversight

 

Spreadsheets are powerful tools that enable users to easily customize their own data analyses around a wide range of business applications.   Traders can calculate the risk against their holdings to determine the best investment decisions and then adapt their risk models to account for market changes.  Financial position data stored in spreadsheets allows the back office to perform end-of-day, post-trade reconciliations; easy reports can be created against this to prepare the front office for the start of the next day.  Analysts don’t have to learn complicated coding languages to create their own financial models and spreadsheets give users access to all of their data in an easily-manipulated format.

Until you miss one keystroke.

In 2012, JPMorgan’s Chief Investment Officer was relying on spreadsheets to calculate the Value at Risk (VaR) of their portfolio.  In a spreadsheet, the modeler accidentally divided by a sum where he needed the average, producing a risk assumption that lowered the VaR by a factor of two.  JPMorgan took advantage of this low risk environment and increased investments substantially, known as the outsized “London Whale” trades.  By the time the error was caught, JPMorgan had amassed a loss of $6.2 billion.

Spreadsheets can be a useful tool, but only when used wisely.  Ray Panko, a professor of IT management and leading authority on spreadsheet practices, released a report citing that 88% of all spreadsheets contain errors.  He notes that “these error rates, furthermore, are completely consistent with error rates found in other human activities.” No matter how careful we try to be, it is simply in our nature to make mistakes.  Are you willing to base critical business decisions off of calculations that will be inaccurate nearly nine out of ten times?

Bad data causes numerous problems.  Management relies on data to make key decisions that impact their firm, and human error that impacts data quality can create major complications.  For example, Fidelity’s Magellan Fund overstated earnings by close to $2.5 billion due to an omitted minus sign in a flawed spreadsheet. With the higher earnings data in mind, the fund’s portfolio managers made the decision to publically announce dividends of $4.32 per share.  When the error was caught, they were no longer able to pay out the promised dividends.

Poor decisions due to spreadsheet errors can also impact client and investor confidence; after the UK outsourcing specialist firm Mouchel found a spreadsheet error that reduced full-year profits by more than £8.5 million, their stock price fell by a third.  Outsourcing processes will not insulate your organization from this form of risk; the chief executive of Mouchel had to resign amidst the controversy despite the error occurring at an outside actuarial firm.

Beyond data issues, operations teams that rely on manual processes supported by spreadsheets may be limiting their ability to flexibly grow.  Firms that rely on manual processes are often unable to react to changing market conditions.  For example, investment professionals who rely on custom reporting to make informed decisions can be severely impacted should manual processes fail to produce information in a timely manner.  In addition, firms that manage operations on multiple spreadsheets typically rely on individuals to interpret data, creating dependencies on staff and opportunities for errors.  In today’s tightening regulatory environment, manual processes powered by spreadsheets are often scrutinized by regulators as they are likely to cause compliance breaches.  Sound operational processes that can accommodate growth must not require large projects to adapt to changing market conditions and investment requirements, but rather support change in a controlled manner to ensure quality throughout operations.

The only way to ensure that your decisions are based on reliable data is to minimize manual intervention as much as possible.  For asset managers, a middle-to-back-office solution that automates business-critical functions reduces operational risk by executing the processes that would normally be performed by operations staff.  Automation removes the human variable and frees up your organization to focus resources on functions that support your core mission of managing money.

You don’t have to sacrifice the flexibility of spreadsheets to avoid operational risk.  SS&C PORTIA offers complete middle-to-back office solutions for asset managers who are looking to improve the efficiency of and control over their operations.  PORTIA incorporates extensive business logic to automate operations, giving you control over how PORTIA is configured to meet your unique business needs.  Automated processes ensure data integrity by reducing operational risk associated with manual intervention.  PORTIA takes this a step further, using your business logic to proactively initiate checks to ensure data accuracy before automating data imports.  In addition to automation-driven solutions, PORTIA offers substantial compliance, audit and reporting capabilities to satisfy the evolving data needs of auditors, regulators, investors and other stakeholders.

Are you relying on spreadsheets to power your operations?  If so, contact us to learn more about how PORTIA can help you improve visibility and control over your middle-to-back office.

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