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Greater than the sum of the parts: new risk management textbook connects with holistic problem solving.

Etti Baranoff, an associate professor of finance and insurance at the School of Business, Virginia Commonwealth University, has spent the past eight years teaching undergraduate and graduate courses in finance, risk and insurance, and employee benefits. Her latest effort is a book, Risk Management and Insurance, written as an introductory text for college students.

"People looking at insurance or working in insurance are very much confined to a specific, little area," she said. "In many other textbooks, they jump right into discussion of specific coverages. But I find that very limiting."

So in creating the textbook, Baranoff wanted to present the big picture--how the latest developments and traditional risk management approaches fit together. She reviews insurance company operations, the markets, loss development techniques and regulation, then delves into the topics of personal and commercial property and liability insurance coverages, e-commerce risk, enterprise risk management, life insurance, the health-insurance evolution and new laws on employee benefits, among others.

Baranoff, who has a doctorate in finance from the University of Texas at Austin, brings extensive insurance- and finance-related experience to her writing. She served for one year as a market researcher for the Texas Association of School Boards, which has that state's largest public risk pools providing health-care coverage, workers' compensation, unemployment compensation and property/casualty insurance to Texas school districts. Prior to that, she worked for 12 years at the Texas Department of Insurance. She conducted legislative and research projects for both the life/health and property/casualty insurance industries and solvency studies. As a rate analyst for the department, she also performed actuarial analyses and prepared the property/casualty rate development including auto, property and workers' compensation rate development and rate calculations. And years earlier in her native Israel, she worked as an economist trading bonds on the Israeli stock exchange.

In an interview with Best's Review, Baranoff covered a wide range of subjects, from the evolution of the risk manager to the state of the job market for graduating students.

Q: Are most new risk managers coming from academia or are they mostly trained by the companies? What about the demand for risk managers vs. the supply? Is that a problem right now?

From my experience at Virginia Commonwealth University and from talking to my colleagues in other schools around the country, risk and insurance students get hired by the industry. But there are not enough of them to satisfy the industry's needs. The students know where they are going, and the industry grabs them. As a big nation, we need more risk managers, so companies also have to train their employees.

Therefore, the book is designed not only as an academic text, but also as a study guide for practicing professionals who have never received formal training. The book provides an opportunity to expand the knowledge base beyond the narrow field of specialty typical of a specific employee in the field.

At VCU, we receive a lot of job requests for risk managers and insurance specialists at the lower levels, the training level. When firms do not want to develop their own risk management departments or employee benefits programs, they use one of the many consulting firms specializing in these fields. There are needs tot the insurance graduates in these consulting firms as well.

The supply of specially trained insurance and risk students does not meet industry demand, so the industry taps into the broad field of business students graduating with finance, accounting or marketing degrees. The limited number of programs in the universities cannot begin to meet such demand. But the students who major or concentrate with such degrees are highly sought after as would be expected.

Q: What skills do risk managers need these days?

I recently returned from the American Risk and Insurance Association meeting in Denver where some of my colleagues are conducting studies concerning this exact topic. Major competencies discussed included problem solving and teamwork. At VCU, employers tell us they need graduates with analytical skills and the ability to think clearly and logically. Every employer we talk with also emphasizes the ability to communicate clearly and write well. Employers also note quantitative skills.

Q: How has the role of the risk manager evolved?

We're seeing a new development called financial risk management. This began with highly skilled employees with Ph.D.s hi physics and mathematics who can model complex risk scenarios. They apply their skills to financial modeling, and they are doing a tremendous amount of forecasting in Financial risk management, creating sophisticated models that are used by banks and are applied to the financial markets.

We are also hearing more these days about a position called "chief risk officer" or CRO. And that chief risk officer must be able to look at the complete enterprise, the holistic risk--traditionally, risk managers look for solutions to pure loss risk only where insurance comes into play. They do not consider gains. But now they are looking at all risks--including the risks that derive from making the wrong decisions regarding gains. So, basically this approach looks at all the risks, pure and speculative risks, with the objective of maximizing value for the shareholders, for the owners. The CRO must become familiar with a full scope of financial risk management tools.

The exciting thing is that when companies become more sophisticated, they realize they need to move their chief risk officer into the executive Cabinet, to work alongside the chief executive officer and the chief Financial officer--and not under the CFO.

Q: How would you define holistic risk management?

Let me give you some background: When I started teaching insurance, I realized that students can get confused about the various coverages and how they fit together to mitigate a wide range of risks. But, if you consider the company or a family as a whole and begin looking at all the risks they might be exposed to, you begin to see that risks are interconnected, that they complete a puzzle of all that can go wrong. I emphasize this in every chapter of the book in the Connection sections. Each chapter, whether it discusses insurance markets or operations, enterprise risk management, or specific coverages such as homeowners, auto, life, disability, group coverages, Social Security, pensions, or workers' compensation, begins with a discussion of the connection of that particular chapter to the big picture, or to holistic risk management.

Consider the typical individual or family. In most cases, a person buys separate insurance policies from different agents and companies. The company, such as State Farm or USAA, looks at the family holistically and often will try to sell life, disability, and long-term care policies in addition to the traditional homeowners and auto coverages. Granted, their motivation is expanded sales and profit, but to make those gains they must view the family as a total risk package.

Q: Is this holistic approach the one that most risk managers are taking now?

A good risk manager who is empowered to look at everything in a company is doing this today. This will include all the property/casualty risks as well the employee benefits needs. But, in most firms, property/casualty risks are handed by the risk manager who is traditionally under the CFO or treasurer, while the employee benefits risks are part of the human resources department. Some of the large insurance brokers are pushing companies to consider all risks including commercial property, liability and employee benefits.

Q: How much of a part do software tools play in risk management?

They're playing a tremendous part. If you look at the evolution of insurance, you see technology driving more complex coverages and providing greater accuracy in computing reserves and rates. Of course, insurance did well in the pre-computer era, hut today we are asking for broader and deeper analysis of risks and we are developing insurance coverage in areas such as catastrophe, weather and terrorism that would be impossible to model without computers.

Q: On the commercial side, we hear a lot about enterprise risk management these days. Is that catching on?

Enterprise risk management is designed to maximize a firm's value. So it includes traditional risk management combined with investment risk, a look at capital leverage and risk, and a consideration of the corporate big picture--pure and speculative risks. Enterprise risk management considers not only insurance and reinsurance, but it looks to the capital markets as well. In fact, one could say that during the long soft market for insurance, companies were inherently considering the capital market as part of the risk equation and a potential solution.

It's certainly a prevalent topic in the industry, but I wonder how many firms truly are managed from this perspective. It has to be mandated from the top down by the CEO and the board.

Clearly, the events of Sept. 11 provided an impetus to enterprise risk management. I've heard that after Sept. 11, risk managers who had never spoken one word to the CEO of their companies were suddenly on the executive board. Now is the time for the financial risk managers to come into the picture because they know how to utilize the capital markets. I believe more and more companies will begin to actually implement these kinds of programs. Certainly, risks have become more complex, and looking at the enterprise as a whole can only help us to understand and mitigate these risks. Like any new invention, it takes time for companies to catch on.

Q: Your book is fairly up to the minute with its coverage of the post-Sept. 11 period and the U.S. corporate accounting scandals. What's your take on these developments?

The book begins with an introductory chapter briefly describing the magnitude of the Sept. 11 losses and an account of the benefits and coverages available to two hypothetical victims' families and a business that suffered losses in the attacks. The elements discussed are later woven in detail throughout the book.

The developments in 2001 had ripple effects on many existing reinsurers and propelled the creation of a new breed of reinsurers not encumbered by the losses from the attacks and the accounting scandals. The existing reinsurers suffered a major blow to their capital base and currently are subject to downgrades in their credit ratings and substantial reduction in value. The outcome has yet to be played out, but I believe regulators will try to ensure the survival of the less financially viable, large and reputable reinsurers as was done in the case of saving Lloyd's.

Talking about regulation, I think that one of the prevalent impacts is the greater involvement of the federal government and the rekindling of the debate about federal vs. state insurance regulation. The implementation of the Terrorism Risk Insurance Act of 2002 signed by President Bush in November 2002 opened the door for involvement of the federal government in insurance regulation. The act is administered by the Treasury Department, and this agency is gaining experience in insurance regulation. During the debates that led to TRIA, it appeared that those in favor of some form of federal regulation began gaining the support of insurance executives who felt that their interests were not adequately represented. The global nature of the catastrophes of 2001 revived the debate about optional federal chartering of large and national/global insurers and strengthened the oversight over states' insurance regulation by the House Financial Services Committee during the 108th Congress.

Q: What impact have these developments had on risk managers and risk management?

The new limitations in coverages imposed on businesses and the reality of the new, unimaginable catastrophic risks are driving risk managers to conduct more analysis and study. The studies are in areas that are appropriate for self-insurance, for developing a captive, for sophisticated integrated risk programs and ultimately, for use of the capital markets via securitization and financial risk management techniques. This myriad of risk management options requires the use of sophisticated risk mapping techniques, risk management information systems, and the help of modeling for both natural and man-made catastrophes.

It's necessary tot the risk manager or the chief risk officer of the post-Sept. 11 era to have a clear understanding of insurance and contract law and be a master in contract negotiation in order to identify where there may be gaps in coverage. Scenario analysis and foresight are clearly an advantage in building the risk mapping and discovering potential gaps in risk mitigation. An example is business interruption coverage. The risk manager must understand whether business interruption coverage is available when the business property itself is not damaged, but losses occur from indirect events. Thus, the risk manager of the new risk era must be a "master" of a vast array of fields that demand analytical, written and verbal skills.

Q: What are the emerging issues now for risk managers?

Health insurance is a major problem both to employers and society as a whole. I'm not talking only about health insurance for workers, but health coverage for retirees and the laid-off workers, the unemployed. Right now it's a major issue. People consider the loss of health insurance when they are laid off as the number one calamity.

Another big topic is e-commerce, or electronic-commerce risk management. People know about it, but they may not do enough to mitigate the risk. Evidently some risk managers are not on the ball about this. And this is why companies need to have a chief risk officer who looks at everything.

Of course, availability and affordability of various coverages and the emergence of new risks will always be a problem in this field. The inability to explicitly see the future and write specific contracts will always plague the insurance industry. Insurance is predicated on the ability to pay for losses to a level that one predicts. When catastrophes occur that far exceed those predictions, insurers suffer, some fail, rates rise, and some coverages are dropped or curtailed. Dealing with uncertainty is the risk manager's challenge and drives the need for broader capabilities and skills.

Etti Baranoff Associate professor of finance and insurance Virginia Commonwealth University

Accomplishment: Published Risk Management and Insurance, an introductory text for college students

For more information:

Risk Management and Insurance can be found at college/baranoff.
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Article Details
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Title Annotation:Risk Management
Author:Bowers, Barbara
Publication:Best's Review
Article Type:Interview
Geographic Code:1USA
Date:Nov 1, 2003
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