Shop around for the best service or risk-return offer. Get the most suitable value for money plus caution-danger calculus for you. Because an investment is a labour project, keep a proper log of time worked on your behalf and materials used by contractors. A bank or fund should use people like hiring a plumber. Employing a star trader without value for money or risk considerations is a recipe for disaster. The cross-reference table of staff selection based upon return (alpha), risk (sigma) and behavioural (theta) factors brings a more organic and profitable view of risk management.
Fund management has had to become more compliant with additional regulations. Funds are recognising the value of focusing on consistent return, not on reputation of individual staff deemed as “stars”. Alpha, the active return, is a better and consistent profit compared to the ephemeral advantage of trader’s luck, or fraud. This screening of investors and diversification of assets helps us to separate the real stars from the also-rans in the surrounding satellite performers.
Similarly, capital expenditure projects should be assessed for cost benefits rather than simply high profile. Most of the financial dealing systems we have worked on rely on a higher expenditure and publicity for the glamorous front-office dealing end. The drab back-office and accounts side was largely side-lined by comparison. This attitude can have a serious, unintended cost.
Had Barings purchased a system that enabled the settlements department in London to reconcile trades made in any part of the world with clients’ orders . . . . . . . . . Leeson’ s fraudulent of the 88888 account would have been exposed within months, if not weeks. Such a system, known as BRAINS, would have cost about £10 million.
The resulting fraud by Leeson was estimated at £800 million.
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Everyone wants profit on their investment, but we all invest different amounts of resources in research. A modern bank or fund would be happy to invest $50 million into a venture and to spend $500 000 on a due diligence with lawyers. It would be unwilling to fork out $5000 on discreet enquiries and a chat with detectives in the FBI, Russian FSB, City of London Fraud Squad or similar. Due diligence has become ossified in its own rigorous blinkered thinking.
Fallacy: only banks, insurers, lawyers and accountants have the monopoly in professional investment knowledge.
Private investigators, from AON, Marsh, Control Risks Group, Pinkertons and Wackenhut all offer potential corporate added-value here. They also operate under the forensic accounting banner to undertake deep financial and behavioural analysis. A proper due diligence can win through more flexibility and discretion. One such due diligence by Dynegy on Enron made the correct call on risk hazard and called off the merger. It saved an unbelievable fortune.
Basel II enables Moodys and Standard & Poors, plus the corporations themselves, to certify the level of operational risk. Some groups will have become disposed towards offering a more tailored or sympathetic risk assessment. The traditional credit-rating visit cannot be so highly valued seeing that the target company has lots of advance warning. To paraphrase Heisenberg’s principle of uncertainty:
You can never be sure of the direction or health of a target company, because these are directly affected by the means you use to observe them.
Newer aspects of this investigative process show that company data are more accurate and accountable when the target is completely unaware of the observation carried out by snooping. Forensic accounting comes in useful; it is more akin to industrial espionage, but the data is less likely to be compromised by a public relations exercise. These forensic agents can be employed to separate performance from ill-deserved reputation. They can take the subtle, covert observation of the subject to get closer to the truth.
Then, they can get the metaphysical corporate handcuffs on the risk-offering crook. More flexible analytical activity clearly complements the bank’s own analysts and traditional due
diligence process. Forensic accounting comes in to provide a deeper investigation. Otherwise, banks and financial companies suffer when they are still locked in a narrow corporate group- think.
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