Abstract:
This study examines the emergence of risk governance arrangements in US
bank holding companies (BHCs) and tests for their impact upon performance
and risk profiles. Following the financial crisis, regulators introduced several
new risk governance processes, including the adoption of Risk Appetite
arrangements and the establishment of Risk Committees, both board level
features. In this study, a research gap is unearthed with respect to risk
governance practices and their impact upon BHC performance and risk
measures. The motivation of this research is to validate the adoption of these
board-level practices in an evidence-based framework.
The empirical research method relies on the collection of a unique data set. The
sample covers a significant dollar-weighted portion of the US banking system.
Multivariate analysis facilitates the testing of risk governance mechanisms to
outcome variables, while controlling for firm-specific and standard corporate
governance variables.
The practical implication of this study with respect to Risk Appetite is clear.
BHCs that practice Risk Appetite arrangements exhibit improved performance
and lower realised loan losses. In contrast, while some limited evidence is
presented that the marketplace may reward BHCs for certain composition
aspects of the Risk Committee, the overall results suggest that the requirement
for a Risk Committee has little impact to BHC’s operating performance and risk
measures.
In terms of academic contribution, this study examines two major risk
governance mechanisms within a common framework, presenting evidence of a
significant and positive impact of the board level articulation of Risk Appetite
arrangements to a suite of BHC performance measures and a negative
association to loan losses. As the first known empirical research study of Risk
Appetite, it confirms that this board level mechanism should be included as an
explanatory variable in bank or risk governance related empirical research
studies.
These findings provide industry practitioners (including BHC chief executive
officers and board members) convincing arguments for the immediate adoption
of Risk Appetite arrangements. US Regulators, who introduced Risk Appetite
requirements in 2014 for larger BHCs, are presented with validation by this
study for wider adoption of this risk governance mechanism, even if such
practices are voluntarily adopted by BHCs.
As signs begin to emerge in the United States of the possible relaxation of the
regulatory requirements of certain aspects of the Dodd-Frank Act, this study
contributes to this debate in a timely fashion by testing the veracity of two key
supervisory-driven risk governance practices aimed at the boardroom in an
evidence-based evaluation.