Separately Managed Accounts in Counterparty Risk Management

Abstract

Counterparty risk management should have an integrated framework. While utilizing a separately managed account may help reduce a corporation’s concentration risk in a money market fund, it also may be an important tool to reduce enterprise level counterparty risk. A portfolio of securities not correlated with the firm’s largest credit exposures may help diversify risk and improve credit scores.

An Integrated Counterparty Risk Management Framework

In the years following the financial crisis of 2008, Counterparty Risk Management (CRM) took on a new level of importance among corporate treasurers. In addition to bank accounts, money market funds, and direct investments, counterparty exposures can include credit providers, swap counterparties, suppliers and customers. While CRM always has been part and parcel with risk management at financial institutions, corporate practitioners often lack both the expertise and tools necessary to address this important subject.
In recent months, we endeavored to help our corporate treasury readership address this issue. In the June 2013 newsletter, we introduced the corporate treasurers’ perspective to counterparty risk, the types of susceptible transactions, new challenges in the post Lehman-bankruptcy world, and the general principles for corporate practitioners. We recommended an integrated CRM process.
In our October 2013 newsletter, we introduced the capture-analyze-manage framework to CRM. It allows the typical, mid-sized treasury function to capture, consolidate, and categorize various sources of risk. One may then use analytical tools to standardize and normalize risk, study aggregate risk from common obligors, conduct look-through analysis, and form critical risk assessment through a credit scoring system. We recommended managing CRM using what-if analysis to adjust balances in bank deposits, money market fund shares and direct investments in separately managed accounts (SMAs).

Separately Managed Accounts in Corporate CRM

As managers of separately managed liquidity portfolios, we hold the view that SMAs can be valuable tools in a firm’s overall CRM undertaking. Dating as far back as our November 2007 newsletter, we listed tailored risk management and transparency as the first two of the six advantages of SMAs. These points have been proven invaluable by the ensuing financial crisis in 2008 and, since then, the sovereign debt issues in the Eurozone.
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