Operational risk dependencies Paper by the Institute and Faculty of Actuaries’ Operational Risk Working Party 

P.O.J.Kelliher*, M.Acharyya, A.Couper, E.Maguire, P.Nicholas, N.Pang, C.Smerald, D.Stevenson, J.Sullivan, P.Teggin

Abstract

This paper explores dependencies between operational risks and between operational risks and other risks such as market, credit and insurance risk. The paper starts by setting the regulatory context and then goes into practical aspects of operational risk dependencies. Next, methods of modelling operational risk dependencies are considered with a simulation study exploring the sensitivity of diversification benefits arising from dependency models. The following two sections consider how correlation assumptions may be set, highlighting some generic dependencies between operational risks and with non-operational risks to assist in the assessment of dependencies and correlation assumptions. Supplementary appendices provide further detail on generic dependencies as well as a case study of how business models can lead to operational risks interacting with other risks. Finally, the paper finishes with a literature review of operational risk dependency papers including correlation studies and benchmark reports. 

KEYWORDS Operational Risk, Dependency, Diversification, Correlation, Copulas