Operational Risk and Risk Management Quality: Evidence from U.S. Bank Holding Companies

Abstract

This study documents the association between the quality of risk management practices and operational loss realizations at large financial institutions in the United States. Using detailed supervisory data, we find that companies with weak risk management practices experience higher and more volatile operational losses. We document the drivers of this relationship across different operational risk event types and risk management dimensions. In addition, we present evidence that the strength of risk management practices prior to the 2008-2009 Financial Crisis has explanatory power over loss realizations during the crisis period. Our analysis provides new evidence of the importance of risk management practices for curtailing risk realizations at financial institutions.