Looking into Outside Traders? Ask These Questions

to consider first. "Everyone who has ever been involved with trading knows that leverage can sometimes have a narcotic effect," said Kenneth Landis of Coopers and Lybrand Consulting. Archaeological discoveries of dice-shaped bones in Stone Age excavations of settlements show that humans probably loved to gamble before they learned to write. But banks are arguably more immune to speculative losses in the trading game because banking is so carefully regulated. "Since the arguments for outsourcing investing and trading of various financial instruments for proprietary and clients' monetary gain are so compelling, banks might want to ask themselves some important questions before hiring outside traders and investment managers," said banking lawyer Charles Horn, of Mayer, Brown & Platt in Washington, D.C. Those questions are: *What are our financial and managerial objectives? *What is our specific business rationale for outsourcing? *What functions will we outsource? *Are we prepared to monitor the outsourced traders and/or investment managers in a prudent, timely way? *Do we realize we will have to demonstrate compliance with many - and perhaps overlapping - supervisory guidelines for trading and interest rate risk management from the Office of the Comptroller of the Currency and the Federal Reserve Board? *Do we understand that no bank will get dispensation from complying with all of these guidelines? *Do we appreciate the effort this level of oversight and reporting will require so that regulators will feel comfortable with this? *Are we prepared to make this a board of directors/senior management- driven process? *Will we tailor our goals and strategies to the level of oversight and management sophistication and supervision we can bring to monitoring the people we outsource? *Do we understand clearly the permissibility and supervisory constraints of outsourcing traders and/or investment managers? *Are we prepared to do a thorough and rational examination of the policies, procedures, position limits, and risk management devices we will need to have in place? *Will we review these guidelines continually, and adjust them to changing market conditions? *What resources do we think we will need to conduct these activities? *Will the outsourced investment managers and/or traders have to clone our internal risk management and general ledger systems to provide us with accurate, timely reports? If so, can they do it? *Are we prepared to cease outsourcing any or all trading and/or investment management functions quickly if we perceive that any guideline or procedure is violated for any reason? These questions cover the tip of the iceberg. Answers to them can show whether or not a bank should go forward with its outsourcing plans. "This is not an easy process," Mr. Horn said, "but banks today cannot afford to overlook any way to increase their risk-adjusted returns, especially one that is so close to their core competency which is, after all, managing financial risk."

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