RESEARCH
Risk Management as a driver for sustainable growth in a volatile market
As the tsunami of liquidity that fuelled financial markets during the pandemic is withdrawn, we have seen the cracks that were lurking underneath. This is a common occurrence throughout economic cycles. Booms incentivize risk-taking and prompt some actors to ignore the lessons of history. In crypto, we have had a reckoning of our own, as macroeconomic uncertainty triggered de-risking and deleveraging. This move away from risk assets coupled with poor risk management tipped some players into insolvency, leading to a cascading effect across the ecosystem. High leverage, a mismatch of assets and liabilities, lack of duration management and uncollateralized lending all played a part in the crisis. History doesn’t repeat itself, it rhymes, as this sort of behaviour has wreaked havoc many times in traditional finance. At BEQUANT, we have always placed Risk Management at the very heart of our business as the enabler of sustainable growth. At times that has meant forgoing short-term gains. This measured approach meant that we have not faced any financial losses, nor had any exposure to insolvent counterparties. Moreover, given our consistent investment in building robust in-house proprietary models and systems, Bequant is uniquely placed to accelerate its business. As one of the very few true Prime Brokers in the industry, our clients are trading via BEQUANT’s sub-account structure on all markets that we offer access to. By operating within a walled garden, BEQUANT is able to offer cross-margining across 15 centralised and decentralised markets (more to come). This means that our clients can take advantage of opportunities in multiple markets without ever having to exit a safe perimeter. As such, we are able to allow our clients to trade their collateral and hence make efficient use of assets and our risk management. Most lenders in the crypto space rely on a loan-to-value ratio to determine sufficient collateralisation levels. This approach has its origin in the housing market and is as it sounds - merely compares the loan amount to the collateral amount. It's a relatively naive measure that does not account for a client's trading strategy or the expected shortfall of asset values in stressed markets.
BEQUANT’s risk management function has built its own proprietarycross-margin risk model that takes into account all of a client’s positions across all exchanges on a real-time basis – such that leverage on directional positions can be restricted and vice versa. Directional positions are discounted on collateral value based on Value at Risk, stress tests, maximum drawdown and share of market cap. Fully hedged positions are, on the contrary, only discounted with the expected market slippage. In this way, we ensure sufficient collateralisation even in severely stressed scenarios. In addition, we monitor our clients’ profitability relative to volatility to provide a metric of how our clients are performing.
Further, using our in-house built risk management system, we continuously monitor the market risk exposure of our clients.
- Expecting and preparing for the unknown
As a regulated entity, BEQUANT reports its internal capital adequacy assessments. To do so, we calculate and provision capital for all expected losses. We use the best practice from traditional finance in building our own proprietary quantitative models for estimating counterparty credit risk. Using historical data and forecasted scenarios we take an objective view of the risk landscape we face. Moreover, by provisioning for these risks, we ensure that all risks are accurately priced in.
At BEQUANT, we follow the 3 lines of defence model which ensures independence in risk reporting and audit.
- The first line of defence are nominated risk owners in each respective business line. This line is the best place to report on any risks that might arise in the day-to-day operations.
- The second line of defence is the risk management function. This line is tasked with identifying, assessing, monitoring and reporting on the risk the company is faced with at any given time.
- The third line of defence is the internal audit function that provides assurance to senior management and the board that the first and second lines’ efforts are consistent with expectations.
- Managing risk as a competitive advantage
One of the core components of a successful prime broker is successfully matching traders with capital. At BEQUANT, we lenders are able to provide lenders full transparency in loan collateralization levels through our in-house risk monitoring, while ensuring that funds are locked in the BEQUANT ecosystem. This way we can enable effective allocation of capital through a strong and prudent risk management approach, thereby solving one of the main pain points for lenders in the crypto space - namely counterparty risk.
