How a few poorly chosen words by a salesperson could cost Senior Managers their freedom under the Senior Managers Regime.

      

Whilst at Heathrow yesterday I went to a foreign exchange counter to buy £150 of Kroner for a short trip to Sweden. The cashier told me that there would be a £3 commission charge, however if I buy £200 it will be commission free. – Thus I decided to buy the full £200. However as he counted the money, he mentioned the total amount less commission. – Whoa, ‘what about the free commission’ I asked?  He said no it was £3 for up to £200, 1.5% for £200 and above, and £300 and above free. –  I must have had ‘Mug’ written large across my forehead. - I said ‘that is not what you told me, you gave me the impression I was getting a better deal buying £200 worth’. He then changed his tune and backtracked. I won’t continue with describing our conversation further, I am sure you can see where it was heading.  

‘Old habits die hard’

Now, the actual money was not relevant here, but what was occurring clearly was, and it is something which should scare every senior manager in financial markets firms, because ‘old habits die hard’. The cashier/salesperson was misrepresenting the commission structure to get their daily sales figure up. Either that or I was mistaken, but being an ex-FX trader, who now helps banks with conduct risk issues, and also lectures in behavioural finance, I am particularly in tune to these matters and how sales are framed by salespeople.  

Now, the matter may be relatively minor, however if this is a repetitive and consistent behaviour for this individual, and among the firm’s people more broadly, then there is a real danger that this firm’s senior managers could face serious consequences. Under the recently brought in Senior Managers Regime, they could find themselves facing personal fines, or even criminal prosecution. And leaving the business would not free them of this risk; liability under the Senior Managers Regime continues for a further 6-years after they leave the firm.  

Going back to this incident: In the common parlance of selling, this individual at the foreign exchange counter was upselling: A few extra pound’s volume or commission on every sale, inflates his performance figures. I am sure a placement at this firm’s currency exchange desk at Heathrow’s busiest terminal is a prized spot given to only the best salespeople. The problem for the company is that this type of misselling and misrepresentation are exactly what the Senior Manager’s Regime is meant to stamp out, no matter how small or large.

In this case, the misrepresentation was prevalent in two ways. The salesperson framed the question in such a way as to mislead me. Secondly, they are aware that most people in airports are in a hurry and have limited choices. It is worth pointing out that the individual in front of me was exchanging Canadian Dollars for Euros. The cashier/salesperson charged him two ‘wide’ spreads for this,  CADGBP and GBPEUR, rather than a tighter CADEUR spread. To me this was almost criminal, more worrying however, two incidents in two transactions. - I really hope that this firms Senior Managers have a good law firm at their disposal.  

Why should this incident worry Senior Managers at other financial market firms?

Given the amount of publicity within the industry and the scale of fines dished out, it is highly likely that the cashier would have received extensive training around the new regulations. So how come he, and the firm, were still breaching ‘Conduct rules’?

Note to all those who believe they can change their people’s behaviours with a few ‘awareness building and training sessions’. People are limited in their ability think and behave rationally. - Most financial firms have put significant energy and effort into training programmes ahead of the new ‘Conduct Risk’ rules. However, as in this case, as well as in other examples not highlight here, I fear that they may only have a limited impact. Changing deeply ingrained behaviours and attitudes, acquired and habitualised over many years, requires a huge effort. - Recall the myriad of drink/drive and smoking campaigns. These campaigns only had relatively little success, and it was often changes in laws and tougher enforcement which had the biggest effect on these issues.   

We are not Spock.

The rational argument for behavioural change amongst employees follows a certain line and logic: Provide awareness of the new regulations, run internal campaigns, make it clear of how important it is to the company and their senior managers, ingrain it in ‘Codes of Conduct’, make it clear that failures will affect people’s career and future employability. Back this up with seminars and training days. Hey presto, all should be good in a perfect world! – But the world is not perfect , and nor are we. - The human mind does not work the way we think it does. It does not recall all relevant information and weigh up all facts every time it makes a decision. Instead our minds are heavily influenced by natural biases, emotional urges, and deeply ingrained habitual frames of reference. Our perspectives are warped and do not always see things as they truly are (think of any optimal illusions). We are not ‘Mr Spock’. – At a one-day presentation skills course I attended I was told that within a few days I will have forgotten most of what I had learned that day. Within a few weeks I will have forgotten almost 99% of what I had learned. It would take constant reviewing, repetition, practice, and reminders to embed what I learn.

Serious wealth warning: 'Senior Managers Beware'.

‘Senior Managers’ in banks and finance companies should be worried. – Efforts to change people’s behaviours will need to be far deeper, far stronger and will have to take account of human behaviour. Unless that happens, then the possibility or facing future personal liability claims under the Senior Managers Regime, is a very real possibility.

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Steven Goldstein is a leading risk performance consultant and executive coach with over 30 years’ experience working in and around financial market FICC businesses. For 23 years Steve worked as a senior trader in rates and FX at leading investment banks, including Credit Suisse, Commerzbank and Standard Chartered. Since 2009 Steven has worked with banks, hedge funds and energy trading firms, helping risk takers, teams and managers transform their performance and behaviours. He has achieved considerable success in his work has led to significant performance improvements and behavioural enhancements. Steven draws on his own experiences, high powered coaching and consulting techniques, and tenets of behavioural finance in his work.

What is Trading 'Risk Type'? Why is it getting so much attention?

With the arrival of the Senior Managers Regime, and other conduct risk regulations due to start soon, the use of objective scientific tools and methods for understanding the nature of the people within trading roles is starting to get a lot of attention. The 'Risk Type Compass' is one such tool. In this article co-authored by Geoff Trickey, Managing Director at Psychological Consultancy Ltd (PCL), and Steven Goldstein, Trader Performance Consultant at Alpha R Cubed, they look at risk type, why is it so valuable and how companies are using this concept to help them build a stronger risk culture, and improve business performance.

In trading, as in everyday life, it is implicitly recognized that people vary considerably in their risk-taking behaviour. Yet, surprisingly, personality has often been overlooked as a critical force on risk behaviour. So what do we mean by personality 'Risk Type' and why can it be so empowering in helping to improve your trading performance? 

Let’s first draw on a powerful analogy. Consider a boat on the sea with its anchor down. The boat moves around on the surface as it gets pushed, pulled and buffeted by the tides, wind, and waves. However, there is a defined point around which these movements are constrained. This analogy parallels the relationship between Risk Type and Behaviour. Risk Type, like the anchor, has a persistent and continuous influence. In effect, a person's Risk Type establishes a consistent bias that influences all risk-related decisions.

 The mistake in the past has been to think of risk-taking behaviour as something that falls somewhere on a scale between risk aversion and gung-ho recklessness. In fact, risk-taking relates to many different aspects of personality such as distractibility, impulsiveness, pessimism, uncertainty, over confidence, inflexibility, fearlessness, or a tendency to overreact or be unresponsive. These and many other risk-related characteristics from the personality domain have been factor analysed and regrouped to build the Risk Type Compass.

The Risk Type Compass

The 'Risk Type Compass' helps people to gain deeper insights into their risk personality and how it impacts their decision-making in high-risk situations.

One pole on the Compass defines a personality disposition that is extremely alert to risk and emotionally aroused to action by it. If you are predisposed this way you are likely to be anxious, apprehensive, and fundamentally pessimistic so that anything unfamiliar or ambiguous will be perceived as a threat until proven otherwise. Your reaction to risk is visceral, strong, passionate, and expressed physically as high arousal and avoidance, more tuned for flight than for fight.

If you fall at the other pole of this first scale you would have opposite characteristics: an unusually high threshold for perceiving risk, an unemotional response to it, and a greater readiness to take risks. Your optimism leads to anticipation of positive outcomes, new possibilities, and opportunities. Consequently, you may be the last to appreciate the danger. Disappointments, upsets, or failures arouse little emotion, no regrets, disparagement, or remorse. Your willingness to take it down to the wire before bailing out will open doors to opportunities that would otherwise have been missed.

The second of the two bi-polar scales is concerned broadly with restraint at one end and impulsivity at the other.

The first pole is characterized by the need to understand, to make sense of things, and to prepare appropriate and suitable actions, carefully and in detail. If you are predisposed this way you will be reluctant to do anything until you see good reason to do so and unless you have a clear and well-prepared plan of action. You are likely to be conservative, conventional and respectful of tradition and would ideally organize risk out of the equation.

The opposite pole of this second scale is concerned with excitement seeking and impulsivity. If you score at this extreme you will be easily bored, preferring the new to the familiar and the unconventional to the traditional. Because you enjoy and embrace uncertainty you are more comfortable about doing things ‘on the fly’ than planning events carefully or in plenty of time. Restless and easily bored you seek action, welcome change, and may be frustrated by traditions and conventions that stand in your way.

The Risk Type Compass places people into one of eight different Risk Types based on their scores on these two underlying scales.

Risk Behaviour Change Requires an Understanding of Risk Type

From a trading perspective, understanding your Risk Type helps you make sense of the positive and negative behaviours you display in your trading activities. For example, individuals identified as extreme ‘Wary’ types tend to be highly risk-averse. They are usually very detailed orientated and highly analytical, and are therefore more likely to succeed taking a tactical approach to trading. On the other-hand, Wary types may display high levels of anxiety and find ambiguity challenging.

Diametrically opposed to the Wary type is the 'Adventurous’ type. These individuals have a high-risk tolerance and are more likely to succeed adopting a strategic perspective. They are comfortable holding risk without becoming too flustered. However, they lack detail orientation and can get caught out being over-confident and under-appreciating the level of risk they take.

What matters for success is not which Risk Type you are, but whether you apply yourself in the correct way for your Type. The most profitable trader assessed by Alpha R Cubed so far was an extreme version of the Wary type. This individual was from a large and very successful hedge fund. He was very anxious and nervous when trading yet he produced profits well in excess of $100 million over each of the past two years. His method, which is purely discretionary, plays very much to the strengths of his Wary characteristics.

Applications in Financial Markets.

Alpha R Cubed have carried out extensive research with traders and risk professionals from banks and hedge funds. This research is proving hugely revealing at identifying the most appropriate risk type characteristics for certain types of trading. Distinct differences are showing up in the risk-type characteristics of market-makers, directional and short-term proprietary traders, relative value portfolio managers, options traders, people in execution roles. This sort of insight is dynamite for firms looking to select the right people for certain roles. Typically, trading firms hire quite arbitrarily, selecting candidates based on what they believe is the right sort of make-up for a generic trading role. As an analogy, this is akin to choosing a generic ideal of how an athlete should be, rather than looking at the specific body types for the various types of athletic disciplines.

As an example consider the role of an execution trader at a large macro hedge fund. In many funds, the portfolio managers are often (though not always), slower and more considered in their approach to execution. This can lead to some clumsiness in placing large orders and leads to high slippage costs. Thus large funds will often have their own execution desk who specialise in transacting orders. Their skill in doing so can reduce slippage costs and make it more likely to successfully execute and exit large positions, particularly when it comes to relative value trading. Our analysis has found that the ideal risk type for an execution trader is very different to that of a typical relative value trader. One hedge fund has suggested that the difference in performance of having the appropriate type for an execution role may be worth around $20 to $25 million per year to them alone in slippage reduction.

Likewise, the knowledge of risk types can impact how successfully firms train and develop their people. Much of the training in banks and trading firms occurs by placing a novice trader with more senior traders. However, if for example the novice trader is the composed type, and the experienced trader is the intense type, then this is likely to lead to sub-optimal learning experience for the novice. Again as an analogy, it would be like a sprinter mentoring a long distance runner. They will be learning a trading style completely inappropriate for them. This can be a highly demotivating experience, and leads to a waste of talent. In our work we have come across traders who have been in a role for 10 years or more, but are using a style ill-suited to their needs. Often when we help them realise that there is an approach more suited to them, and we coach them to adjust to a new style, their performance can soar. Our article featured here, highlights some examples of Alpha R Cubed’s work in this area.

 

The tool also has extensive application in the area of ‘conduct risk’ which is a red hot topic right now. In the UK, the ‘Senior Managers Regime’ has recently come into force. This regulation is grabbing the attention of bank’s senior managers who are now personally accountable and liable for ‘conduct risk’ failings in their areas of responsibility within their firms. Under this regulations, senior managers could face criminal prosecution and personal financial liability, even if the failings occur after they leave the firm for up to 6 years after their departure. Thus suddenly the importance of having the most appropriate people, in the right roles, is not surprisingly getting their attention.

The Risk Type Compass also has many applications beyond improving trader and investment manager performance. It is increasingly being applied to help improve team, leadership, and management performance, as well as to support cultural initiatives and change projects in banks and investment firms. The tool is also being used with boards and strategic decision-makers by consultants and coaches, as well as in the world of high-performance sport.

Risk Type as a driver of Risk Behaviour.

While various factors influence our behaviour, they are intermittent and will vary. We have goals and aspirations, as well as free will in dealing with an infinite variety of situations, but our risk-taking is anchored by personality dispositions that underpin our unique personal preferences and limits. Understanding your Risk Type helps you to maximize your strengths in your trading strategies rather than working against the tide of your natural risk disposition.