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Risk Management Strategies for Credit Unions of Trinidad and Tobago

Risk Management Strategies 16

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Introduction

In Trinidad and Tobago Credit Unions are established as autonomousorganization with their core businesses inclined towards thepromotion of thrift and growth of credit in order to provideexcellent credit facilities to their members in accordance with theCredit Union Act (CUA) under Central Bank of Trinidad and Tobagoregulatory authority. These financial entities have a fiduciaryresponsibility for their members’ deposits which have largely beenexposed to risk of insolvency, bad debts proliferation, andunpredictable internal economic environment. Due to this realization,the Central Bank of T&ampT has formulated tough regulations that areaimed at ensuring the soundness and security of the country’s CUs.

In accordance with the above, the Central Bank of T&ampT governorobserved that a third of the country’s population depend on thefinancial services offered by CUs which are responsible for managingapproximately $9.5 billion in assets that represent 4% of the entirefinancial system in the country. This finding exhibits that CUs havemassive socio-economic importance locally. Consequently, the WorldCouncil of Credit Unions (WOCCU) supports that the agency whichregulates financial institutions should also be empowered tosupervise credit unions to allow for greater public confidence andtrust.

This research proposal seeks to identify the risks brought about bythe implementation of the Credit Union Act as well as determine andrecommend the best risk management strategies that are essential inmitigating risks arising from the emerging challenges in thefinancial market together with CBTT regulations in order to maintaincredit unions competitiveness and profitability. Accordingly, thepaper proposes to develop a framework for monitoring and evaluatingsuch risk management strategies to ensure conformity with the CUA.The risk management strategies indentified are expected to helpCredit Unions in Trinidad and Tobago to establish a niche in thelarger economy. It also enable them to conduct their business ofsafeguarding their depositors’ interest while engaging in creditfacilities with a singular objective to financially elevate theirmembers and engage in investment opportunities in accordance with theCUA regulations in the country. Given this understanding, this paperproposes to determine how Risk Management Strategies can help CUTT toachieve profitability even in the current economic and regulatorysettings.

Following the above proposal, the paper will analyse the riskmanagement structure in order to help Credit Unions in executingtheir operational mandate, identify major risks facing credit unionsin the country, quantize the real benefits that credit unions canbring to the country’s economy, and above all, formulate strategicplan for implementing the risk management policy as well as makenecessary recommendations

Background of Credit Unions

Since 19th century Credit Unions have been in existencewhere they were first established in England they were designed toprovide financial services to lower and middle income population.These financial entities were not only responsible for members’deposits but also offered credit services to their members. Duringthe mid 1930s CUs had become popular in the USA prompting PresidentFranklin Delano Roosevelt to sign the Federal Credit Union Act intolaw, which on the other hand created a national system to charter andto supervise federal credit unions. After the signing the CUA intolaw, credit union movement grew steadily in the 1940s and 1950s andby 1960,the membership to credit union amounted to approximately 6million individuals who belonged to more than 10,000 federal creditunions (NCUA). Like in any other industry, the global economicdownturn of 2008 negatively affected the US NCU industry influencingit to make necessary for the NCUA to implement tough and strict riskmanagement strategies which require a 12 month review cycle to ensurethese financial entities comply. These measures are essential inensuring that the CUs succeed in overcoming the economic challengeswhile safeguarding them as well as placing then in a sound and secureposition.

In Trinidad and Tobago Credit Unions have been in existence since the1940s where they operated under the Cooperative Societies Act No 22of 1971 formerly the Ordinance of 1952. The 1974 – 1983 oil boomsnecessitated significant revenues growth, savings, and loansoutstanding together with increased profitability for all financialinstitutions including CUs whose numbers rose to approximately 130 in1983.

The changes in the economic fortunes of the country significantlycaused banks to tighten their systems through loans reduction whileCUs have been prompted to capitalize on this opportunity by providingloans to persons who could not now access them from banks (Khan1992).

Rationaleof the Study

Risk management in any business is not only about processes used tomitigate and manage the undesired consequences of normal businessoperations, but also is a practice of balancing risk andprofitability (Douglas 2010). When credit unions have a comprehensiveunderstanding of how to manage critical uncertainties affecting theday-to-day business operations, they are empowered to execute properstrategies to achieve their organizational goals particularly in apost-financial crisis (Beccalli, Anolli &ampGiordani 2013). The White Paper on the Reform of the FinancialSystem of Trinidad and Tobago established various recommendations forthe supervision of credit union sector. For instance, the supervisionof all the financial activities of credit unions is now the work ofthe Trinidad and Tobago Central Bank. The objectives of Trinidad andTobago Central Bank under the Credit Union Act include:

  • To determine the safety and soundness of credit unions and protect members’ shares and deposits from undue loss (Douglas 2010)

  • Supervise the credit unions to determine whether they have fit financially and in compliance with the act (Bouteille &amp Coogan-Pushner 2012)

  • To maintain confidence in, as well as promote the stability of credit unions together with the financial system of Trinidad and Tobago.

The components of the regulatory framework of Trinidad and Tobagocomprise of the Credit Union Act, the Credit Union Regulations, theCentral Bank Act, and guidelines. In Trinidad Tobago credit unionsare only allowed to conduct non-financial activities but onconditions not breaching any of the following regulations:

  • They must be in compliance with all the prudential criteria as stipulated in the Act and Regulations

  • They must maintain a minimum level of institutional capital equivalent 8% of total assets

  • The assets of non-financial activities should be equal to or less than 5% of the credit union’s overall assets (Etukuru 2011)

  • Liquid assets have to be in the form of cash or liquid financial instruments

  • Gross revenue generated from the non-financial activities must be equal to or less than 10% of the overall gross revenue of the credit union

  • Reporting to the Central Bank on non-financial activities must be on a quarterly basis and be part of the annual audit for distinct and separate reporting to the AGM.

Due to the above explanation, Credit Unions in Trinidad and Tobagoface a myriad of issues including: the risk of insolvency, unstableeconomic environment, regulations by the central bank, andproliferation of bad debts (Douglas 2010). By undertaking, thisresearch activity the researcher will bring to light theaforementioned issues and more significantly help these financialinstitutions to: Manage the present and long-term risks, Mange theircredit lending operations, significantly understand the consequencesof failing to meet the stipulated restriction, and above all increasetheir investments. In essence, they will be able to identify therisk, assess the risk, reduce action, and prioritize the risk(Goldberg &amp Palladini 2010).

Objectivesof the study

This research is aimed at mitigating the risk associated with theimplementation of the Credit Union Act, and help credit unionsrealize profits without action outside the set regulations (Beccalli,Anolli &amp Giordani, 2013). In this regard, the specificobjectives of this research are as listed below.

  • To analyse the risk management structure to aid the Credit Unions in executing their operational mandates

  • To identify major risks facing Credit Unions of Trinidad and Tobago

  • To quantize to real benefits that Credit Unions can bring to Trinidad and Tobago’s economy

  • To formulate the strategic plan for the implementation of the risk management policy and make necessary recommendations

ResearchQuestion

Can Risk Management Strategies Help Credit Unions in Trinidad andTobago to achieve profitability even in the current economic andregulatory settings?

LiteratureReview

The cardinal objective of risk management is to identify, assessment,prioritize the risk as well as the coordinated and economicapplication of resources to reduce, monitor, and control thelikelihood and/or impact of unfortunate events or increase therealization of opportunities (Beccalli, Anolli &ampGiordani, 2013). Risks in this regard can emanate fromuncertainties in financial markets, legal liabilities, accidents,credit risks, project failures, and deliberate attacks from anadversary. Different experts in risk management have come up withvarious risk management standards including: Project ManagementInstitute, Actuarial societies, National Institute of Standards andTechnology, and ISO standards (Douglas 2010). The main strategiesused in managing risk include activities such as transferring therisk to another party, minimizing the negative effect or thelikelihood of the threat, avoiding the threat as a whole, acceptingsome or all of the potential impacts of a given risk oropportunities.

Principlesof risk management

The international organization for standardization established thefollowing risk management principles risk management should:

  • Create value the resources used to mitigate the risk should not exceed the consequence of inaction similarly, the gain resulting from risk mitigation should be greater than the pain (Douglas 2010).

  • Risk management should be an integral part of the organizational process

  • Should be part of the organization’s decision making process (Vine 2011)

  • Should also explicitly address the uncertainties and assumptions

  • Risk management process must and should be based on the available information

  • Human factors must also be taken into account (Beccalli, Anolli &amp Giordani, 2013)

  • The process should also be dynamic, repetitive and responsive to change

  • It should also be capable of continued improvement and enhancement

  • It should be continually and periodically be reassessed, and

  • It should be transparent and inclusive.

Given the above risk management principles, Credit Unions in Trinidadand Tobago are required to comply with these principles in order toincrease the success probability.

RiskManagement Process

This involves:

Riskidentification

After discovering that there are issues with the business operations,the first and foremost step for managing risk is to identify thepotential risk. In this regard, risk identification is about findingthe source of the problem. Risk sources can be either external orinternal to system that is the target of risk management (Beccalli,Anolli &amp Giordani, 2013). The risk sources can includethings such as shareholders, employees, and government regulations.It is also important to note that, risks are always associated withthe identified threat for example, the threat of losing money incase of a financial organization (Douglas 2010). Similarly, threatsexist with various entities such as shareholders, legislative bodies,employees and customers. Accordingly, the knowledge of the existenceor the source of the problem, the circumstances that may trigger, orevents that can potentially lead to problems extensively helps in theinvestigation process (Ghosh 2012).

For T&ampT CUs to extensively manage risk, they have to identify thesource of operational issues that are causing the company tounderperform. In this regard, risk identification will allow the CUsto come up with effective strategies to mitigate the problem.

Riskassessment

After identify the risks, it is significantly important to assessthem to determine their severity of impact potential together withtheir likelihood of occurrence (Beccalli, Anolli &ampGiordani, 2013). This is an extremely critical processrequiring vast information in order to make best educated decisionsto be able to prioritize the implementation of the risk managementplan. It has been found out that in some instances, short termpositive outcomes might have long-term negative consequences. This isan important risk management procedure that will help T&ampT CUs todetermine the likelihood of the risk occurrence and hence come upwith the necessary risk treatment measures. It will allow theorganizations to extensively and expansively evaluate diverseinformation with regard to the problem and come up with long termproblem solution.

PotentialRisk Treatment

In the event that the risk has been solidly identified andextensively assessed, the next step in managing the risk is by usingthe one or more of the following risk treatment techniques/strategies(Hunseler 2013):

Avoidance: this includes, eliminating, withdrawing or notbecoming involved not involving the company in activities that wouldexpose it to risks.

Reduction or optimization: this is where the severity of therisk is significantly minimized. Risk optimization is finding thebalance between the negative consequences of the risk and thebenefits that can be earned by pursuing the activity (Douglas 2010).

Sharing: this strategy dictates that the company shares withanother party the benefits or the burden from the risk. Risk transferis mainly used instead of risk sharing.

Retention: in this strategy, the company is obligated toaccept the loss or benefit of gain in the event of a risk. Thisstrategy is only viable for small risks where the cost of insuringagainst the risk greater in the end than total losses incurred(Beccalli, Anolli &amp Giordani, 2013).

With regard to the magnitude of the Problem, T&ampT CUs may decideto use either or a combination of the above potential risk treatmentstrategies.

Createa risk management plan

This involves T&ampT CUs selecting appropriate controls to measureeach risk. The risk mitigation strategies must be approved by theappropriate level of management like the organization’s topmanagement. In this regard, the concerned management should definethe applicable and effective measures for risk management.

Implementthe plan

After selecting the risk treatment strategy and coming up with a riskmanagement plan, CUs must implement the risk management plan. This ismainly following the well planned methods for mitigating theidentified risk impacts.

Reviewand evaluate the plan

The primary or initial risk management plans have never been found tobe perfect and hence the need to continually evaluate whether thecurrent risk management controls are still applicable and effectivesimilarly, it is important to evaluate the possible risk levelchanges in the current business environment. For this reason, T&ampTcredit unions must continuously evaluate their risk management planin order to ensure that the current risk management controls canactually withstand the prevailing challenges as well as maintain theoverall credit unions’ profitability

MethodologyResearchParadigm

This research proposal will employ a mixed research method (Beccalli,Anolli &amp Giordani, 2013). For this reason, the approach,the research strategy together with the data collection methods thatthe researcher will use in conducting the research activity are someof the key instruments that the researcher will employ (Douglas2010). Accordingly, the limitations and ethical concerns thatresearcher is likely to encounter are also well discussed (Duffie &ampSingleton 2012).

ResearchApproach

The researcher will mainly use the deductive approach theory testingmethod. In this regard, the will develop hypothesis based on howdifferent variables relate, followed by data collection that helpsthe researcher to come up with a certain conclusion which will eithersupports or disapproves the hypothesis.

ResearchStrategy

The “Risk Management Strategies for Credit Unions of Trinidad andTobago” research will use an integrated strategy where case studyand survey strategies will be used (Beccalli,Anolli &amp Giordani, 2013). Using the case study strategy,the researcher will streamline the research problem into aresearchable perspective thus helping the researcher get realresponses together with institutional analysis that will be derivedfrom the exhaustive specific research position. The Survey strategywill be very instrumental in assessing the case study approach(Douglas 2010). Accordingly, it will enable the researcher to havecontrol over research activity through the sampling techniques, whichare crucial in accessing the research participants (Horcher 2011).Similarly, the survey strategy will give the researcher an efficientand quick way of obtaining qualitative data within the shortest timepossible.

DataCollection Methodologies

Due to the above integrated strategy, theresearcher will use a combination of different data collectionmethodologies including both qualitative and quantitative. For thisreason, the researcher will collect both numeric and verbal data(Beccalli, Anolli &amp Giordani, 2013).The verbal and numeric data collection instruments will be dividedinto two categories primary and secondary data will extensively helpthe researcher to collect relevant data with regard to the study(Douglas 2010). In the same line ofdiscussion, the researcher will conduct interviews will help inobtaining extensive and vast information about the researchparticipants that is vital in establishing information about theresearch problem (Kodilinye &amp Kodilinye 2013).The questionnaires and interviews will be used in data collection.Below is a description of how data will be collected.

In this research study, the researcher will useboth secondary and primary data. The secondary data will be obtainedfrom different sources such as the internet websites, books, andjournals together with publicly available records. The researcherwill also use the survey strategy which will vastly help in datacollection through questionnaires, interviews and observations.

The researcher will design a mixed approachquestionnaire that will be both open-ended and closed-ended. Qualitative data will be collected using open-ended questions whileclosed-ended questions will be used to collect quantitative data.

The questionnaire will be distributed onlinethrough a private portal created by the researcher via Facebook T&ampTCredit Union Risk Management. This questionnaire will be madeavailable to employees and users Credit Unions in Trinidad andTobago. This link will be made available to the identified aftertheir subscription in order to take part in the study. Member of thisprivate portal will be sent private messages. Stratified samplingwill be used to select the participants to the survey. In thisregard, 100 questionnaires will be forwarded to the first 100potential participants. The link will be designed in a manner thatwhen the sample size is achieved, the online software willautomatically close thus not allowing access to the questionnaire.

Interviews

This instrument is significantly important incollecting extensive and vast information about the researchparticipants. Like the questionnaire, an interview can either beopen-ended or closed ended. In this research, the researcher will useunstructured open-ended interview that will help in filling in thegaps in the responses for the same questions in close-endedquestionnaires.

EthicalConsideration

The research will be conducted in an ethically and morally acceptablemanner whereby all research ethical codes taken into consideration.Confidentiality of participants together with their responses will bediscrete and will not be compromised at any cost (Beccalli,Anolli &amp Giordani, 2013). Qualitative data will be treatedwith absolute discretion interview recordings will be allowed aftergives an informed consent is given by the participant. The researcherhas full knowledge of intellectual property rights, material thatwill be borrowed from secondary sources will be fully cited in textand in the reference list (Douglas 2010).

Limitationsof the Research

The following are some of the limitations that the researcher willencounter in the course of the research activity:

  • The researcher will experience hard time in making sure that the participants responses remain within the research context particularly when using open-ended interviews.

  • The research topic is wide and hence demands for substantial amount of time to be fully and successfully be completed time is a limited resource and hence it is likely to limit the research process.

  • The researcher is limited to Trinidad and Tobago thus the researcher will not be able to acquire a holistic perspective of Risk Management Strategies.

References

Beccalli, E., Anolli, M., &amp Giordani, T 2013,Retail Credit Risk Management, New York, PalgraveMacmillan

Bouteille, S., &amp Coogan-Pushner, D 2012, TheHandbook of Credit Risk Management: Originating, Assessing andManaging Credit Exposure, New York, John Wiley &amp Sons

Douglas, R 2010, Credit Derivative Strategies: New Thinking onManaging Risk and Return, New York, John Wiley and Sons

Duffie, D., &amp Singleton, K 2012, Credit Risk: Pricing,Measurement, and Management, Princeton, Princeton UniversityPress

Etukuru, R 2011, Alternative InvestmentStrategies and Risk Management: Improve Your Investment Portfolio`sRisk-Reward Ratio, New York, iUniverse

Ghosh, A 2012, Managing Risks in Commercial and Retail Banking, NewYork, John Wiley &amp Sons

Goldberg, M., &amp Palladini, E 2010, Managing Risk and CreatingValue with Microfinance, New York, World Bank Publications

Horcher, K 2011, Essentials of Financial Risk Management, NewYork, John Wiley &amp Sons

Hunseler, M 2013, Credit Portfolio Management: A Practitioner`s Guideto the Active Management of Credit Risks, London, Palgrave Macmillan

Joseph, C 2013, Advanced Credit Risk Analysis and Management, London,John Wiley &amp Sons

Kodilinye, G., &amp Kodilinye, M 2013,Commonwealth Caribbean Contract Law, London, RoutledgePublishers

Vine, S 2011, Options: Trading Strategy and Risk Management, NewYork, John Wiley &amp Sons

Appendix1(Interview Questions)

  1. Do you think that the Credit Union Act of Trinidad and Tobago is good for the Credit Unions operations in the country?

  2. Is Trinidad and Tobago Central Bank supervision of the credit unions operations helping the credit unions to be more profitable?

  3. What are the main risks associated with Credit Union Act?

  4. How can the credit unions across the country discover the above mentioned risks?

  5. What are the main strategies for risk management that the credit unions can use to help them manage their issues effectively and efficiently?

  6. What are the main risk mitigation methodologies?

  7. Do you think when credit unions employ the above methodologies will be able to mitigate their problems?

  8. Do you think the Trinidad and Tobago government is doing enough to ensure the growth of credit unions across the country?

  9. How pressing is the need for credit unions across the country to conduct risk management frequently in their specific organizations?

  10. How often do credit unions in the country conduct risk management activities?