The Effect Of The Pandemic On Financial Forecasting And Risk Management

The COVID-19 pandemic emphasizes the importance of financial inclusion and risk management for businesses, workers, and households, both of which are priorities for the Social Finance Programme.

 

The COVID-19 virus is still wreaking havoc on societies around the world. Governments and public health agencies are grappling with the virus's containment, which has affected millions and claimed thousands of lives. The figures already show that COVID-19 will have a massive impact on the global economy, threatening millions of jobs and livelihoods. 

 

In this context, the importance of affordable risk management tools and solutions (particularly digital ones) that promote financial inclusion and assist small and medium-sized businesses in better coping with the pandemic's immediate and long-term effects cannot be overstated.

 

Introduction to Financial Forecasting

 

The process of estimating or forecasting a company's future financial performance is known as financial forecasting. A financial prognosis attempts to forecast how the business's finances will look in the future. The prediction of a company's revenue is a common example of making financial forecasts. Sales figures ultimately determine the position of the (commercial) organization. As a result, they are important indicators for good decision-making that support organizational goals. 

 

Financial forecasting is the process of predicting or estimating future statistics of an organization, i.e. how the business will perform in the future based on historical data, such as by analyzing the income statement, position statement, current conditions, past trends of the financial, future internal and external environment, which is usually undertaken to prepare and develop budgets and allocating available resources to ensure best possible utilization.

 

Forecasting is a technique that uses historical data as inputs to make informed predictions about the direction of future trends. Forecasting is used by businesses to determine how to allocate budgets or plan for anticipated expenses in the future. This is usually based on the anticipated demand for the goods and services provided.

 

Forecasting is used by investors to determine whether events affecting a company, such as sales expectations, will increase or decrease the price of that company's shares. Forecasting is also an important benchmark for businesses that require a long-term view of their operations. Forecasting is used by equity analysts to extrapolate how trends, such as GDP or unemployment, will change in the coming quarter or year. Finally, statisticians can use forecasting to assess the potential impact of a business operation change. 

 

For example, data on the impact of changing business hours on customer satisfaction or employee productivity upon changing certain work conditions could be collected. These analysts then generate earnings estimates, which are frequently aggregated into a consensus figure. If actual earnings announcements miss the estimates, it can have a large impact on a company’s stock price.

 

Also Read | Best Financial Management Tips for your Enterprise in 2023

 

Why is Financial Risk Management Important?

 

Risk is unavoidable and can be found in everyday activities such as crossing the street or turning on the petrol at home. Risk is an inherent part of any financial transaction, such as investing in stocks, bonds, or real estate. Different people have different definitions of risk; there is no standard method for calculating risk. Risk cannot be eliminated; some risks will always exist; however, risk levels can be reduced to some extent by measures such as a simple checklist or mechanical process.

 

Risk is defined as the possibility of suffering losses as a result of an uncertain event. Financial risk can arise from transactions such as investments, financing, business activities, sales, and purchases, among other things.

 

Financial markets are fraught with uncertainty; different risks are associated with different classes of assets/instruments; ignoring these risk levels can wreak havoc and result in significant losses. The magnitude of the risk level is determined by the type of financial instrument. As a result, a proper risk management model should be implemented to address exposures arising from various risks in a constantly changing and evolving ecosystem. Quality information is essential in risk management and strategy development. Financial risk management is critical, so it is critical to identify, measure, and prioritize risks with precautionary measures and strategies, whether at the individual or corporate level.

 

The basic idea is to determine which risks should be avoided, which risks should be digested, and which risks should be responded to based on risk appetite. There is no magic formula for dealing with it, but with the right mix of qualitative and quantitative controls, it can be reduced to some extent. Risk often arises as a result of failing to meet a financial goal. Based on the circumstances, these risks may or may not be dependent on one another. Foreign exchange rate and interest rate risk, for example, are inextricably linked.

 

Also Read | The Psychology of Financial Investments

 

Impact of the Pandemic on Risk Management

 

The continent's financial markets have been particularly hard hit as a result of increased volatility and deterioration in liquidity conditions across various asset classes.

 

The disruption to global supply chains and trade has had a significant impact on how companies think about cash management and liquidity. Companies are already dealing with a slew of issues and decisions regarding the long-term viability of their business relevance, human capital, and digital platforms. With a global recession looming, businesses are in a tailspin due to all of these factors. 

 

In the short term, key considerations are how companies will approach and formulate risk management decisions. It will be critical for businesses and financial institutions to collaborate to navigate this crisis.

 

The impact of Covid-19 on supply chains, operational controls, credit, contingency planning, and stress-testing, while meeting customer expectations, has put enormous pressure on risk managers. Trying to deal effectively with new emerging threats, and volatile markets, and remaining resilient in a turbulent and unfolding situation that changes week by week is extremely difficult.

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Impact of Pandemic on Financial Forecasting

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1. Markets and Covid-19:

 

As markets have become more interconnected than ever before, there has been an increase in credit and market risk concerns across the industry. In recent years, these more traditional risks have been deemed more manageable and less of a threat than new emerging risks such as cyber or AI, which have risen to the top of many CROs' agendas. 

 

However, due to high uncertainty and extremely volatile market changes since the outbreak of this pandemic, credit and market risks have returned to the forefront of risk managers' concerns. Operating at this rate is extremely difficult, and alternate sources of income are essential, as is a re-evaluation of the balance sheet to ensure it has the appropriate sensitivity. 

 

Furthermore, liquidity risk is currently a hot topic of discussion. We have seen a massive response across the industry for a non-economic issue about which we now have new information. The pandemic has demonstrated how liquidity is the first domino to fall and how you must ensure what your commitment to liquid assets is and what is promised to investors.

 

2. Covid-19 and operational sturdiness:

 

In addition to the severe economic impact of Covid-19, the industry's operational resilience strategies and processes have been put under tremendous strain. As a result, one of the top concerns for risk managers during this pandemic is the fear of an operational breakdown.

 

Due to the 9/11 tragedy, superstorm travel restrictions, and other unforeseen events in recent years, updating contingency plans has always been high on the risk agenda. Following the SARS outbreak, the industry conducted several operational drills, but the magnitude of the Covid-19 fallout has caused considerable concern. 

 

As a result, there is now a greater effort to comprehend and deal with unexpected circumstances. Business disruption has the potential to bring the financial services industry to a halt, with supply chains becoming increasingly fragmented and firms' operational controls becoming more reliant on third, fourth, and fifth parties. 

 

As a result, we are seeing an increase in concentration risk. Risk managers must ensure that all operational exercises have the necessary risk controls in place, scrutinizing the process in great detail - we need discipline. Risk managers must poke holes in these processes to identify areas for improvement while also ensuring that all documentation is up to date.

 

3. Cyber risk and Covid-19:

 

The connection between pandemic disruption and increased bad actor activity has not been overlooked. The reported cyber-attacks on hospitals have alerted the financial services industry to the possibility of similar breaches. As a result, risk professionals are closely monitoring vulnerabilities in their systems, and cyber risk is once again a top concern for risk managers today.

 

Before Covid-19, cyber was not as important as it was two years ago. However, since the pandemic, a re-evaluation of cyber risk is required, as hackers are becoming more sophisticated than ever. The most difficult aspect of cyber security is that so much of it is uncontrollable. 

 

Experts in the financial crime report an increase in online fraud activity, with many Covid-19 scams emerging. At the moment, criminals hacking into systems and accessing personally identifiable information, taking over accounts, and withdrawing money are major sources of concern for customer vulnerability.

 

4. Digital transformation and Covid-19:

 

Due to the exponential speed of technological evolution, digital transformation projects across risk have been high on the agendas of CROs and CTOs for quite some time.

 

Banks are under pressure to innovate. They are encouraged to reconsider credit risk, as well as address AML/fraud, and improve user experience, and are advised that automation is the only way forward. However, there are numerous uncertainties surrounding such large-scale transformation projects as the transition away from legacy systems. For instance, how will this function in real-time? Current legacy systems in place, where banks work in silos, are deemed unsustainable, and those who can break through and innovate will be the true winners.

 

However, Fintech remains a key area of discussion for the industry and it will be very interesting to see how those who embraced the Fintech revolution fare during this pandemic versus those who are still using legacy systems.

 

Also Read | Why do we need a Financial Budget?

 

Conclusion

 

The pandemic's overall impact on risk management will result in organizations implementing stronger governance, risk management, and compliance strategies (GRC). GRC is defined by OCEG as the ability to reliably achieve goals (governance), deal with uncertainty (risk management), and act with integrity (compliance).

 

The use of technology for GRC, specifically risk management and operational resiliency, will grow in organizations. Organizations will seek technology that enables an enterprise view of risk that is linked to the organization's objectives. 

 

Organizations should be able to plan for risk scenarios and monitor an enterprise's view of risks using technology. All organizations should strive to remain agile in the face of the next crisis, to be able to monitor risks as they emerge and to model the risk's impact on objectives so that the organization can plan and remain agile in the face of uncertainty.