From systems failures to process execution issues, banks face many operational risks every day. Operational risk loss can be problematic for customers and institutions, potentially leading to customer churn and reputational damage.
Understanding the most prevalent risks, their impacts, and mitigation strategies can help banks plan ahead to improve operational resilience and maintain customer trust and loyalty.
What is operational risk for banks?
Operational risk for banks is any potential for financial loss or reputational damage caused by failed internal processes, systems, human errors, or external events. As a category, operational risk includes a range of issues: technology failure, compliance violations, fraud, cybersecurity threats, and more.
Risk awareness is vital to crisis management and minimizing operational loss. Here are some of the most common threats banks face and effective operational risk management to protect financial institutions from long-term damage.
Cybersecurity risks
From customer’s financial data to transaction records and market details, banks manage sensitive information that they must protect. Compromised data can increase fraud risk or lead to identity theft and/or financial loss for individuals and institutions, which can significantly hurt a bank’s reputation.
Some of the most common cybersecurity threats include:
- Phishing: Attackers create fake emails, text messages, or websites to trick customers or employees. These fake emails and websites look real and trick users into sharing their passwords or account information. Once cybercriminals get access to this information, they can steal a victim’s money or identity. They can also potentially hack into the bank’s internal systems.
- Ransomware: Ransomware is software that locks a user out of a system in exchange for payment to regain access. It’s also a type of malware that can infect banking systems to steal sensitive data, disrupt systems or operations.
- Distributed Denial of Service (DDOS) attacks: In a DDOS attack, a bank’s online systems experience an influx of traffic, causing systems to slow down significantly or crash, preventing users from accessing their accounts and making transactions.
- Advanced Persistent Threats (APTs). Cybercriminals gain access to a bank’s network and steal data over time, leading to financial loss and reputation damage. APTs often remain undetected for extended periods.
These types of cyberattacks can lead to system outages, lost data, financial losses, and disrupted operations, all of which can affect customer experience.
Banks and financial institutions must comply with cybersecurity regulations to reduce the risk of data breaches. Although these regulations can vary by industry, some of the common ones in the banking sector include the Gramm-Leach-Bliley Act (GLBA) and the New York Department of Financial Services (NYDFS) Cyber Security Regulation which mandates cybersecurity standards for banks.
Cybersecurity attacks or non-compliance with these requirements can lead to fines and legal penalties.
Technology failure
Banks rely on various technologies, including payment processing systems, ATMs, and Point of Sale (POS) terminals. Failures in these technology systems can disrupt operations, lead to financial losses, and damage the bank’s reputation.
Common technology failures include:
- System outages: Downtime in core banking systems or digital platforms can prevent customers from accessing their accounts or performing transactions like deposits, withdrawals, and transfers.
- Payment processing issues: Failures in payment systems or internal payment gateways can delay salary payments, bill processing, and other critical financial activities.
- ATM and POS issues: Technology failures in ATM networks or POS systems can disrupt in-person banking and retail transactions.
Technology failures can cause financial losses and added costs for incident response, including hiring people to help, repairing systems, and compensating customers affected by downtime or outages. Repeated failures can damage customer trust and result in lost business.
Banks may face regulatory penalties or fines for failing to report technology failures or for non-compliance with standards such as U.S. Federal Reserve guidelines.
Systems failures
Systems failures involve a bank’s internal systems, resulting in downtime and the inability to complete transactions. This includes utility outages, hardware and software malfunctions, telecommunications issues, etc. For example, a bank center cooling system removes heat generated by the servers and other equipment. If this system fails, it can cause the data center to stop working correctly, disrupting business operations.
Failures in trading systems can delay or cancel transactions, impacting investors and market performance. System failures can also cause a ripple effect for interconnected technology. If one system goes down, others cannot function properly.
Systems failures can cause revenue losses if a financial center is unable to process payments or collect money from transactions. This can also lead to data corruption due to inaccurate records, customer frustration, and reputational damage.
Organizations can prevent downtime and outages by performing regular tests to identify vulnerabilities and creating thorough incident response plans to resolve failures quickly.
Process execution
Process execution errors can impact critical banking operations including transactions and customer interactions. Execution issues can be caused by human error, automation problems, system failure, and poorly designed workflows.
- Manual errors: These can include employee mistakes during data entry, like entering incorrect details, or errors in account management or transaction processing.
- Automation failures: Errors in automated processes or algorithms can disrupt banking operations.
- Workflow mistakes: Poorly designed workflows can skip necessary steps, leading to data errors or omissions.
- Inefficiencies: Processes that are too complex or slow can cause bottlenecks that disrupt customer service or transaction processing.
To mitigate these operational risks, banks should perform regular audits to identify inefficiencies or potential compliance issues and provide ongoing employee training.
Teams can also use automation to implement monitoring systems to scan and send alerts for potential issues.
Reputation risks
Cyber attacks, technology and systems failures, and process execution issues can all significantly damage a bank’s reputation. Customers must be able to trust their financial institutions and have the confidence that their bank can protect their money and personal data while providing reliable access to services.
- Data breaches: Cyber attacks and data breaches can be devastating for customers, exposing sensitive information and leading to identity theft, stolen funds, and fraud. After a data breach, a customer may think the bank does not have sufficient security protocols and may switch to another institution.
- System outages: Customers expect 24/7 access to their accounts, and frequent system outages can leave them in the dark, leading to frustration and, in some cases, causing them to find another provider.
- Inconsistent communication: Banks must respond quickly and address customers with empathy and transparency following an incident. Inconsistent communication can cause customers to feel ignored or neglected, leading to further reputational damage.
Operational risk management in banks
Mitigating operational risks requires a proactive approach. Banks should implement internal controls to minimize human errors and process inefficiencies, including standardized workflows and regular employee training. Using technology such as automation and AI can enhance accuracy, reduce manual interventions, and identify key risk indicators before they escalate.
PagerDuty can help mitigate risk exposure for banks with end-to-end incident management and AI and automation tools to monitor systems, prevent downtime, and resolve incidents quickly. Discover how PagerDuty can help banks minimize operational and financial loss. Start your free trial today.