In our recent posts on Washington Mutual and Countrywide, we discussed the role of the Board of Directors in the two firms’ distress.  In the case of Washington Mutual, the Board was notably lacking in risk expertise.  In the case of Countrywide, the risk expertise was there but the Board didn’t stand up to the CEO.  To be effective in risk oversight, a director has to have a unique set of qualities:

Education: The board member needs a graduate education, preferably a Ph.D., in economics, finance or a closely related discipline.  Note that this is necessary but not sufficient for effectiveness.  Renowned economist Martin Feldstein, for example, was a long time director of AIG.  Countrywide had two Ph.D.s in economics on its Board, but the institution still needed to be bailed out.

Specialist Training.  It’s not enough to be “a doctor” if the specialty needed is brain surgery, not urology.  The same is true in risk management.  There are financial economics who special in risk and things related.  That’s a completely different field of study than someone with expertise in accounting for the Gross National Product.

Experience.  An academic background in finance needs to be combined with training in the hard knocks of risk as a business person or advisor to business people.  Robert C. Merton laughingly agreed with me in May that to be a political success the first hedge has to have a gain on the hedging instrument, not on the instrument being hedged (see our blog post “The politics of hedging”).  My friend Ben Golub at BlackRock may disagree with me, but I think even those risk managers who have made large mistakes have lots to offer if the lesson of those mistakes has been well learned.

Guts.  The director will ultimately have to take a stand against the CEO on risk issues, and the director needs to be comfortable in this role.  The director will need to confront the CEO in the board meeting on repeated occasions and likely be in a position where a public resignation is necessary.  Only a rare person, as Ben Golub noted in a recent e-mail, would go to a party where he’s unpopular.  That’s the highly likely role of the risk expert on the Board.

So who would I nominate for the Board of a major bank holding company?  I don’t want to make the common mistake of only selecting from people known to me personally.  If I were conducting a search for a risk expert or 2 or 3 for a key bank board, I’d be looking at these lists of people:

• Member of the 2002 RISK Hall of Fame
• Winners of the RISK Lifetime Achievement Award
• Current and Past Directors of GARP
• Current and Past Directors of PRMIA
• Members of Risk Who’s Who

For the sake of executive search firms who don’t have this information at their fingertips, I am listing the 50 members of the RISK 2002 Hall of Fame.  With the exception of myself, this is a uniquely talented group who helped mold risk management as a profession, and this is probably the first place I would look to fill a board seat.  Many of these RISK pioneers have retired but have the time, the money and the expertise that it takes to be an effective director.  I’ve listed them in tabular form with their current post as noted in the 2002 RISK issue.  I apologize in advance to those who have subsequently gone on to do something different. I’ve updated a few of the current positions where the person is well known to me.  Here’s the list I would choose from, with two caveats.  The first caveat is that reader will note that a few of the RISK Hall of Fame members have passed away.  EVEN in that scenario, these luminaries would be more effective as directors than the average director of big banks have been leading up to this crisis.  The second caveat is that a few of these people have been at firms that got in trouble.  That’s a potential asset in my book, if the lesson learned has stayed with them.  Here are the members of the RISK Hall of Fame:

The world financial system would be suffering from a lot fewer problems right now if a large number of this group and the other groups I’ve mentioned were serving on bank boards.

Donald R. van Deventer

Kamakura Corporation

June 20, 2009