Banking sector is very much competitive with large number of players in the market. That’s why banks need to depend on their existing customer business to increase their business and good reputations help them to retain their customers. Reputational risk arises due to loss of reputation for a bank.
The loss of reputation may arise due to misguidance by bank representative, loss in portfolio, wrong wealth management services, poor customer services etc. In these cases, customers lose trust in the bank and opt for some other bank.
Suppose an investment bank manages millions of US Dollars of a company where the risk details and return objectives are clearly specified and agreed upon by both the parties. Now to generate higher returns, the portfolio manager may invest in assets with higher risk then he is allowed to do so. If the investment suffers loss due to wrong investment, then the customer lose the trust in the investment bank completely and withdraw its whole investment from the bank.
To reduce reputational risk, banks need to have proper risk management processes, provide superior customer services, recruit expert representatives and provide adequate training to all of its employees.