Insider Threats to Financial Institutions

November 15, 2024

Of the many risks financial institutions face, few present as many challenges as “insiders.” Unlawful behavior by employees of banks, lending centers, or asset management firms—financial crimes, such as embezzlement, insider trading, fraud, and money laundering—has led to a sharp spike in financial losses and regulatory penalties.

In this article, we explore the insider risk, then present professional liability insurance as a powerful risk management strategy. To learn more about insurance solutions for the financial sector, visit our Financial Institutions page.

Insiders: Fraudulent Activity in Financial Firms

Insider threats in financial institutions can manifest in various forms, posing significant risks due to the access and knowledge insiders have. Here are some common types of insider threats in the financial sector:

1. Fraud: Employees may exploit their access to accounts and systems to siphon funds, manipulate financial data, or issue unauthorized credits. Fraud can range from small-scale thefts to substantial fraudulent transfers.
2. Embezzlement: This involves employees misappropriating funds that they’ve been entrusted to manage or stealing from the company’s accounts directly. Embezzlement can often go undetected for long periods, especially if the perpetrator is responsible for financial oversight.
3. Data Theft: Insiders may steal sensitive customer information, proprietary data, or intellectual property. This information could be used for personal gain, sold to competitors, or used to commit identity theft.
4. Trading on Insider Information: Employees with access to non-public, material information about their company or the market might engage in insider trading, exploiting this knowledge for personal financial gain.
5. Sabotage: Disgruntled employees might intentionally damage systems, delete critical data, or otherwise disrupt operations to harm the institution, often as an act of revenge or protest.

Liability Risks Associated with Insider Crimes

When employees at banks or other financial institutions commit financial crimes, the consequences extend far beyond the immediate financial losses. These illicit activities can significantly undermine the stability and integrity of the affected institutions. Examples of the damage insider crimes cause include:

• Long-Term and Direct Financial Losses: Financial crimes often result in substantial monetary losses for the institution, depleting assets and affecting its bottom line.
• Reputational Damage: Beyond the immediate financial implications, these crimes erode trust and confidence among clients and the public, which can be devastating for an institution’s reputation and long-term viability.
• Regulatory Penalties and Legal Costs: Institutions face severe regulatory scrutiny and penalties following financial crimes, alongside the high costs of legal defense and potential settlements.
• Insurance and Bonding Costs: Claims related to these crimes can lead to increased insurance premiums and stricter conditions on professional liability and fidelity bonds, impacting financial planning and risk management strategies.
• Operational Disruption: Addressing financial crimes requires significant resources, potentially disrupting daily operations with internal investigations and system overhauls.
• Impact on Employees: The fallout from financial crimes also affects the institution’s workforce, introducing stricter protocols and surveillance that can increase stress and reduce overall morale among employees.

In several high-profile cases, insiders were responsible for billions of dollars in financial losses, not to mention the expenses associated with lost reputations, regulatory penalties, and operational disruption. In our next section, we’ll present critical risk management tools against these insider threats.

Risk Management for Financial Institutions

Professional liability insurance, including errors and omissions coverage, coverage against professional services, and cyber policies, serves as a crucial risk management tool for financial institutions facing the threat of employee-perpetrated financial crimes. These insurance policies can provide financial protection against losses resulting from claims of negligence, inadequate work, or failure to deliver services as promised. Beyond financial compensation, these insurance solutions often offer access to legal expertise and support in managing crises, which is invaluable in mitigating the impacts of such claims.

Working with an experienced insurance underwriter for the financial sector is the ideal start to a more comprehensive risk management program. These insurance professionals can help select coverages and policies to meet specific needs or risk profiles. By integrating these insurance protections, financial institutions can safeguard their assets, maintain their reputations, and uphold the trust of their clients and shareholders in the face of internal risks. ◼