Financial Risk Management

9 Key excerpts on "Financial Risk Management"

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  eBook - ePub

  Essentials of Financial Risk Management

  • Karen A. Horcher(Author)
  • 2011(Publication Date)
  • Wiley

    (Publisher)

  CHAPTER 1 What Is Financial Risk Management?

  After reading this chapter you will be able to

  • Describe the Financial Risk Management process
  • Identify key factors that affect interest rates, exchange rates, and commodity prices
  • Appreciate the impact of history on financial markets

  Although financial risk has increased significantly in recent years, risk and risk management are not contemporary issues. The result of increasingly global markets is that risk may originate with events thousands of miles away that have nothing to do with the domestic market. Information is available instantaneously, which means that change, and subsequent market reactions, occur very quickly.

  The economic climate and markets can be affected very quickly by changes in exchange rates, interest rates, and commodity prices. Counterparties can rapidly become problematic. As a result, it is important to ensure financial risks are identified and managed appropriately. Preparation is a key component of risk management.

  What Is Risk?

  Risk provides the basis for opportunity. The terms risk and exposure have subtle differences in their meaning. Risk refers to the probability of loss, while exposure is the possibility of loss, although they are often used interchangeably. Risk arises as a result of exposure.

  Exposure to financial markets affects most organizations, either directly or indirectly. When an organization has financial market exposure, there is a possibility of loss but also an opportunity for gain or profit. Financial market exposure may provide strategic or competitive benefits.

  Risk is the likelihood of losses resulting from events such as changes in market prices. Events with a low probability of occurring, but that may result in a high loss, are particularly troublesome because they are often not anticipated. Put another way, risk is the probable variability of returns.

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  eBook - ePub

  A Risk Professional?s Survival Guide

  Applied Best Practices in Risk Management

  • Clifford Rossi(Author)
  • 2014(Publication Date)
  • Wiley

    (Publisher)

  CHAPTER 2 Overview of Financial Risk Management

  RISK MANAGEMENT DEFINED

  Risk management describes a collection of activities to identify, measure, and ultimately manage a set of risks. People and organizations confront risks every day: For example, an individual decides to leave a relatively secure job for another with better opportunity and compensation across country, a government faces the threat of terrorist attacks on public transportation, or a bank determines which financial products it should offer to customers. While some risks are fairly mundane and others a matter of life or death at times, the fundamental process for assessing risk entails evaluation of trade-offs of outcomes depending on the course of action taken. The complexity of the risk assessment is a function of the potential impact from a particular set of outcomes; the individual deciding to take a different job is likely to engage in a simpler risk assessment, perhaps drawing up a pros and cons template, while a government facing terrorist threats might establish a rigorous set of quantitative and surveillance tools to gather intelligence and assign likelihoods and possible effects to a range of outcomes.

  Regardless of the application or circumstance, each of the assessments above has a common thread, namely, the assessment of risk. But what exactly is risk and is it the same across all of these situations? Risk is fundamentally about quantifying the unknown. Uncertainty by its very nature tends to complicate our thinking about risk because we cannot touch or see it although it is all around us. As human beings have advanced in their application of technology and science to problem solving, a natural evolution to assessing risk using such capabilities has taken place over time. Quantifying uncertainty has taken the discipline of institutional risk management to a new level over the past few decades with the acceleration in computing hardware and software and analytical techniques.

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  Raising Entrepreneurial Capital

  • John B. Vinturella, Suzanne M. Erickson(Authors)
  • 2003(Publication Date)
  • Academic Press

    (Publisher)

  That is a prime motivation of entrepreneurs. Current thought divides busi-ness risk into three categories: financial risk, operational risk, and strategic risk. Each of those will be discussed later in this chapter. Risk management is the identification, analysis, and treatment of exposures to loss . Those exposures may involve either pure risk or speculative risk. Risk management has been described as an art, a science, and as ‘‘structured common sense.’’ In some respects, all of those are true about risk manage-ment. Risk management is both active and reactive. Pre-loss planning is a core strategy for business continuity, but remediation and recovery are also important. (The events of September 11, 2001 provided many lessons about these notions.) Procedures must be put in place to minimize the occurrence of loss and to minimize the financial impact of the losses that do occur. Risk management is a core value in firms. Over 800 of the Fortune 1000 firms are members of the Risk and Insurance Management Society, Inc. 332 Essentials of Risk Management (RIMS). RIMS is the leading risk management organization in the United States. Risk management contributes to the continued existence of economic entities, both for-profit and not-for-profit, by allowing those entities to maintain their productive resources, to meet their business objectives, and to provide their critical services. Peter Drucker, the renowned management scholar, notes that the practice of risk management is a hallmark of a developed economy. RELATIONSHIP OF RISK MANAGEMENT TO FINANCIAL MANAGEMENT Financial theory holds that the value today of the future earnings of an economic enterprise will be maximized if periodic fluctuations in those earnings are minimized. One of the purposes of risk management is to eliminate, or to minimize, those periodic fluctuations in earnings.

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  Fundamentals of Finance

  Investments, Corporate Finance, and Financial Institutions

  • Mustafa Akan, Arman Teksin Tevfik(Authors)
  • 2020(Publication Date)
  • De Gruyter

    (Publisher)

  16 Risk Management in Financial Institutions 16.1 Introduction Risk is the probability that the outcome of an event will result in the reduction of wealth. It implies a loss of wealth or income. Any firm is subjected to different types of risks, which will diminish the value of the firm. Any environment in which a firm is in constant change may have negative influences on entities in that environment. In this chapter, we will review basic risks such as credit risk, liquidity risk, interest rate risk, market risk, off-balance-sheet risks, foreign exchange, country risk, technological risk, operational risks, insolvency risks, and derivatives such as options, futures, and swaps to manage most of the risks that financial institutions face. 16.2 The Risks Most financial firms are intermediaries. They channel the funds of the savers to the borrowers and investors and hence they provide an essential service for the proper functioning of the economy. They need to continue to make a reasonable income for their stockholders and they also need to be able to pay their depositors or lend-ers when required. They borrow from millions of savers, they lend to millions of customers (including other financial institutions), and they perform other financial services to both individuals and corporations. They face many changes. There may be internal changes, such as management changes, infrastructural changes, and changes in the ownership structure. There may be changes in the sector such as many new entrants. There may be changes in basic economic variables such as the exchange rates, interest rates, unemployment rate, and inflation rate. There may be changes in the legal structure concerning the sector. Lastly, there may be changes in the world economy. The financial institutions (FIs) will be affected by degrees by all of these changes which may negatively affect the entities. The risks associated with all of these changes are classified as: 1 – Credit risk .

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  Risk and Financial Management

  Mathematical and Computational Methods

  • Charles S. Tapiero(Author)
  • 2004(Publication Date)
  • Wiley

    (Publisher)

  It can result from many reasons, both internally induced and occurring externally. In the for- mer case, consequences are the result of failures or misjudgements, while, in the latter, these are the results of uncontrollable events or events we cannot pre- vent. As a result, a definition of risk involves (i) consequences, (ii) their prob- abilities and their distribution, (iii) individual preferences and (iv) collective, market and sharing effects. These are relevant to a broad number of fields as well, each providing an approach to measurement, valuation and minimization of risk which is motivated by psychological needs and the need to deal with problems that result from uncertainty and the adverse consequences they may induce. Risk management is broadly applied in finance. Financial economics, for ex- ample, deals intensively with hedging problems in to order eliminate risks in a particular portfolio through a trade or a series of trades, or through contractual agreements reached to share and induce a reduction of risk by the parties in- volved. Risk management consists then in using financial instruments to negate the effects of risk. It might mean a judicious use of options, contracts, swaps, insurance contracts, investment portfolio design etc. so that risks are brought to bearable economic costs. These tools cost money and, therefore, risk management requires a careful balancing of the numerous factors that affect risk, the costs of applying these tools and a specification of (or constraints on) tolerable risks an economic optimization will be required to fulfil. For example, options require that a premium be paid to limit the size of losses just as the insured are required to pay a premium to buy an insurance contract to protect them in case an adverse event occurs (accidents, thefts, diseases, unemployment, fire, etc.). By the same token, ‘value at risk’ (see Chapter 10) is based on a quantile risk constraint, which provides an estimate of risk exposure.

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  Risk Management and Simulation

  • Aparna Gupta(Author)
  • 2016(Publication Date)
  • CRC Press

    (Publisher)

  Chapter 2 Framework for Risk Management Risk management is perhaps one of the most important activities of any en-terprise or household in support of its smooth and efficient operation. This is especially true when we are ready to see the goal of mastering risk as not restricted to be on defensive terms. Risk management is about how individ-uals and firms actively, proactively, or sometimes reactively, select the types and levels of risk that are appropriate and beneficial to assume. Some have held a defensive view of risk management, which makes sense from a pure risk perspective, that is if the focus of risk management was solely on pure risk. However, as was studied in Chapter 1, the range of risks is wide, with pure risk being important but only a subset of the risks. For speculative risks, the risk-reward link is so integral to the risk that ap-proaching these risks in defensive terms seems downright inappropriate. Mak-ing risk management an integral part of the management and control process for running a firm or a household allows for sounder economic management of the enterprise. Depending on the nature and extent of risk exposures, individ-uals, households, and firms may employ varied degrees of effort and resources towards their risk management goals. Irrespective of the degree of effort and level of resources, integrality of risk management to the firm’s or household’s functioning implies keeping the consideration of risk and response at the core of awareness of the firm’s employees and members of a household. For many regulated sectors, risk management is not a luxury or a choice, but an obligation. Banking, insurance, telecommunication, transportation, oil and gas, electricity, and drugs and pharmaceuticals, are all examples of sec-tors that are regulated, under some version of regulatory settings in many nations.

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  eBook - ePub

  IMF Financial Operations 2016

  • International Monetary Fund. Finance Dept.(Author)
  • 2016(Publication Date)
  • INTERNATIONAL MONETARY FUND

    (Publisher)

  6. Financial Risk Management

  The IMF’s Articles of Agreement call for adequate safeguards for the temporary use of its resources.1 Risks stem from interactions with the membership in fulfillment of the IMF’s mandate as a cooperative international organization that makes its general resources available temporarily to its members. The IMF has an extensive risk-management framework in place, including procedures to mitigate traditional financial risks as well as strategic and operational risks. The latter risks are addressed by a variety of processes, including surveillance reviews, lending policies and operations, capacity building, standards and codes of conduct for economic policies, the communications strategy, and others.

  Financial risks are mitigated by a multilayered framework reflective of the IMF’s unique financial structure. Key elements include the IMF’s lending policies (program design and monitoring, conditionality and phasing, access policies as well as the exceptional access framework), investment guidelines, internal control structures, financial reporting, audit systems, and the IMF’s preferred creditor status. The Fund also utilizes precautionary balances to absorb the impact of risks once they crystallize. In addition, the IMF conducts safeguards assessments of central banks to ensure that their governance and control systems, auditing, financial reporting, legal structures, and autonomy are adequate to maintain the integrity of operations and minimize the risk of any misuse of IMF resources.

  This chapter provides an overview of the financial risk-management framework and control structure of the IMF. A detailed description of financial risk mitigation follows, covering credit, liquidity, income, and market risks (interest rate and exchange rate risk controls). The balance of the chapter details the IMF’s strategy for handling overdue financial obligations, safeguards assessments of central banks, and the IMF’s audit framework and financial reporting and risk-disclosure mechanisms.

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  Financial Risk Management

  Identification, Measurement and Management

  • Francisco Javier Población García(Author)
  • 2017(Publication Date)
  • Palgrave Macmillan

    (Publisher)

  Part I Introduction and Perspectives 1 Introduction 1.1 General Principles In general, it can be said that risk has always been present in companies and therefore, measurement and management of risk has always been important. In recent times, due to the increasing internationalisation of corporations and the fact that economic activity is increasingly dependent on technology, risk measurement and management has become critical in all companies, regardless of their sector of activity. The results of a company are subject to risks arising from the manage- ment of its assets and the development of its business strategy. All economic activity, even buying government debt, is subject to risk since, as has recently been demonstrated, there is always a risk that the state cannot pay its debts or cannot do so in the time and manner agreed at the time of issue. Even if the debts are paid in this time and manner, a great deal of value can be lost (currency depreciation, hyperinflation, etc.). Therefore, although there is often no awareness of this, risks are run and it is unclear which carries more risk: to take a specific action, to take a number of actions or not to take any action at all. For this reason, the first 3 © The Author(s) 2017 F.J. Población García, Financial Risk Management, DOI 10.1007/978-3-319-41366-2_1 thing that has to be done to analyse a company’s risk is to define some general principles and concepts. 1.1.1 Risk The word risk has multiple meanings. Thus, it is necessary to specify what is understood when discussing the concept of risk. For the purposes of this book, we define risk as the degree of uncertainty that exists about the return of future net cash flows generated by making a particular investment. This definition is very general and involves many different aspects which will be dealt with in detail throughout this book.

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  Quality in the Era of Industry 4.0

  Integrating Tradition and Innovation in the Age of Data and AI

  • Kai Yang(Author)
  • 2023(Publication Date)
  • Wiley

    (Publisher)

  Despite these challenges, the integration of risk management with strategic planning is a crucial approach in today’s volatile and uncertain business environment. It can help organizations to bet- ter navigate uncertainties and achieve their strategic objectives. 7.4 Risk Management Techniques Risk management is a vital cornerstone of any organization’s strategic management. This process involves identifying, assessing, mitigating, and controlling risks, which could impede an organization’s ability to realize its objectives. Effectual risk management equips organizations to navigate uncertain- ties, capitalize on opportunities, and sustain a robust and resilient operational framework [3]. In this discourse, we shall delve into an array of intricate methods and techniques that constitute the foundation of efficacious risk management. We will explore the application of these tools to specific tasks, such as risk identification, risk assessment, risk mitigation, and risk control. 7 Risk Management in the 21st Century 260 This exploration will proffer a practical comprehension of their contribution to the comprehensive risk management process [18]. Understanding and appropriately deploying these techniques can transform risk management from a reactive function into a strategic capability that adds value across all business domains. By doing so, organizations can convert risks into strategic opportunities, enhancing their adaptability and resilience in the face of evolving landscapes [24]. 7.4.1 Techniques for Risk Identification Risk identification techniques are the methods used to uncover, recognize, and describe risks that could affect the achievement of an organization’s objectives. A comprehensive set of techniques includes both quantitative and qualitative methods, and they are usually tailored to the nature of the organization, its industry, and the specific risks it faces.

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