Risk management
Risk management involves identifying and analysing the uncertainity that exist in investment decisions.Essentially, risk management occurs at any time an investor or fund manager analyses and attempts to quantify the potential for losses in an investment and then takes the appropriate action given his investment objectives and risk tolerance. Inadequate risk management can result in severe consequences for companies as well as individuals.Risk management occurs everywhere in the financial world. It occurs when an investor buys low-risk government bonds over more risky corporate debt, when a fund manager hedges his currency exposure with currency derivatives and when a bank performs a credit check on an individual before issuing a personal line of credit.
How can we measure risk
In some cases, they look at the average return of an investment, and they find its average standard deviation over the same time period. Then, they apply a bell curve to that number, which dictates that the expected return of the investment is likely to be one standard deviation from the average two-thirds of the time and two standard deviations from the average deviation 95% of the time.
Enterprise risk management ( ERM )
Enterprise risk management (ERM) encompasses all kinds of risks throughout an organization, and it creates plans for managing that risk. Industries such as aviation, construction, public health, international development, banking, finance and insurance utilize ERM. People who work with ERM focus on assessing the risks relevant to their companies or industries, prioritizing those risks, and making informed decisions to mitigate them.
A high standard deviation indicates a high degree of risk. Many companies allocate large amounts of money and time in developing risk management strategies to help manage risks associated with their business and investment dealings. A key component of the risk management process is risk assessment, which involves the determination of the risks surrounding a business or investment. A fundamental idea in finance is the relationship between risk and return. The greater the amount of risk an investor is willing to take, the greater the potential return.
Investors need to be compensated for taking on additional risk. For example, a U.S. Treasury bond is considered one of the safest, or risk-free, investments and when compared to a corporate bond, provides a lower rate of return. A corporation is much more likely to go bankrupt than the U.S. government. Because the risk of investing in a corporate bond is higher, investors are offered a higher rate of return.
