A Guide on Risk Management: Concerning the financial world, risk management refers to analysing or identifying the risks involved in a trade before investing. Managing or reducing these risks by taking precautionary measures is known as risk management.
When an investor decides to invest in an entity, it exposes itself to all the financial risks involved in the trading. The degree of risks depends on the type of fiscal measures, token or instrument it uses. These economic risks can be in any form such as recession, volatility in the financial market, bankruptcy, high inflation, hyperinflation, etc.
So, to counter or minimize or control these finance-related risks, investors and fund managers take risk management measures.
A trader not paying attention to risk management while making trade and trade-related decisions might face destruction at the time of investment, especially when the economy is going through financial turmoil.
Different risks come with varying intensity depending on the type of asset class.
For example, Equity investment is often considered a risky venture whereas; fixed deposit is regarded as a safe investment. While practising management, fund managers and equity investors manage to diversify their securities. It helps in reducing the intensity of risk associated with them.
Definitions and methods change widely depending on whether the technique is for financial portfolios, industrial processes, security, engineering, actuarial assessments, safety and public health.
The Response Towards Risks
Usually, response towards risks takes the following forms:
- Avoidance: Many businesses or firms think that eliminating the root cause of risk will reduce risk.
- Mitigation: In this case, the repose a firm gives is by lowering the projected financial cost associated with risk by decreasing the possibility of the appearance of specific risk.
- Acceptance: In some cases, a business may be compelled to accept the risk. This option is possible if a firm entity develops foresight to alleviate the impact of the unseen risk.
Before developing contingency, a company needs to consider all the measures used for solving the problem. The result should be such which could be used as soon as the problem arises. It makes a firm self-dependent.
Some important methods to overcome risk in the financial market to maximize profit.
Follow the steps given below sequentially.
1) Try to identify the threats.
2) Evaluate the vulnerability of risks associated with critical assets.
3) Determine the risk. There are certain assets which usually faces the same type of threat or attack. Try to analyse this carefully so that you do not repeat the same mistakes.
4) Create your way to get out.
5) Set a priority list in your mind regarding management measures.
As per the principles given by the International Organization for Standardization (ISO) here is a list on risk management features:
- Create value- resources used to alleviate risk should be less than the outcome of inaction.
- It should be an essential part of organizational processes.
- Should be part of the decision making process.
- It should give a clear view of uncertainty and assumptions.
- The process should be structured and systematic.
- Should be taken from well-researched sources.
- Should be highly tailorable ( can be adapted by any person easily)
- Take human factors into consideration.
- Be inclusive and transparent.
- Should be iterative, dynamic and responsive to any alteration or changes.
- Be capable of enhancement and continual improvement.
- Periodically re-assessed.
The Bottom Line
No one can separate risk from returns. Every investment in the market carries some degree of risk with it. In the case of U.S. T-bills, it is close to zero; on the other hand, it is high for real estate (for highly inflationary markets) or emerging-market equities.
It is measurable in both relative and absolute terms. A solid base on risk can help traders to understand trade-offs, the cost involved with different approaches in investment opportunities.