Lecture 1 Flashcards
operational risk
the risk of loss resulting from inadequate or failed processes, people, and systems or from external events
legal risk
exposure to punitive damages, fines, or penalties resulting from supervisory actions and private settlements
risk
variability in future outcomes over a specified time period in a given situation (volatility-not knowing what’s going to happen)
risk management
the decision making process by which negative effects of risk are minimized (not to minimize risk but to manage it!)
why is risk important?
it can cause us to use resources inefficiently, often because individuals are believed to be risk averse
risk averse
willing to give up value to reduce variability/risk
expected outcome =
probability of event x value of event
negative effects of risk involve:
- giving up possible benefits because risk exists/using resources up
- spending resources to reduce risk
- generally not loss costs, which are important as a part of doing business, but managing risk
types of situations involving risk
speculative v. pure
subjective v. objective
diversifiable v non-diversifiable
speculative v. pure
change v. no change
Hazard
status quo
can gain, stay the same, or lose
subjective v. objective
feelings/interpretation v. math/right and wrong answers
diversifiable v. non-diversifiable
combine situations/volatility declines v. volatility increases
categorization scheme: GARP Wheel
strategic market credit/counterparty liquidity operational
strategic
- changes that affect the competitive environment
- macro-economic conditions (Employment trends)
market
- input/output prices
- asset/liability valuation
