Session 1 Flashcards
What is risk?
Risk is the potential for the occurrence of al loss but cannot be separated from growth/profit opportunities.
Risk can be defined as the consequence that uncertain futuree vents bring on the results(financial or not) that the company is hoping to achieve.
What is business risk?
Deliberate and necessary risk taken by companies
- To get a competitive advantage
- To create Shareholder Value
For Example: Business decisions(investments), Legal Risks, Business environment(competition and economy)
What is financial risk?
Losses due to financial market activities.
For example: Credit Risk, Market Risk, Interest Rate Exposure, FX exposure, Equity Volatility, Default on financial obligations.
What is expected return?
Expected return is the profit (or loss) an investor anticipates on an investment that has known or expected rates of return. It is not always the return that we expect to receive.
Difference between expected loss and unexpected loss? What’s the link with risk management
The expected loss is the amount a bank can expect to lose, on average, over a predetermined period when extending credits to its customers.
Unexpected loss is the volatility of credit losses around its expected loss.
Once a bank determines its expected loss, it sets aside credit reserves in preparation.
However, for unexpected loss, the bank must estimate the excess capital reserves needed subject to a predetermined confidence level. This excess capital needed to match the bank’s estimate of unexpected loss is known as economic capital.
What is Value at Risk (VaR)
Value at risk (VaR) is a statistical measure that defines a particular level of loss in terms of its chances of occurrence.
For example, if our position has a one-day VaR of $1.5 million at the 99.0% confidence level, it means that our risk analysis shows that there is only a 1.0% probability of a loss that is greater than $1.5 million on any given trading day.
What’s the big downside of VaR?
VaR works well as a risk measure for markets operating in normal conditions but very misleading in abnormal conditions (illiquid portfolios, longer period of time, volatile markets).
What is Economic Capital?
Economic capital is the financial cushion that a bank employs to absorb unexpected losses.
What is the Risk Management Process?
Step 1: Setting objectives.
Step 2: Quantify the risk exposures or determine appropriate methods to transfer the risks.
Step 3: Determine the collective effects of the risk exposures or perform a cost-benefit analysis on risk transfer methods.
Step 4: Develop a risk mitigation strategy (i.e., avoid, transfer, mitigate, or assume risk).
Step 5: Assess performance and amend risk mitigation strategy as needed.
What is risk management?
