Page 127 - DCOM507_STOCK_MARKET_OPERATIONS

Stock Market Operations

Notes provide holders of concentrated equity positions the ability to protect against a decrease in the
value of the stock, generate liquidity, diversify the exposure, and potentially defer capital gains
taxes.
Management strategies include the following:
Risk Avoidance is just that, avoiding the risk associated with a specific task, activity or
project. Often, following the review of a contract, it is determined that a project is just too
risky. The client may decide not to bid the work at all, or remove that element of the work
from their bid, sometimes using an alternate deduct to delineate the exclusion. Risk
avoidance is strictly a business decision, and sometimes a very good strategy if construction
documents are unclear, ambiguous or incomplete.

Risk Abatement is the process of combining loss prevention or loss control to minimize a
risk. This risk management strategy serves to reduce the loss potential and decrease the
frequency or severity of the loss. Risk abatement is preferably used in conjunction with
other risk management strategies, since using this risk management method alone will
not totally eliminate the risk.
Risk Retention is a good strategy only when it is impossible to transfer the risk. Or, based
on an evaluation of the economic loss exposure, it is determined that the diminutive value
placed on the risk can be safely absorbed. Another consideration in retaining a risk is
when the probability of loss is so high that to transfer the risk, it would cost almost as
much as the cost of the worst loss that could ever occur, i.e., if there is a high probability
of loss, it may be best to retain the risk in lieu of transferring it.

Risk Transfer is the shifting of the risk burden from one party to another. This can be done
in several ways, but is usually done through conventional insurance as a risk transfer
mechanism, and through the use of contract indemnification provisions.

Risk Allocation is the sharing of the risk burden with other parties. This is usually based
on a business decision when a client realizes that the cost of doing a project is too large and
needs to spread the economic risk with another firm. Also, when a client lacks a specific
competency that is a requirement of the contract, e.g., design capability for a design-build
project. A typical example of using a risk allocation strategy is in the formation of a joint
venture.
Regardless of how the portfolio management and risk management activity is characterized,
e.g., investing, trading, speculating, or hedging; regardless of the markets and instruments
traded; and, regardless of the strategies and tactics employed; one requirement is common to all
applications - the need to understand and manage the risk inherent in the underlying activity.
All analytical and decision making and implementation processes are oriented to making sure
that risk can be prudently managed before focusing on the potential reward.

Self Assessment
Fill in the blanks:
1. By hedging, in the general sense, we can imagine the company entering into a transaction
whose .............................. to movements in financial prices offsets the sensitivity of their
core business to such changes.

2. Risk .............................. is the sharing of the risk burden with other parties.
3. Risk .............................. is just that, avoiding the risk associated with a specific task, activity
or project.

4. Risk .............................. is a good strategy only when it is impossible to transfer the risk.
5. Risk .............................. is the shifting of the risk burden from one party to another.

122 LOVELY PROFESSIONAL UNIVERSITY