Page 64 - DMGT515_PERSONAL_FINANCIAL_PLANNING

Unit 3: Managing Investment Risks

Notes
specific to certain types of companies and is always present. It is the job of investment
banker to understand the nature of risk and help companies and investors mange risk
properly.
Methods for Handling Risk

Risk can be managed through different strategies design to reduce exposure. An investment
banker may recommend that a stock not be sold during a certain period when interest
rates are high in order to maximize the price that the company’s share can get. Investors
use techniques such as diversification and dollar cost averaging as a way to reduce their
risk exposure.
Questions
1. What is the role of an investment banker in guiding people about investment?
2. What do you understand by the term: Investment Banking? Name few investment
banking companies in India.

3.9 Summary

Risk is a concept that denotes a potential negative impact to some characteristic of value
that may arise from a future event. Exposure to the consequences of uncertainty constitutes
a risk.

Financial risk is often defined as the unexpected variability or volatility of returns and
thus includes both potential worse-than-expected as well as better-than-expected returns.
Modern investment analysis categorizes the traditional sources of risk causing variability
in returns into two general types: systematic risk and non-systematic risk.
Systematic Risk, also referred to as market risk, is the part of total risk that cannot be
eliminated or reduced, no matter how well an investor diversifies his or her portfolio.

Non-systematic Risk, or non-market risk, is the risk that is unique to a particular security
or asset class and can be associated with such risks as business, financial, country, exchange
rate, and liquidity.
A pure risk is one in which there are only the possibilities of loss or no loss (earthquake).
There are mainly five statistical techniques for measurement of risk: standard deviation
(sd), variance (v), coefficient of variation (cv), skewness (sk) and probability distribution.
There are five major methods of handling risk: avoidance, loss control, retention, non-
insurance transfers, and insurance.
The 3 major forms of non-insurance risk transfer are by contract, hedging, and, for business
risks, by incorporating.

Loss control works by either loss prevention, which involves reducing the probability of
risk, or loss reduction, which minimizes the loss.
Insurance is another major method that most people, businesses, and other organizations
can use to transfer pure risks by paying a premium to an insurance company in exchange
for a payment of a possible large loss.

There are three basic steps to assessing risk: Understanding the risk posed by certain
categories of investments, determining the kind of risk you are comfortable taking and
evaluating specific investments.

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