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What is Risk Management and Financial Risk Management?
It is a method and an art that identifies potential risks, assesses the probability of occurrence and sets out controls to reduce the likelihood or impact of any potential losses.
The scope is usually wide and will involve all aspects of an organization’s activities, with the aim not only of identifying threats but also of considering opportunities.
On the other hand, Financial Risk Management comprises activities designed to fulfill obligations in financial markets while minimizing credit or liquidity risk.
Financial Risk Management aims at protecting financial institutions (commercial banks, insurance companies, etc.) capital and profitability. An institution has to be able to assess and predict its performance in the financial markets over time. This means forecasting revenues and expenses coming from financial transactions, taking into account interest rates volatility and operational efficiency. The main objective is to secure the future of the institution by increasing profits while keeping risks under control.
Financial Risk Managers specialize in the identification, assessment, and control of financial risks. They focus on both market and credit risk as well as on liquidity, though the latter has a tactical aspect. A financial risk manager can be located within an institution or can represent one or more external vendors or consulting firms that provide solutions for financial risk management processes. Financial Risk managers are often involved in internal training programs to increase awareness of all employees about the organization’s strategy, goals, and risks.
Types of Financial Risk Management
Credit Risk Management
It is the process by which a lender or investor evaluates whether or not to provide funds to an entity, the ability of the borrower to repay according to the terms of the loan (i.e., in a timely manner), and whether or not to take action if default occurs. Credit risk management is enabled by having an understanding of the risk and reward profile of a customer. Credit risk management is applied in the banking sector, where it may also be referred to as credit management, loan review, or credit audit. The end goal of any credit risk management system is to help minimize credit losses while maximizing financial opportunities.
Market Risk Management
This is concerned with estimating and controlling price fluctuation. By constructing scenarios of future prices, Market risk managers can estimate the effect of financial price changes on the organization’s earnings. Then they can devise strategies to protect against price changes that could exceed predefined limits.
Additionally, Market risk management involves understanding the market in which a person trades, understanding their position, and understanding their potential exposure to external factors. Market risk management may also include understanding: product pricing, credit risk, counterparty credit risk, cash flow management, and investment strategy. It is important to coordinate the management of these areas with one another. For example, a counterparty risk exposure affects the management of investment strategy, because a bank may need to adjust its investment portfolio in response to counter-party risk.
Importance of Financial Risk Management
- Financial Risk Management enables firms to make better decisions and keep their shareholders, stakeholders confident about their future and decisions made by firm. also it controls and minimizes the risk of company from any kind of risk. For example, in banks, financial risk management is important as risks of capital market transactions.
- Financial risk management is important for all investors, especially for individual investors who cannot avail the benefits of professional fund managers. In this case the investor needs to have the knowledge of different aspects of financial risk management and keep control on the process which they use.
- At present, most companies do not have a clear policy on their financial risk management which gives a negative image to investors about their ability to manage the risk of their business units. For instance, if we take an example of financial risk management in banks then these institutions do not have a proper plan on managing the financial risks.
- Financial risk management is very important in financial institution as they deal with the huge amount of money, therefore, it becomes essential for them to manage their risk properly. For instance, in banks, financial risk is managed by different functions as management of financial risks department and risk management department. most of the banks are not aware of the specific risks involved in dealing with customers and the internal risk problems. This may result in the failure of their business units which in turn may lead to their bankruptcy.
- Financial risk management is effective when it is done at right time, so that investors and stake holders can reap benefits from it. A perfect example of this type of crisis is taken by WorldCom Inc. which declared bankruptcy in 2002. This was a complete failure of management as they had no proper risk management plan.
- Financial Risk Management helps in improving the efficiency and performance of a firm and for increasing the market value of a firm.
- Financial Risk Management helps in taking decisions about acquisitions and mergers of different companies which will help in improving the economies of country and business sector.
Units Studied Under Risk Management and Financial Risk Management Coursework
- Risk Management and Finance
- Quantitative Risk Management in Banking and Finance
- Mathematical Methods for Quantitative Finance
- Risk Management and Financial Engineering
- Literature Review II
- Financial Modelling Techniques
- Techniques in Financial Planning and Analysis
- Professional Essay Writing & Presentation Skills
- International Financial Reporting Standards
- Management in Banking & Financial Services
- Risk Management
- Models in Risk Management
- Performance Measurement in Banking & Financial Services
- Stochastic Methods in Financial Planning and Analysis
- Financial Planning and Analysis
- Risk Management & Financial Planning
- Modeling Techniques & Risk Management
- Quantitative Modelling Course Report
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