financial derivatives & risk management
TRANSCRIPT
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 1/24
Financial Derivatives &
Risk Management
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 2/24
Objectives: Understand the risk, its elements and
uncertainty
To understand nature of risk To study different interpretation of risks
To know about Risk management process &methods
To understand the overall objectives of riskmanagement is to minimize the cost of risk.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 3/24
Is
Risk is symbol of Danger
Or
Symbol of Opportunity ?
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 4/24
It is
symbol of both
Danger & Opportunity
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 5/24
The only one thing is certain about
Stock Market is…………..
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 6/24
………….. Uncertainty !
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 7/24
“Playing with F & O is injurious to Wealth”
“ You will burn your money in Derivatives, if not done ina systematic way”
But at the same time ‘It is Money Vending Machine’ .
Learn to make money through……
Trade in Derivatives Systematically & Strategically
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 8/24
Risk ManagementMeaning:
“Risk can be defined as the possibility of loss arising
because of uncertainty of outcome of particular transaction”.
“Risk refers to variability of the actual returns
from the expected returns in terms of cash flows”.
“Risk management seeks to mitigate variabilityand expected losses and increase welfare”.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 9/24
Elements of Certainty and RiskCertainty: Is the situation where it is
known what will happen and the
happening of an event carries a100 percent probability.
Risk: Is the situation when there are
a number of specific, probableoutcomes, but it is not certain as towhich one of them will actually
happen.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 10/24
Elements of Uncertainty and
Risk….
Uncertainty: Is where even theprobable outcomes are unknown.
It reflects a total lack of knowledgeof what may happen.
The Webster's Dictionary says that ‘
Risk’ is the possibility of somethingunpleasant happening or thechance of encountering loss or
harm.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 11/24
Nature of risk: Important nature of risk is uncertainty.
One cannot predict risk when it will
occur. Its period of occurrence is notknown.
It relates to theory of probability and it
standards more on guess work ratherthan actual.
Risk exists in any activities when the
decision maker is in a position to assign
probabilities to various outcomes.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 12/24
Different Interpretation of
Risk
Risk can be divided into;1. Pure Risk (PR) and Speculative Risk
(SR): PR are those in which the outcome tends tobe a loss with no possibility of gain.Ex: the risk of fire in a godown
SR are those in which there is a possibilityof gain or loss.Ex: Secondary market
While PR can be insured
SR cannot be insured
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 13/24
Pure risk encompasses risk of loss from (a)
damage to and theft or expropriation of
business assets, (b) legal liability forinjuries to customers and other parties, (c)
workplace injuries to employees, and (d)
obligations assumed by businesses under
employee benefit plans.
Pure risk frequently is managed in part by
the purchase of insurance to finance losses
and reduce risk.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 14/24
2. Acceptable and Non-acceptable Risk:
While risks are unavoidable in any business the
potential loss may be so minimal. Ex: a loss of
few stationeries in a month is acceptable.
Certain risks are major and those are known as
non-acceptable. Ex. A major financial loss of Rs.50 crore is non-acceptable risk.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 15/24
3. Static Risks and Dynamic Risks:
Risks that do not depend on various
scenarios like pure risks are a typeof static risks
Some risks depend on changes in the
economical, political, social andother scenarios like speculativerisks are a type of dynamic risks.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 16/24
Risk Management
Risk management is a systematic approach
in identifying, analyzing and controlling
areas or events with the potentials for
causing unwanted change. It is through risk
management that risks to any specific
programmed are assessed and
systematically managed to reduce risk to an
acceptable level.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 17/24
Types of Risk (Business &
Individuals)
1. Business Risk : Is concerned withpossible reductions in business value
from any source. The business valueinclude Price risk, Credit risk and Purerisk.
2. Personal Risk: The risks faced byindividuals and families viz., earningsrisk, medical expense risk, liabilityrisk, physical asset risk, financial
asset risk.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 18/24
Risk Management Process Risk Mgmt. process involves:
1. Identify all significant risks.
2. Evaluate all potential frequency and
severity of losses.3. Develop and select methods for
managing risk.
4. Implement the risk management
methods chosen.5. Monitor the performance and suitability
of the risk management methods andstrategies on an ongoing basis.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 19/24
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 20/24
Risk Management Methods:
Major risk management methods include:
1. Loss control
2. Loss financing3. Internal risk reduction
Loss control & Internal risk reduction arecommonly involve decisions to investresources to reduce expected losses.
Loss financing decisions refer to decisionsabout how to pay for losses if they do
occur.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 21/24
RM methods contd…..
Loss Control Internal risk reduction
Loss Financing
Increasedprecautions
Retention andself-insurance
Insurance
Hedging
Other
contractual risk transfers
DiversificationReduced levelof riskyactivity
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 22/24
Objectives
The overall objectives of risk management isto minimize the cost of risk.
Risk mgmt. seeks to mitigate variability andexpected losses and increase welfare.
Cost of risk:
Components of the cost of risk include;
1. the expected cost of loss,
2. the cost of loss control,
3. the cost of loss financing,
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 23/24
Cost of risk contd…..
4. the cost internal risk reduction, and
5. the cost of any residual uncertainty that
remains after loss control, loss financing,and internal risk reduction methods havebeen implemented.
In the context of business risk
management, maximizing firm value isequivalent to minimizing the cost of risk.
8/14/2019 Financial Derivatives & Risk Management
http://slidepdf.com/reader/full/financial-derivatives-risk-management 24/24
- End -