Risk Control

  

Categories: Managed Funds

If we see sweetbread on a restaurant menu and order it without doing any research, thinking we just ordered some kind of yummy dessert item, we’re going to be in for a big shock when someone plops a plate of lamb pancreas down in front of us.

“Sweetbread” is one of those words that just doesn’t mean what it sounds like it should mean. But that’s not the case with the term “risk control,” which is exactly what it sounds like. “Risk control” is the method an organization uses to control its risk. Mind = blown, right?

Now...what risk control specifically looks like is going to vary from one company to the next, so let’s just talk about what they all tend to have in common. Companies usually try to figure out where they’re vulnerable by conducting risk assessments. Once they find a potential weakness—maybe their data protection software is out of date, or maybe they have a subsidiary in the middle of a potentially bankrupting lawsuit—they can devise strategies to address those risks. For the most part, a company’s risk control measures are going to do three things: 1) analyze the likelihood and potential impact of the risk, 2) put processes in place to either prevent the risk or reduce its effects, and 3) conduct in-depth analyses of risks that do materialize, so they can figure out how and why they happened.

What might those processes look like? They might look like more stringent accounting principles, or increased safety training requirements. They might look like a diversification of resources and assets, so that one risk event doesn’t take the company under. They might involve hiring an in-house legal staff, copyrighting and patenting proprietary information, or setting up backup servers for our backup servers. If we own a restaurant, they might even involve putting a disclaimer on our menu so we don’t get sued the next time someone orders sweetbread expecting chocolate cake.

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Finance: What is risk premium?0 Views

00:00

Finance Allah shmoop What is risk premium No it's not

00:07

This movie in three D risk premium comes from the

00:11

notion that when you invest in pretty much anything other

00:13

than US government debt there is more risk in that

00:16

other investment like even by the bonds of Disney or

00:18

Coke or GOOG or some other behemoth company of those

00:22

bonds carry more risk than US government paper And if

00:25

you bought the stocks I even equities not the bonds

00:28

of one of those beam off cos Well there's way

00:30

more risk Well historically stocks have swung up and down

00:33

violently in short periods over time but over long periods

00:37

of time they've gone up Ah lot Well regardless where

00:40

there is more perceived risk investors will demand more potential

00:44

reward Yeah the key idea here every investment carries more

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risk than US government paper So on top of whatever

00:50

U S Government bonds air yielding investors tag on top

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of them a premium investment return that they require to

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be interested in investing So if say a five year

01:00

U S Government bond is yielding three percent and you're

01:03

looking at investing in bonds backed by a controversial low

01:06

warlord Somalian company Well there's at least some tangible risk

01:11

of bankruptcy there right Well then those bonds will carry

01:13

meaningful E a higher yield than the US government five

01:17

year paper If the risk that the company doesn't pay

01:19

back its bond is modest well then maybe that premiums

01:22

only one percent on top and those five year bonds

01:25

yield in a four percent If the risk is big

01:27

they might have to yield eight or ten or fourteen

01:30

percent or more But those were extremely high rates at

01:33

least these days The market's telling you that the company

01:36

and backing the money already has one foot in the

01:38

grave So now let's go to a completely different way

01:40

of thinking about this extra risk your local diner Think

01:43

of our risk free five year U S Government bonds

01:46

of yielding three percent and being priced like a dinner

01:49

salad which is the cheapest item on the menu right

01:51

here So everything else will cost more than that salad

01:55

crew tones included So then when you're ordering if you

01:59

wanted a burger it's total gross Cost is seven bucks

02:02

But you could also describe that cost to the angry

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waitress or friendly robot as dinner salad plus four bucks

02:09

The premium tacked onto the salad price is four dollars

02:12

for the burger Well risk is priced and described the

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same way there has to be added investment return to

02:18

reflect the added risk to the investor on any given

02:20

deal Be careful though There's inherent risk even if all

02:23

you do is order to the salad Especially if there's

02:26

been a romaine lettuce E Coli warning recently issued by

02:29

the CDC And you do not want to go there 00:02:32.288 --> [endTime] My God

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