Question

You have a friend, Icahn Betitall, who just started a small business. He is paying a hefty premium for insurance. Icahn’s insurance agent told him that he is insuring against the risk of loss on fire, theft, liability, and business interruption. Icahn also has policies for life, health, and automobiles. Icahn is planning a trip to Las Vegas. He plans to contact his agent and obtain a policy on the risk of losing his money at the blackjack table. a. What will you tell Icahn about being able to purchase such a policy?

What should you tell Icahn about being able to purchase such a policy?  

What are several methods that Icahn can choose to manage his risk exposure in Las Vegas?

What types of risk would Icahn be able to transfer?

Name two ways that can you transfer risk?

Answer 1

(1) Icahn is going to Las Vegas for gambling in Casinos thus it falls under the category of SEPCULATIVE RISK which is further sub categorised into INVESTMENT RISK, MARKET RISK and WAGER. These risks cannot be transferred since speculative risk is non transferrable. Gambling and investing in the stock market are two examples of speculative risks.

Speculative risk is a category of risk that, when undertaken, results in an uncertain degree of gain or loss. All speculative risks are made as conscious choices and are not just a result of uncontrollable circumstances. Almost all investment activities involve speculative risks, as an investor has no idea whether an investment will be a blazing success or an utter failure.

The result of a speculative risk is hard to anticipate, as the exact amount of gain or loss is unknown. Instead, various factors, such as company history and market trends, are used to estimate the potential for gain or loss. Often, these risks may be deemed uninsurable as there is not concrete way to predict the outcome. So Icahn will not be able to purchase any insurance for this type of risk.

(2) There are three major methods of managing risk:-

a. Accept The Risk- Accepting the risk means that while you have identified it and logged it in your risk management software, you take no action. You simply accept that it might happen and decide to deal with it if it does.

b. Avoid The Risk- You can also change your plans completely to avoid the risk. avoid risk. This is a good strategy for when a risk has a potentially large impact on your project.

c. Transfer The Risk- Transference is a risk management strategy that isn’t used very often and tends to be more common in projects where there are several parties. Essentially, you transfer the impact and management of the risk to someone else.

d. Mitigate The Risk- Mitigating against a risk is probably the most commonly mitigation of risk used risk management technique. It’s also the easiest to understand and the easiest to implement. What mitigation means is that you limit the impact of a risk, so that if it does occur, the problem it creates is smaller and easier to fix.

e. Exploit The Risk- Acceptance, avoidance, transference and mitigation are great to use when the risk has a negative impact on the project. But what if the risk has a positive impact? In those cases, we want to maximize the chance that the risk happens, not stop it from happening or transfer the benefit to someone else!

In this case Icahn should altogether (b) avoid the risk by not going to Las Vegas since this kind of speculative risk is non insurable.

3. Icahn is going to Las Vegas for gambling in Casinos thus it falls under the category of SEPCULATIVE RISK which is further sub categorised into INVESTMENT RISK, MARKET RISK and WAGER. These risks cannot be transferred since speculative risk is non transferrable. Gambling and investing in the stock market are two examples of speculative risks.

4. Transferring risk is contractual shifting of risk from one party (who is exposed to the risk directly) to some other party (the agent who agrees to get the risk). Two ways to transfer risk are:

• Purchase of an insurance policy where in the risk of the owner is transferred to the insurance company by payment of a nominal premium amount.
• Outsourcing a project or process of a project which is highly risky transfers the risk to the outsourcing partner who executes the project based on a contractual legal agreement on the financial terms agreed upon beforehand.