Question

Q1)

1. How the financial risk is measured?
2. Describe three methods of how a person might reduce the risk she / he faces and give examples

Q2)

A company has an investment project that would cost $10 million today and yield a payoff of $15 million in 4 years.

a. Should the firm undertake the project if the interest rate is 11 percent? 10 percent?

b. Can you figure out the exact cutoff for the interest rate between profitability and non-profitability?

Answer 1

Financial risk is inherent in the field of investment. Risk is the chance that an investment will lose money or that it will grow much more slowly than expected. To reduce financial risk to yourself, you must learn how to manage your investment portfolio well. There are methods to measure the risk : volatility, standard deviations, beta, Alpha etc.

The three methods to reduce the financial risk are:

(i) Buy insurance:- For a smooth survial, every company should buy insurance according to their system.In case, there is any risk involved regarding finance, we have the proper amount of insurance to avoid uncertainties in the process .For example - If a company had a loss amounts to 2lakhs then they can cover all their expenses by the help of insurance.

(ii) Understanding financial risk :- To reduce the financial risk, firstly we will familiarize with the different types of risks like systematic risk, Non-systematic and asset based financial risk . Systematic risk affects an entire economy and all of the business, Example systematic risk would be losses due to recession. Non systematic risk that can be managed by minimizing your exposure to any given business or business sector, because any loss will be contained, example Management risk and credit risk and the Assest based financial risk is the different kind of risks apply to different assest classes and Market risk is the chance that andl assest will lose value over time.

(iii) Maintain adequate emergency funds:- In case of any emergency, a company must have some amount for the emergency purpose to avoid finance problems. They can also make a seperate account for emergency funds. For example - if a company employee has been injured or dead during the course of the employment , they have the adequate amount of funds at that time.