What is risk management?

Updated: February 22, 2012 at 11:29 pm PST

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The problem with most articles written on finance subjects is that they’re written in such a formal style. You’re interested in the topic and you want to learn about it, but as a layperson you’re just not familiar with all the fancy acronyms and terms. This website tries to solve this problem. What you’re reading shouldn’t put you to sleep; it should engage you.

Risk management is something we do all the time, whether we realize it or not. We assess the risk involved and decide what kind of action we must take to tackle it, and act. Let’s say you’re driving on the freeway on your way to work. You’re running a touch late, and you realize that if you drive over the speed limit, you can make it to work on time. The risk is speeding and the consequence is getting a ticket. You have to figure out if the risk is worth it to you. We instinctively manage risks every day without even thinking about it.

In the economic sense, we figure out the cost-benefit tradeoff associated with the risk. Risk management applies to individuals and businesses. For companies to be successful, they need to have adequate risk management. An example of a consequence of poor risk management was the cause of the recession in 2008. Financial firms with loose credit risk management were most to blame.

So, when you’re investing, first you have to figure out the risks associated with an investment. Next, you have to handle the risks in a way that’s going to best fit your investment goals. Individuals are not the only ones doing this. It’s happening with businesses too. People such as corporate investors and fund managers must make these same decisions.

As you can see, managing risk in the financial world is not as tricky as it sounds. When you’re conscious of how you manage risk in your daily life, it’s easy to see how it applies to economics.

Risk Management