Financial managers are inherently in the risk business. Investments may lose money, cash flow may become inadequate, bonds may be defaulted on, assets may lose value, markets rise and fall, and any number of external forces may cause changes to an investment’s value. A financial manager with the knowledge and expertise to evaluate and mitigate risk can reduce the chances of negative outcomes for investors.
Risk is inseparable from return, as Investopedia explains, and every investment involves some level of risk, no matter how small. Understanding the various forms of risk “can help investors to better understand the opportunities, tradeoffs, and costs involved with different investment approaches.”
Professionals who manage investments for individuals or corporations are under pressure to understand and reduce risk, anticipate changes and respond accordingly. To help students be optimally equipped for this role, the University of North Carolina (UNC) Pembroke offers a fully online Master of Business Administration (MBA) with a Concentration in Finance program.
Types of Financial Risk
Investors face a variety of financial risks, including the risk of loss of income or unemployment. Unexpected expenses and unforeseen emergencies can also crop up. Assets and investments may lose value or even be lost to theft while taking on debt or credit financing is also risky.
Some financial risk is tied to the dynamics of the financial markets, including interest rates. Volatility in the market can cause abrupt price swings in shares of stock that are difficult to forecast.
- Pure risk, or systematic risk, exists for every type of investment because there are always dangers and unanticipated factors.
- Unsystematic risks are specific to a company, industry or sector, and the amount of unsystematic risk an investor carries is controllable.
- Liquidity risk is the possibility that an investor may be unable to purchase or sell securities or assets quickly enough to avoid losses in a volatile market. Funding or cash flow liquidity risk occurs when a corporation lacks the capital to pay its debt, which forces it to default and causes losses to shareholders.
- Speculative risk applies when an investor’s choices have an uncertain chance of success. This could be due to insufficient research or impulsive decision-making. It can also happen when an investor has too much of their net worth in a single investment.
- Currency risk applies to investors holding foreign currencies, which are subject to interest rate changes and monetary policy changes. Additionally, changes in the market, political changes, natural disasters, diplomatic changes or economic conflicts can also expose currency investors to risk.
How Do Financial Managers Mitigate Risk?
Not all investors have the same tolerance level for risk. Financial managers, therefore, must become familiar with their clients and understand the amount of risk they are willing to tolerate. There are several methods for analyzing risk, including:
- Fundamental analysis involves measuring a security’s intrinsic value by studying the underlying business, assets and earnings.
- Technical analysis evaluates securities by studying statistics and performance data like historical returns, trade volume and share price fluctuation.
- Quantitative analysis applies specific financial ratio calculations to evaluate the historical performance of a company.
Financial managers use diversity in investments and hedging techniques to reduce exposure to various risks. Hedging allows an investor to offset the chances of adverse price movements, while diversity helps offset the risk of a bad investment.
What Is Portfolio Risk Management?
Investors with a collection of assets in a variety of accounts have an investment portfolio. This typically includes stocks, bonds, funds, cash, real estate and other commodities. This diversity of investments often requires keeping low, moderate and even higher-risk investments balanced to preserve capital and assets. Data-centric risk management depends upon having up-to-date data and analytics.
Portfolio risk management involves identifying, assessing, measuring and managing risk within the portfolio to increase the likelihood of positive events and decrease any negative effects. The risks can include external business risks, outside the control of the company, and internal business risks such as operational challenges, leadership changes, portfolio governance and financial health.
Once professionals identify and analyze risks, the next step is to develop portfolio risk responses and then track and monitor risks. Often, this monitoring includes alert triggers with pre-defined action responses, especially for the portfolio’s high-risk assets.
Becoming a Successful Financial Manager
The online MBA program with a Concentration in Finance from UNC Pembroke prepares students for leading roles in financial analysis, commodities and portfolio management. The core curriculum pulls from accounting, managerial finance, marketing and economics. The finance concentration courses focus on diversifying portfolios, modern investment theory, capital adequacy, bank management policies and the design of optimal capital structure.
Learn more about UNC Pembroke’s online MBA with a Concentration in Finance program.
