Why is financial risk management important?

Risk is inevitable and is everywhere from simple things like crossing a road or turning a gas at home. In a financial scenario such as making investments in shares, bonds, or property, the risk is an integral part of the business. Different persons have a different idea of the definition of the risk; there is no standard approach to calculate the risk. Risk cannot be mitigated totally a portion of risk will always be there, however, risk level can be reduced to a certain extent by some measures such as a simple checklist or mechanical process. In simple terms, Risk can be defined as the probability of losses out of an uncertain event. Financial risk may arise due to transactions such as investments, financing, business activities, sales, purchases, etc.

Financial markets are full of uncertainties, the different risk is associated with different classes of assets/instruments, ignoring of these risk level can create havoc and turn into major losses. The magnitude of the risk level depends on the nature of the financial instrument. Therefore, a proper risk management model should be adopted to address exposures arising out of different risks in a continuously changing and evolving ecosystem. Quality Information plays a vital role in managing and managing risk thus developing a strategy. Financial risk management is crucial, hence it is important to identify, measure, and prioritize risks with some precautionary measures and strategies whether at a personal level or corporations.

 A simple idea is to find what risks should be avoided, what risks to digest, and which risks should be responded to based on risk appetite. There is no magical formula to tackle but with a proper mix of qualitative and quantitative controls, it can be minimized to an extent. Many times risk arises due to the failure of achieving a financial objective. These risks may not be dependent or dependent on each other based on certain conditions. For example, foreign exchange rate and interest rate risk are linked with each other. In the banking system, the Basel Accords are a set of guidelines to track, report, and expose credit, marketing, and operational risks, etc.

Financial risk management further could be understood with the help of the following categorization:

Market risk: These types of may arise mainly due to possible losses of changes in future market prices or interest rates. 

Credit risk: Credit risks are the financial risks that may arise due to a counter-party default. Sometimes clients fail to pay and this can hamper business cycles.

Liquidity Risk: These financial risks may arise out of the insufficient transaction. For example, asset-liability mismatch, funding liquidity risk, etc. A firm must have proper cash flow management. 

Operational Risk: These are the risks associated with operational failures for example management or technical failures. 

Risk is always not bad if addresses properly until its level can be controlled Up to a certain extent and in fact can provide an opportunity.

The following key processes can be applied while handling financial risk management:

• Recognize and highlight important financial risks associated with a business.
•  Fix an appropriate level of risk tolerance level (risk-bearing limits). 
• Apply a proper risk management strategy to handle such types of risks. 
• Measure, monitor, report measures adequately, and redefine the process as per changing requirements.

The financial crisis relatively is not new in concept and is difficult to predict when the next burst will happen. After the 2008 economic crisis, it has become important for financial institutions to adopt a risk model. On the organizational level, the risk could be either internal or external. In the securities market, Futures are options that are widely used as a risk management tool for hedging purposes. Diversification helps in risk in managing the risk of your portfolio. Financial analysis is also part of managing risks. Knowing risks helps in making decisions quickly and part of a plan of action. It helps in figuring out the best financial opportunities and stay trendy and aggressive in the market within its assumptions of risk and opportunities set-ups. A proper risk management framework connects the goals, tactical capabilities, and value-generating tool for an enterprise to help it both succeed and survive in the future. On the personal front, people invest their hard-earned money based on instinct and generally ignore the performance anticipating huge returns, and ideally, it is not a good idea.