CHAPTER 4: MANAGING RISKS
TYPES OF RISKS:
Pure vs. Speculative
Pure risks: have no upside, you can’t Speculative risks: have at least one
win, at best you come out even. outcome that improves your
e.g. house burning down, death, car circumstances.
accident, robbery. Can lose but there is chance of winning.
Pure risk= uncertainty & Loss e.g. gambling at the casino, playing the
Loss: because P/R are all abt losses, no stock market, betting on horse races
positive outcomes
Example:
the expected present value of the loss due to a car accident could be calculated
as the probability of having an accident over some future period of time,
multiplied by the present value of the anticipated cost of the damage to cars and
people. We would not need to add the probability of not having an accident,
because the financial implications of not having the accident are 0:
EPV (loss due to car accident)
= P (car accident) × PV (damage) + P (no accident) × 0
= P (car accident) × PV (damage)
Dynamic vs. Static Risks:
Dynamic risks: change as the Static risks: stable over the short
, economy changes. The chances of the term, not affected by the economy.
event will be different under different
economic conditions in S/T (1-5 YRS)
Changes in consumer preferences and
technology.
e.g. increase in mortgage payments, e.g. car accident, house fire, flood,
increase in food prices heart attack
TYPES OF RISKS:
Pure vs. Speculative
Pure risks: have no upside, you can’t Speculative risks: have at least one
win, at best you come out even. outcome that improves your
e.g. house burning down, death, car circumstances.
accident, robbery. Can lose but there is chance of winning.
Pure risk= uncertainty & Loss e.g. gambling at the casino, playing the
Loss: because P/R are all abt losses, no stock market, betting on horse races
positive outcomes
Example:
the expected present value of the loss due to a car accident could be calculated
as the probability of having an accident over some future period of time,
multiplied by the present value of the anticipated cost of the damage to cars and
people. We would not need to add the probability of not having an accident,
because the financial implications of not having the accident are 0:
EPV (loss due to car accident)
= P (car accident) × PV (damage) + P (no accident) × 0
= P (car accident) × PV (damage)
Dynamic vs. Static Risks:
Dynamic risks: change as the Static risks: stable over the short
, economy changes. The chances of the term, not affected by the economy.
event will be different under different
economic conditions in S/T (1-5 YRS)
Changes in consumer preferences and
technology.
e.g. increase in mortgage payments, e.g. car accident, house fire, flood,
increase in food prices heart attack
