RMI2302 Exam 1 Chapter 1 The Basics of Risk What is risk Risk Uncertainty regarding loss Organization Risk uncertain future event which could adversely affect the achievement of an organization s objectives Society Risk An uncertain future event which could adversely affect large portions of the population Using the term risk Risk Measurement Danger does NOT equal risk It is not risky to jump off a 20 story building it is dangerous Frequency how often an event will happen Severity how bad it is when the event occurs Expected Value loss measured by the expected frequency the expected severity Risk Profile gives organizations the ability to categorize and prioritize the risks faced by the organization Risk is measured by standard deviation how much variance how far is it from what we expected to what actually happened Thinking about risk Uncertainty doubt about our ability to predict future outcomes o Individuals subjective o Information does not alter risk objective Categories of Risk Pure Risks that involve only two potential outcomes either loss or no loss no possibility of gain Speculative Risks where you may have a loss or no loss but also have a gain ex Buying stock Static Risks that are unchanging through time ex Chance of earthquake or earth getting hit by meteor Dynamic Risks that are changing through time ex Identify theft rate is much different that a few years ago Fundamental Risks that affect a large portion of the population at a given time ex Hurricane Particular Risks that only affect a single person or a small group of people at a given time ex Car accident Core Risks that are inherent to the fundamental activities of an organization Secondary Risks that are not part of the core operations of an organization Sources of Risk safety Personal risks risks that are directly related to an individual s life health or Property Risks Risks that are directly related to the potential for damage to physical properties buildings cars jewelry etc RMI2302 Exam 1 Liability Risks Risks that are directly related to an individual being held liable for its actions or its inactions Financial Risks Risks that are directly related to the financial standing of an individual or organization Investment risks Other Terminology Exposure Person or property facing risk of loss Peril The immediate cause of loss Hazard Condition affecting the frequency or severity of loss Types of Hazards Physical Hazards property conditions Moral Hazard Behavioral changes being carefree with your cell phone because you have insurance on it Societal hazards Legal or cultural legalizing marijuana Attitude Toward Risk Risk Neutral Indifferent towards risk o Value of risky situation is expected loss Risk Averse Prefer to avoid risk o Willing to pay more than expected loss to avoid risk Risk Seeker Prefer risk Burden of Risk on Society o Would pay more than expected return to engage in risky situation Need for Larger Emergency Funds When faced with potential losses individuals and organizations often need to keep funds in reserve to pay for potential losses this is not the highest and best use of those funds Loss of Needed Goods and Service when losses do occur funds from other sources may be reallocated to those losses hurricane Katrina When that occurs needed goods and the services may be lost due to lack of funds Fear and worry While not a direct financial cost this affects the economy in very real ways much of the economy is built upon consumer confidence Risk Management Scientific approach to dealing with risk Rules of Risk Management Don t risk more than you can afford Don t Risk a lot for a little Consider the odds Risk Management Procedure 1 Determine objectives a Pre Loss Objectives Economy Reduction in Anxiety Meeting externally imposed obligations Social Responsibility b Post Loss Objectives Survival Continuity of Operations RMI2302 Exam 1 Earnings Stability Continued Growth Social Responsibility 2 Identify Risks a Combination approach combo of all tools available to identify risks questionnaires checklists procedure guide inspections analyzing documents interviews 3 Evaluate Risks a Loss Frequency probability distributions b Loss Severity Maximum Possible Loss Worst case scenario Probable Maximum Loss Anticipated value of the worst loss from the maximum credible event 4 Consider Alternatives a Risk loss control Risk Prevention efforts are aimed at preventing the occurrence of loss frequency Risk Reduction efforts directed towards reducing the severity of those losses that do occur reduction b Risk loss financing Retention The default risk management plan if you haven t avoided some risk and you have not transferred it to someone else you have implicitly retained it o Planned vs Unplanned You can create a retention plan I will pay for any losses out of my savings account or you can just wing it if a loss occurs I ll figure it out o Funded vs Unfunded You can create an account and put money in it to pay for future losses funded or you can pay it out of cash flow or other sources not specially earmarked for losses unfunded Transfer You can transfer the risk of adverse outcomes to another entity most common way to do this is insurances ex Auto insurance rental contracts c Internal risk reduction Diversification Implement Decision 5 6 Evaluate and review Chapter 2 A Scientific View of Risk What does A Scientific View of Risk add to the definition of risk A time element Risk Reduction and Public Policy Risk Reduction has costs monetary and non monetary o Puts value on human life RMI2302 Exam 1 Chapter 2 part 2 Innovation Risk Risk and Return Trade off Riskiness of an innovation depends on the choice people make more informed choices are lower the risk will be Innovations to make us feel safer often lead to us changing out habits because we feel safer leading to additional risk Five Rules of Thumb to Minimize Risk Recognize that you need a model o Mental Model may be oversimplified o Additional variables and their relationships between one another make the model more complicated and more accurate o Mathematical Modeling Allows more precision than human cognition more factors incorporated the better the assessment Acknowledge your model s limitations o Incorrect vs Incomplete Incorrect Internal logic or underlying assumptions are themselves manifestly wrong only proper thing to do is to stop using it Incomplete All models are incomplete basic model doesn t need to be unlearned by added to Expect the unexpected
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