Definition: Risk management is the process of identifying any potential threats that may occur during the investment process and doing anything possible to mitigate or eliminate those dangers.
What Does Risk Management Mean?
What is the definition of risk management? There are many different types of risks in business and even more in the investing world. Some include competition, economic factors, and market volatility. Entities may also factor in their position, capital-wise, in relation to the risk of the investment itself. For example, if a company has $10,000 in assets, a risk management analysis may yield that it would be unwise for that organization to invest 5,000 USD in a highly volatile stock.
Businesses typically assess their risk in day-to-day operations as well as periodically before making any investment decisions. Businesses will frequently refer back to a risk analysis in order to decide what type of securities that they want to purchase or what ventures they are willing to invest in. It is also used when companies consider future product line or factory expansions and they want to assess the total danger of that investment before pulling the trigger.
Let’s look at an example.
Example
Becky’s hair company has grown substantially over its first 5 years and now has $20,000 of assets. Becky is considering investing in stock from Apple, but she is unsure how much she should invest. Becky, being the smart business owner that she is, decides to perform a risk analysis.
The risk assessment reveals to Becky that the Apple stock is very risky for new investors at the moment. In addition, the stock is price is high making any potential dividends in the short term are extremely limited. Thus, she would need to be able to devote a substantial amount of her remaining savings in order to receive an adequate dividend.
For these reasons, Becky decides not to invest in the Apple stock and instead invest her savings in new equipment that would allow her to hire another hairdresser and increase sales.
Summary Definition
Define Risk Management: Managing risk means a method of analyzing possible risk in a portfolio and diminishing it through diversification or other means.
