The practice of identifying adverse events, reducing their probability of occurrence and decreasing their level of impact on business operations is called risk management. Nearly every business leader uses some form of risk management to guide decision making at all levels of their organization. Some businesses perform risk management functions in an informal or ad hoc fashion, but others operate within certain industries that require them by law to have formal plans and controls in place to identify and manage risks. For example, the financial services industry requires many of its businesses to adopt formal financial risk management practices, according to the Institute for Risk Management. Here are some examples of how financial services businesses identify, measure, monitor and mitigate risks.
Identifying Risks for Financial Services Companies
Financial analysts are the business professionals who are usually responsible for identifying financial risks that impact the profitability of businesses as well as individual clients. Financial analysts locate risks by their categories which also help them to determine the specific methods for monitoring and mitigating identified risks; these financial risk categories include operational, marketing, credit and regulatory ones. For example, financial analysts spot trends in the financial markets and pass their findings to investment portfolio managers. These two financial professionals identify market issues that potentially trigger either plummeting or soaring prices on the financial exchanges. The clients of investment portfolio managers are then able to make educated choices about recommended investment products and services. Alternately, credit risk analysts are the financial professionals who identify risks to investment banks from whom business or consumer clients request credit.
Measuring and Monitoring Risks
Once risk sources are identified, financial analysts are required to measure the level of the risk’s impact and the probability that it will occur. They can also conduct periodic assessments of a risk to determine and update its status. Credit risk analysts measure risks to investment banks by reviewing applications for business credit or new acquisitions against established risk thresholds. Also, company financial reports are key tools that investors analyze to determine the organization’s financial health and manage their own investment risks. Companies are required to report their financial information in a certain format to reduce incidents of fraud and opportunities for inadvertent misrepresentation. Finance and accounting professionals conduct internal audits to help ensure that their internal controls and financial information systems produce the right information, at the proper time and in the appropriate format.
Risk Mitigation Efforts
One of the most important steps in the risk management process is generating a plan to avoid, reduce or eliminate the financial threats that are identified as risks. Credit risk analysts help mitigate financial risks to their investment bank employers by generating improved credit terms and suggesting that investment bank managers negotiate more favorable positions using the new terms. Another risk mitigation tactic that credit analysts use to reduce financial risk is to update credit exposure limits. Also, finance professionals who facilitate internal audits for their organizations can use the audit findings to help reduce a company’s risks associated with financial reporting.
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The process of identifying and mitigating risks is critical for the sustained financial health of all businesses. However, structured risk management practices are parts of the very fabric of investment banking, brokerage establishments, accounting firms and other financial services businesses.