FINAL-fm project of Group no-13

8/7/2019 FINAL-fm project of Group no-13

1/29

IIPMPROJECT OF: FINANACIAL MANAGEMENT

PROFESSOR: PROF. M.KULKARNI

TOPIC NAME:

IDENTIFICATION OF `RISK` TO BE INSURED,

SOURCES OF RISK,

RISK IDENTIFICATION, INSURANCE POLICY AS A FINANCIAL PRODUCT.

SUBMITTED BY:-

CLASS B3, GROUP NO 13.

NILESH DHOLE 15

SOMIT MOHANTY 45


2/29

First of all we see what financial market is:

In economics, a financial market is a mechanism that allows people to buy and sell (trade) financial securities (

as stocks and bonds), commodities (such as precious metals or agricultural goods), and other fungible items of

value at low transaction costs and at prices that reflect the efficient-market hypothesis.

Both general markets (where many commodities are traded) and specialized markets (where only one commodi

traded) exist. Markets work by placing many interested buyers and sellers in one "place", thus making it easierthem to find each other. An economy which relies primarily on interactions between buyers and sellers to alloc

resources is known as a market economy in contrast either to a command economy or to a non-market econom

such as a gift economy.

In finance, financial markets facilitate:

The raising of capital (in the capital markets)

The transfer of risk (in the derivatives markets)

International trade (in the currency markets)

and are used to match those who want capital to those who have it.

Typically a borrower issues a receipt to the lender promising to pay back the capital. These receipts are securit

which may be freely bought or sold. In return for lending money to the borrower, the lender will expect somecompensation in the form of interest or dividends

Definition

In economics, typically, the term market means the aggregate of possible buyers and sellers of a certain good o

service and the transactions between them.

The term "market" is sometimes used for what are more strictly exchanges, organizations that facilitate the tra

financial securities, e.g., a stock exchange or commodity exchange. This may be a physical location (like the

NYSE) or an electronic system (like NASDAQ). Much trading of stocks takes place on an exchange; still, corp

actions (merger, spinoff) are outside an exchange, while any two companies or people, for whatever reason, m

agree to sell stock from the one to the other without using an exchange.

Trading of currencies and bonds is largely on a bilateral basis, although some bonds trade on a stock exchangepeople are building electronic systems for these as well, similar to stock exchanges.

Financial markets can be domestic or they can be international.

Types of financial markets The financial markets can be divided into different subtypes:

Capital markets which consist of:

Stock markets: Which provide financing through the issuance of shares or common stock and enables the

subsequent trading thereof.

Bond markets: Which provide financing through the issuance of bonds, and enable the subsequent trading ther

Commodity markets: Which facilitate the trading of commodities.

Money markets: Which provide short term debt financing and investment.Derivatives markets: Which provide instruments for the management of financial risk.

Futures markets: Which provide standardized forward contracts for trading products at some future date; see a

forward market.

Insurance markets: which facilitate the redistribution of various risks.

Foreign exchange markets: which facilitate the trading of foreign exchange.


3/29

The capital markets consist of primary markets and secondary markets. Newly formed (issued) securities are b

or sold in primary markets. Secondary markets allow investors to sell securities that they hold or buy existing

securities. The transaction in primary market exist between investors and public while secondary market its

between investors

To understand financial markets, let us look at what they are used for, i.e. what where firms make the capital t

investWithout financial markets, borrowers would have difficulty finding lenders themselves. Intermediaries such asbanks help in this process. Banks take deposits from those who have money to save. They can then lend monefrom this pool of deposited money to those who seek to borrow. Banks popularly lend money in the form of loand mortgages.More complex transactions than a simple bank deposit require markets where lenders and their agents can meeborrowers and their agents, and where existing borrowing or lending commitments can be sold on to other partA good example of a financial market is a stock exchange. A company can raise money by selling shares toinvestors and its existing shares can be bought or sold.The following table illustrates where financial markets fit in the relationship between lenders and borrowers:

Relationship between lenders and borrowers

Lenders Financial Intermediaries Financial Markets Borrowers

IndividualsCompanies

BanksInsurance Companies

Pension FundsMutual Funds

InterbankStock ExchangeMoney MarketBond Market

Foreign Exchange

IndividualsCompanies

Central GovernmentMunicipalities

Public Corporations

LendersWho have enough money to Lend or to give someone money from own pocket at the condition of getting backprincipal amount or with some interest or charge, is the Lender.Individuals & DoublesMany individuals are not aware that they are lenders, but almost everybody does lend money in many ways. A

person lends money when he or she: puts money in a savings account at a bank; contributes to a pension plan; pays premiums to an insurance company; invests in government bonds; or Invests in company shares.

Derivative products

During the 1980s and 1990s, a major growth sector in financial markets is the trade in so called derivativeproducts, orderivatives for short.In the financial markets, stock prices, bond prices, currency rates, interest rates and dividends go up and downcreating risk. Derivative products are financial products which are used to controlrisk or paradoxically exploit

It is also called financial economics.Derivative products or instruments help the issuers to gain an unusual profit form issuing the instruments. For the help of these products a contract have to be made. Derivative contracts are mainly 3 types:

Future Contracts Forward Contracts Option Contracts.

Currency marketsMain article: Foreign exchange market


4/29

Seemingly, the most obvious buyers and sellers of currency are importers and exporters of goods. While this mhave been true in the distant past, when international trade created the demand for currency markets, importersexporters now represent only 1/32 of foreign exchange dealing, according to the Bank for International SettlemThe picture of foreign currency transactions today shows:

Banks/Institutions Speculators Government spending (for example, military bases abroad) Importers/Exporters Tourists

What is Risk?

Risk is present in virtually every decision .when the production manager select an equipment ,or a marketing

manager an advertising campaign ,or a financial manager a portfolio of securities all of them face uncertain ca

flows .assessing risk and incorporating the same in the financial decision is an integral part of financial analy

Definition of riskRisk is defined as the chance of having a loss due to occurrence of an eventThe risk is always associated with the loss aspects since the word itself has the association of DANGER OF LThe definition can be PROBABAILITY OF THE OCCURRENCE OF AN EVENT RESULTING IN LOSS/GAIN1. INTRODUCTION:

The financial risk faced by companies has increased tremendously over the last two decades and the pa

of managing risk successfully are very high. In response to this increased risk and the incentive to manage it,

instruments of risk management such as forwards and futures have been expanded in scope, and many

instruments devised. The process of adaptation of existing financial instruments and processes to develop new

in order that financial market participants can effectively cope with the changing situation, is known as fin

engineering (Marshall,1992:xv). Financial engineering is well on the way to becoming an independent disc

with its own professional bodies. An example is the American Association of Financial Engineers (AAFE),

in 1991 (Marshall, 1992:61).

In this paper, we take a look at risk, the fundamental tools/methods of risk management, and the r

financial engineering in today's world.

2. FINANCIAL RISK:

The term "financial risk" covers the range of risks affecting financial outcomes, faced by a firm. Fin

risk is essentially of two kinds: systematic and unsystematic. Systematic riskis that portion of risk which can

diversified away. Some of its components are listed below.

Business riskis the risk of fluctuations in sales revenue. It arises from macroeconomic factors such as econ

swings and deregulation, and demand factors such as seasonality of demand. This risk is not totally system

however, and some of it can be reduced by diversification of the firm's operations. The risk of property loss

product liability suits, can be insured against (Shapiro,1986: 215).


5/29

Financing riskarises from leverage. It is possible to minimize it by restricting the amount of debt in the firm,

though there may be tax advantages to borrowing (Shapiro,1986:215).

Inflation risk arises from unanticipated inflation. In international trade, it arises from movement away

purchasing power parity (PPP). Hedging is difficult in this case (Walsh,1990:56).

Default, or credit risk is the risk of default of payment by debtors of the firm. Large banks use credit r

agencies, such as Moody's Investor Services and Standard and Poor's Corporation, to rate borrowers. Thoug

risk is mostly systematic, it can be diversified in some cases (e.g., by banks holding a large portfolio). Some

of credit risk can be insured against, e.g., export credit (Shapiro, 1986: 225).

When it is difficult to buy or sell a financial instrument at its market price, then there is marketability, or liq

riskassociated with it. This risk is diversifiable and also completely systematic. Some insurance companies

this risk to some extent (Shapiro,1986:225).

Operating risk: Operating leverage is the commitment of the firm to fixed production charges (fixed costsgreater the operating leverage, the greater the risk to the firm. Reducing operating leverage wherever possible,

(Shapiro,1986:226) .

Political riskcan be both domestic and foreign; it is particularly high when operating in some politically un

Third World countries. This risk is highly systematic and un-diversifiable (Walsh,1990:55).

Unsystematic riskcomprises primarily of price risks.

Interest rate riskarises both from fixed and floating rate debt. Unanticipated changes in floating interest rat

cause costs to rise. However, Putnam (1986) shows that the real interest rate on floating-rate debt is more ofixed, while it is floating in case of fixed-rate debt. Thus the real interest costs are known with certainty in ca

floating-rate debt. Effectively, therefore, floating-rate debt offers a long-run hedge against inflation risk (Pu

1986:241). It is clear that inflation and interest rate risks are closely related. At the same time, a fixed rate deb

cause financial difficulties in case interest rates drop. This is therefore a major risk faced by almost all comp

It can be hedged against in many ways.

Currency (or foreign exchange) riskarises when cash inflows or outflows take place in foreign currency

risk can be either diversified or hedged.

Commodity price riskarises from unanticipated changes in commodity prices and can be hedged.

3. PRINCIPLES OF MANAGING RISK:

Financial literature has concerned itself mainly with the systematic risk of a firm, measured through its

In fact, as per the capital asset pricing model, not managing unsystematic risk does not increase the rate of


6/29

required by investors. However, by significantly lowering the level of the firm's expected cash flows, it ca

does, in practice, reduce the value of the firm. It is necessary therefore to manage unsystematic risk in cases w

it could adversely impact on a firm's existence (Shapiro,1986:216). Total risk is the sum of the systemati

unsystematic risks. Shapiro and Titman (1986) advocate a total risk approach to risk management. Total risk,

the sum of systematic and unsystematic risks, should be considered by the firm. The objective of the shareho

would then be to search for an optimal risk profile, where the marginal cost of bearing risk equals the marginaof managing it.

Risk management requires the identification of the risks to which the firm is exposed, quantification of

exposures - wherever possible, determination of the desired outcomes, and engineering a strategy to achieve

outcomes (Marshall,1992:239). A look at the coverage ratios is a good first step. But for detailed identificat

risk, a series of cash budgets must be prepared using different economic variables and considering the u

different risk-reducing mechanisms (Shapiro,1986:222). Each time, the risk must be identified/ evaluated in

of the probability of not being able to meet essential payments/ obligations.

Wherever possible, risk should be quantified. Non-financial companies can carry out a sensitivity anby making a computer model which determines the relationship of inputs/ outputs/ sales, etc., to different p

such as interest rates (Marshall,1992:261). By varying prices, their effect on pre-tax income can be determ

Alternatively, the historical sensitivity of the company's equity value to changes in prices can be measured

coefficients of a simple linear regression are used to estimate the sensitivity of the value of the firm to chang

the respective variables (Smith,1990:42). This approach is similar in some ways to determining the beta

CAPM.

Financial companies can measure the degree of interest rate risk through gap and duration analysis. G

the difference between RSA and RSL, where RSA is the market value of the rate sensitive assets and RSL

value of the rate sensitive liabilities. Using gap, the impact on the firm of changes in the interest rate is giv_NII = gap x _r, where NII is the net interest income, and _r represents the change in interest rate (Smith, 1990

The measure, duration, which was developed in 1938 by Frederick Macaulay, is the most widely

measure of interest-rate sensitivity of an asset, and is the effective maturity of an asset/liability expressed in un

time. The Macaulay duration is given by:

D= (ds/s)(dr/r)

where S is the instrument's spot price and R equals 1 plus the asset's yield (for example, yield to maturity). Th

measures the response of price to a proportional change in the interest rate (Martin,1988:529). If V is the va

the firm and bar represents the change operator, then,

vv=(1+r)(1+r)D (Smith,1990:38)

In this process of risk measurement, it is essential to understand the underlying determinants of the ri

case of interest rate risk, the underlying factor would largely comprise of inflation. Therefore, the managem

interest rate risk and inflation risk will have to go together (Putnam,1986). As emphasized earlier, more impor


7/29

to place the risk in perspective. If the company is not threatened by bankruptcy if prices move, "then a more p

strategy, involving perhaps a periodic monitoring of overall corporate exposure, is probably sufficient" (Pu

1986:242). These considerations will help the firm to determine the desired outcomes of risk management.

3.1 Designing a suitable strategy: The final step is the design of an appropriate strategy. There are

fundamental ways of managing risk: insurance, asset/ liability management, and hedging. We discuss these be

Insurance is available against some risks (but not, generally, against price risks). However, there are usually

cheaper alternatives to insurance available. This is because insurance companies have to return a profit after t

into account things like moral hazard and adverse selection which steeply raise their costs (Marshall,1992:154

On-balance sheet asset/ liability management: In this method, the firm has to hold the right combination

balance sheet assets and on-balance sheet liabilities, based on the principle of immunization (Marshall,1992

Immunization was proposed by F.M.Redington in the early 1950s. To immunize risk, one has to select assets s

not only the present value, but also their duration equals those of the liabilities, such that:

Duration of assets Market value of assets = Duration of liabilities Market value of liabilities

There is problem associated with immunization. As prices change, the same process of asset/liability adjus

has again to be carried out, which can prove extremely expensive, especially during periods of extremely v

interest rates (Martin,1988:530). Further, hedges often do much better (Marshall,1992: 164).

Apart from immunization, some price risks, such as foreign exchange exposure resulting from overseas compe

can also be managed by directly borrowing in the competitor's currency or by moving production abroad. Thealso on-balance sheet, but in general, these are costly solutions (Smith,1990:43).

Off-balance sheet hedging: In hedging, ideally, there have to be two investments (say, A and B) that are per

correlated; one takes a temporary position by buying one and selling the other, so that the net position is abso

safe. Though similar in some ways to asset/liability management, hedging is primarily off-balance

Sometimes, however, a hedge can take the form of an on-balance sheet position (Marshall,1992:165)

following equation holds:

d change in value of A=a+(change in value of B)

Here bar (_) measures the sensitivity of changes in A to changes in the value of B, and is called the hedge ratio

view that states that ideally _ should equal 1 is now viewed unfavorably and is called the naive view.

But Johnson (1960) and Stein (1961) took a portfolio approach to hedging. In the case of futures, for examp

goal of hedging, they felt, should be to minimize the variance of the profit associated with the combined cas


8/29

futures position. Ederington extended this approach further in 1979. In the Johnson/ Stein/ Ederington

method, the spot price is regressed against the futures price using an ordinary least squares regression. Th

minimizing or the minimum variance hedge ratio is then given by the slope of the regression

(Marshall,1992:517).

In this paper we focus on hedging as the chief method of risk management.

3.2 Hedging and financial engineering: Financial engineering has been defined as "the design, the develop

and the implementation of innovative financial instruments and processes, and the formulation of creative solu

to problems in finance" (Marshall,1992:3). This is a very broad definition, but the primary objective of fin

engineering (FE) is to meet the needs of risk management. FE takes a building block approach to the build

new instruments. This approach was first demonstrated by Black and Scholes (1973) in considering a call opt

"a continuously adjusting portfolio of two securities: (1) forward contracts on the underlying asset and (2) ri

securities" (Smith,1990:50). Most of the hedges can be constructed from futures, forwards, options, and s

which are now known as the building blocks of financial engineering. By combining forwards, options, f

and swaps, with the underlying cash position, a firm's risk exposure can be manipulated in a practically invariety of ways.

RISK AND MANAGEMENTRISK- CHANCE OF AN EVENT HAPPENING RESULTING IN LOSS/ GAIN

TO APPRECIATE THE NEED FOR LOSS PREVENTION AND IMPLEMENT MEASURES TO ACHIEVE THE SA

THE EFFORTS ARE AIMED TO PREVENT A LOSS HAPPENING BUT ALSO TO MAKE IT MANAGEABLE IF I

HAPPENS

THIS ASPECT IS TO BE ACHIEVED IN ALL ACTIVITES OF THE ORGANISATION BE IN PRODUCTION,

STORAGE, HANDLING, TRANSPORTATION AND DISTRIBUTION

EFFECTS OF RISKRisky situations are to be faced by those who are deploying their Capital & RESOURCES in any VENTURE (is it an

ADENTURE?)

Adventure means venturing into some area which may have serious effects on the wellbeing of the resources

All Industries / Business do face such situations every day in their activities

HENCE RISK MAY BRING IN LOSS IN CASE OF AN ACCIDENT / UNTOWRD HAPPENING BUT CAN BRING

PROFITS IN THINGS GO IN THE WAY THESE ARE EXPECTED TO HAPPEN

Risk Management- Macro

Provision of adequate infrastructure, trained personnel and capability to mitigate huge losses due to disasters n

& man made will be the main area for macro analysis by the Government

Natural disasters result in huge devastation and loss of human lives

Bhopal tragedy had put India in Guinness book of world records as one of the big tragedies of the world

Pollution is now causing the maximum concern & affects the health of citizens and young population- Soli

water, air

We need to improve the public hygiene awareness and the way in which we are soft targets for epidemics due

pollution

Past earthquakes in Maharashtra & Gujarat had shown how ill prepared we are


9/29

Every year the country is ravaged by floods in many parts and drought in some parts- interconnection of rivers

remains distant dream- water may become one of the major sources of trouble in this country

Infrastructure is looked into only after development and government is then unable to acquire the land required

Allowing too many Airlines without runways has only resulted in air congestion and pollution of air at higher

We are contributing to global warming, unpredictable weather conditions, hole in the ozone layer which natur

provided to shield us from ultra-violet radiationUnscrupulous destruction of forests and creation of concrete jungles has resulted in ecological imbalance

RISKS A BUSINESS FACES

ENVIRONMENTAL RISKS-LEGAL, SOCIAL, ECONOMIC, FINANCIAL RISKS

CHANGES IN BUSINESS, SPECULATIVE RISKS, TECHNOLOGICAL CHANGES

PURE RISKS

FUNDAMENTAL RISKS

STEPS IN MANAGEMENT

PLAN

ORGANISE

DELEGATE

MOTIVATE

TRAINING

CONTROL

COURSE CORRECTIONS

ACHIEVE THE GOALS

Financial losses

Business Interruption

Loss of profit

Continuing fixed costsCost of alternate accommodation

Increased cost of working

Increase in cost of replacement of assets following loss/damage/destruction

Under insurance/absence of insurance

Liabilities

to general public

to users due to defective products

to employees as employer

as tenants

other legal liabilitiesdue to their acts-Directors/ Officers

Human resources

Fatal or non-fatal injuries

Loss of key/ trained employees

Loss of earnings due to disablement

Hospitalization and medical expenses


10/29

Travel ( inland and overseas)

Risk Management

Risk management is the identification, assessment, and prioritization of risks (defined in ISO 31000 as the effof uncertainty on objectives, whether positive or negative) followed by coordinated and economical applicatioresources to minimize, monitor, and control the probability and/or impact of unfortunate eventsor to maximizerealization of opportunities. Risks can come from uncertainty in financial markets, project failures, legal liabilcredit risk, accidents, natural causes and disasters as well as deliberate attacks from an adversary. Several riskmanagement standards have been developed including the Project Management Institute, the National InstituteScience and Technology, actuarial societies, and ISO standards. Methods, definitions and goals vary widelyaccording to whether the risk management method is in the context of project management, security, engineeriindustrial processes, financial portfolios, actuarial assessments, or public health and safety.The strategies to manage risk include transferring the risk to another party, avoiding the risk, reducing the negeffect of the risk, and accepting some or all of the consequences of a particular risk.Certain aspects of many of the risk management standards have come under criticism for having no measurablimprovement on risk even though the confidence in estimates and decisions increase

This section provides an introduction to the principles of risk management. The vocabulary of risk managemendefined in ISO Guide 73, "Risk management. Vocabulary.In ideal risk management, a prioritization process is followed whereby the risks with the greatest loss and thegreatest probability of occurring are handled first, and risks with lower probability of occurrence and lower loshandled in descending order. In practice the process can be very difficult, and balancing between risks with a hprobability of occurrence but lower loss versus a risk with high loss but lower probability of occurrence can ofbe mishandled.Intangible risk management identifies a new type of a risk that has a 100% probability of occurring but is ignoby the organization due to a lack of identification ability. For example, when deficient knowledge is applied tosituation, a knowledge risk materializes. Relationship risk appears when ineffective collaboration occurs. Procengagement risk may be an issue when ineffective operational procedures are applied. These risks directly redthe productivity of knowledge workers, decrease cost effectiveness, profitability, service, quality, reputation, bvalue, and earnings quality. Intangible risk management allows risk management to create immediate value frothe identification and reduction of risks that reduce productivity.Risk management also faces difficulties in allocating resources. This is the idea of opportunity cost. Resourcesspent on risk management could have been spent on more profitable activities. Again, ideal risk managementminimizes spending and minimizes the negative effects of risks.

MethodFor the most part, these methods consist of the following elements, performed, more or less, in the following o

1. identify, characterize, and assess threats2. assess the vulnerability of critical assets to specific threats3. determine the risk (i.e. the expected consequences of specific types of attacks on specific assets)4. identify ways to reduce those risks

5. prioritize risk reduction measures based on a strategyPrinciples of risk managementThe International Organization for Standardization (ISO) identifies the following principles of risk managemeRisk management should:

create value be an integral part of organizational processes be part of decision making explicitly address uncertainty


11/29

be systematic and structured be based on the best available information be tailored take into account human factors be transparent and inclusive be dynamic, iterative and responsive to change be capable of continual improvement and enhancement

ProcessAccording to the standard ISO 31000 "Risk management -- Principles and guidelines on implementation, theprocess of risk management consists of several steps as follows:

Establishing the contextEstablishing the context involves:

1. Identification of risk in a selected domain of interest2. Planning the remainder of the process.3. Mapping out the following: The social scope of risk management

The identity and objectives of stakeholders The basis upon which risks will be evaluated, constraints.

4. Defining a frameworkfor the activity and an agenda for identification.5. Developing an analysis of risks involved in the process.6. Mitigation or Solution of risks using available technological, human and organizational resou

IdentificationAfter establishing the context, the next step in the process of managing risk is to identify potential risks. Risksabout events that, when triggered, cause problems. Hence, risk identification can start with the source of probleor with the problem itself.

Source analysis: Risk sources may be internal or external to the system that is the target of rmanagement.

Examples of risk sources are: stakeholders of a project, employees of a company or the weather over an airpor Problem analysis: Risks are related to identified threats. For example: the threat of losing mo

the threat of abuse of privacy information or the threat of accidents and casualties. The threatsexist with various entities, most important with shareholders, customers and legislative bodies sas the government.When either source or problem is known, the events that a source may trigger or the events that can lead to aproblem can be investigated. For example: stakeholders withdrawing during a project may endanger funding oproject; privacy information may be stolen by employees even within a closed network; lightning striking anaircraft during takeoff may make all people onboard immediate casualties.The chosen method of identifying risks may depend on culture, industry practice and compliance. The identifimethods are formed by templates or the development of templates for identifying source, problem or event.Common risk identification methods are:

Objectives-based risk identification: Organizations and project teams have objectives. Anyevent that may endanger achieving an objective partly or completely is identified as risk.

Scenario-based risk identification: In scenario analysis different scenarios are created. Thescenarios may be the alternative ways to achieve an objective, or an analysis of the interactionforces in, for example, a market or battle. Any event that triggers an undesired scenario alternais identified as risk - see Futures Studies for methodology used by Futurists.


12/29


13/29

1. Design a new business process with adequate built-in risk control and containment measures from the start.2. Periodically re-assess risks that are accepted in ongoing processes as a normal feature of business operationsmodify mitigation measures.3. Transfer risks to an external agency (e.g. an insurance company)4. Avoid risks altogether (e.g. by closing down a particular high-risk business area)

Later research has shown that the financial benefits of risk management are less dependent on the formula useare more dependent on the frequency and how risk assessment is performed.In business it is imperative to be able to present the findings of risk assessments in financial terms. Robert CouJr. (IBM, 1970) proposed a formula for presenting risks in financial terms. The Courtney formula was acceptethe official risk analysis method for the US governmental agencies. The formula proposes calculation of ALE(annualized loss expectancy) and compares the expected loss value to the security control implementation cost(cost-benefit analysis).

Potential risk treatmentsOnce risks have been identified and assessed, all techniques to manage the risk fall into one or more of these fmajor categories:

Avoidance (eliminate, withdraw from or not become involved)

Reduction (optimize - mitigate) Sharing (transfer - outsource or insure) Retention (accept and budget)

Ideal use of these strategies may not be possible. Some of them may involve trade-offs that are not acceptable organization or person making the risk management decisions. Another source, from the US Department ofDefense, Defense Acquisition University, calls these categories ACAT, for Avoid, Control, Accept, or TransfeThis use of the ACAT acronym is reminiscent of another ACAT (for Acquisition Category) used in US Defensindustry procurements, in which Risk Management figures prominently in decision making and planning.Risk avoidanceThis includes not performing an activity that could carry risk. An example would be not buying a property orbusiness in order to not take on the legal liability that comes with it. Another would be not flying in order not ttake the risk that the airplane was to be hijacked. Avoidance may seem the answer to all risks, but avoiding risalso means losing out on the potential gain that accepting (retaining) the risk may have allowed. Not entering abusiness to avoid the risk of loss also avoids the possibility of earning profits.Hazard Prevention

Main article: Hazard prevention

Hazard prevention refers to the prevention of risks in an emergency. The first and most effective stage of hazaprevention is the elimination of hazards. If this takes too long, is too costly, or is otherwise impractical, the secstage is mitigation.Risk reductionRisk reduction or "optimization" involves reducing the severity of the loss or the likelihood of the loss fromoccurring. For example, sprinklers are designed to put out a fire to reduce the risk of loss by fire. This method cause a greater loss by water damage and therefore may not be suitable. Halon fire suppression systems may

mitigate that risk, but the cost may be prohibitive as a strategy.Acknowledging that risks can be positive or negative, optimizing risks means finding a balance between negatrisk and the benefit of the operation or activity; and between risk reduction and effort applied. By an offshoredrilling contractor effectively applying HSE Management in its organization, it can optimize risk to achieve leof residual risk that are tolerable.Modern software development methodologies reduce risk by developing and delivering software incrementallyEarly methodologies suffered from the fact that they only delivered software in the final phase of development


14/29

problems encountered in earlier phases meant costly rework and often jeopardized the whole project. By develin iterations, software projects can limit effort wasted to a single iteration.Outsourcing could be an example of risk reduction if the outsourcer can demonstrate higher capability at manaor reducing risks. For example, a company may outsource only its software development, the manufacturing ogoods, or customer support needs to another company, while handling the business management itself. This wthe company can concentrate more on business development without having to worry as much about themanufacturing process, managing the development team, or finding a physical location for a call center.Risk sharingBriefly defined as, "sharing with another party the burden of loss or the benefit of gain, from a risk, and themeasures to reduce a risk."The term of 'risk transfer' is often used in place of risk sharing in the mistaken belief that you can transfer a risthird party through insurance or outsourcing. In practice if the insurance company or contractor go bankrupt orup in court, the original risk is likely to still revert to the first party. As such in the terminology of practitionersscholars alike, the purchase of an insurance contract is often described as a "transfer of risk." However, technispeaking, the buyer of the contract generally retains legal responsibility for the losses "transferred", meaning tinsurance may be described more accurately as a post-event compensatory mechanism. For example, a personainjuries insurance policy does not transfer the risk of a car accident to the insurance company. The risk still lie

with the policy holder namely the person who has been in the accident. The insurance policy simply provides tan accident (the event) occurs involving the policy holder then some compensation may be payable to the poliholder that is commensurate to the suffering/damage.Some ways of managing risk fall into multiple categories. Risk retention pools are technically retaining the risthe group, but spreading it over the whole group involves transfer among individual members of the group. Thdifferent from traditional insurance, in that no premium is exchanged between members of the group up front,instead losses are assessed to all members of the group.Risk retentionInvolves accepting the loss, or benefit of gain, from a risk when it occurs. True self-insurance falls in this cateRisk retention is a viable strategy for small risks where the cost of insuring against the risk would be greater ovtime than the total losses sustained. All risks that are not avoided or transferred are retained by default. Thisincludes risks that are so large or catastrophic that they either cannot be insured against or the premiums wouldinfeasible. War is an example since most property and risks are not insured against war, so the loss attributed bwar is retained by the insured. Also any amount of potential loss (risk) over the amount insured is retained riskThis may also be acceptable if the chance of a very large loss is small or if the cost to insure for greater coveraamounts is so great it would hinder the goals of the organization too much.

Create a risk management planSelect appropriate controls or countermeasures to measure each risk. Risk mitigation needs to be approved by appropriate level of management. For instance, a risk concerning the image of the organization should have tomanagement decision behind it whereas IT management would have the authority to decide on computer virusrisks.The risk management plan should propose applicable and effective security controls for managing the risks. Foexample, an observed high risk of computer viruses could be mitigated by acquiring and implementing antivir

software. A good risk management plan should contain a schedule for control implementation and responsiblepersons for those actions.According to ISO/IEC 27001, the stage immediately after completion of the risk assessment phase consists ofpreparing a Risk Treatment Plan, which should document the decisions about how each of the identified risksshould be handled. Mitigation of risks often means selection of security controls, which should be documentedStatement of Applicability, which identifies which particular control objectives and controls from the standardbeen selected, and why.

Implementation


15/29

Implementation follows all of the planned methods for mitigating the effect of the risks. Purchase insurance pofor the risks that have been decided to be transferred to an insurer, avoid all risks that can be avoided withoutsacrificing the entity's goals, reduce others, and retain the rest.

Review and evaluation of the planInitial risk management plans will never be perfect. Practice, experience, and actual loss results will necessitat

changes in the plan and contribute information to allow possible different decisions to be made in dealing withrisks being faced.Risk analysis results and management plans should be updated periodically. There are two primary reasons for

1. To evaluate whether the previously selected security controls are still applicable and effective, 2. To evaluate the possible risk level changes in the business environment. For example, informat

risks are a good example of rapidly changing business environment.

Limitations

If risks are improperly assessed and prioritized, time can be wasted in dealing with risk of losses that are not lito occur. Spending too much time assessing and managing unlikely risks can divert resources that could be usemore profitably. Unlikely events do occur but if the risk is unlikely enough to occur it may be better to simplyretain the risk and deal with the result if the loss does in fact occur. Qualitative risk assessment is subjective anlacks consistency. The primary justification for a formal risk assessment process is legal and bureaucratic.

Prioritizing the risk management processes too highly could keep an organization from ever completing a projeven getting started. This is especially true if other work is suspended until the risk management process isconsidered complete.It is also important to keep in mind the distinction between risk and uncertainty. Risk can be measured by impprobability.

Areas of risk management

As applied to corporate finance, risk management is the technique for measuring, monitoring and controllingfinancial or operational risk on a firm's balance sheet. See value at risk.The Basel II framework breaks risks into market risk (price risk), credit risk and operational risk and also specmethods for calculating capital requirements for each of these components.

Enterprise risk management

In enterprise risk management, a risk is defined as a possible event or circumstance that can have negativeinfluences on the enterprise in question. Its impact can be on the very existence, the resources (human and capithe products and services, or the customers of the enterprise, as well as external impacts on society, markets, oenvironment. In a financial institution, enterprise risk management is normally thought of as the combination ocredit risk, interest rate risk or asset liability management, market risk, and operational risk.In the more general case, every probable risk can have a pre-formulated plan to deal with its possible conseque(to ensure contingency if the risk becomes a liability).From the information above and the average cost per employee over time, or cost accrual ratio, a project manacan estimate:

the cost associated with the risk if it arises, estimated by multiplying employee costs per unit tiby the estimated time lost (cost impact, C where C = cost accrual ratio * S).

the probable increase in time associated with a risk (schedule variance due to risk, Rs where Rs* S): Sorting on this value puts the highest risks to the schedule first. This is intended to cause the

greatest risks to the project to be attempted first so that risk is minimized as quickly as possible This is slightly misleading as schedule variances with a large P and small S and vice versa is not

equivalent. (The risk of the RMS Titanic sinking vs. the passengers' meals being served at slightthe wrong time).

the probable increase in cost associated with a risk (cost variance due to risk, Rc where Rc = P*P*CAR*S = P*S*CAR)


16/29

Sorting on this value puts the highest risks to the budget first. See concerns about schedule variance as this is a function of it, as illustrated in the equation ab

Risk in a project or process can be due either to Special Cause Variation or Common Cause Variation and requappropriate treatment. That is to re-iterate the concern about extremal cases not being equivalent in the listimmediately above.

Risk management activities as applied to project managementIn project management, risk management includes the following activities: Planning how risk will be managed in the particular project. Plans should include risk manageme

tasks, responsibilities, activities and budget. Assigning a risk officer - a team member other than a project manager who is responsible for

foreseeing potential project problems. Typical characteristic of risk officer is a healthy skepticism Maintaining live project risk database. Each risk should have the following attributes: opening d

title, short description, probability and importance. Optionally a risk may have an assigned persresponsible for its resolution and a date by which the risk must be resolved.

Creating anonymous risk reporting channel. Each team member should have possibility to reporisk that he/she foresees in the project.

Preparing mitigation plans for risks that are chosen to be mitigated. The purpose of the mitigati

plan is to describe how this particular risk will be handled what, when, by who and how will it bdone to avoid it or minimize consequences if it becomes a liability. Summarizing planned and faced risks, effectiveness of mitigation activities, and effort spent for

risk management.

Risk management for megaprojectsMegaprojects (sometimes also called "major programs") are extremely large-scale investment projects, typicalcosting more than US$1 billion per project. Megaprojects include bridges, tunnels, highways, railways, airportseaports, power plants, dams, wastewater projects, coastal flood protection schemes, oil and natural gas extracprojects, public buildings, information technology systems, aerospace projects, and defense systems. Megaprohave been shown to be particularly risky in terms of finance, safety, and social and environmental impacts. Rimanagement is therefore particularly pertinent for megaprojects and special methods and special education havbeen developed for such risk management.

Risk management of Information TechnologyInformation technology is increasing pervasive in modern life in every sector.IT risk is a risk related to information technology. This relatively new term due to an increasing awareness thainformation security is simply one facet of a multitude of risks that are relevant to IT and the real world processupports.A number of methodologies have been developed to deal with this kind of risk.ISACA's Risk IT framework ties IT risk to Enterprise risk management.

Risk management techniques in petroleum and natural gasFor the offshore oil and gas industry, operational risk management is regulated by the safety case regime in mcountries. Hazard identification and risk assessment tools and techniques are described in the international stanISO 17776:2000, and organizations such as the IADC (International Association of Drilling Contractors) publi

guidelines for HSE Case development which are based on the ISO standard. Further, diagrammatic representaof hazardous events are often expected by governmental regulators as part of risk management in safety casesubmissions; these are known as bow-tie diagrams. The technique is also used by organizations and regulatorsmining, aviation, health, defense, industrial and finance.

Risk management and business continuity

Risk management is simply a practice of systematically selecting cost effective approaches for minimizing theeffect of threat realization to the organization. All risks can never be fully avoided or mitigated simply becausefinancial and practical limitations. Therefore all organizations have to accept some level of residual risks.


17/29

Whereas risk management tends to be preemptive, business continuity planning (BCP) was invented to deal wthe consequences of realized residual risks. The necessity to have BCP in place arises because even very unlikevents will occur if given enough time. Risk management and BCP are often mistakenly seen as rivals oroverlapping practices. In fact these processes are so tightly tied together that such separation seems artificial. Fexample, the risk management process creates important inputs for the BCP (assets, impact assessments, costestimates etc.). Risk management also proposes applicable controls for the observed risks. Therefore, riskmanagement covers several areas that are vital for the BCP process. However, the BCP process goes beyond rmanagement's preemptive approach and assumes that the disasterwill happen at some point.

Risk communication

Risk communication is a complex cross-disciplinary academic field. Problems for risk communicators involveto reach the intended audience, to make the risk comprehensible and relatable to other risks, how to pay approprespect to the audience's values related to the risk, how to predict the audience's response to the communicatioA main goal of risk communication is to improve collective and individual decision making. Risk communicasomewhat related to crisis communication.

Bow tie diagramsA popular solution to the quest to communicate risks and their treatments effectively is to use bow tie diagramThese have been effective, for example, in a public forum to model perceived risks and communicate precautiduring the planning stage of offshore oil and gas facilities in Scotland. Equally, the technique is used for HAZ(Hazard Identification) workshops of all types, and results in a high level of engagement. For this reason (amoothers) an increasing number of government regulators for major hazard facilities (MHFs), offshore oil & gas,aviation, etc. welcome safety case submissions which use diagrammatic representation of risks at their core.Communication advantages of bow tie diagrams:

Visual illustration of the hazard, its causes, consequences, controls, and how controls fail. The bow tie diagram can be readily understood at all personnel levels. "A picture paints a thousand words."

Seven cardinal rules for the practice of risk communication(As first expressed by the U.S. Environmental Protection Agency and several of the field's founders)

Accept and involve the public/other consumers as legitimate partners.

Plan carefully and evaluate your efforts with a focus on your strengths, weaknesses, opportunitand threats.

Listen to the public's specific concerns. Be honest, frank, and open. Coordinate and collaborate with other credible sources. Meet the needs of the media. Speak clearly and with compassion.

Risk management and business continuity

Risk management is simply a practice of systematically selecting cost effective Approaches for minimizing the effect of threat realization to the organization. All risks Can never be fully avoided or mitigated simply because of financial and practical Limitations. Therefore all organizations have to accept some level of residual risks. Whereas risk management tends to be pre-emptive, business continuity planning (BCP) was invented to deal with the consequences of realized residual risks. The Necessity to have BCP in place arises because even very unlikely events will occur if Given enough time. Risk management and BCP are often mistakenly seen as rivals or Overlapping practices. In fact these processes are so tightly tied together that such Separation seems artificial. For example, the risk management process creates


18/29

Important inputs for the BCP (assets, impact assessments, cost estimates etc.). Risk Management also proposes applicable controls for the observed risks. Therefore, risk Management covers several areas that are vital for the BCP process. However, the BCP process goes beyond risk management's pre-emptive approach and moves on From the assumption that the disasterwill realize at some point.

Financial risk management

Finance theory (i.e. financial economics) prescribes that a firm should take on a Project when it increases shareholder value. Finance theory also shows that firm managers cannot create value for shareholders, also called its investors, by taking on Project that shareholders could do for themselves at the same cost. When applied to financial risk management, this implies that firm managers should not hedge risks that Investors can hedge for themselves at the same cost. This notion is captured by the hedging irrelevance proposition: In a perfect market, the firm cannot create value by hedging a risk when the price of bearing that risk within the firm is the same as the

Price of bearing it outside of the firm. In practice, financial markets are not likely to Be perfect markets. This suggests that firm managers likely have many opportunities To create value for shareholders using financial risk management. The trick is to Determine which risks are cheaper for the firm to manage than the shareholders. A general rule of thumb, however, is that market risks that result in unique risks for the Firm are the best candidates for financial risk management.

INSURANCE POLICY AS A FINANCIAL PRODUCT

DEFINITIONGuarding against property loss or damage making payments in the form of premiums to an insurance company

which pays an agreed-upon sum to the insured in the event of loss.

A contract between a client and a provider whereby the client makes monthly payments, called premiums, inexchange for the promise that the provider will pay for certain expenses. For example, if one purchases healthinsurance, the provider will pay for (some of) the client's medical bills, if any. Likewise in life insurance, theprovider will give the client's family a certain amount of money when the client dies. The insurance companyspreads the risk of any one expense by pooling the premiums from many clientsInsurance n. a contract (insurance policy) in which the insurer (insurance company) agrees for a fee (insurancpremiums) to pay the insured party all or a portion of any loss suffered by accident or death. The losses coverethe policy may include property damage from accident or fire, theft or intentional harm, medical costs and/or learnings due to physical injury, long-term or permanent loss of physical capacity, claims by others due to theinsured's alleged negligence (e.g. public liability auto insurance), loss of a ship and/or cargo, finding a defect i

to real property, dishonest employees, or the loss of someone's life. Life insurance may be on the life of a spouchild, one of several business partners, or an especially important manager ("key man" insurance), all of whichintended to provide for survivors or to ease the burden upon the loss of a financial contributor. So-called"mortgage" insurance is life insurance which will pay off the remaining amount due on a home loan on the deathe husband or wife. Life insurance proceeds are usually not included in the probate of a dead person's estate, bthe funds may be counted by the Internal Revenue Service in calculating estate tax. Insurance companies mayrefuse to pay a claim by a third party against an insured, but at the same time may be required to assume the ledefense (pay attorney's fees or provide an attorney) under the doctrine of "reservation of rights."


19/29

The normal activities of daily life carry the risk of enormous financial loss. Many persons are willing to pay a amount for protection against certain risks because that protection provides valuable peace of mind. The terminsurance describes any measure taken for protection against risks. When insurance takes the form of a contracan insurance policy, it is subject to requirements in statutes, Administrative Agency regulations, and courtdecisions.In an insurance contract, one party, the insured, pays a specified amount of money, called a premium, to anothparty, the insurer. The insurer, in turn, agrees to compensate the insured for specific future losses. The lossescovered are listed in the contract, and the contract is called a policy.When an insured suffers a loss or damage that is covered in the policy, the insured can collect on the proceeds the policy by filing a claim, or request for coverage, with the insurance company. The company then decideswhether or not to pay the claim. The recipient of any proceeds from the policy is called the beneficiary. Thebeneficiary can be the insured person or other persons designated by the insured.A contract is considered to be insurance if it distributes risk among a large number of persons through an enterthat is engaged primarily in the business of insurance. Warranties or service contracts for merchandise, for exado not constitute insurance. They are not issued by insurance companies, and the risk distribution in the transais incidental to the purchase of the merchandise. Warranties and service contracts are thus exempt from strictinsurance laws and regulations.

The business of insurance is sustained by a complex system of risk analysis. Generally, this analysis involvesanticipating the likelihood of a particular loss and charging enough in premiums to guarantee that insured lossebe paid. Insurance companies collect the premiums for a certain type of insurance policy and use them to pay tfew individuals who suffer losses that are insured by that type of policy.Most insurance is provided by private corporations, but some is provided by the government. For example, theFederal Deposit Insurance Corporation (FDIC) was established by Congress to insure bank deposits. The federgovernment provides life insurance to military service personnel. Congress and the states jointly fund MedicaiMedicare, which are Health Insurance programs for persons who are disabled or elderly. Most states offer healinsurance to qualified persons who are indigent.Government-issued insurance is regulated like private insurance, but the two are very different. Most recipientgovernment insurance do not have to pay premiums, but they also do not receive the same level of coverageavailable under private insurance policies. Government-issued insurance is granted by the legislature, not bargfor with a private insurance company, and it can be taken away by an act of the legislature. However, if a legisissues insurance, it cannot refuse it to a person who qualifies for it.Types of Insurance

Insurance companies create insurance policies by grouping risks according to their focus. This provides a meaof uniformity in the risks that are covered by a type of policy, which in turn allows insurers to anticipate theirpotential losses and to set premiums accordingly. The most common forms of insurance policies include life,health, automobile, homeowners' and renters', Personal Property, fire and casualty, marine, and inland marinepolicies.Life insurance provides financial benefits to a designated person upon the death of the insured. Many differentforms of life insurance are issued. Some provide for payment only upon the death of the insured; others allow insured to collect proceeds before death.

A person may purchase life insurance on his or her own life for the benefit of a third person or persons. Individmay even purchase life insurance on the life of another person. For example, a wife may purchase life insurancthat will provide benefits to her upon the death of her husband. This kind of policy is commonly obtained byspouses and by parents insuring themselves against the death of a child. However, individuals may only purchlife insurance on the life of another person and name themselves beneficiary when there are reasonable groundbelieve that they can expect some benefit from the continued life of the insured. This means that some familialfinancial relationship must unite the beneficiary and the insured. For example, a person may not purchase lifeinsurance on the life of a stranger in the hope that the stranger will suffer a fatal accident.


20/29

Health insurance policies cover only specified risks. Generally, they pay for the expenses incurred from bodilyinjury, disability, sickness, and accidental death. Health insurance may be purchased for one's self and for otheAll automobile insurance policies contain liability insurance, which is insurance against injury to another persoagainst damage to another person's vehicle caused by the insured's vehicle. Auto insurance may also pay for thof, or damage to, the insured's motor vehicle. Most states require that all drivers carry, at a minimum, liabilityinsurance under a no-fault scheme. In states that recognize no-fault insurance, damages resulting from an accidare paid for by the insurers, and the drivers do not have to go to court to settle the issue of damages. Drivers instates may bring suit over an accident only in cases of egregious conduct, or where medical or repair costs excan amount defined by statute.Homeowners' insurance protects homeowners from losses relating to their dwelling, including damage to thedwelling; personal liability for injury to visitors; and loss of, or damage to, property in and around the dwellinRenters' insurance covers many of the same risks for persons who live in rented dwellings.As its name would suggest, personal property insurance protects against the loss of, or damage to, certain itempersonal property. It is useful when the liability limit on a homeowner's policy does not cover the value of aparticular item or items. For example, the owner of an original painting by Pablo Picasso might wish to obtainaddition to a homeowner's policy, a separate personal property policy to insure against loss of, or damage to, thpainting.

Businesses can insure against damage and liability to others with fire and casualty insurance policies. Fire insupolicies cover damage caused by fire, explosions, earthquakes, lightning, water, wind, rain, collisions, and riotCasualty insurance protects the insured against a variety of losses, including those related to legal liability, Buand theft, accidents, property damage, injury to workers, and insurance on credit extended to others. Fidelity asurety bonds are temporary, specialized forms of casualty insurance. A fidelity bond insures against losses relato the dishonesty of employees, and a surety bond provides protection to a business if it fails to fulfill its contraobligations.Marine insurance policies insure transporters and owners of cargo shipped on an ocean, a sea, or a navigablewaterway. Marine risks include damage to cargo, damage to the vessel, and injuries to passengers.Inland marine insurance is used for the transportation of goods on land and on land-locked lakes.Many other types of insurance are also issued. Group health insurance plans are usually offered by employers their employees. A person may purchase additional insurance to cover losses in excess of a stated amount or inexcess of coverage provided by a particular insurance policy. Air-travel insurance provides life insurance beneto a named beneficiary if the insured dies as a result of the specified airplane flight. Flood insurance is not inclin most homeowners' policies, but it can be purchased separately. Mortgage insurance requires the insurer to mmortgage payments when the insured is unable to do so because of death or disability.Contract and Policy

An insurance contract cannot cover all conceivable risks. An insurance contract that violates a statute is contrapublic policy, or plays a part in some prohibited activity will be held unenforceable in court. A contract thatprotects against the loss of burglary tools, for example, is contrary to public policy and thus unenforceable.Insurable Interest

To qualify for an insurance policy, the insured must have an insurable interest, meaning that the insured must some benefit from the continued preservation of the article insured, or stand to suffer some loss as a result of t

article's loss or destruction. Life insurance requires some familial and pecuniary relationship between the insurand the beneficiary. Property insurance requires that the insured must simply have a lawful interest in the safetpreservation of the property.Premiums

Different types of policies require different premiums based on the degree of risk that the situation presents. Fexample, a policy insuring a homeowner for all risks associated with a home valued at $200,000 requires a higpremium than one insuring a boat valued at $20,000. Although liability for injuries to others might be similar u


21/29

both policies, the cost of replacing or repairing the boat would be less than the cost of repairing or replacing thhome, and this difference is reflected in the premium paid by the insured.Premium rates also depend on characteristics of the insured. For example, a person with a poor driving recordgenerally has to pay more for auto insurance than does a person with a good driving record. Furthermore, insuare free to deny policies to persons who present an unacceptable risk. For example, most insurance companies not offer life or health insurance to persons who have been diagnosed with a terminal illness.Claims

The most common issue in insurance disputes is whether the insurer is obligated to pay a claim. The determinaof the insurer's obligation depends on many factors, such as the circumstances surrounding the loss and the precoverage of the insurance policy. If a dispute arises over the language of the policy, the general rule is that a coshould choose the interpretation that is most favorable to the insured. Many insurance contracts contain anIncontestability Clause to protect the insured. This clause provides that the insurer loses the right to contest thevalidity of the contract after a specified period of time.An insurance company may deny or cancel coverage if the insured party concealed or misrepresented a materiafact in the policy application. If an applicant presents an unacceptably high risk of loss for an insurance compathe company may deny the application or charge prohibitively high premiums. A company may cancel a policthe insured fails to make payments. It also may refuse to pay a claim if the insured intentionally caused the los

damage. However, if the insurer knows that it has the right to rescind a policy or to deny a claim, but conveys insured that it has voluntarily surrendered such right, the insured may claim that the insurer waived its right tocontest a claim.An insurer may have a duty to defend an insured in a lawsuit filed against the insured by a third party. This duusually arises if the claims in the suit against the insured fall within the coverage of a liability policy.If a third party caused a loss covered by a policy, the insurance company may have the right to sue the third paplace of the insured. This right is called Subrogation, and it is designed to make the party that is responsible foloss bear the burden of the loss. It also prevents an insured from recovering twice: once from the insurancecompany, and once from the responsible party.An insurance company can subrogate claims only on certain types of policies. Property and liability insurancepolicies allow subrogation because the basis for the payment of claims is indemnification, or reimbursement, o

insured for losses. Conversely, life insurance policies do not allow subrogation. Life insurance does not indeman insured for a loss that can be measured in dollars. Rather, it is a form of investment for the insured and theinsured's beneficiaries. A life insurance policy pays only a fixed sum of money to the beneficiary and does notcover any liability to a third party. Under such a policy, the insured stands no chance of double recovery, and tinsurance company has no need to sue a third party if it must pay a claim.Terrorism Insurance

Following the attacks on the World Trade Center and the Pentagon, insurance premiums skyrocketed, especialtenants of highly visible landmarks like sports arenas and skyscrapers. The Terrorism Risk Insurance Act of 20(TRIA), Pub. L. No. 107297, 116 Stat. 2322, established a temporary federal program providing for a sharedpublic and private compensation for insured losses resulting from acts of terrorism. The act, which is valid onlthree years, provides that insurers must make terrorism coverage available and must provide policy-holders wiclear and conspicuous disclosure of the premium charged for losses covered by the program. TRIA caps the

exposure of insurance carriers to future acts of foreign terrorism, leaving the federal government to reimburse insurance company for excess losses up to a maximum of $100 billion per year. Under TRIA, the TreasuryDepartment covers 90 percent of terrorism claims when an insurer's exposure exceeds 7 percent of its commerpremiums in 2003, 10 percent of premiums in 2004, and 15 percent in 2005.TRIA defines an act of terrorism as any act that is certified by the U.S. secretary of the treasury, in concurrencwith the U.S. Secretary of State and U.S. attorney general. The act of terror must result in damage within the UStates, or outside the United States in the case of an airplane or a U.S. mission. A terrorist act must be commitby an individual or individuals acting on behalf of any foreign person or foreign interest. An event must be a v


22/29

act or an act that is dangerous to human life, property, or infrastructure. Nuclear, biological, and chemical attacare not covered, and an event cannot be certified as an act of terrorism unless the total damages exceed $5 millINSURANCE, contracts. It is defined to be a contract of indemnity from loss or damage arising upon an uncerevent.

1. Marsh. Ins. 104. It is more fully defined to be a contract by which one of the parties, called the insurer, bhimself to the other, called the insured, to pay him a sum of money, or otherwise indemnify him in case of thehappening of a fortuitous event, provided for in a general or special manner in the contract, in consideration ofpremium which the latter pays, or binds himself to pay him. Pardess. part 3, t. 8, n. 588; 1 Bouv. Inst. n. 1174.

2. The instrument by which the contract is made is denominated a policy; the events or causes to be insuredagainst, risks or perils; and the thing insured, the subject or insurable interest.

3. Marine insurance relates to property and risks at sea; insurance of property on shore against fire, is calledinsurance; and the various contracts in such cases, are fire policies. Insurance of the lives of individuals are cainsurances on lives. Vide Double Insurance; Re- Insurance.INSURANCE, MARINE, contracts: Marine insurance is a contract whereby one party, for a stipulated premiuundertakes to indemnify the other against certain perils or sea risks, to which his ship, freight, or cargo, or somthem may be exposed, during a certain voyage, or a fixed period of time. 3 Kent, Com. 203; Boulay-Paty, Dr.Commercial, t. 10.

2. This contract is usually reduced to writing; the instrument is called a policy of insurance. (q. v.)3. All persons, whether natives, citizens, or aliens, may be insured, with the exception of alien enemies.4. The insurance may be of goods on a certain ship, or without naming any, as upon goods on board any sh

ships. The subject insured must be an insurable legal interest.5. The contract requires the most perfect good faith; if the insured make false representations to the insurer

order to procure his insurance upon better terms, it will avoid the contract, though the loss arose from a causeunconnected with the misrepresentation, or the concealment happened through mistake, neglect, or accident,without any fraudulent intention

Dictionary of Accounting Terms

Risk management

1. The analysis of and planning for potential risks and their subsequent losses. The objective of risk management is to try to mini

the financial consequence of random losses.

2. The business activity that assesses the risks a company is faced with and a plan for the potential coverage or payment of thos

risks.

Dictionary of Banking Terms

Risk management

1. Procedures to manage a bank's exposure to various types of risks associated with banking. This is done through a combinatio

internal policies, contractual arrangements with insurance companies forbanker's blanket bond coverage, Directors & Officers

Insurance, and self-insurance to reduce the costs from accidental loss.


23/29

2. Corporate service sold by commercial banks. Risk management is a set of services, rather than a specific product, aimed at

controlling financing risk, including credit risk, and interest rate risk, through hedging devices, financial futures, and interest rat

caps. The aim is to control corporate funding costs, budget interest rate expense, and limit exposure to interest rate fluctuation

Dictionary of Insurance Terms

Risk management

procedure to minimize the adverse effect of a possible financial loss by (1) identifying potential sources of los

measuring the financial consequences of a loss occurring; and (3) using controls to minimize actual losses or th

financial consequences.

See also business property and liability insurance package , life insurance , Personal Automobile Policy (PAP)

identification in property exposures , tenants insurance , condominium insurance , health insurance , homeown

insurance policy , disability income insurance , risk identification in liability exposures , self-insurance , pensi

plan , human life value approach (economic value of an individual life) (EVOIL) , loss prevention and reductio

Dictionary of Business Terms

Risk management

Procedure to minimize the adverse effect of a possible financial loss by: (1) identifying potential sources of lo

measuring the financial consequences of a loss occurring; and (3) using controls to minimize actual losses or th

financial consequences.Related Terms:Dictionary of Insurance TermsBusiness property and liability insurance package

Protection of the property of the business that is damaged or destroyed by perils such as fire, smoke, and vand

and/or if the actions (or non-actions) of the business's representatives result in bodily injury or property damagDictionary of Insurance TermsLife insurance policy taken out by the insured to pay the beneficiary a certain amount upon the insured's deathProceeds on the death of the policyholder are includable in his or her gross estate under two sets of circumstan(1) the insurance is payable to his or her estate and (2) the decedent possessed at least one incident of ownershthe policy. The latter means that the decedent either owned the policy until death, or transferred it but retained

right to change the beneficiary, borrow on the policy, and cancel it. o accomplish estate tax exclusion, transferthe policy must occur more than three years prior to death.Dictionary of Insurance TermsPersonal Automobile Policy (PAP)

Replacement for the earlierFamily Automobile Policy (FAP) with these nine basic coverages:1. Coverage A-Liability. (a) The company pays damages for which an insured becomes legally obligated because

negligent acts or omissions resulted in bodily injury and/or property damage to a third party; (b) the companydefends the insured against liability suits for damages caused to the third party, paying various expenses in thi


24/29

connection; and (c) vehicles covered include the insured's own cars, a newly acquired car, and a temporarysubstitute car.

2. Coverage B-Medical Payments. The company pays medical expenses for bodily injury incurred by the insured(including spouse and relatives) and any other person while they occupy the insured car.

3. Coverage C-Uninsured Motorist Coverage. The company pays damages that the insured is legally entitled to cfrom the owner or driver of an uninsured motor vehicle.

4. Coverage D-Comprehensive. The company pays for loss to the insured's car for all damages, in excess of adeductible amount, except due to collision.

5. Coverage E-Collision. The company pays for loss to the insured's car for all damages in excess of a deductibleamount caused by collision.

6. Coverage F-Car Rental Expense (optional). The company pays for car rental up to a daily dollar limit, when thinsured's car cannot run due to a loss incurred.

7. Coverage G-Death, Dismemberment, and Loss of Sight (optional). The company pays the insured or beneficiadeath or loss caused by an accident to the insured.

8. Coverage H-Total Disability (optional). The company pays the insured a monthly disability income benefit beof bodily injury in an accident while occupying or being struck by a motor vehicle.

9. Coverage I-Loss of Earnings (optional). The company pays the insured a percentage of his or her loss of mont

earnings because of bodily injury as the result of an accident while occupying or being struck by a motor vehicDictionary of Insurance Termsrisk identification in property exposures

process of discovering sources of loss concerning the property risk faced by individuals and business firms. Th

first step is to analyze possible perils that can damage or destroy both real and personal property.Dictionary of Insurance Termstenants insurance

coverage for the contents of a renter's home or apartment and for liability. Tenant policies are similar to

homeowners insurance, except that they do not cover the structure. They do, however, cover changes made to

inside structure, such as carpeting, kitchen appliances, and built-in bookshelves.

Dictionary of Insurance Termscondominium insurance

coverage under the Homeowners Form-4 (HO-4) for the insured's personal property and loss of use against fir

and/or lightning; vandalism and/or malicious mischief; windstorm and/or hail; explosion, riot and/or civil

commotion; vehicles; aircraft; smoke; falling objects; weight of ice, sleet, and/or snow; volcanic eruption; dam

from artificially generated electricity; freezing of plumbing, heating, air conditioning or sprinkler system or

household appliances; accidental tearing apart, cracking, burning, or bulging of a steam or hot water heating

system, air conditioning system, or an automatic fire protective sprinkler system.Dictionary of Insurance Termshealth insurance

in popular usage, any insurance plan that covers medical expenses or health care services, including HMOs, inplans, preferred provider organizations, etc. In insurance, protection against loss by sickness or bodily injury, i

which sense it is synonymous with accident and health, accident and sickness, accident, or disability income

insurance.Dictionary of Insurance Termshomeowners insurance policy


25/29

package policy that combines (1) coverage against the insured's property being destroyed or damaged by vario

perils, and (2) coverage for liability exposure of the insured.

Homeowners policies cover both individuals as well as property. In addition to the insured, those covered incl

his or her spouse, their relatives, and any others under 21 who are residents of the insured's household.Dictionary of Insurance Termsdisability income insurance

insurance policy that pays benefits to a policyholder when that person becomes incapable of performing one or

more occupational duties, either temporarily or on a long-term basis, or totally. The policy is designed to repla

portion of the income lost because of the insured's disability. Payments begin after a specified period, called th

elimination period, of several weeks or months.

Some policies remain in force until the person is able to return to work, or to return to a similar occupation, or

eligible to receive benefits from another program such as Social Security disability. Disability insurance paym

are normally tax-free to beneficiaries as long as they paid the policy premiums. Many employers offer disabili

income insurance to their employees, though people are able to buy coverage on an individual basis as well.

Dictionary of Insurance Termsrisk identification in liability exposures

process of discovering sources of loss concerning the liability risk faced by individuals and business firms. Th

step in risk management is to identify the causes of a loss by analyzing possible negligent acts and/or omission

could result in bodily injury and/or property damage.Dictionary of Insurance Termsself insurance

protecting against loss by setting aside one's own money. This can be done on a mathematical basis by establis

a separate fund into which funds are deposited on a periodic basis. Through self insurance it is possible to prot

against high-frequency, low-severity losses. To do this through an insurance company would mean having to p

premium that includes loadings for the company's general expenses, cost of putting the policy on the books,

acquisition expenses, premium taxes, and contingencies.Dictionary of Insurance Termspension plan

contractual arrangement in which the employer provides benefits to employees upon retirement. Many plans

include disability and death benefits. A pension plan involves recognizing the employer's cost and the funding

pension benefits. Pension expense is tax-deductible to the employer. The employee is taxed when the pension

annuity is received from employer contributions or originally not-taxed employee contributions. The two most

common types of plans are defined contribution pension plan and defined benefit pension plan. Pension plan

provisions vary from company to company. For example, the pension plan may be contributory or noncontribumeaning the employee may or may not also make payments to the pension plan.Dictionary of Insurance Termshuman life value approach (economic value of an individual life) (EVOIL)

quantitative measure to determine the amount of life insurance required to replace lost future earnings of a wag

earner. Three steps are used in arriving at the needed sum:1. Determine average yearly earned income devoted to a family in the future by the wage earner (AEIDF).2. Determine future number of years wage earner is planning to work(n).


26/29


27/29

General definition of financial product1. For the purposes of this Chapter, a financial product is a facility through which, or through the

acquisition of which, a person does one or more of the following:

(a) Makes a financial investment

(b) Manages financial risk

(c) Makes non cash payments

2. For the purposes of this Chapter, a particular facility that is of a kind through which people

commonly make financial investments, manage financial risks or make non cash payments is a

financial product even if that facility is acquired by a particular person for some other purpose.

3. A facility does not cease to be a financial product merely because:

(a) The facility has been acquired by a person other than the person to whom it w

originally issued; and

(b) That person, in acquiring the product, was not making a financial investment o

managing a financial risk.

Insurance PolicyInsurance Policy India provides the clients with the details required for the coverage in the polic

date of commencement of the policy and their adopting organizations. It plays an important rol

the Indian insurance sector.

The Insurance Policy India is regulated by certain acts like the Insurance Act (1938), the Life

Insurance Corporation Act (1956), General Insurance Business (Nationalization) Act (1972),

Insurance Regulatory and Development Authority (IRDA) Act (1999). The insurance policy

determines the covers against risks, sometime opens investment options with insurance compa

setting high returns and also informs about the tax benefits like the LIC in India. There are two tof insurance covers:

1. Life insurance

2. General insurance

Life insurance this sector deals with the risks and the accidents affecting the life of the

customer. Alongside, this insurance policy also offers tax planning and investment returns. Ther

are various types of life Insurance Policy India:

a. Endowment Policy

b. Whole Life Policy

c. Term Life Policy

d. Money-back Policy

e. Joint Life Policy

f. Group Insurance Policy

g. Loan Cover Term Assurance Policy

h. Pension Plan or Annuities

i. Unit Linked Insurance Plan


28/29

General Insurance this sector covers almost everything related to property, vehicle, cash,

household goods, health and also one's liability towards others. The major segments covered un

general Insurance Policy India are:

a. Home Insurance

b. Health Insurance

c. Motor Insuranced. Travel Insurance

IRDA:The Insurance Regulatory and Development Authority (IRDA) is a national agency of the Government of Ibased in Hyderabad. It was formed by an act of Indian Parliament known as IRDA Act 1999, which was amenin 2002 to incorporate some emerging requirements. Mission of IRDA as stated in the act is "to protect the intof the policyholders, to regulate, promote and ensure orderly growth of the insurance industry and for mattersconnected therewith or incidental thereto."In 2010, the Government of India ruled that the Unit Linked Insurance Plans (ULIPs) will be governed by IRDand not the market regulator Securities and Exchange Board of India.

IRDAs Obligation under the Act

The Insurance Regulatory and Development Authority (IRDA) is a public authority as defined in the Right

Information Act, 2005. As such, the Insurance Regulatory and Development Authority are obliged to prov

information to members of public in accordance with the provisions of the said Act.

Access to the Information held by IRDA

The right to information includes access to the information which is held by or under the control of any p

authority and includes the right to inspect the work, document, records, taking notes, extracts or certifie

copies of documents / records and certified samples of the materials and obtaining information which is a

stored in electronic form.

IRDA Website

The IRDA maintains an active website. The site is updated regularly and all the information released by t

IRDA is also simultaneously made available on the website. The information published in public domain

include the following:

1. Acts/Regulations

2. Information relating to Insurers/Reinsurers, Agents Training Institutes, Appointed Actuaries.

3. Information relating to Surveyors, Third Party Administrators, Insurance Brokers, Corporate Agents

4. Information relating to Insurance Councils, Insurance Ombudsmen5. Annual Report / IRDA Journal

6. Press Releases.

Complaints against Insurance Companies

IRDA has provided for a separate channel for lodging complaints against deficiency of services rendered

Insurance Companies. If you have a complaint/grievance against an insurance company for poor quality


29/29

service rendered by any of its offices/branches, please approach the Nodal Officer of the Insurance Comp

concerned. In case you are not satisfied with the Insurance Companys response you may also file a com

with the Insurance Ombudsman in your State. The Insurance Ombudsman is an independent office to pr

speedy and cost effective resolution of grievances to the customers.

Complaints from Policyholders

Policyholders who have complaints against insurers are required to first approach the Grievance/Custome

Complaints Cell of the concerned insurer. If they do not receive a response from insurer(s) within a

reasonable period of time or are dissatisfied with the response of the company, they may approach the

Grievance Cell of the IRDA. For details of contact, please visit IRDA website

http://irdaho/irdaweb/grievancescell.htm

Making an Application under the Right to Information Act, 2005

Citizens of India will have to make the request for information in writing, clearly specifying the informatio

sought under the Right to Information Act, 20

Documents

FINAL-fm project of Group no-13