Financial Risk Assessment
What is the primary goal of financial risk assessment?
To limit the detrimental impact of financial threats.
Who developed the CAPM model?
William F. Sharpe and John Lintner.
What does VaR measure in financial risk management?
The expected losses in the worst-case scenario under normal market conditions.
If you could choose only one strategy—hedging, diversification, or insurance—for managing personal financial risks, which would it be and why?
Any strategy with a logical explanation is acceptable
What is one benefit of using CAPM for project evaluation?
It evaluates investments in risky projects by analyzing expected returns.
Name two examples of financial risks mentioned in the text.
Market fluctuations and credit defaults.
What two types of risk are emphasized in the CAPM?
Systematic and unsystematic risks
At a 99% confidence level, what does it mean if a portfolio’s VaR is $1 million?
There is a 1% chance the daily loss will exceed $1 million.
What unique risks might a new company in a tech-driven industry face, and how would you mitigate them?
Risks like rapid obsolescence or data breaches; strategies might include R&D investment and cybersecurity measures.
What is one limitation of CAPM?
Assumptions of CAPM do not hold true in the real world.
What are the three main methods used to mitigate financial risks?
Hedging, diversification, and insurance
What is the formula for the Security Market Line (SML)?
Ri = Rf + (Rm - Rf) Bi.)
What is the formula for VaR?
VaR = α × σ − μ, where α is the confidence level, σ is standard deviation, and μ is the expected benefit.
Name one proactive measure for ensuring financial stability.
Insurance to safeguard against unexpected financial disasters.
How does CAPM suggest minimizing risk?
Through portfolio diversification.)
Explain how diversified revenue streams help protect businesses.
They reduce financial risk and ensure organizational stability
In the CAPM, what does the risk-free rate represent?
he return on an investment with zero risk, such as a 90-day treasury bill.
How is investment income calculated in VaR analysis?
Investment profit = R(t+1) − Rt.
What does adaptability in market conditions allow a company to do?
Navigate unexpected expenses and maintain cash flow during economic downturns.
Why is estimating risk-free return challenging in CAPM?
It varies based on market conditions and cannot be predicted accurately.)
What key measures can businesses take to seize opportunities and grow despite financial risks?
Strategic risk management and adaptability to economic downturns
Why is the CAPM considered a single-period model?
It assumes investments are made for one specific period, which limits its applicability to long-term projects.)
What innovative methods could replace or improve the VaR model for modern risk assessment?
Stress testing, scenario analysis, machine learning-based predictive models, etc.
Why is strategic risk management critical for decision-making?
It anticipates uncertainties and reduces financial implications, enabling better choices.
What is the impact of increasing gearing levels on shareholder returns, according to CAPM?
it increases the risk, which may affect the equity shareholders' returns.