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On an individual level it can be said that risk taking is mostly perceived as something negative, the consequences of which are beyond our personal control. On a personal level most individuals believe managing risk is hugely important. We buy into home, health and motor insurance policies without hesitation feeling more safe and secure in the knowledge that we have taken action to somewhat protect ourselves from unpleasant and harmful circumstances. As a result many of the “what if” situations and scenarios don’t seem as daunting or intimidating as before, something which is hugely important to our confidence levels as well as our finances.
Companies are not so different. It is essential that companies take risks in order to gain a competitive advantage, become profitable and create value for their shareholders. As a result financial managers face various risks on a daily basis. Risk taking has various consequences, obviously some risks are considerably larger than others and will therefore have more momentous effects on a company’s profits, losses etc. Managing and handling these risks in an effective manner with the company’s best interests in mind is therefore paramount. Risks faced by an organisation can be both internal and external. Dickson defines risk management as “the identification, analysis and economic control of those risks which can threaten the assets or earning capacity of an enterprise.” Taking steps to reduce the bigger risks and eliminate them to some extent is a fundamental part of a manager’s job and is a vital practice when running a successful business. “Companies can consciously affect the risk of an investment by building in flexibility.” (Brealey, Myers and Marcus; 2007) Within organisations various instruments are used by financial managers to reduce risks and the losses suffered as a consequence of such risks. “Instruments devised to manage risks include Options, Futures, Forwards and Swaps. Each of these instruments provides a...
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