Risk Management

[Temperament]

Published January 13, 2012 Business Times

Euro crisis - the risks and opportunities

Sophisticated players will gain from the great investment opportunities offered by the crisis

By DIDIER COSSIN

THIS month marks the 10th anniversary of the birth of the euro. It will not be a peaceful anniversary despite the fact that the euro has become the most circulated currency and the second most traded currency in the world.

What if it breaks up? The three potential scenarios to the euro break-up are: peripheral countries leaving the eurozone; strong countries leaving the euro; and the general break-up of the eurozone and then perhaps the emergence of some regional currency associations

Today, many central banks and corporations are preparing for a break-up, or at the very least a transformation of the euro. Indeed, some euro-based central banks are already checking their ability to print non-euro currencies.

Ireland, for instance, has acknowledged that it is doing this and many are assessing Greece's capability to do so. The euro crisis threatens the economic health of Europe in unprecedented ways and is one of the great risks facing the world today.

All great risks lead to great opportunities. Successful investments will thus rely on three steps to master risks - pre-investment analysis or due diligence, investment structuring and pricing, and post-investment management.

Successful investments are thus sophisticated investments, as many have learnt in tough times. China, standing at the front row of overseas investments, is certainly developing its own scientific investment methods. Whether or not it will be as successful as possible will depend not on luck, but on sophistication.

Europe is vastly diverse and includes some of the most secure countries in the world - Norway, Switzerland - as well as some of the riskiest economically - Greece, Ireland, Portugal. The investments in Europe thus range from some of the safest in the world to some of the riskiest.

There is a strong behavioural bias to risk perception. Europe's presence in the media spotlight elevates it to the forefront of investor concerns. This inadvertently leads to a herd mentality that confuses the overall European environment.

Ultra-safe investments may thus not be considered as such, while some risky environments, for example in countries implicitly or explicitly pegged to the euro, may not be perceived accurately. A strong independent risk analysis is thus the first step to ensuring good investments.

While much attention is being paid to the euro and its role in the crisis, risk identification should go much further than the currency or the general economy level: The euro crisis may threaten product demand, work continuity from suppliers, specific commodity prices, employment stability and social peace.

Disruption in logistics can threaten an investment at least as much as the currency or the economic environment. A thorough identification of the risks concerned is essential to strong investments.

There are three potential scenarios to the euro break-up.

The first and most probable scenario consists of peripheral countries, such as Greece, Ireland and Portugal, leaving the eurozone because of the fiscal discipline required to remain a member.

This would actually lead to a strengthening of the euro in the long term, as the countries leaving the euro would be the weaker ones.

Indeed, the requirement for stronger fiscal discipline and the supervision of the International Monetary Fund for some countries has reinforced the view that a stronger Europe could emerge from the crisis. Part of the risk assessment then is to analyse countries that might potentially leave the euro: Italy? Spain?

The second scenario consists of strong countries leaving the euro. A disagreement between France and Germany, or simply the lack of consensus building behind the stronger economies could lead to this lower-probability scenario. The euro would then come out weaker in both the short and long term, and the European economic impact would be important in the medium to long term.

Management techniques

The third potential scenario would be the general break-up of the eurozone and then perhaps the emergence of some regional currency associations. In all three scenarios, checking the investment cash-flow safety, the risk exposures, and which exposures can be hedged, are part of the management techniques necessary to develop.

Many corporations are already committed to this work, including dollar-denominated ones, and analysing risk levels before and after risk management implementation.

A natural follow-up to the risk analysis takes us to the second step: the pricing and structuring of the investments. No investment is a good investment when it is at the wrong price. Pricing is thus essential to investment success and is often a signal of how disciplined the bidder is, itself a strong indicator of the quality of the investment strategy.

Sophisticated pricing will include both financial techniques, including methods such as option pricing or statistical analysis, as well as behavioural techniques, checking the confidence or optimistic bias of the bidder.

Last but not least, investment management is essential to management success. This is an essential step. Most acquisitions fail not because the deal did not make sense, but because it was poorly managed, sometimes poorly integrated.

The principles of successful integration and the skills required for integration management are better understood than they used to be but cases differ widely. Many investments are too quickly considered as passive investments. Investment governance plays an essential role, and too often a failing role.

In conclusion, the euro crisis will present great investment opportunities. As always in presence of risks, these opportunities will profit sophisticated players that will scientifically tune their investment methodology in:

# pre-investment analysis,

# pricing and deal structuring and

# post-investment management.

Chinese funds, companies or individuals that follow these rules will no doubt prove highly successful in this extraordinary environment.

The writer is a professor of finance and governance at IMD, Switzerland

[Jared Seah]

During the 97 Asian financial crisis, the worst affected countries are Indonesia, Thailand, and Korea.

Who would "dare invest in these countries? Imagined if you had diverted your funds to the "safer" countries like US and Europe.

Fast forward to today, who has outperformed who?

Today, the tables have turned... The Asia ex-Japan trade is getting mighty crowded... Let's see in 10 years' time

http://singaporemanofleisure.blogspot.co...-results=3

[Temperament]

By Andrew Beattie | Investopedia – Fri, Oct 28, 2011 5:26 AM SGT
•
•
There are many sector specific and even company specific risks in investing. In this article, however, we will look at some universal risks that every stock faces, regardless of its business.
Commodity Price Risk
Commodity price risk is simply the risk of a swing in commodity prices affecting the business. Companies that sell commodities benefit when prices go up, but suffer when they drop. Companies that use commodities as inputs see the opposite effect. However, even companies that have nothing to do with commodities, face commodities risk. As commodity prices climb, consumers tend to rein in spending, and this affects the whole economy, including the service economy.
Headline Risk
Headline risk is the risk that stories in the media will hurt a company's business. With the endless torrent of news washing over the world, no company is safe from headline risk. For example, news of the Fukushima nuclear crisis, in 2011, punished stocks with any related business, from uranium miners to U.S. utilities with nuclear power in their grid. One bit of bad news can lead to a market backlash against a specific company or an entire sector, often both. Larger scale bad news - such as the debt crisis in some eurozone nations in 2010 and 2011 - can punish entire economies, let alone stocks, and have a palpable effect on the global economy.
Rating Risk
Rating risk occurs whenever a business is given a number to either achieve or maintain. Every business has a very important number as far as its credit rating goes. The credit rating directly affects the price a business will pay for financing. However, publicly traded companies have another number that matters as much as, if not more than, the credit rating. That number is the analysts rating. Any changes to the analysts rating on a stock seem to have an outsized psychological impact on the market. These shifts in ratings, whether negative or positive, often cause swings far larger than is justified by the events that led the analysts to adjust their ratings.
Obsolescence Risk
Obsolescence risk is the risk that a company's business is going the way of the dinosaur. Very, very few businesses live to be 100, and none of those reach that ripe age by keeping to the same business processes they started with. The biggest obsolescence risk is that someone may find a way to make a similar product at a cheaper price. With global competition becoming increasingly technology savvy and the knowledge gap shrinking, obsolescence risk will likely increase over time.
Detection Risk
Detection risk is the risk that the auditor, compliance program, regulator or other authority will fail to find the bodies buried in the backyard until it is too late. Whether it's the company's management skimming money out of the company, improperly stated earnings or any other type of financial shenanigans, the market reckoning will come when the news surfaces. With detection risk, the damage to the company's reputation may be difficult to repair – and it's even possible that the company will never recover if the financial fraud was widespread (Enron, Bre-X, ZZZZ Best, Crazy Eddie's and so on). (For related reading, see Detecting Financial Statement Fraud.)
Legislative Risk
Legislative risk refers to the tentative relationship between government and business. Specifically, it's the risk that government actions will constrain a corporation or industry, thereby adversely affecting an investor's holdings in that company or industry. The actual risk can be realized in a number of ways - an antitrust suit, new regulations or standards, specific taxes and so on. The legislative risk varies in degree according to industry, but every industry has some.
In theory, the government acts as cartilage to keep the interests of businesses and the public from grinding on each other. The government steps in when business is endangering the public and seems unwilling to regulate itself. In practice, the government tends to over-legislate. Legislation increases the public image of the importance of the government, as well as providing the individual congressmen with publicity. These powerful incentives lead to a lot more legislative risk than is truly necessary.
Inflationary Risk and Interest Rate Risk
These two risks can operate separately or in tandem. Interest rate risk, in this context, simply refers to the problems that a rising interest rate causes for businesses that need financing. As their costs go up due to interest rates, it's harder for them to stay in business. If this climb in rates is occurring in a time of inflation, and rising rates are a common way to fight inflation, then a company could potentially see its financing costs climb as the value of the dollars it's bringing in decreases. Although this double trap is less of an issue for companies that can pass higher costs forward, inflation also has a dampening effect on the consumer. A rise in interest rates and inflation combined with a weak consumer can lead to a weaker economy, and, in some cases, stagflation.
Model Risk
Model risk is the risk that the assumptions underlying economic and business models, within the economy, are wrong. When models get out of whack, the businesses that depend on those models being right get hurt. This starts a domino effect where those companies struggle or fail, and, in turn, hurt the companies depending on them and so on. The mortgage crisis of 2008-2009 was a perfect example of what happens when models, in this case a risk exposure model, are not giving a true representation of what they are supposed to be measuring.
The Bottom Line
There is no such thing as a risk-free stock or business. Although every stock faces these universal risks and additional risks specific to their business, the rewards of investing can still far outweigh them. As an investor, the best thing you can do is to know the risks before you buy in, and perhaps keep a bottle of whiskey and a stress ball nearby during periods of market turmoil.

Unquote:
Investing is really all about RISKS. Manage the RISKS 1st, Profits shall follow "naturally".
But don't forget WB:- "Not until you can manage your emotions, you can manage your money."

[Temperament]

BUY & HOLD VERSUS BUY AND HEDGE; WHICH IS BETTER FOR RISK MANAGEMENT?
(Especially in the long run).

Can anyone in this forum tell me how to use SGX's Index or ETF options to hedge a SGX's portfolio. So that i can let my portfolio runs, runs and runs with the BULLS in the Market. i am not interested in individual stock's option. i think it is too tedious or even "complicated at times" to use them for DIY investors like me.
Or SGX does not yet have an Index or a ETF option for hedging a SGX portfolio?
All opinions are welcome.

Amendment:-
Sorry, "Or SGX does not yet have an Index or a ETF option for hedging a SGX portfolio"? should be " Or SGX does not have an Inverse Index Fund for defensive hedging of SGX portfolio"?

[Temperament]

Follow this to better your risks/return if you can.

http://www.marketwatch.com/story/10-inve...genumber=1

[shanrui_91]

using CFD to buy or sell sti etf? CFD is meant to be a hedging tool, but has since become a speculating tool. Never try before though

[Temperament]

[quote='Temperament' pid='19916' dateline='1330394548']
Follow this to better your risks/return if you can.


http://www.marketwatch.com/story/10-inve...genumber=1

[Temperament]

May you be able to make use of :-
"The Seven Immutable Laws of Investing"
See attachment below. Hope you enjoy.
[attachment=212]

[Temperament]

And i think it will works
[attachment=223]

[Temperament]

I think it's time to think of our "RISK TOLERANCE" again in the market. As the Bull seems to want to reach higher & higher again until a maybe a "Black Swan" appears.

Extract:-

RISK Tolerance Only Tells Half The Story
Discussions about risk generally revolve around two questions, and they are often used interchangeably. The first question is, "How much risk can you handle psychologically?" And the second one is, "How much risk should you take on?"

The answer to the first question is not always identical to the answer to the second, even though some financial advisors act like it is. Question one is about risk tolerance; how comfortable we are watching our investment portfolios take a hit. But, just because a financial daredevil wants to take a risk, that doesn't mean he or she should. That's where Question two comes in. Unfortunately, risk tolerance alone is often used as the key factor when determining the asset allocation for a portfolio. This article will show how a blend of three factors that should be considered when creating a long-term investment strategy: risk tolerance, the financial capacity for risk and the optimal risk.

SEE: What Is Your Risk Tolerance?

Risk Tolerance
Risk tolerance is a measure of your willingness to accept higher risk or volatility in exchange for higher potential returns. Those with high tolerance are aggressive investors, willing to accept losing their capital in search for higher returns. Those with a low tolerance, also called risk-averse, are more conservative investors who are more concerned with capital preservation. The distinction is justified only by the investor's level of comfort.
A risk-tolerant investor will pursue higher potential reward investments even when there is a greater potential for a loss. A risk-tolerant individual might not sell his stocks in a temporary market correction, while a risk averse person might panic and sell at the wrong time. On the other end, a risk-tolerant person could be seek out high-risk investments, even if they add little to his or her portfolio.

Risk tolerance is a measure of how much risk you can handle, but that is not necessarily the same as the appropriate amount of risk you should take. That brings us to the second risk assessment that should be done.

Capacity to Accept Risk
When applying the concept of risk to investing, there are really two types of risk-related attributes that are quite distinct. One is a psychological attribute known as risk tolerance which we've already discussed. The other deals with financial ability or capacity to tolerate risk.
Example - Differences in capacity to tolerate risk.

Let's consider the fate of three investors who each see a 50% drop in the value of their portfolios.
• C. Montgomery Burns: Mr. Burns is over 100 years old and has made billions as a captain of industry and atom smasher. His estimated net worth is $16.8 billion.
• Homer Simpson: Homer is in his late-30s and works as a safety inspector in Mr. Burns' nuclear plant. He has a family to support and is slowly nearing retirement. We'll be generous and give him a retirement portfolio of $100,000.
• Bart Simpson: At age 10, Bart is just beginning his investment career. He recently won a court settlement against the Krusty-O cereal company for $500, which is his current net worth.
A loss of 50% would drop Mr. Burns down to a paltry $8.4 billion. While Burns would no doubt be incensed at the loss, $8.4 billion is still enough to buy him all the ivory back-scratchers he could ever need. Bart, too, has the capacity to absorb a financial hit of 50%. He has many years to continue saving and investing before he needs to think about retirement.

Homer, however, does not have the financial capacity to tolerate risk, even though he might be more than willing to gamble it all away on pumpkin futures or some equally risky investment. He has a family to support and less than two decades left until retirement. A 50% drop in the value of his portfolio would be crippling - Doh!


Financial risk capacity can be measured in many different ways, including time horizon, liquidity, wealth and income. People who have a high liquidity requirement (they could need access to their money at any time) are constrained to how much risk they can take. They are forced to avoid investments that might be potentially lucrative because they do not offer the required liquidity. Over the long term, volatility of the markets is dampened, and returns will move toward long-term historical averages. The longer the time horizon, the greater the capacity for risk as the short-term volatility of the markets loses its significance.

Those with high income and high wealth can make higher-risk investments because they have funds coming in regardless of the market conditions. Similarly, young investors, with limited funds to invest, have the capacity for high risk, because they have longer time horizons. Any short-term drops can be waited out, lowering the chance of having to withdraw before the markets bounce back. This brings us to the third consideration, the optimal risk of the portfolio itself.

Optimal Risk
Quite different from risk tolerance and risk capacity is optimal risk. The previous types apply to the individual investor, but optimal risk applies to the construction of risk-efficient portfolios. Optimal risk of a portfolio comes from modern portfolio theory. Central to the theory is the fact that investors are trying to minimize variance (risk) at the same time that they are trying to maximize their returns.

SEE: Modern Portfolio Theory: An Overview

In this theory, there is a perfect combination of asset classes. This is the point where adding another unit of risk will provide the most marginal return. Putting it another way, it is the point you will get the most bang (return) for your buck (risk). This point is found on the curve of the efficient frontier (Figure 1).

Figure 1: Curve showing the efficient frontier. Optimal portfolios should lie somewhere on this line.
Source: Investopedia.com © 2008


The efficient frontier is determined through an optimization that analyzes various combinations of different asset classes. It is based on the historical relationship between risk and return and the correlations between the various asset classes.

SEE: Diversification: It's All About (Asset) Class

As with any calculation, the information going into the model might be imperfect, which could result in an incorrect result. Also, as it's a historically-based calculation, it will not necessarily hold in the future. There is no guarantee that the optimal mix for the past 10 years will be the same as the optimal mix for the next 10.
How Much Risk Should You Take On?
For most investors, risk tolerance, financial capacity for risk and the optimal portfolio risk will be aligned closely. In other words, they're close to each other on the efficient frontier. For some investors, however, the balance is out of alignment.

Often when investors meet with a new financial advisor, they will be asked to fill out a risk tolerance questionnaire. There are three problems with this approach:
1. The questions are all hypothetical - In real life, investors often act differently than they assume they will act when faced with adversity. Being asked how you'd feel if your portfolio dropped 30% is much different than actually watching it happen.
2. A risk-tolerance-based portfolio may not meet financial objectives - A portfolio that meets risk tolerance objectives could fail to meet financial objectives. For example, a risk-averse investor might end up with a portfolio that won't eventually be worth enough to support him or her during retirement.
3. Risk tolerance may not align with financial reality - What you can psychologically tolerate might be greater than your financial capacity to do so. For example, an investor who trades futures can psychologically handle the volatility, but a large bet that goes wrong could wipe him out financially.
First and foremost, the capacity for financial risk should dominate. An investor should never take more risk than he or she has the capacity to absorb. As an example, if you needed all your money next week, you would not invest all of it in the stock market today. If your current finances can not handle a temporary setback, then risk should be avoided. Investors should strive for the optimal risk point where there is a good trade off between risk and reward.

The Bottom Line
When developing a long-term investment strategy and strategic asset mix, there are three types of risk that should be considered: the risk tolerance of the investor, the financial capacity for risk and the optimal risk. Understanding the differences among these three helps investors develop a portfolio with the risk that is most appropriate to their circumstances.

Read more: http://www.investopedia.com/articles/fin...z2MMCRKQtc