大浩浩的笔记课堂——FRM考试学习笔记111

Topic 40 Enterprise Risk Management:Theory and Practice

1.Enterprise Risk Management(ERM) background:

Central to ERM is the idea that a decentralized approach to the evaluation of project risks focuses managers throughout the firm on the importance of properly considering the risk and return implications of projects.

2.ERM definition:

⑴It is the process of managing all a corporation´s risks within an integrated framework.

⑵All risks viewed together within a coordinated and strategic framework.It implies a holistic,″top down″ coordination of risk measurement and management.

3.ERM perspectives:

Creating shareholder value both at the macro and the micro level:

⑴at the macro level:

①content:

ERM enables senior management to quantify and manage the risk-return tradeoff.

②benefits:

A.Hedging corporate diversifiable risk improves management´s ability to invest in value-creating projects in a timely manner.

B.Improving the firm´s ability to carry out the strategic plan.

⑵at the micro level:

①content:

Operating managers and employees can evaluate risk-return tradeoff.

②benefits:

It requires decentralizing risk management to ensure that each projects total risk is adequately assessed by project planners during the initial evaluation of the project.

4.Determining the right amount of risk:

The conceptual framework of ERM can be summarized:

⑴Determine the firm´s acceptable level of risk:

Management begins by determining the firm´s risk appetite,a key part of which is choosing the probability of financial distress that is expected to maximize firm value.

⑵Based on the firm´s target debt rating,estimate the capital required to support the current level of risk in the firm´s operations:

Given the firm´s target rating,management estimates the amount of capital.It requires to support the risk of its operations.

⑶Determine the ideal mix of capital and risk,that will achieve the appropriate debt rating:

Management determine the optimal combination of capital and risk that is expected to yield its target rating.

⑷Given individual managers the information and the incentive they need to make decisions appropriate to maintain the risk/capital trade-off:

Top management decentralizes the risk-capital trade-off with the help of a capital allocation and performance evaluation system that motivates managers throughout the organization to make investment and operating decisions that optimize this trade-off.

5.Implementing ERM:

⑴the implementation steps of ERM:

①To determine firm´s risk appetite.

②To identify the risks to which the company is exposed:

A.To develop a consistent method to evaluate the firm´s exposure to the identified risks.

B.The process of risk identification——top-down＆bottom up

③To estimate capital requirement based on the firm´s target debt rating.

④To determine mix of capital and risk.

⑤To decentralize:

Give individual managers the information and the incentive they need to make decisions appropriate to maintain the risk/capital tradeoff.

⑵economic value vs. accounting performance:

①Which one is importance?

A.A firm should base its decision on the objective of the ERM program.

B.management is concerned with both economic value and accounting performance

②the value estimating:

A company´s value is best estimated as the present value of its expected future cash flows.

③the accounting problems:

A company that implements ERM could end up with higher earnings volatility than a comparable firm does not.

·特别注意！

·The derivatives might reduce the volatility of firm value but increase the volatility of accounting earnings.

⑶aggregating risks:

①risk distributions:

A.market risk→"normal" or symmetric distribution

B.credit risk→asymmetric distribution,fat tails

C.operational risk→asymmetric distribution,fat tails

②When aggregating the risks,one must also estimate their correlations,such correlations depend to some extent on the actions of the company.

③Reducing diversifiable risk creates value because reducing diversifiable risk mitigates the under investment problem that can occur when investors have imperfect information about the firm´s projects.

·特别注意！

·Firm-wide VaR:

*Firms that use VaR to assess potential loss amounts will have multiple VaR measures to manage.

*Market risk,credit risk and operational risk will each produce its own VaR measures.

*Due to diversification effects,firm-wide VaR will be less than the sum of the VaRs form each risk category.

⑷measuring risks;

⑸using economic capital to make decision(capital allocation):

①economic capital:

It is ″the amount of equity capital required for the company to achieve its optimal rating″.

②firm goal:

A.A firm that attempts to maximize shareholder value(shareholder wealth) may have an amount of capital that substantially exceeds its regulatory requirements.

B.If a firm accumulates excess economic capital that is not employed productively,investors will reduce the value of the firm.

③regulatory capital:

Because regulatory capital requirements are typically based on accounting capital,rather than economic capital,a firm with economic values in excess of account values may be penalized,and may have to maintain higher amounts in liquid assets to cover the short fall.

⑹the governance of ERM:

①ERM does not eliminate risk,extreme negative outcomes are still a possibility,and the effectiveness of ERM can not be judged on whether such outcomes materialize.

②The goal of ERM can best be described as maximizing firm value by optimizing the total risk of the firmby trading off the expected returns from taking risks with the expected costs of financial distress.

大浩浩的笔记课堂之FRM考试学习笔记合集