Financial Risk

Reviewed by Anjaneyulu | Updated on Aug 27, 2020

Introduction

Financial risk is the risk that a business will not be able to meet its debt repayment obligations, which in turn could mean that the potential investors will lose the money invested in the company. The more debt a firm has, the higher the potential financial risk.

Anyone who thinks about investing will be warned about different types of financial risks such as currency risk and methods to mitigate them, such as hedging. Financial risk is something that businesses are exposed to, and shareholders and potential shareholders must be aware of this.

Types

Financial risk is a type of threat that can result in a loss of capital to stakeholders. Financial risks are everywhere and impact us in several different sizes. One should be aware of all the financial risks and understanding the threats and protecting yourself won't remove the risk, but it will minimize their harm.

  • Companies are also faced with the possibility of default on debt they undertake but may also experience failure in an undertaking which causes a financial burden on the company.

  • Individuals face financial risk when making decisions that could jeopardize their income or ability to pay a debt they assumed.

  • The financial risk for governments means that they can not control monetary policy and default on bonds or other debt issues.

  • Financial markets face financial risk as a result of various macroeconomic forces, market interest rate changes, and the possibility of sectors or large corporations defaulting.

Tools

Various resources are available to individuals, companies, and governments that allow them to determine how much financial risk they take on. The most popular approaches used by investment professionals to evaluate long-term investment-related risks or the stock market as a whole include fundamental analysis, technical analysis, and quantitative analysis.

  • Fundamental analysis is the method of calculating the intrinsic value of a company by analyzing all aspects of the underlying business, including the assets of the firm and its earnings.

  • Technical analysis is the process of statistical evaluation of securities and examines historical returns, the volume of trade, share prices, and other performance data.

  • Quantitative analysis is an assessment of a company's historical performance using specific calculations of the financial ratio.