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Risk Management

Life is full of uncertainties. A person, who is happy, healthy and alive today, does not know what will happen tomorrow. Uncertainties translate into risks.

How can Risk be managed? While risks cannot be eliminated, measures can be taken to reduce the probability and size of loss caused by risks. This process is known as risk management.

1) Risk Control: Risk Control is the method that seeks to reduce or minimise the risk of loss. It consists of risk avoidance and risk reduction.

i) Risk Avoidance: Client carries out measures, which eliminates the occurrence of the risk. Example: Parents are worried that their children may get injured as a result of cycling on the road; they can avoid the risk by ensuring that their children do not cycle on the road.

ii) Risk Reduction: Client carries out measures, which reduces the consequence or occurrence of the risk. Example: Parents find that it is not possible to prevent their children from cycling on the road in view of their obstinacy; they can impose a rule that their children wear helmets and safety pads when cycling. This will reduce the chances of their children being injured.

2) Risk Financing: Risk financing is a technique where the loss arising from the risk is absorbed or transferred to someone. There are two ways of risk financing i.e. risk retention & risk transfer.

i) Risk Retention: In risk retention method client retains the risk. Example: The risk of suffering from common cold can be retained. As a general rule, risks that should be retained are those that lead to relatively small certain losses.

ii) Risk Transfer: This is the method where the client transfers the risk to third party. Insurance is the typical example of risk transfer. Risk transfer is appropriate for low frequency and high severity risks.

Appropriate Risk Management Strategy

Frequency of Event Severity of Financial Loss Risk Management
Low High Risk Transfer
High High Risk Avoidance
Low Low Risk Retention
High Low Risk Retention
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