Tuesday January 31. Is risk ever to remain a subjective phantom, or can it be meaningfully quantified?

Tuesday January 31. Is risk ever to remain a subjective phantom, or can it be meaningfully quantified? Let’s try to deal with it conceptually first, then try to quantify it second, OK? Types of Investment Risk:

1. Asset-backed risk: Risk that the changes in one or more assets that support an asset-backed security will significantly impact the value of the supported security.

2. Credit risk: Credit risk, also called default risk, is the risk associated with a borrower going into default (not making payments as promised). Investor losses include lost principal and interest, decreased cash flow, and increased collection costs. An investor can also assume credit risk through direct or indirect use of leverage.

3. Foreign investment risk: Risk of rapid and extreme changes in value due to: smaller markets; differing accounting, reporting, or auditing standards; nationalization, expropriation or confiscatory taxation; economic conflict; or political or diplomatic changes. Valuation, liquidity, and regulatory issues may also add to foreign investment risk.

4. Liquidity risk: This is the risk that a given security or asset cannot be traded quickly enough in the market to prevent a loss (or make the required profit). There are two types of liquidity risk:
Asset liquidity - An asset cannot be sold due to lack of liquidity in the market - essentially a sub-set of market risk. This can be accounted for by:

• Widening bid-offer spread
• Making explicit liquidity reserves
• Lengthening holding period for VaR calculations

Funding liquidity - Risk that liabilities:

• Cannot be met when they fall due
• Can only be met at an uneconomic price
• Can be name-specific or systemic

5. Market risk: This is the risk that the value of a portfolio, either an investment portfolio or a trading portfolio, will decrease due to the change in market risk factors. The four standard market risk factors are stock prices, interest rates, foreign exchange rates, and commodity prices:
Equity risk is the risk that stock prices in general (not related to a particular company or industry) or the implied volatility will change.

• Interest rate risk is the risk that interest rates or the implied volatility will change.
• Currency risk is the risk that foreign exchange rates or the implied volatility will change, which affects, for example, the value of an asset held in that currency.
• Commodity risk is the risk that commodity prices (e.g. corn, copper, crude oil) or implied volatility will change. Operational risk

Plus Operational risk, Reputational risk, Legal risk, Information Technology, and Model risk per Wikipedia. I would hasten to add let’s not forget Stupidity Risk!