1.

Risk Management in Different Fields

In this section a brief description of five application fields of risk management is presented. The
key characteristics of the risks in each field are identified as well as the most common methods
used.
1.1 Finance
Financial risks are easy to handle in the respect that the losses are usually well defined with money
as the obvious performance measure, which makes risks commensurable and easy to valuate. The
performance measure is in general modelled as a one-dimensional real-valued stochastic variable
X. The risk analysis methods are based on finding a good estimate of its probability distribution in
one way or another and identifying which factors influence the distribution and how. Widely used
risk measures include distribution characteristics, such as the standard deviation (or volatility) and
low-end quantiles i.e. Value at Risk and other “worst case” measures. Another group of risk
measures is the sensitivity measures, also called “the Greeks” (because they are denoted using the
Greek alphabet) (Melnikov, 2004). They are partial derivatives of the portfolio value in respect to
some market parameter (e.g. stock market index, prize of underlying asset, volatility, interest rate,
time). The probabilities are estimated using e.g. historical data, time series or Monte Carlo
simulations.
1.2 Process Industry
In process industry, risk management has traditionally focused on considering the probability of
specific events or accidents. Analysts may be interested e.g. in the probability of the overheating
of a nuclear reactor or fire detection system dysfunction. The severities of different undesired
events are not necessarily compared. In the most important field of application, the nuclear power
industry, probabilistic safety assessments (PSA) have been conducted since the 1970’s (NEA,
1992). The PSA is a comprehensive, structured approach to identifying failure scenarios and
constituting a conceptual and mathematical tool for deriving numerical estimates of risk.
The systems in process industry are usually well defined, enabling the development of
sophisticated analysis tools. There are several methods for identifying critical events or chains of
events, e.g. failure mode and effect analysis (FMEA), Hazard and Operability study (HazOp) and
reaction matrix, to mention only a few (Andrews and Moss, 2002). Methods for assessing the
probability of an event and the effect of potential actions include fault tree and event tree analysis.
Also, several component importance measures (e.g. Birnbaum’s, Vesely-Fussell’s) can be useful
in trying to improve the reliability of a system (Andrews and Moss, 2002).
1.3 Insurance
Insurance is an old way of securing oneself against risk and is based on sharing the total losses
among a large number of policyholders. In this way everyone pays a share of the losses and no one
has to suffer unbearable loss. The philosophy assumes that the losses can be compensated with
money. Although this assumption often is justified, it may be argued whether money can cover the
damage of death or physical injuries. The prising of insurances is based on the average damage
compensations, risk margins, administration costs and contribution margins. The insurance
 brokers do risk studies to find out the risk profile of the customers in order to be able to offer right
insurances. Accident probabilities are estimated using statistical information.
1.4 Society and Foresight
Risks threatening the society in the future are often characterised by high incertitude and
indefinability. Sometimes we just do not know what we do not know. Because of the
unpredictability of the problem, often no sophisticated scientific analyses are possible. Thus, the
studies must rely on different future scenarios and expert opinions, which in general are nothing
more than good guesses or pure speculations. The risks can be tackled by conducting scenario
analyses and practising the precautionary principle.
1.5 Environmental and Health
Environmental and health risks include spreading diseases, environmental impacts of human
activities and changes in the ecosystem. Due to the characteristics of the risks, usually the whole
population of a region is exposed and thus the risk management is handled by governments and
supported by civic organisations. The analysis tools are based on attempts to model the causal
relationships of the phenomena. Examples of these are models for spreading of diseases, and
different population and biosystem models.