FZ 3031 RISK MANAGEMENT – LAF QUIZ

NAME: José Mario Flores Beltrán Registration #: A01740889

DATE: August 18th, 2022

INSTRUCTIONS: Please read “Risk management failures: What are they and when do they
happen”, written by René Stulz, Octobre 2008 and answer the questions below.

Please be concise yet complete. You may answer in English or Spanish, whatever you prefer.

If there is something you don´t understand, make a reasonable assumption, and answer the
question according to the assumption you made. Make sure to state the assumption explicitly
below.

1. According to the author, to be able to define a “risk management failure”, we must

first determine the role of the risk manager. According to the author, what is the role of
the Risk Manager in a typical company or organization?

Answer:

The first thing we need to set clear is that Risk Managers do not set the strategies, their role is
limited to only estimate whether an action is profitable for the firm given its risk appetite
because they can evaluate how much capital is required to support that action, or in simple
terms, risk management does not prevent losses.

2. When a Financial Institution incurs a big loss, does this imply that risk
management failed? Why or why not?

Answer:
As set before that does not imply that it failed, since they put on the table the possible outcomes
and the institution or the ones who made the choice decided to take the risk, sometimes even
ignoring the risk manager’s advice, justifying their decisions with facing possible good
opportunities.

3. The author identifies six (6) types of “risk management failures.” Provide a brief
description of each of these failures and give an example of each of them.

1. “Mismeasurement of known risks:”

Answer:
This can be described as not giving importance to certain risks that whether are too small or not
known enough to be considered risks, or well not having the right measurements to those risks,
mostly the ones related to correlation.
One example that can be set was the pandemic where there was not a way to prove it would
have an impact because we didn’t know about the spreading and effects of a pandemic in the
modern economy.

2. “Failure to take risks into account:”

Answer:
One of the benefits of implementing properly firm-wide risk management is that all risks are
accounted for, however sometimes the information is not enough for accounting or not taken as
important for account, like when a company feels a certain event will not affect their share
prices, but when a country like China says something about a company it can really affect their
shares.

3. “Failure in communicating the risks to top management:”

Answer:
As said before, the problem is that Risk Management departments usually don’t do the risk
decisions, and work more as an advisor or complementary tool for the finance area or the ones
who make the decision, so sometimes due to the technical language or outputs, there can be a
miscommunication that will eventually lead to a bigger risk or great loss. An example that
comes to my mind is certain companies that grow so big that the communication becomes more
problematic from one area to other.

4. “Failure in monitoring risks:”

Answer:
The fact that taking risks requires to keep checking the investments, but certain assets tend to
change quicker than the monitoring periods which can end in bad results, for example the
bitcoin, being a quite volatile asset, which can incur in a loss sooner than what we can foresee.

5. “Failure in managing risks:”

Answer:
This part talks about how certain risks that management would consider important can be left
unmeasured and ignored, and then become a danger since they do not know how big that can be
just like in the 2008 crisis.

6. “Failure to use appropriate risk metrics:”

Answer:

There are different management risk tools that can be used by different organizations, however
most of them are for a sort of term and they never teach or help the companies in what to do
during a crisis, just like was being said with the covid pandemic, or well the 2008 crisis.