how financial risks impact individuals
individuals can face financial risk when they make poor decisions this hazard can have wide ranging causes from taking an unnecessary day off from work to investing in highly speculative investments every undertaking has exposure to pure risk some dangers can t be controlled but some undertakings are committed without fully realizing the consequences liquidity risk comes in two forms for investors to fear the first involves securities and assets that can t be purchased or sold quickly enough to cut losses in a volatile market this is known as market liquidity risk and it s a situation where there are few buyers but many sellers another risk is funding or cash flow liquidity risk funding liquidity risk is the possibility that a corporation won t have the capital to pay its debt forcing it to default and harming stakeholders speculative risk is one where a profit or gain has an uncertain chance of success perhaps the investor didn t conduct proper research before investing reached too far for gains or invested too large a portion of their net worth into a single investment investors holding foreign currencies are exposed to currency risk because factors such as interest rate changes and monetary policy changes can alter the calculated worth or the value of their money changes in prices because of market differences political changes natural calamities diplomatic changes or economic conflicts can cause volatile foreign investment conditions that might expose businesses and individuals to foreign investment risk pros and cons of financial riskfinancial risk isn t inherently good or bad in itself but it exists to different degrees risk has a negative connotation by its very nature and financial risk is no exception a risk can spread from one business to affect an entire sector market or even the world risk can stem from uncontrollable outside sources or forces and it s often difficult to overcome understanding the possibility of financial risk can lead to better more informed business or investment decisions assessing the degree of financial risk associated with a security or asset helps determine or set that investment s value risk is the flip side of the reward it can be argued that no progress or growth can occur in a business or a portfolio without assuming some degree of risk financial risk usually can t be controlled but exposure to it can be limited or managed encourages more informed decisionshelps assess value risk reward ratio can be identified using analysis toolscan arise from uncontrollable or unpredictable outside forcesrisks can be difficult to overcomeability to spread and affect entire sectors or marketstools to control financial riskmany tools are available to individuals businesses and governments that allow them to calculate the amount of financial risk they re taking on the most common methods that investment professionals use to analyze risks associated with long term investments or the stock market as a whole include the debt to capital ratio measures the proportion of debt used given the total capital structure of the company when evaluating a business a high proportion of debt indicates a risky investment the capital expenditure ratio divides cash flow from operations by capital expenditures to see how much money a company will have left to keep the business running after it services its debt professional money managers traders individual investors and corporate investment officers use hedging techniques to reduce their exposure to various risks hedging against investment risk means strategically using instruments such as options contracts to offset the chance of any adverse price movements you hedge one investment by making another statistical and numerical analysis are great tools for identifying potential risk but prior financial history isn t indicative of a company s future performance make sure to analyze trends over a long period to better understand whether fluctuations or the lack of them are progress toward a financial goal or they result from inconsistent operating activity real world example of financial riskbloomberg and other financial commentators point to the june 2018 closure of retailer toys r us as proof of the immense financial risk associated with debt heavy buyouts and capital structures that inherently heighten the risk for creditors and investors 3toys r us announced that it had voluntarily filed for chapter 11 bankruptcy in september 2017 the company s chair and ceo said in a statement released with the announcement that the company was working with debtholders and other creditors to restructure the 5 billion of long term debt on its balance sheet 4as reported in an article by cnn money much of this financial risk reportedly stemmed from a 2005 us 6 6 billion leveraged buyout lbo of toys r us by mammoth investment firms bain capital kkr co and vornado realty trust 5 the purchase took the company private and left it with 5 3 billion in debt secured by its assets it never really recovered saddled as it was by 400 million worth of interest payments annually 6the morgan led syndicate commitment didn t work toys r us announced in march 2018 after a disappointing holiday season that it would be liquidating all of its 735 u s locations to offset the strain of dwindling revenue and cash amid looming financial obligations 7 reports also noted that toys r us was having difficulty selling many of the properties this is an example of the liquidity risk that can be associated with real estate the hedge funds and toys r us debt holders solus alternative asset management and angelo gordon took control of the bankrupt company in november 2018 and talked about reviving the chain the associated press reported in february 2019 that tru kids brands a new company staffed with ex toys r us execs would relaunch the brand with new stores later that year 8in late 2019 tru kids brands opened two new stores in late 2019 one in paramus new jersey and the other in houston texas 9 macy s partnered with whp global to bring back the toys r us brand and announced in 2022 that it planned to bring toys r us to all its stores 10