Risk
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Risk Anatomy™
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Real
Let’s go with it and allow that these are real risks
- Tail risks or daily risks? Depending on which, the reaction decision differs.
- Daily risks: You can reliably predict them, quantify them, average their cost and price them based on observed expected probability. This is what insurance underwriters do. But they do this across a wide portfolio of individuals who can’t reliably predict the risk. The predictability is an emergent property of the aggregation of the risks — it's a function of scale. With sufficient scale, you can make a binary decision:
- accept the risk — in other words, self-insurance — in this case, reprice your service to factor this quantifiable cost of doing business. Charge your customers the insurance premium. For them it may be a tail risk they will pay for; they may only trade once a year. For you, it’s a normal cost of business.
- reject it — if you can’t price your risk into your offering (and pass it to your clients) don’t take the risk in the first place — even if that means not doing the business at all. No risk, so no insurance. Either way, don’t buy insurance. No need for a risk manager
- Tail risks: Tail risks are, in principle, insurable. But still you’ve got some questions. How big is the risk? How bad would any risk event be? If it is containable in size given your volume of business (a toaster you use every day blows up once in five years) then take the risk. Again, it's just a cost of business. This is no different in impact to a quantified daily risk. If it is a potentially catastrophic then you still have some questions. Is the business worth it? Have you priced it correctly? How effective is your insurance? Will the risk controller get it right? Will she protect against the risk? Are you sure?