er25

ITS 835 Chapter 25

Uses of Efficient Frontier Analysis in Strategic Risk Management

Enterprise Risk Management

Professor Miguel Buleje

Introduction

• Strategic risk management framework

• Modern portfolio theory

• Practical application of risk measurement for insurance

• Sample case study

• Intended uses

Strategic Risk Management Framework

• Enables organization to discover risks • Across organizational boundaries

• Continuous cycle

• Considers interactions of multiple risks

• Combines risk appetite and risk tolerance

• Defines exploitable risks

Strategic Risk Management

Modern Portfolio Theory

• Mathematical model – from 1950s

• Risk is standard deviation • When portfolio is weighted combination of assets

• Rp – return of portfolio

• Ri – return of asset i

• Wi – weighting of asset i

Practical Application of Risk Measurement for Insurance

• Purpose is to optimize insurance placements • And risk limits

• Tail value at risk of loss – TVaRL • Expected value of loss, given that an event has occurred

Sample Case Study

• Three basic risks • Earthquake exposure to buildings

• Workers’ compensation insurance

• General liability insurance

Portfolio Options

Earthquake Options

Workers’ Compensation Options

General Liability Options

Combined Portfolio Options

Intended Uses

• Help large organizations • Risk management

• Portfolio management

• Insurance and non-insurance risks

• Best fit • Established ERM