Computer Simulation in Financial Risk Management: A Guide for Business Planners and Strategists

By Roy L. Nersesian | Go to book overview

effect, reduced the scaling factor to something less than 30 percent if I use the business activity simulator as a method of generating price and volume values because there is less probability of random numbers near 1 and 100, and greater probability of random numbers around 50, being selected."

"Sounds like you're talking more to yourself than to me."

"I guess I am. But now I am in a position to forecast revenue. I draw one number from the hundred-numbered roulette wheel that represents the business activity simulator. That is the number by which I enter the two-dimensional simulators representing price and volume. Then I can spin the ten-numbered roulette wheel twice--once to obtain a value for price and once to obtain a value for volume from the price and volume ranges of values associated with the selected index value for business activity. I multiply the two and I have a forecast of revenue. I do so for twenty years, and I have your revenue projection. Then I have to take into account fixed and variable costs, taxes, finance charges, and other things. I repeat this exercise until I am in a position to judge both the reward and the risk of the company approving your proposal for funding."

"Sounds like you have a bit more work to do."

"I do, but not right now."

"You know what I sense is the risk in your work?"

"No, what?"

"I think you have a finite probability--how's that for mathematical terminology--to end up with garbage."

"Might if that is the worth of your assessments. In fact, if the quantification of risk is garbage, then the rate of return on your proposal should be thrown into the same garbage can. The quantification of risk is merely an extension of the quantification of reward. But if there is a speck of reality in your assessments of price and volume, and other details that I'll need, then I'll have a spectrum of possible outcomes for your proposal. Comparing this with the initial investment, I may be able to judge both the expected reward and the variation on that reward, which is a measure of risk. I will be able to judge the chances of your not having enough cash, both accumulated and being generated, to meet your obligations. This is the real basis for measuring the risk in your proposal. With both the reward and the risk quantified based on your assessments, I am in a position to compare your proposal with other proposals and, hopefully, add rather than detract from the decision-making process by which proposals are approved, or rejected, for funding."

"Well, I hope my assessments are the right assessments for your sake and mine."

"That's all we have to work on."


APPENDIX

Four programs will be considered in this appendix: SIMONE, SIMTWO, BUSACT, and VOLSIM. SIMONE is a program for generating one-dimensional simulators, and SIM

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Computer Simulation in Financial Risk Management: A Guide for Business Planners and Strategists
Table of contents

Table of contents

  • Title Page iii
  • Contents vii
  • Introduction ix
  • 1 - Bridging the Cultural Gap 1
  • 2 - A Businessman's Assessments 17
  • Appendix 47
  • 3 55
  • Appendix 81
  • 4 - The Loan Decision 85
  • Appendix 117
  • 5 - Self-Insuring a Loan Portfolio 123
  • Appendix 149
  • 6 - Determining the Safe Load of Debt 155
  • Appendix 193
  • 7 - Hedging and the Futures Market 199
  • Appendix 220
  • Index 223
  • About the Author 225
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