An Alternative Definition of Corporate Risk: Empirical Study Across the European Stock Market

Traditionally corporate risk is much closed to financial risk definition. And the financial risk definition has been explained using the volatility concept. There are very important articles focused in the relation between risk and volatility, but the corporate risk definition is not strong defined in them.

Risk corporate includes financial risk but there are other variables that could produce an internal crisis in a company. The agents in the stock markets recognize not only financial inputs. There is news from different sources that could modify the prices in the market. The aim of this paper is not to select this news or this variables, the aim is to define a measure of corporate risk, which is implicit in the decisions of financial investor or shareholders, but is not explicited in their explanations about their behavior

The identification between risk and volatility is a possible solution to deal with financial risk but don’t solve the problem to design a risk corporate indicator. From years and years financial agents has to use the standard deviation and the variance as the unique way to quantify risk using statistic concepts.

When we use the term “price volatility” we observe all the movements in prices, increase movements and decrease movements. However, a rational investor that manages an equity shares portfolio only has panic to decrease movements in prices. The increase movement in prices is not a bad sensation, is the best scenario that the shareholder can expect.

When we try to evaluate corporate risk, the financial risk approach is not enough to find a correct definition.

(2)   Objectives

The main objectives of this paper are the following:

-          To show that variance and standard deviation could be a good indicator of volatility but not a good indicator of corporate risk.

-          To use the new statistical tools in order to better define corporate risk.

-          To develop a proposal based on the obtained results.

(3)   Data/Methods

Our empirical study apply the statistic indicator of semi-negative deviation using absolute value function over the  European Stock Market Indicators as Footsie in Great Britain, DAX in Germany, CAC in France, Ibex-35 in Spain,  and also Eurostoxx-50. during the first semester of 2008. The temporal series of prices of each index are presented comparing the results after the calculus of variance, standard-deviation and semi-negative deviation.

(4)   Results / expected results

We expect to show a risk-axis where each index place a specific localization. Comparing this axis with the average market-price during the period and with the average profitability we can find a very powerful map to manage financial equities portfolio that allow us to define correctly corporate risk.

(5)   Conclusions To demonstrate that the use of the statistic variance could be substitute by the use of an alternative semi-negative deviation to identify equity markets with different risk levels. That allows us to establish corporate risk categories and to place in them the greatest European stock markets.