Risk Aversion

There is a lot of talk about "risk aversion" in the financial markets these
days. It appears that when the markets go into free fall, risk aversion is
associated with the cause. Take this article as an example:

"SYDNEY, Jan 21 (Reuters) - The Australian dollar was on the defensive on
Wednesday after sliding to six-week lows as mounting concerns about the
global banking system hammered equities and drove extreme risk aversion..."

The following excerpt from Wikipedia explains what all this talk is about.

Risk aversion is a concept in economics, finance, and psychology related to
the behaviour of consumers and investors under uncertainty. Risk aversion is
the reluctance of a person to accept a bargain with an uncertain payoff
rather than another bargain with a more certain, but possibly lower,
expected payoff.

The inverse of a person's risk aversion is sometimes called their risk
tolerance (for a more general discussion of the concept, see risk).

Example:

A person is given the choice between two scenarios, one certain and one not.
In the certain scenario, the person receives $50. In the uncertain scenario,
a coin is flipped to decide whether the person receives $100 or nothing. The
expected payoff for both scenarios is $50, meaning that an individual who
was insensitive to risk would not care whether they took the certain payment
or the gamble. However, individuals may have different risk attitudes. A
person is:

• risk-averse if he or she would accept a payoff of less than $50 (for
  example, $40), with no uncertainty, rather than taking the gamble and
  possibly receiving nothing.
• risk neutral if he or she is indifferent between the bet and a certain
  $50 payment.
  
• risk-seeking (or risk-loving) if the guaranteed payment must be more
  than $50 (for example, $60) to induce him or her to take the certain option,
  rather than taking the gamble and possibly winning $100.

The average payoff of the gamble, known as its expected value, is $50. The
dollar amount that the individual would accept instead of the bet is called
the certainty equivalent, and the difference between the certainty
equivalent and the expected value is called the risk premium.