'Double or Quits' Has Never Been an Advisable Trading Strategy
Why long-term issues need to be addressed to resolve short-term problems
The UK government has announced a second wave of support for the banking sector. In our view this is a path which should only be followed if there is a clear accompanying intent to resolve some of the underlying structural issues in the financial system.
Calls for 'Increased Regulation' are a common 'knee-jerk' response to financial failures; but this is not a panacea, and does not necessarily get to the real root of the problem.
In our view, two of the many measures that should be pursued are (i) A restructuring and simplification of the financial system, and (ii) Holding non executive directors more directly personally accountable for their actions, and, perhaps more importantly, their inactions.
Has The Bail-Out of the UK Banks Worked ?
A quote often attributed to Keynes should now be taken seriously
Following last month's bail-out of the UK banking system, things are not looking good - and some commentators are already saying that these measures have failed. A few have even claimed that current events herald the end of the capitalist system.
The truth is that it is too early to say, but we should not set our expectations too high.
A quote attributed to John Maynard Keynes seems especially relevant, but the death of capitalism has been somewhat exhaggerated.
The Risks are Now So Severe that Market Psychology is the Key
This would be a rather bad time for a skeleton to fall out of a banking cupboard
The risks in the financial markets are now so large that government money on its own cannot necessarily resolve them by brute force alone - the key is to manage, and even take advantage of, the psychology of the market.
In order to achieve this, we would need to be confident that the banks do not have any gruesome skeletons that could fall out of a cupboard at a particularly inconvenient moment.
Could the Fall of Lehman Brothers Unleash 'The Risk Soliton'
Why the complexity and interconnectedness of financial markets could lead to a catastrophe
The author has previously argued that the complexity of modern financial markets, together with the methods used to try to manage risk, could have created a systemically unstable structure; partly through a tangled web of complex credit derivatives.
A 'Soliton' is a non-linear wave, quite unlike the more benign waves that we are used to in every day life.
For technical reasons, the author has previously termed what might conceivably now be triggered in the financial markets, following the collapse of Lehman Brothers, as 'The Risk Soliton' - so could it now be unleashed ?
Afternote: In response to this, Prof. James Galbraith commented: “The metaphor is excellent.”
Georgia - Should this be a Wake-Up Call for Some Proper Strategic Risk Analysis ?
Why we shouldn't forget what NATO is really about.
The conflict currently underway in Georgia should act as a wake-up call to remind us what NATO is really about. As current events unfold we should do a sober strategic risk analysis.
If poor decisions are made now, the ground could be set for a serious future conflict, or fatally undermine the mission of NATO, and with it our own security.
Would Anyone Like Some Free Energy ?
Heat pumps - A simple technology - but no strategic thinking to take advantage of it
While we have all been concentrating on the problems in the financial markets - some other problems that we should be worried about in the energy markets have been unfolding in the background.
Addressing these issues requires long-term strategic thinking - now would be a good time to start putting in place some solutions. If the government resorts to a public spending economic stimulus package, then there are some energy-related technologies that should definately be progressed.
Exercising the 'Traders Option'
The problem of risk-asymmetry and risk vs. reward in the world of finance.
As current events in the financial markets unfold, there has been some criticism of the levels of remuneration paid to senior bankers and other financiers. There is a common perception of a significant imbalance between risk and reward.
Some of these arguments reminded me of a phenomenon known as the 'Trader's Option' within the banks in the City, which has often been a key factor behind the well-publicised cases of Rogue-Traders.
One answer is to reward executives according to their 'Risk-Adjusted' performance, unsuprisingly executives often tend to resist being 'risk-adjusted'. However it is worth bearing in mind that whilst 'Rogue Traders' can do quite a lot of damage, 'Rogue Senior Executives' can do considerably more !
Should Banks be Able to Use Mortgage Debt To Raise Finances From Government?
Today's morning news highlighted some further developments in the current catalogue of economic woes: Firstly, a meeting with 'the banks' at No 10. Secondly the reporting of a 'widespread' fall in house prices.
To quote 'Private Eye': are they by any chance related ?
If the government decides to provide financing to the banks in return for, or collateralised by, mortgage debt, then - under the circumstances - it should consider the appropriate pricing of risk very carefully.
The Irony of 'Moral Hazard'
'Moral Hazard' is an issue of tough market reality, not abstract morality
Under the present circumstances the issue of 'Moral Hazard', which was recently raised by the Governor of the Bank of England, is a much more important issue than some people have realized. If financial institutions are not allowed to fail then poor practices can become increasingly widespread.
In addition, if the government moves to save those institutions, which it must; then ironically, it will ultimately be punished by the market which is essentially made up of those same institutions.
The Problem With Using Credit Grades To Quantify Portfolio Credit Risk
We look at some of the issues around doing quantitative credit risk analysis based on credit 'grades', and why doing this properly is not as straightforward as it might seem.
Some of the blame for the present credit crisis has been levelled at the rating agencies. In our opinion some of this criticism is justified, and some is not. We explain some of the surrounding issues.
In our view there are some fundamental aspects of the way in which basic credit risk calculations are often done which are, to be charitable, open to question.
We Don't Have Earthquakes In Britain
A lesson about property prices, banking and credit that we should have learned from Japan
In our opinion there are parallels to be drawn, and lessons to be learnt, from the economic troubles in Japan in the quite recent past. These problems arose partly because of a bubble in property prices and problems in the banking system.
The trigger which precipitated the collapse was the Kobe earthquake - however, as a banker once pointed out to me: "We don't have earthquakes in Britain".
A Risk Manager Called 'Cassandra'
As disaster approached, where were all the risk managers ?
Recent events appear to suggest that risk management in some financial institutions has, to put it mildly, left something to be desired - so where were all the risk managers ?
Cassandra was a prophetess in ancient Troy who correctly foresaw disaster. She was then ignored and locked up, suspected of being mad. As the story unfolds, things do not go well for Cassandra, and there seem to be some lessons that perhaps we should have learned.
The Risk Implications of Complex Credit Markets
Lessons from Lloyds of London and a simple spider's web
We consider whether an increasingly complex and inter-connected financial system is necessarily a safer one, as some have claimed. We conclude that it is not, in fact the reverse is true.
This is in large part because of the way that the credit derivatives market has developed. As has been the case in the past, instruments that have been conceived as risk management tools have mutated and spun out of control.
We believe that they have introduced a new kind of hidden systemic risk into the financial system, which arises from the nature of these derivatives, together with a combination of its complexity taken together with the ways that risk is measured, managed and reported.
The Escalating Cost of Some Computer Systems
Why Thomas Moore should have been in Systems Procurement
There have recently been numerous reports of escalating costs of some computer systems projects. In the author's experience, behind almost every failed systems project there is a particular type of consultant with an impressive Powerpoint presentation.
In considering 'Project Risk', and understanding why these projects so often go wrong, a telling quote from Thomas Moore comes to mind.
Important Subtleties in Modelling Risk-Appetite and Economic Capital
The way that banks use portfolio credit risk models is often naive
As the world's banking and financial systems start to become stressed - there is sometimes a temptation to blame some of the risk models that are used by the banks. In the author's view these models are useful tools, but, particularly for credit risk, they do have a number of significant shortcomings, which need to be clearly understood by those using them.
These shortcomings are often compounded by the way in which these models are sometimes misused and misunderstood; and, of course, they cannot be used as a substitute for sound judgement. In this article the author describes some of the shortcomings that are often found in portfolio credit risk models.
Complex Credit Derivatives Should Give Us Great Cause For Concern
We have not learnt the lessons of previous derivatives disasters
As the market in credit related products, including complex credit derivatives, continues to expand; there are some import lessons from previous mistakes which do not seem to have been taken on board.
If some of the failures of the past are repeated in this context, then the consequences could be serious and widespread, the cost could dwarf some of the high profile losses that were suffered by investment banks in the past.