Maths Models - Why it all went wrong

[robert99]

Crude and unsupervised mathematical models that had no common sense, nor any basis in wider reality nor even probability have been used for over a decade by gullible banks and investment houses throughout the World to minimise risk. They in fact maximised risk and did not realise it until on verge of collapse.

BBC World Service program "Discovery" looks at the maths and physics behind the world’s banking.

To listen again:
http://www.bbc.co.uk/worldservice/programmes/discovery.shtml

"Over the last few decades the financial industry has attracted many of the brightest young scientists and mathematicians away from academia and into the offices of the investment banks and hedge funds.

Many become “Quants” – or quantitative analysts – whose job it is to build the mathematical models and software that the traders use to guide them through the markets, minimizing risk and getting a fair price.

Sue Nelson and guests Dr Paul Wilmott, Professor Gene Stanley and Professor William Perraudin discuss whether the science behind the trading was up to the job."

[ddog]

The part about "private" being better at monitoring risk would be laughable to anyone if it wasn't so tragically ignorant of reality.

Free markets are not rational actors , while no fan of regs , until Mullah Boxcar runs the world , the rest of us need someone to set the rules of the games so people on the outside would have at least a bit of confidence in those games being on the up and up.

http://www.bloomberg.com/apps/news?pid=20601087&sid=ah5qh9Up4rIg&refer=home

Oct. 23 (Bloomberg) -- Former Federal Reserve Chairman Alan Greenspan said a ``once-in-a-century credit tsunami'' has engulfed financial markets and conceded that his free-market ideology shunning regulation was flawed.

``Yes, I found a flaw,'' Greenspan said in response to a grilling from the House Committee on Oversight and Government Reform. ``That is precisely the reason I was shocked because I'd been going for 40 years or more with very considerable evidence that it was working exceptionally well.''

Greenspan said he was ``partially'' wrong in opposing regulation of derivatives and acknowledged that financial institutions didn't protect shareholders and investments as well as he expected. Forecasting is an inexact science, he said.

``If we are right 60 percent of the time in forecasting, we are doing exceptionally well; that means we are wrong 40 percent of the time,'' Greenspan said. ``Forecasting never gets to the point where it is 100 percent accurate.''

In May 2005 speech, Greenspan said that ``private regulation generally has proved far better at constraining excessive risk-taking than has government regulation.''


:lol:

[ddog]

Sorry, but "they" realized "it". Everyone that ran those things did, it served their purposes at the time to not "realize" "it" in public.

Taleb exposed those goofs for the shills and fools they are long ago.

Most figured what could happen and said, if it goes down we will have socked away our money by then.
Besides, it's worked for several years, this time couldn't be different could it?
Nah, just keep the faith and pass the junk off to those suckers over there.

The rampant criminality of lots of these firms will never be punished fully since the various gvts have to come to their aid.

When one worships as all seem to do at the feet of the next days stock price then you have to force people to do some things that they may not want to do, like tell the truth, be able to explain what they are trying to sell you and keep one set of books.

They were looking to create a market for worthless junk and they were not going to let a little thing like fraud stand in their way.



Some of them will be made an example, but that's it.

[DJofSD]

It was all a scam. From the get go.

[robert99]

I would guess that those leading the firms did not know the risks they were taking as the derivatives and models were beyond their experience and understanding. Bankers called to UK Parliament could not explain to politicians even what a Credit Default Swap was - all that technical stuff was left to the lower orders. The models took account of random events and gave the higher ups the information and false assurance that all risks had been covered so up the leverage yet again - can't lose. We bundle up the instruments and sell them on to some other client/ mug in any case. They were not about to concede to Taleb that being "fooled by randomness" was really about what they were doing - "the more money we make the more clever we are" syndrome.

If the industry still uses models, even improved ones, as seems likely then regulation will have no effect. A tick box reply to the regulator will be "we have used here the absolutely best risk models in the industry" and who is the regulator (one regulator per trader, Worldwide?) to argue against the maths/ software that "predicts all possible futures". Only if derivatives are banned completely will this issue be solved - it is beyond regulation. For every scam that gets partially controlled they have another 100 up their sleeves.

A lot of the scams were dreamt up in London but UK Government is putting absolutely no one on trial here. USA is doing a far, far better job in that regard.

[DJofSD]

After listening to the BBC program, I believe the fundamental mistake that was made using QA and the models that were employed was believing that a math model was always a reflection of reality. Math says you can travel faster than the speed of light while currently accepted physics theory says you can not.

[ddog]

This guy has been right if early on a lot of stuff that can't happen???

What say you??

To close for any length of time, a couple of days would be the end, on open i would fear a market back to 94 or lower!


Oct. 23 (Bloomberg) -- Hundreds of hedge funds will fail and policy makers may need to shut financial markets for a week or more as the crisis forces investors to dump assets, New York University Professor Nouriel Roubini said.

``We've reached a situation of sheer panic,'' Roubini, who predicted the financial crisis in 2006, told a conference of hedge-fund managers in London today. ``There will be massive dumping of assets'' and ``hundreds of hedge funds are going to go bust,'' he said.

Group of Seven policy makers have stopped short of market suspensions to stem the crisis after the U.S. pledged on Oct. 14 to invest about $125 billion in nine banks and the Federal Reserve led a global coordinated move to cut interest rates on Oct. 8. Emmanuel Roman, co-chief executive officer at GLG Partners Inc., said today that as many as 30 percent of hedge funds will close.

``Systemic risk has become bigger and bigger,'' Roubini said at the Hedge 2008 conference. ``We're seeing the beginning of a run on a big chunk of the hedge funds,'' and ``don't be surprised if policy makers need to close down markets for a week or two in coming days,'' he said.

Roubini predicted in July 2006 that the U.S. would enter an economic recession. In February this year, he forecast a ``catastrophic'' financial meltdown that central bankers would fail to prevent, leading to the bankruptcy of large banks exposed to mortgages and a ``sharp drop'' in equities.

Bear, Lehman

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=ax3ZRmJRccyo


The overseas markets are what I am really concerned about.
If those people tank , most of them don't have the underlying strength to bounce back soon.
Our exports would get killed.

[chickenhead]

Only buy something that you'd be perfectly happy to hold if the market shut down for 10 years. WB

he's been right on quite a lot too

[LottaKash]

All that math rationalizing may be true in one form or another, but for me, I believe that the All the Coincidence's that have occured so simultaneously worldwide, are much too meaningful to have occurred in such a fashion and in such a similiar way....It smacks of "Treachery & Conspiracy", plain and simple......Here comes the New World Order marching right in on us...

best,