Models - Part 2

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

Sunny Marche is a colleague of mine at Dalhousie, as well as one of the Associates at RSD Solutions.  Dr. Marche is an incredibly thoughtful person, and combined with his interest in knowledge development and his breath of academic interests, it makes for a powerful intellect.

 

Sunny was explaining some of his work on models in database management, when he said something that embarrassingly I had not considered before.  Namely, he said that models are devices for “hiding things”.  In other words, models leave out details that are not believed to be germane to the problem at hand.  In reading this here, it of course seems obvious, but does the implication?

 

It is generally acknowledged that we live in a complex world.  (I will avoid the easy reference to my upcoming book on complexity theory).  A complex world by definition (and by fact) means that you cannot separate the parts from the whole.  In a complex world you need “systems thinking”.  Studying the parts does not help you find solutions, and indeed is probably counterproductive.

 

In that context, thinking about models as devices “that leave parts out” seems to be a stupid thing to do.  The implications of leaving things out are that you are ignoring the systems characteristic of all aspects of business.

 

What do the models that you use leave out?  Is risk management immune from systems thinking, and thus it is ok to leave stuff out?  I think not.

Great Versus Relevant

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

As a university professor I always start to get excited again this time of year as fresh new batches of students are about to arrive on campus.  Another cohort of great minds to fill with relevant knowledge – or so we tell ourselves as we start preparing our class syllabus.

 

One of the strange characteristics that we note – or at least in business schools, although I suspect it carries over to other faculties as well – is that the great students on average underperform the average student later in life in their careers.  Of course there are always exceptions to this – some great students have outstanding careers.  Typically however the most gifted academically under-perform their more mediocre peers.

 

There are a couple of possible explanations for this.  The first and most obvious is that B-Schools teach and measure on all the wrong topics and metrics.   I believe this is true and have a forthcoming academic paper titled “Business School Myths” that outlines my arguments why this is so. 

 

A second and related explanation is that business schools teach great knowledge, not relevant knowledge.  Compounding this, students from the first days of kindergarten are rewarded for focusing on great knowledge not relevant knowledge.  (“Great” meaning both the great ideas –dead poets etc. – as well as the great volume of material that needs to be covered to satisfy the standard curriculum which is designed by a committee – insert your own design by committee joke here.)  What is “great” in terms of ideas is rarely questioned, other than by the kindergarten and primary student, and they are told that they are too young to understand.  (Anyone who needs to relearn how perceptive kids are needs to read the comic strip Frazz.)  For instance we continue to teach Shakespeare without question.  I have nothing against Shakespeare (in fact I rather like old Will’s writing and themes), but should we unquestionably continue to teach it simply because that it was taught last year?  Have there not been any relevant (more relevant) plays or stories written since?

 

It seems to me that risk management is also trending towards “great” versus “relevant”.  Regulators, shareholders, rating agencies, Boards, and others all want to see evidence of “great” risk management in place.  Here too “great” has two meanings; (1) what is considered the orthodox risk metrics and (2) a lot of it.  But does anyone ask if the risk management is relevant?

 

Getting back to the point about great students underperforming on average the more mediocre students, it is interesting to ask the question; “Does great risk management, on average, underperform mediocre risk management?”  If “great” means traditional and volume, and not relevant, then I believe that “great” risk management will indeed underperform mediocre but relevant risk management.

Bittersweet

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

My previous blog talked about the Graduation ceremony for the Dalhousie MBA class which I am one of the Professors for.  The ceremony was for the first graduating class of the newly designed Corporate Residency MBA, which is a one of a kind program that I am especially proud to be a part of.

 

The students who graduated basically all took a huge gamble on entering into a very innovative program.  As with anything new and in uncharted territory, the downside risk was huge, while the upside risk was also great.  Fortunately the upside risk prevailed and I believe – based on my experience with several other MBA programs over the years, and with my work with financial institutions on their intake programs – that we have one of the best MBA programs in North America.

 

The graduation ceremony was particularly bittersweet for me.  I was thrilled to watch the students walk across the stage and be awarded their degree.  I am also very excited thinking about the wonderful careers that they will have.  They are an exceptionally talented bunch – the best MBA cohort I have been associated with in nearly 20 years of graduate level teaching that I have done.  I was also slightly sad to see them go.  I know I will keep in touch with many of them, but not having the opportunity to daily debate topics with them will be missed.

 

Risk management should also be a bittersweet exercise.  Risk managers should see the upside in every situation and not just dwell on the downside.  Risk management is a two-way street, although too often we focus on trying to turn it into a one-way street to ruin.

 

Meanwhile I have a short period of time to rest up.  The next cohort will be here in just over a month.  I can barely wait to see how they will match up and am tremendously excited about the thrills of working with them.

Graduation

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

Recently the convocation for the MBA program at Dalhousie University where I am an Associate Professor of Finance was held.  Graduation is always a big day; as students celebrate their success at getting through the program and excitedly start their working careers.

 

Convocations also bring about graduation speeches with their usual message about how graduation is the end of one chapter of one’s life and the beginning of a new chapter.  There is also the usual talk about how one should never stop learning.  Fortunately for the students, but unfortunately for my blog, our speaker yesterday at Dalhousie (Dr. Jack Duffy) said none of those things which I plan to pick up on in this blog.  (For those interested, Dr. Duffy’s excellent and amusing (and bless his soul short) talk is available on the Dalhousie website.  But back to my blog …

 

Just like as in the usual graduation speeches, those of us in the risk management profession need to realize that we can never stop learning and each new debacle (and there will be new debacles) will begin a new chapter in the life of the risk manager.  But I wonder how many of us remember to heed these truisms (just as Dr. Duffy speculated that one would forget his speech.)  Getting a risk management degree – or certification – is just the beginning and not the end of risk learning. 

 

Managing through Complexity. A Free Dalhousie University "Lunch and Learn" with Rick Nason in Ottawa, Toronto

by Michael Arbow, MBA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

 

This week as part of a cross Canada out reach, Dalhousie University's Faculty of Management is offering an Executive Leadership Series of talks in Ottawa and Toronto.  

 

This week, Rick Nason, Associate Professor in Finance will be hosting two free lunch and learn events looking at business risk but through the thought processes of science.  This interesting mash-up of disciplines recently gained Mr. Nason a featured article in the Risk Management Association Journal - the prestigious and thought leading journal in the area of risk management and strategy.

Seminar dates and locations:

• Wednesday, April 13– Ottawa at the RBC Royal Bank, 90 Sparks Street, 2nd Floor
  
•  Thursday, April 14 – Toronto at the RBC Royal Bank, 20 King St W, 10th Floor

We hope you can make it and remember – it’s free!

 

For more information and registration for this free event and the series follow the link:

 http://bit.ly/fVbTVG

Free Lunch Seminar: Rick Nason to speak on “Managing through Complexity”

by Michael Arbow, MBA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

 

Over the next few months, Dalhousie University's Faculty of Management is offering an Executive Leadership Series in various cities across Canada.  These “lunch and learn” seminars will deal with subjects ranging from social media to creating value-added employees to risk management. 

 

This month, Rick Nason, Associate Professor in Finance will be hosting three free lunch and learn events looking at business risk but through the thought processes of science.  This interesting mash-up of disciplines recently gained Mr. Nason a featured article in the Risk Management Association Journal - the prestigious and thought leading journal in the area of risk management and strategy.

Seminar dates and locations:

• Thursday, April 14 – Toronto at the RBC Royal Bank, 20 King St W, 10th Floor
• Thursday, April 7 – Halifax at the Kenneth C. Rowe Building
• Wednesday, April 13– Ottawa at the RBC Royal Bank, 90 Sparks Street, 2nd Floor

We hope you can make it and remember – it’s free!

 

For more information and registration for this free event and the series follow the link:

 http://bit.ly/fVbTVG

VAR Trend is Your Friend (or at least a good early indicator)

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.rsdsolutions.com

info@rsdsolutions.com 

 

For some reasons a lot of stuff has come across my desk recently that is bashing Value at Risk (VAR) and saying that it is a symbol for all that is bad in risk modeling.  I think it is time for a time-out.  As risk specialists, we also have to be optimists and look for the good in everything. 

One thing that I think that VAR is good at is indicating change.  I too recognize the limitations of VAR.  (One of the reasons so much is crossing my desk is that I teach several different courses in financial risk and also in Enterprise Risk Management.)  The limitations have been well documented. 

What is less well recognized is that VAR is still a very useful tool.  One of the ways to use VAR that helps to maximize its usefulness while minimize its weaknesses is to follow the trend of how the company (or project) VAR is tracking.  Looking at the trend, rather than the absolute number, can help you to ascertain when a shift in risk exposure has occurred.  It will also help to base-line out the traditional faults such as the use of parametric statistics or the use of the incorrect distribution. 

Tracking the trend of VAR is not a perfect remedy.  Watching the trend of a bad and inaccurate model, will still give useless and potentially misleading results.  However if a decent VAR model is constructed, and if more attention is paid to the trend than the absolute VAR number, then more useful (and accurate) information will be generated.

The Flawed Risk Question

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.rsdsolutions.com

info@rsdsolutions.com

 

I am currently teaching an Enterprise Risk Management course to senior people in the MBA Financial Services program at Dalhousie.  I recently got back one of the first sets of assignments and was marking them on a plane ride to visit one of RSD’s clients. 

The marking was going quite well until I came to one student’s answer that gave me pause.  The student started their response to the question by stating – “This question is flawed.”  Interesting I thought.  All of the other students had answered the question without any such trouble.  The point is that the student was correct.  I had asked a quite reasonable academic question, but it was flawed in that the question made some implicit assumptions.  It was flawed in that although it was a good question, but it was not the right question.  It was not an impactful question.  It was not a question that would challenge to the proper degree.  It was not a question that would lead to the core of the issue.  The question was flawed. 

How often do we ask a flawed question?  In risk how often do we ask a flawed question that produces correct, but flawed answers as a result of the flaw in the question? 

The student got a good mark for their response.