da Vinci

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

Leonardo da Vinci was perhaps the last of the polymaths - a man of many intellectual talents in a wide diversity of fields.  It is interesting to think what he would have thought of risk management as a profession if he were alive today.  It is perhaps even more interesting to ponder what the risk management profession would have thought of him.  He was very good in a wide variety of areas, but it is difficult to say exactly what he was a specific expert in.  da Vinci was a true polymath and a true lateral thinker.  It is an interesting thought experiment to ask how many risk departments would have hired him – after all, he did not have a degree in financial engineering.

Hippocratic Oath

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

While doing research for my forthcoming book on complexity I came across this modern translation of the Hippocratic Oath.  This of course is the famous oath that medical doctors take when they start their practice.  I thought it was interesting for this risk blog.  Before I explain why, simply read through the oath that I have clipped verbatim from the Wikipedia page on Hippocratic Oath.

A widely used modern version of the traditional oath was penned in 1964 by Dr. Louis Lasagna, former Principal of the Sackler School of Graduate Biomedical Sciences and Academic Dean of the School of Medicine at Tufts University:^[8] 

I swear to fulfill, to the best of my ability and judgment, this covenant:

I will respect the hard-won scientific gains of those physicians in whose steps I walk, and gladly share such knowledge as is mine with those who are to follow.

I will apply, for the benefit of the sick, all measures [that] are required, avoiding those twin traps of overtreatment and therapeutic nihilism.

I will remember that there is art to medicine as well as science, and that warmth, sympathy, and understanding may outweigh the surgeon's knife or the chemist's drug.

I will not be ashamed to say "I know not", nor will I fail to call in my colleagues when the skills of another are needed for a patient's recovery.

I will respect the privacy of my patients, for their problems are not disclosed to me that the world may know. Most especially must I tread with care in matters of life and death. If it is given to me to save a life, all thanks. But it may also be within my power to take a life; this awesome responsibility must be faced with great humbleness and awareness of my own frailty. Above all, I must not play at God.

I will remember that I do not treat a fever chart, a cancerous growth, but a sick human being, whose illness may affect the person's family and economic stability. My responsibility includes these related problems, if I am to care adequately for the sick.

I will prevent disease whenever I can, for prevention is preferable to cure.

I will remember that I remain a member of society with special obligations to all my fellow human beings, those sound of mind and body as well as the infirm.

If I do not violate this oath, may I enjoy life and art, respected while I live and remembered with affection thereafter. May I always act so as to preserve the finest 

 

Filter

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

I was at a meeting last week and someone tried to insult me by saying “there you go, talking without your filter again”.  They may have meant it as an insult, but I take it as a compliment.  They implied that I was being politically uncouth by saying what I thought and believed, rather than by saying what everyone wanted to hear. 

 

How effective are filters in your risk department?  How often do they get changed?  How clogged are they?  Do you need them?  Do you want them?  Do they actually help?  Do they actually help in the long term?

System D Economics

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.,

www.RSDsolutions.com

info@RSDsolutions.com

 

 

Spending a yucky Saturday afternoon catching up on last month’s Wired (just got this month’s issue in the mail so I need to clear out last month’s).  Wired is one of my favorite magazines and I always seem to find something useful in it.

 

In the January 2012 issue however I was initially ticked off by one article titled Slumdog Economist, which highlights some of the work of economist Robert Neuwirth who studies the underground economy.  I reason I was ticked off is that I always wanted to study the marketing habits of street vendors.  He stole my idea!  How dare he!?

 

Kidding aside, it is a great article that looks at the underground economy of street vendors or those that work under the table.  Neuwirth calls this the System D economy.  Some fascinating ideas and facts in the article and I highly recommend that you take a moment to take a glance at it.

 

One of the surprising facts that comes up in the article is that currently 50% of workers globally are part of System D and that is projected to rise to 2/3rds by 2020.  Take that you global multinationals!

 

Neuwirth explains many of the reasons for this surprisingly rapid rise of System D, but the most telling response to why the rapid growth is in this statement; “Because it’s based purely on unfettered entrepreneurialism.  Law-abiding companies in the developing world often have to work through all sorts of red tape and corruption.  The System D enterprises avoid all that.”

 

In my work as a consultant with many corporations what I see is a lot of red tape and corruption.  True, the corruption may be slightly different than the type of corruption that Neuwirth is implying, but in my scheme of things, political interference is still corruption, and red tape is red tape.

 

Risk departments (all departments) should be allowed to do their work in the absence of red tape and corruption.  That may be an obvious statement.  What might not be so obvious is that risk departments should also work on a principle of pure unfettered entrepreneurialism.  Is yours?

Victory

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDSolutions.com

 

The key to success we are often told is to have a clear goal.  To be able to clearly and unambiguously define what success is.  What is success – or victory – for your risk department?  Can you explain it to your mother, your boss, your Board?

 

How will you know when the battle for risk is won?  Is it when downside risk has been eliminated?  (I hope not.)  Is it when all upside risk has been exploited?  (I hope not.) 

 

Is victory when the risk department gets a huge bonus pool? (I hope so.)  However how can this happen if you can’t define what victory is?

Absence of Worry

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDSolutions.com

 

This time of year everyone talks and thinks about stress.  We hear reports of how suicides are up and the theories that in part they are caused by the stress of the holidays.  We meet people who are rushing too and fro, stressed out about getting the right gifts, the coming credit card bill, about getting a good deal on the Boxing Day sales.

 

As a risk manager your job is to think about the stresses, both present and real, perceived but false, as well as future and potential, that affect the operations of a company or institution.  To be sure, corporate stress is different from the stresses experienced by an individual, but the concept is certainly the same.

 

As individuals we talk a lot of how great it would be to have a stress free life.  However is this an appropriate dream for a corporation?  Is it an appropriate dream for the risk manager of a corporation? 

 

What worries me in the corporate world is the absence of worry or equivalently (depending on your semantics) the absence of stress.  Is it really good to have the absence of worry on a corporation?  I propose that when the corporation stops worrying, that is when it is about to be blinded-sided in a catastrophic way.  

Santa Claus

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDSolutions.com

  

I play Santa Claus at our Faculty Christmas party (shhhh! – don’t let the secret out).  Yes Santa is about to become a faint memory for another year.  Boys and girls of all ages are now spending the week after Christmas either enjoying the gifts they received, rushing to buy the gifts they really wanted at a Boxing Day sale, or hoping for a better haul from Santa next year.  What did your risk department get this year that was great, needs to be achieved, or is a lamentable “wait for next year”?

Old Favourites

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

 

I am writing this blog late on a Sunday night as I wait for a connecting flight to get home from an international trip.  I am tired, exasperated with the hassles of travel, and hungry yet not wanting to face another airport meal.  Those of you that travel a lot know the drill all too well.  (The flip side is that I have a really cool job as a consultant, and I get to meet a lot on interesting people who give me great ideas and inspire me.)

 

While I sit in the airport lounge and think of all the things I have to do, I am reminded for some strange reason of my university days.  It must be the Sunday night fatigue, and combined with the time of year of the semester end with all of its stresses with exams and term projects coming due.  In any case, I am tired, but have a long layover, and thus I need to get myself to some level of reasonable work efficiency.

 

Thinking of my university days, I thought I would pick out an old album that I used to listen to while I did my university work.  In my university days I always had energy (youth is an amazing thing) and somehow I always got things done. Perhaps instead of the youth it was the music?!  At this stage it can’t hurt I thought.  I cued up an old university album on my iPad and you know what – the music did revive me, and I am now starting to have a productive evening again.

 

Listening to an old album inspires old feelings – most of which were good feelings.  Indeed the music is inspiring me and I am being quite productive.  However it got me wondering if as risk managers we too go back to the old tried and true when creativity and energy for new solutions is lacking.  Old favorites are great for a short spurt, but do we want to constantly and consistently live in the past?  Or is the old music and the old way of doing things invigorating because it was great and continues to be great?  An interesting double sided coin.

Danger Will Robinson! Think before adopting best practices.

by Michael Arbow, MBA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

In the mid-1960’s an eager young teen space traveller named Will Robinson would rush into activities he believed were for the greater good only to be warned by the Robot of the coming danger.  While the show “Lost in Space” lasted a brief 3 seasons, its lesson of think before you leap is something the business and investment world should still consider especially when the idea of “benchmarking” is discussed as a cure for department/company ills.

 

Recently the good people at the Harvard Business Review pointed out three questions one should ask before following industry or department best practices.  These being:

 

1. What are the downsides of following the leader?
2. Is a competitor’s success really linked to a particular management aspect of the corporation?
3. Are the (market and economic) conditions face by the market leader similar to yours? 

 

Of particular note is the first point which is similar to the dreaded idea of “group think”.  The financial markets most recently witnessed this when a number of Wall Street and City firms decided to follow the best practice of bundling mortgages and utilizing the same algorithm to price the package.  Yes it was profitable,… originally.

 

So before your risk department decides to follow the leader, heed the word of the Robot and take a closer look at their best practices and pick them apart to see if it really is a best practice and one that will survive the test of time.

 

Note:  A thank you to the good people at Harvard University and the HBR’s Management Tip of the Day for the idea.

“Let’s do it”: 3 Common (hidden) decision traps

by Michael Arbow, MBA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

Making decisions, be it on which movie to see, what new product to launch or what risk strategy to follow can be difficult.  However we tend to reduce this difficulty by unknowingly slipping into three common decision traps, these being:

 

Anchoring – Giving disproportionate weight to the first information we receive

 

Status quo – Favoring alternatives that basically keep things the same

 

Confirming evidence – Finding and following new evidence that validates your point

 

To avoid these traps, which is difficult as they appear to use common sense, the best approach is to increase the diversity of minds around the table and perhaps even go to the extent of “appointing” a contrarian.  For smaller organizations or those with large established departments, you may wish to seek the help of consultants or third parties – as paying for a second opinion sometimes has the benefit of heightening your attention to it.

Rugby World Cup

by Rick Nason, PhD, CFA
Partner, RSD Solutions Inc.
www.RSDsolutions.com
info@RSDsolutions.com

I just finished watching the Rugby World Cup match between Canada and France.  A bit early for me to get up, but I wanted to get ahead start on writing my blogs for the week.

Watching the match, it was immediately clear that the Canada team had a far superior advantage when it came to the volume of facial hair.  For instance, France had no one at all in the same league as Canada’s Kleeberger.

There is one tiny problem for the Canadians though – and that is facial hair does nothing to affect the outcome of a rugby match.  Therefore, although the Canadians had a decided advantage in facial hair, it was ultimately not worth much, and Canada lost the match despite a valiant effort – and despite their huge advantage in facial hair.

Now the question is – is your risk department more concerned about winning matches, or more concerned about irrelevant factors such as politics, avoidance of blame, great looking risk reports, great press reviews, state of the art metrics – or even quantity and quality of facial hair?

Go Canada Go!

Size Matters

by Rick Nason, PhD, CFA
Partner, RSD Solutions Inc.
www.RSDSolutions.com
info@RSDsolutions.com

There is a different feel to working in a small entrepreneurial “shop”.  In an organization where there are a relatively small number of employees, everyone has a sense of ownership and responsibility.  There is more energy and more collaboration – since that is the only way that an organization with few resources can survive.

It is because of this size issues that many companies – particularly in manufacturing - have adopted the strategy of once a unit gets beyond a certain size, they intentionally break themselves into smaller autonomous units.  It keeps the overall company fresh, and inspires the entrepreneurial feeling and sense of ownership that is so hard to maintain in a larger unit.

In the quest for risk perfection, there is an argument to be made that firms have developed risk groups that are simply too large for the professionals within the unit to feel the same sense of ownership and responsibility  than they might  in a smaller less centralized (and less bureaucratic) grouping.  Perhaps it is time for risk units to take a tactic from the manufacturing world and split themselves into smaller autonomous units, so risk professionals can once again feel that they have responsibility and accountability for their actions and decisions.

Watches

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

I have noticed with interest the rise in popularity of luxury watches.  The exorbitant prices (sometimes into six figures) charged for these watches are justified in large part by their ”complications”.  The thinking goes that the more “complicated” a watch is in its manufacture, the more that collectors are willing to pay.  On one level this makes a lot of sense.  A more complicated watch should in theory perform better, and the craftsman who took the extra time and effort to create the complicated watch should be compensated for their skill and their efforts.

 

Paying a $100,000 or more for a watch however begs the question of what exactly a watch is supposed to do.  A watch of course is supposed to tell time.  Does a $100,000 watch tell time better than a $50 Timex (a watch that “takes a licking and keeps on ticking”)?  The answer of course is no – a Timex tells time just as accurately and with much less required maintenance than a “complicated” watch costing more than a 1,000 times more.

 

Now I do not intend to start blogging on horology, so you may be wondering what this has to do with risk management.  Simple.  The more firms that I work with, the more I have come to realize that firms are putting their faith into having a “complicated” risk management system, rather than a simple one that works.  In other words, companies believe a “complicated” timepiece will help them tell time better than a “Timex”.  “Complicated” does not mean better.  Functional is better.  Is your risk management emphasis on functional or complicated?

Why Facebook outsources some of its risk management

by Michael Arbow, MBA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

The major downside risk for any software/web based company is a “bug” that can disable their software or possibly expose their clients/users private information to the public.  To reduce this downside risk some firms and perhaps most recently Facebook, have established a program that provides incentive money to third parties or “bug bounty hunters”.  As the Chief Security Officer Joe Sullivan states:

 

"We hire the best and brightest (at Facebook), and have implemented numerous protocols. We realize, though, that there are many talented and well-intentioned security experts around the world who don't work for Facebook."

 

In other words, Facebook has a talented team but realize they do not a monopoly on that talent and that outsiders sometimes see things or have ideas that the company employees do not.  Being buried in the weeds with the day-to-day and living the company culture can sometimes reduce your visibility.  Is your company like Facebook and retains or incents outsiders (consultants?) to define risks your employees may overlook?  And if your company has not sought third party guidance what procedures does your organization have in place to continually discover the un-discovered?

 

For more on Facebook’s use of third party risk hunters follow the link to the CNN Money story:   http://tinyurl.com/3d3twx3

When group think predicts the future: A lesson for risk management

by Michael Arbow

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

Health experts in the US have warned that unless a trend is broken, half the US population will be obese by 2030 (about 164 million people): their solution is to get governments to resolve the problem through increased education and taxation on fattening foods.  This analysis and the resulting solution outline a few issues experienced in risk management; namely group/clone think and the need for a “man made” solution to natural phenomena.  By broading their health research and consulting with economist, agriculturalist and global population experts they would have learnt that the trend can’t continue because the growth in world population and wealth, the transfer of food from mouths to fuel tanks and the falling rate of increases in food growing productivity (amount of food grown per hectare) are all leading to higher real food prices.  As prices rise there will be demand destruction (Americans consume on average 12 times more food than they need to survive, Japan 7) and consumption of food will move to more historical levels.  Thus the trend will not continue as it will be ended through natural economic conditions of supply and demand.

 

So you can see from this example how group think when applied to risk management can lead to a possible false conclusion which the groups then feels obliged to mitigate.  So the question is:  How does your risk team go about reducing the chance of group think – do they bring in other departments, seek guidance from the cloud, or bring in independent third party views? 

 

For more on this article from the UK’s Daily Mail online service follow the link: http://tinyurl.com/3w43889

Humor

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

How much humor is there in your risk group?  Is the risk gang a fun bunch of people who are always pulling gags and taping Dilbert cartoons to their cubicle walls?  No?!  I thought not.

 

I recently read this quote by the Canadian author Robertson Davies.

 

The people who fear humor, and they are many, are suspicious of its power to present things in unexpected lights, to question received opinions, and to suggest unforeseen possibilities.

 

At the risk of pointing fingers (and poking fun at), I suggest that the above quote sums up the stereotypical risk manager.  It is not that risk managers are boring – it is just that the profession has forgotten to occasionally laugh at itself.  It may also be that, as Mr. Davies suggests, that the profession has become “… suspicious of its power to present things in unexpected lights, to question received opinions, and to suggest unforeseen possibilities”.

 

Perhaps we all need to lighten up.

 

Disorganized

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

 

Steven Johnson, in his book “Where Good Ideas Come From”[1], outlines the academic work of Robert Thatcher a brain scientist at the University of South Florida.  In essence, Dr. Thatcher’s work shows that “the more disorganized your brain is, the smarter you are.”

 

This somewhat counterintuitive result actually makes a lot of sense if you consider the world to be a complex place (complex again in the scientific sense of the world).  In a world with connected systems, feedback loops, non-linear effects, and unknown unknowns, having a highly rational and organized brain can be a handicap.  A highly rational and organized brain is ideal for a complicated world (again using complicated in the scientific sense of the world), but as my recent RMA article[2] argued, the world is not complicated but instead it is complex.  In a complex world, a disorganized brain is free to wonder and wander, which in turn is much better at making new and novel connections that turn out to be “smart”.

 

In risk, we all too often try to be highly organized and rational.  Highly organized and rational however do not jive with the complex world we find ourselves in.

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[1] For more on this check out the link:  http://tinyurl.com/3orxum3

[2] To see this RMA article check out the link:  http://tinyurl.com/4abuawb

It’s Not Blue!

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

Steven Johnson, in his book “Where Good Ideas Come From”[1], outlines the academic work of Charlan Nemeth, a Berkeley psychology professor. 

 

Dr. Nemeth would show research subjects a colored card – for example a blue card – and ask them to free-associate on the color card they had seen.  When shown the card by themselves, the answers were fairly predictable.  However when shown the colored card in a group where there was a research plant who would deliberately talk about the card in erroneous terms (It’s not blue, that card is green!), the responses from the other research subjects were much more nuanced and varied.  Dr. Nemeth’s conclusion was that “… deliberately introducing noise into the decision making process ends up making more original connections than the groups that had been given only pure information.” 

 

I believe that there is a lesson here for risk management departments.  As I have argued in many different blogs – both explicitly and implicitly – risk management departments suffer from group-think.  More specifically they suffer from model and mathematical group-think.  I have argued for introducing sociologists (who are mainly qualitative, not quantitative in focus), and for eclectic modeling and thinking.  Risk management in striving to become a rigorous discipline has perhaps become too dogmatic and pure.  Perhaps, as Dr. Nemeth’s work shows, it is time to contaminate the field a bit with impure thoughts as to make newer and more efficient connections. 

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[1] Follow the link for more on this:  http://tinyurl.com/3cl7rrcPublish

 

Models - Part 4

by Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com 

 

In the initial blog in this four part series about models, I talked about how models were a balancing act.  In the first blog I discussed how models were a balancing act between being too general (and useless), and too specific (and also useless).  In the second blog I inferred that models were a balancing act between hiding things and not hiding things.  In the third blog I implied there needed to be a balance between information provided by models and the actions taken by managers.  (OK, that is a bit of a stretch, but I think you get my point.)

 

In this last blog for the series I would like to bring up the balance between keeping a model static and adapting it to changing conditions.  A model that is constantly changing (through time) will not provide much guidance or comfort, as it will not be capable of being tested under different conditions.  Likewise a model that never changes to account for developments in knowledge or industry practice will also not be of much use. 

 

The upshot of all of this talk about models and balance is that using models is really tough!  Too often regulators, managers, and other stakeholders believe that if the right model is selected that all will be great.  That is far from the truth and the reason why we need to get back to an emphasis on managing and less of an emphasis on modeling. 

 

Models - Part 1

Rick Nason, PhD, CFA

Partner, RSD Solutions Inc.

www.RSDsolutions.com

info@RSDsolutions.com

  

On a warm summer afternoon of a long weekend, models for some strange reason popped into my head.  I am in the midst of doing researching for my book on complexity, and thus it may be natural that models, and “concepts of models” are swimming around that thing that is on my shoulders.  A lot has been written about models (in fact I have written a lot about models – both in their praise and in their condemnation), but I think it is always healthy to resurface a few ideas that have not been thought about in a while.  Thus this four part blog series on models.  Unfortunately I understand a very high proportion of the science jokes on “The Big Bang Theory” and thus I am of course talking about mathematical models and not runway models – which of course would be a much more interesting topic, but not all that germane to risk management.

 

Richard Levins, the mathematical ecologist (according to Wikipedia) is claimed to have said “ models tend to be so general that they cannot make predictions about particular systems, or so detailed that they merely rephrase what is already known about a system.”  (This quote is from Ants at Work: How an Insect Society us Organized, by Deborah Gordon, Free Press, 1999)

 

I believe that the same could be said about our risk models, and finance models in general.  They are so vague to be useless, or so detailed that they simply replicate the past (and are subsequently useless for the current or future contexts).

 

Models should be a balancing act, and one dimension of that balancing should be between the general and the specific.  Where do the models that you use lie on this spectrum?  Or were they models that were handed down from a regulator or a textbook, or even worse, a committee?