There were some excellent shows on recently. One was a documentary on PBS about the fall of Bear Sterns and then ended like an biography about Hank Paulson. It was astounding how much the personalities of the key players involved effected the outcome of the financial mess.
Then last night I watched a special on CNBC that went into a lot of depth about many of the different investment vehicles. Basically the take home was that few people understood the underlying implications of all these esoteric ways of investing in the mortgage market. Even Alan Greenspan admitted that despite a strong mathematical upbringing and access to over 100 PhD's on a daily basis, he understood little about what was going on.
It didn't take much for smart people with less than stellar integrity to game the system.
I think that's a main issue. Many of these models are based on math that few people understand. I don't think it necessarily is an issue of integrity, but more an issue of traders and asset managers using the results of these mathematical models without fully understanding the implications and risks. They are, after all, probabilistic models and it seems like they weren't treated as such.
exactly, people were just saying "well the model says it will work", and didn't realize that the models they were using had huge assumptions hard coded into them.
Looking at that list reminds me of walking through the power tools section at Home Depot - full of tools I'd love to have an excuse to use someday, but don't at the moment. It's still always fun to look though ;)
Very good collection, but wouldn't the value of this material have been much higher before the financial crisis? It seems like the theories and methods applied in these texts played a large part in the downfall of the financial system. Mathematical models != financial markets. A lot of good math and statistics for people interested in those areas, but it will probably be decades until "financial engineering" loses the stigma of failure.
Some are valuable, others are stark reminders of how much hubris exsited before the financial collapse.
Example: here's one from Goldman Sachs which is essentially a sales pitch for adding Mortgage Backed Securities to a portfolio: http://bit.ly/N4dMb
A quote from that: We believe investors have the opportunity to significantly improve their risk/return profile by strategically
allocating a portion of their portfolio to the MBS/securitized sector for two important reasons:
1) the historically attractive risk/return profile of the securitized sector and attractive yield opportunities
relative to Treasuries and 2) the diversification benefits from introducing new sources of risk and
potential return to the portfolio.
It took decades after Chernobyl for nuclear engineering to lose the stigma of failure.
Sarcasm aside, I think that you are half right. Some of the financial engineering stuff was genuinely wrong, and financial engineers will have to figure out what.
The problem is that finance is not really an engineering problem. Issues arise because the techniques used to distribute risk change the market value of the underlying assets. This was a major cause of the MBS issue. Financial engineering allowed risk from MBS's to be more easily distributed. This increased the demand for these securities, which increased their value. The price of the assets increased, even though the underlying value of the assets was exactly the same. Much of the value created by financial engineering is an illusion.
"Financial Engineering" is discredited and should more discredited.
I'm sure some physics geeks really enjoyed fitting heat equations to financial processes. This exercise ran a foul of the problem that the processes were subject to the normal distribution, were not uncorrelated and had "long tails", etc, etc.. But all these errors were just results of selecting those models which provided actionable data - the markets found those geeks who willing to endorse a dive into reckless asset inflation. This kind of thing has been around since John Law.
The emperor was just as naked five years ago as today. What has changed is what people are willing to see.
Read Nassim Nicholas Taleb. If you're a real geek for this stuff, read Benoit Mandlebrot's financial stuff. HN had a link to Mandlebrot's prediction of the present mess - written in 1998 (when it had almost happened, as opposed to now, when it has happen).
Well, fortunately "financial engineering" hasn't discredited engineering. It is merely an inappropriate and discredited application of the engineering methodology.
A good analogy is Linux. The Linux camp can't understand why people don't switch. Haven't they done everything they were supposed to do, easy installers, graphical desktops, etc? Well no, like those bankers, they're just going through the motions without understanding that at the end of the day, it all boils down to human factors. You can't solve that with equations. You have to grasp it intuitively.
I've always been fascinated by how that works. Hindenberg pretty much killed the Zeppelin industry, yet airliners crash all the time and no-one's afraid to fly. The Titanic didn't herald the end of sea travel either. What's the difference?
I'd imagine that it is at least a few factors. For one, there is a dramatically longer history of sailing and boating such that the occasional accident, even one on a massive scale, doesn't shake confidence so readily.
With respect to airplanes, I think it is again a proven volume/historical problem. Zeppelins (and blimps) have very low maximum speeds and limited capacity. As for airplane accidents, I don't think they are very frequent so much as it is just that they are generally so heavily broadcast (for good reason).
Watching the Hindenburg burn is just frightening. I think airplane crashes are far less scary because they are so fast. Financial disasters don't really seem to prevent the next bubble, but video of Chernobyl burning and an abandoned city have real impact.
The difference is that there is enough demand for airplanes/ships to overcome these events. That kind of demand doesn't seem to exist for Zeppelins, probably because they are so slow.
True. I think the event just brought about the inevitable death to an industry that wouldn't have been able to keep up as the cost effectiveness, carrying capacity and maximum distance of airplanes grew so rapidly.
For shifting medium cargo medium distances over inhospitable terrain, I wouldn't be surprised if Zeppelins were more cost-effective than helicopters. Also it might be quite a nice holiday, spending a week or two Zeppelining along some scenic coastline, like a small cruise ship 100ft up. I don't think we've seen the last of that technology.
Then last night I watched a special on CNBC that went into a lot of depth about many of the different investment vehicles. Basically the take home was that few people understood the underlying implications of all these esoteric ways of investing in the mortgage market. Even Alan Greenspan admitted that despite a strong mathematical upbringing and access to over 100 PhD's on a daily basis, he understood little about what was going on.
It didn't take much for smart people with less than stellar integrity to game the system.