Tuesday, 10 February 2009

Bankers: "No-one Foresaw" - Excuse Me ?!

The inquisition of the bankers gives rise to many fascinating points which we may pick up in future, but for now here's one I just can't resist. Their risk management systems were all excellent, of course; they all discussed risk ad nauseam in their Board meetings, they all did their stress-testing etc etc, but no-one foresaw ... in particular, no-one foresaw the [2008] Lehman collapse.

Well, obviously no-one that matters but, ahem, this from October 2007:

"Stress Tests - one problem is paucity of imagination: the worst we can envisage is what has happened before. When oil was last at $10 (1998!), very few companies were stress-testing for $80 ... who is modeling the collapse of a really big bank now?"

Modesty forbids ...



Old BE said...

Wasn't the whole crisis based on the obviously incorrect assumption that house prices could only ever go up? Did they not "stress test" the idea that prices might go down as they have at some point in virtually every decade?

Richard Elliot said...

BE - I think it has been a bit more complicated than that for the big banks. The commodities, equities, rates, FX desks etc... don't trade house prices. They need to stress test the assets in their segment of the market not house prices.

Agree with ND's point on a lack of foresight. Having recently been on the inside though I can see why it happens. Stress testing is not glamourous and sucks resources away from more "sexy" things, so is always under pressure.

Nick Drew said...

BE, Richard - the Committee proceedings this morning did little to dispel the unkind conclusion that a key reason is circle-jerking

who wants to step outside a circle that's having so much fun ?

and anyone who does (e.g. the poor HBOS risk manager they discussed at such great length and to so little effect), is clearly nuts and therefore to be ignored / fired / both

there really was some shocking stuff today (in amongst all the crocodile tears and flannel) - material for many a post !

Old BE said...

Err, Richard we are told that the root of all this are the weird and wonderful packages of bonds made up of home loans... How can banks not be trading house prices if they are trading bonds based on them?

Or did something else cause the crunch which I haven't heard of yet?

Richard Elliot said...

The banks have lost a lot of money on the toxic bonds, but they have been losing money all across their other businesses as well.

I'll explain my rationale over a pint sometime!

Anonymous said...

The real problem lies in ourselves, not in our stars... most people simply lack the moral courage to be the man in the Bateman cartoon who stands up & says "this is wrong, it is all going to end in tears". And of course management is always promoting the awkward squad...not. Self interest says it's much better to keep shtum & pocket the bonus cheques.

I don't believe for one minute these people didn't see something of this sort happening (though I doubt they forsaw the magnitude of it). They probably thought of it like a game of pass the parcel, & hoped they wouldn't be holding it when the music finally stopped.

Mark Wadsworth said...

What BE says (both comments).

The previous three house price bubbles in the UK since 1945 were followed by a house price crash and lots of bank and currency nastiness. This last boom was twice as big as the others. Draw your own conclusions.

Alex said...

Mr Weetabix:

I agree with your point. It comes in part from a trading mentality that likes to think that the market is always there and what is sold or hedged is no longer an issue.

I blogged on this here:

Simon Fawthrop said...

Perhaps ther weren't allowed to finish and were going to say:

....no-one foresaw the Lehman collapse being allowed to happen by the US Govt.

Steven_L said...

I must say I agree with the stuff everyone is saying about no-one wanting to rock the boat.

I've rocked the boat in a few jobs that I knew I would be leaving in the near future and didn't really care about, just for a laugh.

In my experience managers really, really hate it when you point out to all their staff that there is even the slightest possibility that they are talking absolute bollocks.

Plus, all large organisations do their upmost and best to brainwash all their employees anyway, so even when you do point out something might be a load of bollocks, everyone just goes into a weird sort of denial.

In chess, it is important not to make the mistake of believing your opponent understands a complicated position more that you do.

I think that everyone, politicans, regulators, bankers and consumers made precisely that mistake and just assumed that someone else, somewhere knew what they were doing.

Anonymous said...

Alex, I liked your post. Sort of: "if we're wrong then everyone's wrong & we're all screwed" Safety in numbers....

Steven_L: I used to work for a humongous German company who shall remain nameless. I won't call them multi-national as they were (& probably still are) more multi-local in nature, always with a Heinie in charge in each country & of each major department. Naturally they still ladelled out guff about commitment to diversity/openness despite all evidence to the contrary.

Anyhoo, the internal joke was that the people at the bottom spent their days going around the system to get things done; the people in the middle spent their days covering up the fact that the system was not only being subverted, but HAD to be subverted to get anything done, while the people at the top believed the system worked & was loved by the drones. The final straw for me was going along to a "consulting & feedback session" & hearing the German VP berate an employee for providing perfectly innocuous feedback which was - and I quote this verbatim - "outside acceptable limits". It is not enough to tell lies, it is necessary for the great unwashed to be seen to accept it!

Now I am a director of a small company with international pretensions (we have an office in the USA & in China) I daresay I am subject to similar delusions. I do try to be open-minded but sometimes chaps do go too far - for example, I once invited opinions & was told by a tired & emotional salesman that I was "a f***ing c***". I told him he was right, and for that reason alone I was going to sack him within 5 seconds if he didn't quit. The rush of executive power was quite heady; if it weren't for employment law I'd be Capt. Bligh by now.

Nick Drew said...

SW, SL - yes, culture of not-rocking-the-boat is pretty endemic, & actually rather easily understood in a basic human sort of way

doesn't make it right

we may be hearing more from the fired HBOS risk manager (hopefully !)

I could tell a few stories meself ...

Alex - good technical points in your post

DorsetDipper said...

foreseeing this in Oct 2007 is no big deal.

From the FX markets, the first wobble was in March 2007 when Bernanke warned on the size of Subprime debt, but it wobbled and no more. The second was in August 2007 when, for want of a better description, it was like a trap-door had opened under the market and some participants were falling. All the risk measures - implied vols, and risk-reversals, blew out.

The die was cast on that day, and getting out of anything big afterwards was impossible.

Unsworth said...

Yes you're absolutely right, you and some others were accurately forecasting the current disaster(s) a long time ago.

However, this appearance before the Commons Committee is, as we all know, just the usual ritual 'humiliation'. And we know that in fact this makes almost no difference whatsoever.

Indeed, those bankers who were taking part in this charade will certainly be generously recompensed for their inconvenience - just give it a few months for things to quieten down.

Prodicus said...

I hope you saw (and enjoyed as much as I did) Hugh Hendry on Jeff Randall's prog on Sky tonight. Lipsmacking.

Nick Drew said...

DD - and of course I'm not claiming it was a big deal, that's the whole point ! It was an obvious thing to do by that stage - and they didn't

Unsworth - public floggings have their place ! and actually, as CU says this morning, there is actually the possibility that something worthwhile comes out of it

Prodicus - thanks for the link. Have to agree with him on short-sellers being the ultimate message-bearers: it was a couple of very hi-profile shorts that first put the skids under Enron, not the rating agencies or analysts who were all completely star-struck

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