The rogue trader is a recurring character in the story of finance over the last 20 years. This is the guy who makes secret, unauthorized bets with his bank’s money, driven by some seeming combination of inadequacy and a huge appetite for risk, and abetted at times by an amazing lack of internal controls.
The deeper he goes, the harder he has to work to conceal his deception until one day, it inevitably comes crashing down. The bank loses billions, the trader (sometimes) goes to jail. The story is repeated every several years. The latest version broke in September when UBS announced it had lost more than $2 billion as a result of rogue trader Kweku Adoboli.
In his new e-book, How to Be a Rogue Trader, Financial Times columnist John Gapper explains why this story has become so familiar over the years. As he puts it, the rogue trader is a species of sorts within the world of finance, a special breed with certain behaviors and characteristics that are consistent through time. Gapper delves into evolutionary biology and the research of Daniel Kahneman to better understand the nature of men like Nick Leeson, Joe Jett, and Jerome Kerviel. Read More »
In our recent podcast “The Truth is Out There… Isn’t It?,” we hear from professional skeptics, former UFO investigators, and “social incompetence” experts. One fascinating interview that didn’t make the final cut was with Peter Sandman, a “risk-communication consultant” whose work was also cited in Freakonomics. (Here is how he came to be what he is.)
Sandman breaks his work into three areas: scaring people who are ignoring something that is legitimately dangerous and risky; calming down people who are freaking out over something that’s not risky; and guiding people who are freaking out over something that is legitimately risky. To accomplish all this, Sandman came up with a useful equation: Risk = Hazard + Outrage. Here are some excerpts from Stephen Dubner’s interview with Sandman, which ranges from the perceived risk of WMD’s in Iraq to the debate over climate change. Read More »
Last week we got an email from a reader named Daniel Herrington. He had just finished listening to our podcast, “The Upside of Quitting,” and wanted to tell us about a big quit he’s been pondering recently.
Daniel is a 25 year-old race car driver. He’s also an engineering graduate student at Duke. On the race track, he’s had enough success to keep at it: he’s won at Chicagoland Speedway, and had multiple top ten finishes. But it’s not quite enough to convince him that racing’s the right path. The sport is super expensive; plus, Daniel’s success has been a bit spotty. He’s only completed 2 full seasons in the last 7 years. Keep at it, and he might wind up a star. But he could also end up a middle-aged, burned-out race car driver with no other career to fall back on. So Daniel is hedging and pursuing a graduate degree.
Daniel agreed to answer some of our questions. The result is an honest, revealing piece, one that (especially given the tragic death of Indy Car driver Dan Wheldon last weekend) sheds light on the tough decisions many young drivers face, where they have to weigh the considerable risks of the sport against its obvious thrill. Read More »
Did you know that vending machines, not a major danger in most of our minds, are twice as likely to kill you as a shark? I heard this statistic at the new shark-and-ray touch tank of the New England Aquarium, which I try to visit weekly with my daughters. You stand at a large, shallow tank with plexiglass walls and can lay your hand in the water, gently feeling the sharks and sting rays swimming by.
The aquarium probably wants to convince visitors that sharks are not the fierce predators of Jaws fame, and thereby help protect sharks from hunting and extinction. Although I could admire this motive, the comparison always surprised me. My number sense complained that sharks simply must be more dangerous than vending machines.
However, upon looking up the risks, I found that the comparison was correct. The yearly risk (in the United States) of dying from a shark attack is roughly 1 in 250 million. In contrast, the yearly risk of dying from a vending machine accident is roughly 1 in 112 million. The vending machine is indeed roughly twice as lethal as the shark!
Why then was I still troubled by the comparison? Maybe my number sense needed a tune up, and I should just accept the statistical facts of life. I then started thinking about it using the method of easy cases. Read More »
Beekeepers transport their hives from field to field and make money helping farmers, orchardists and others pollinate their crops. (See the wonderful old paper by Steven N.S. Cheung, “The Fable of the Bees: An Economic Investigation,” Journal of Law and Economics, 1973.)
There are now indications that colony collapse, the current plague of the industry, may result from too-frequent moves of hives and the resulting greater exposure to more varieties of pathogens. The beekeeper thus faces a trade-off: increase revenue by moving hives around, but incur a potential cost of collapse; or move hives less and make less revenue, but reduce the potential risk. From what I’ve been told, different beekeepers make different choices, depending in part on their assessments of the risk of colony collapse and their degree of risk aversion.
At Columbia last year I took a class called “Modern Political Economy” from Ray Horton. One of Horton’s favorite things to say was that sooner or later, if the U.S. didn’t solve its debt issues through the political process, the world’s capitalists would do it for us — as in the debt markets would punish us for our profligate ways, and raise the cost of borrowing.
And yet, here we are: a ratings agency has downgraded our credit for the first time ever. But on the first day of trading, rather than going up, rates on our government debt fell to near record lows as money poured out of riskier assets in a flight for safety. When the markets closed last Friday, and the U.S. still had a AAA rating from S&P, the yield on the 10-year Treasury was 2.55%. It ended Monday down to 2.34%. The same thing happened during the stock market sell-off in the fall of 2008, when the rate on the 10-year Treasury went from around 4% to less than 2.5%. U.S. government debt is still the safest, most liquid market in the world. The S&P downgrade doesn’t change that. In fact, the immediate effect has been to make it safer. How strange. Read More »
The answer is a firm yes, at least according to three IMF economists who studied the correlation between firms’ lobbying efforts, financial risk-taking, and default rates. Their findings (abstract here; full report here) show that:
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[L]obbying was associated with more risk-taking during 2000-07 and with worse outcomes in 2008. In particular, lenders lobbying more intensively on issues related to mortgage lending and securitization (i) originated mortgages with higher loan-to-income ratios, (ii) securitized a faster growing proportion of their loans, and (iii) had faster growing originations of mortgages. Moreover, delinquency rates in 2008 were higher in areas where lobbying lenders’ mortgage lending grew faster.
From the Soapbox Science blog on Nature.com, here’s an interesting piece by risk consultant David Ropiek on the ways in which we perceive and react to risk. His basic thesis is that our interpretation of risk is almost always subjective rather than fact-based, which gets us into trouble.
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We worry about some things more than the evidence warrants (vaccines, nuclear radiation, genetically modified food), and less about some threats than the evidence warns (climate change, obesity, using our mobiles when we drive). That produces what I have labeled the Perception Gap, the gap between our fears and the facts, which is a huge risk in and of itself.