Best of the Week
Most Popular
1. Gold vs Cash in a Financial Crisis - Richard_Mills
2.Current Stock Market Rally Similarities To 1999 - Chris_Vermeulen
3.America See You On The Dark Side Of The Moon - Part2 - James_Quinn
4.Stock Market Trend Forecast Outlook for 2020 - Nadeem_Walayat
5.Who Said Stock Market Traders and Investor are Emotional Right Now? - Chris_Vermeulen
6.Gold Upswing and Lessons from Gold Tops - P_Radomski_CFA
7.Economic Tribulation is Coming, and Here is Why - Michael_Pento
8.What to Expect in Our Next Recession/Depression? - Raymond_Matison
9.The Fed Celebrates While Americans Drown in Financial Despair - John_Mauldin
10.Hi-yo Silver Away! - Richard_Mills
Last 7 days
Dow Long-term Trend Analysis - Coronavirus Triggering a Stocks Bear Market? - 27th Feb 20
Trump or Sanders? Both will pile up the Debt - 27th Feb 20
Oil Price Is Now More Volatile Than Bitcoin - 27th Feb 20
A Digital “Fedcoin” May Be Coming… And It Would Be Terrifying - 27th Feb 20
India's Nifty 50 Stocks: Does the Bad Jobs Outlook Spell Trouble for Stocks? - 27th Feb 20
How Crypto Currencies Are Helping Players Go Private - 27th Feb 20 -
Gold and Silver The Die Is Cast - 27th Feb 20
US Economy Permanently Addicted to Zero Interest Rates - 27th Feb 20
Has the Stock Market Waterfall Event Started Or A Buying Opportunity? - 27th Feb 20
Advantages of Enrolling in a Retirement Plan - 27th Feb 20 - LS
South Korea Coronavirus Outbreak Data Analysis Warning Rate of Infection is Exponential! - 26th Feb 20
Gold Price Long-term Trend Analysis Forecast 2020 - 26th Feb 20
Fake Markets Are on Collision Course with Reality - 26th Feb 20
Microsoft is Crushing the S&P 500, Secret Trait Of Stocks That Soar 1,000%+ - 26th Feb 20
Europe's Best Ski Resorts For The Ultimate Adventure - 26th Feb 20
Samsung Galaxy S20+ vs Galaxy S10+ Which One to Buy? - 26th Feb 20
Gold Is Taking on $1,700 amid Rising Coronavirus Fears - 26th Feb 20
Is This What Falling Through the Floor Looks Like in Stocks? - 26th Feb 20
Gold Minsky Moment Coming - 26th Feb 20
Why Every Student Should Study Economics - 26th Feb 20
Stock Market Correction Over? - 26th Feb 20
US Bond Market Yield Curve Patterns – What To Expect In 2020 - 25th Feb 20
Has Stock Market Waterfall Event Started Or A Buying Opportunity? - 25th Feb 20
Coronavirus IN Sheffield! Royal Hallamshire Hospital treating 2 infected Patients, UK - 25th Feb 20
Dow Short-term Trend Analysis - Coronavirus Trigger a Stocks Bear Market? - 24th Feb 20
Sustained Silver Rally Coming? - 24th Feb 20
Should Investors Worry about Repo Market and Buy Gold? - 24th Feb 20
Are FANG Technology Stocks Setting Up For A Market Crash? - 24th Feb 20
Gold Above $1,600 Amid FOMC Minutes and Coronavirus Impact - 24th Feb 20
CoronaVirus Pandemic Day 76 Trend Forecast Update - Infected 540k, Minus China 1715, Deaths 4920 - 23rd Feb 20 -
Ways to Find Startup Capital - 23rd Feb 20
Stock Market Deviation from Overall Outlook for 2020 - 22nd Feb 20
The Shanghai Composite and Coronavirus: A Revealing Perspective - 22nd Feb 20
Baltic Dry, Copper, Oil, Tech and China Continue Call for Stock Market Crash Soon - 22nd Feb 20
Gold Warning – This is Not a Buying Opportunity - 22nd Feb 20
Is The Technology Sector FANG Stocks Setting Up For A Market Crash? - 22nd Feb 20
Coronavirus China Infection Statistics Analysis, Probability Forecasts 1/2 Million Infected - 21st Feb 20
Is Crude Oil Firmly on the Upswing Now? - 20th Feb 20
What Can Stop the Stocks Bull – Or At Least, Make It Pause? - 20th Feb 20
Trump and Economic News That Drive Gold, Not Just Coronavirus - 20th Feb 20
Coronavirus COVID19 UK Infection Prevention, Boosting Immune Systems, Birmingham, Sheffield - 20th Feb 20
Silver’s Valuable Insights Into the Upcoming PMs Rally - 20th Feb 20
Coronavirus Coming Storm Act Now to Protect Yourselves and Family to Survive COVID-19 Pandemic - 19th Feb 20
Future Silver Prices Will Shock People, and They’ll Kick Themselves for Not Buying Under $20… - 19th Feb 20
What Alexis Kennedy Learned from Launching Cultist Simulator - 19th Feb 20
Stock Market Potential Short-term top - 18th Feb 20
Coronavirus Fourth Turning - No One Gets Out Of Here Alive! - 18th Feb 20
The Stocks Hit Worst From the Coronavirus - 18th Feb 20
Tips on Pest Control: How to Prevent Pests and Rodents - 18th Feb 20
Buying a Custom Built Gaming PC From Overclockers.co.uk - 1. Delivery and Unboxing - 17th Feb 20
BAIDU (BIDU) Illustrates Why You Should NOT Invest in Chinese Stocks - 17th Feb 20
Financial Markets News Report: February 17, 2020 - February 21, 2020 - 17th Feb 20
NVIDIA (NVDA) GPU King For AI Mega-trend Tech Stocks Investing 2020 - 17th Feb 20
Stock Market Bubble - No One Gets Out Of Here Alive! - 17th Feb 20
British Pound GBP Trend Forecast 2020 - 16th Feb 20
SAMSUNG AI Mega-trend Tech Stocks Investing 2020 - 16th Feb 20
Ignore the Polls, the Markets Have Already Told You Who Wins in 2020 - 16th Feb 20
UK Coronavirus COVID-19 Pandemic WARNING! Sheffield, Manchester, Birmingham Outbreaks Probable - 16th Feb 20
iShares Nasdaq Biotechnology ETF IBB AI Mega-trend Tech Stocks Investing 2020 - 15th Feb 20
Gold Stocks Still Stalled - 15th Feb 20
Is The Technology Stocks Sector Setting Up For A Crash? - 15th Feb 20
UK Calm Before Corona Virus Storm - Infections Forecast into End March 2020 - 15th Feb 20

Market Oracle FREE Newsletter

Nadeem Walayat Financial Markets Analysiis and Trend Forecasts

Tail Risk - Investors Suffering Permanent Loss

Stock-Markets / Risk Analysis Sep 13, 2014 - 02:24 PM GMT

By: Fred_Sheehan

Stock-Markets

In a recent memo to Oaktree Capital clients, Chairman Howard Marks writes about "the time I spent advising a sovereign wealth fund about how to organize for the next thirty years. My presentation was built significantly around my conviction that risk can't be quantified a priori. Another of their advisors, a professor from a business school north of New York, insisted it can. This is something I prefer not to debate, especially with people who're sure they have the answer but haven't bet much money on it."


This is an excellent illustration of the investment mind today. It treasures mathematical models that produce certainty. The finance professor is talking through his hat, but he need not fear an academic challenge. This is what the tenured teach and, alas, what students take to their jobs.

Businesses and investment funds are managed in the belief that risk - which is in the future (there is no risk to what has already happened) - can be captured down to the last dollar by a professor's model. A problem here, for those who have not spent time within this world, is they do not believe it. They cannot really accept that a highly acclaimed asset manager is confined - and generally, content to be confined - within the parameters as described.

Since it is difficult, if not impossible, to convince a sensible person this is really how institutional money decisions are made, the following question may help: "Do they - the professors, the CFOs, the investment managers, the Federal Reserve, for that matter, which is similarly attired - really believe they can know the future with such impossible precision, or, do they conduct their operations within such parameters because they want to believe they are authorities of the future?" The latter possibility is more believable.

Since this is the accepted method of managing businesses and funds, the allocation of resources and investments runs through the same pipe. When asset markets are flooded with artificial dollars, as is the case today, allocations rise (no one wants to be left out), fill the tank, spill in all directions, without regard for academic and central banking assurances, until they mock the gods. "All correlations go to one," wrote Marty Fridson, currently CIO at Lehmann, Livian, Fridson Advisors LLC.

Fridson made that statement about Long-Term Capital Management's mistaken models that engulfed world finance in 1998. Here we are, nearly 20 years later. That lesson has been ignored. World finance is far more leveraged and vulnerable than then. It is, to a degree, understandable why professors and central bankers are immune to reality. As Howard Marks wrote, they "haven't bet much money on it." That is not true for companies and investors.

The fact that the institutional world measures and applies risk incorrectly leaves corporate managers and investors vulnerable. The real risk, which was probably the first thought of the sensible person, is described by Howard Marks as a "permanent loss from which there won't be a rebound."

Yes. Finally, a statement that makes sense.

Marks offers his explanation for why academics (and the CFOs and CIOs they taught), are walking hand-in-hand to the graveyard: "Volatility is the academic's choice for defining and measuring risk. I think this is the case largely because volatility is quantifiable and thus usable in the calculations and models of modern finance theory. In [Marks' book, The Most Important Thing] I called it 'machinable.'" Our world loves machines to make decisions, or has given up fighting them.

The past two decades' APA (Asset Price Administration) has instilled an assumption in those who continue to run with the markets there is no such thing as a permanent loss. The S&P 500 fell 54% from 2007 to 2009. Today, it's higher than ever, and rising.

There are millions of Americans who have suffered permanent losses and will never recover. They bought the dot.com bubble, or a no-no-no mortgage, or had to sell their stocks in 2008 to make sure they could pay their bills. To rub their noses in the dirt, their interest rates have been confiscated on what savings may remain.

The risk of permanent loss is often called "tail risk." Joe Calandro and I have written about tail risk in the attached paper: "Investment, Corporate Risk Management, and Tail Risk." It was published in the July 2014 Gloom, Boom and Doom Report.

Of infinitely greater importance, we describe how we manage a company's or fund's tail risk, which we are glad to discuss with potential customers.

By Frederick Sheehan

See his blog at www.aucontrarian.com

Frederick Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, November 2009).

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Frederick Sheehan Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules