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Risky business

Thursday, 28 February 2013 | By Jason Rose

I’ve been working on a side project recently in the investment management area.


Probably the biggest topic in the industry at the moment is risk management. It obviously all stems from the losses caused by the GFC.


Everywhere you turn, there are new risk management software packages being touted, new theoretical risk management models being talked about and consultant after consultant offering their unique and unrivalled services.


It’s all been very interesting and there are a lot of really, really smart people out there. The level of complexity and mathematical sophistication in evidence is way beyond my Year 11 maths!


The more I think about it, the more this obsession with risk management tells us about ourselves.


Humans hate risk.


We love certainty and feel deeply uneasy that we can’t know, let alone control, what tomorrow brings.


So, we try to hide behind probability to come up with a number that says that we have a 78.342% chance of losing $2 million over the next 24 hours. Suddenly, we feel better for that piece of information.


Uncertainty has been tamed! It’s all been distilled down to a number with a lot of decimal points. I’m back in control.


All of these risk management consultants make millions from companies desperate to be able to prove in either a court of law or the court of public opinion that they covered their backsides with risk management best practice.


Central to this notion of best practice is learning from the GFC.


These consultants write long papers showing how what was in place before the GFC was inadequate. They assure us that they have learnt from that experience and developed new systems that would meet the GFC head on.


Hey, all you experts with doctorates in physics, mathematics, machine learning and financial econometrics, that’s what you said after the last financial crises – that your systems will now stand up to the next Asian Financial Crisis or Russian Financial Crisis or tech wreck or whatever.


The problem is that all of these methods, however brilliant and sophisticated, are fighting the last war. And I think they are ultimately counter-productive because they give the false impression that risk is now sorted.


It’s not. And it never will be.


Rather than pretending that risk is now carefully calibrated at 34.98675456%, the best risk management system is to accept that tomorrow is unknowable. There is always the chance that things could get wiped out.


There will always be shocks to the system. They will inevitably come from somewhere unanticipated and will have unexpected effects.


That’s why it’s refreshing to be in and around entrepreneurs. Entrepreneurs don’t kid themselves that having a risk management framework or a consultant-approved compliance plan counts for much.


Entrepreneurs are acutely in touch with their own sense of corporate mortality. A number being spat out by a computer risk model doesn’t mean anything to an entrepreneur.


For entrepreneurs, it’s about accepting the risks and getting on with the job. If you want to ride a motorbike, by all means wear a helmet but don’t pretend that it’s suddenly safe.