MistakesAfter the monoline debacle, it seemed to me several clear patterns of failure had occurred.

The cash cow, muni insurance, led to complacency in product development for insuring CDOs.

The wonderful sales success entrenched management, leading to escalation of commitment, rather than raising questions about underpricing.

Risk management became management by numbers only. The rating agencies had a moral hazard and now are accused of heel dragging blindness.

(However, the accountants, auditors and regulators, have now stepped in and now have the opposite moral hazard… to inflate their worth by aggravating and exaggerating the downside).

This may seem a bit long winded and hindsight contrived; yet a similar story could be given for the instigator of the CDO problems and the sub-prime mortgages.

But these modeling problems have not been limited to the sub-prime originators. It has been my experience within the insurance industry that many of the failures follow a similar pattern. Bad modeling seems to follow this course over and over. Many of these cases do not lead to the scale of problems in the financial markets we see now, but on a company basis they often have been as devastating.

Like computer programmers and their anti-patterns, modelers often fall into habits that at first seem beneficial, but in the end are bad habits. Wikipedia has a list of failure pattern traps, including the ones I mentioned here.

I am a runner. To me, losing a race has always been much more motivational and educational than winning one. Losing exposed the weaknesses in my training and habits. Success easily becomes complacency. Losing brings the hunger back.

Lon Evans critiques:

As an avid runner (some 35 years in that game and counting), we are kindred spirits in at least one instance.

I'll mention that you have been a bit slow on the uptake concerning the entire subprime mess, though you're not alone. DailySpec, to my knowledge, has few, if any, posts that attempt to "test" what the financials are now properly suffering. With so much brain power in accumulation, one would assume that at least a handful of posts would be delving into what is shaping up to be a global tsunami. It is interesting to view as a correlation the denial evidenced by the VicBots and that of the cretins who got us into this wretched mess.

Your attempt to decouple the various manifestations of the current malaise is in error. Subprime, CDOs, SIVs, monolines, et al, are simply an indication of the stupidity (duplicity?) of entrusting those incapable of honoring their responsibilities. All that currently ails us is a result of selling houses, and then "creatively" declaring "risk free" investments, which could only fail given their ultimate collateral.

In closing, I don't share your optimistic evaluation of "failure." I imagine the man, who willfully (through ignorance or intent) severs a hand. After cleaning up the resulting mess, he then exclaims, "Well, I now know never to do that again." There will be costs, in bringing this saga to a close, far steeper than you're imagining.

Russ Sears responds:

You have me beat with running experience. I have been racing for only 27 years. Note I said racing, not running. However, as a racer since college, I have found many people that talk a good game. Everybody wants to be associated with taking personal responsiblity, but few really want to put in the mileage. Many are fakes. If I had a dollar for everybody who has claimed to run close to my times! When I qualifed for the US Olympic trials, I was told by the head offical more people tried to fake their qualifications than actually qualified.

If you are so avid, why is your name not appearing in any of the websites that give race results? Surely you have done a fun run or charity run or two in the last 10 years? For an avid runner since the early 1970s, you would know that being an avid fitness runner without any racing was unheard of back then. What made you change?

It is clear to anyone that subprime, CDOs, and monolines issues are closely related. You have not told me anything everyone doesn’t already know. But you expect to make money off it?

Supposing I take your word for your grand analysis, tell me how you came up with the underlying assumptions, rather than how grand they are.

However, your assumption that I have been slow on the whole subprime mess is wrong. The monolines, Alt-a have been on my “avoidance” list since 2005 (when I took my current job which required me to have an opinion) and subprimes always were. However I did miss the SIV connection, so my risk management was not flawless this past year.

Lon Evans retorts:

You might find yourself a bit back on your heels when more fully apprised of my experiences and associations in my 35 years as an "avid" runner. I'm as amenable to good conversation as I am to fighting the good fight. 


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