“Virtue, then, is a state of character concerned with choice, lying in a mean… Now it is a mean between two vices, that which depends on excess and that which depends on defect; and again it is a mean because the vices respectively fall short of or exceed what is right in both passions and actions, while virtue both finds and chooses that which is intermediate.” Aristotle, Nicomachean Ethics.
A Zen Garden
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Is financial modeling to blame for the recent crisis? As always the fault does not lie with the tool but rather with the user. When was the last time you took a look at the validity of Net Present Value or Option Pricing?
The recent, or ongoing, financial crisis has been attributed, amongst other things, to over reliance on quantitative financial models which replaced good business judgment instead of supporting it.
The reason behind the failure of models wasn’t simply poor modeling, for the most part. The main reason was poor business and risk management processes which placed blind faith in the models.
In this post I begin to explore the reasons why financial modeling increased the severity of the recent crisis and more importantly, what are the lessons we can implement to our personal finances?
The need for Financial Modeling
With the development of computing power advanced mathematical models enabled the creation of complex new financial instruments and professions such as financial engineering. Mathematicians and statisticians found their way to investment banks and hedge funds due to the increased demand and profitability of these endeavors.
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This is a guest post by The Skilled Investor – A great source for Personal Finance, Investment Management, and Financial Planning Articles.
Welcome to the November 20, 2009 Edition #116 of the Carnival of Financial Planning.
The Carnival of Financial Planning takes a long-term view of personal financial planning for individuals and families. We focus on efficient and sustainable personal financial planning practices that can lead to lifetime financial security.
This edition is arranged by subject heading, so that you can browse efficiently.
Enjoy!
As I’ve posted last week I’ve sold the vast majority of my 6 month dollar cost averaging portfolio. The economic environment is too shaky for my taste. I’m willing to risk losing potential return since the risk I consider is a quick drop back to March 2009 levels. Assuming jobs won’t improve any time soon I find it hard to see how governments will sustain growth through government spending alone. With each passing day risk of stagflation grows higher. Macroeconomic indicators aren’t really proving any strong indication of the future.
The Stock market seems pretty relaxed, though. VIX volatility is down and things are calm. This may be attributable to the 2009 year end.
I’m on the sidelines waiting for a good opportunity to jump back in, slowly (Starting dollar cost averaging on a monthly basis all over again).
Interesting articles from leading economic and business magazines:
Stemming the tide @ The Economist – Concerns about Unprecedented levels of government debt (similar to those I expressed a week ago).
Managing A Portfolio With Hedgeable.com @ NY Times – A valuable portfolio management tool reviewed by the NY Times.
Money Issues That Can Test Even a Rock-Solid Marriage @ NY Times
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