Crisis and Crashes: Lessons from a History of Financial Disasters

Crashes and Crises: Lessons from a History of Financial Disasters by professor Connel Fullenkamp Phd provides a detailed description of the most problematic financial disasters from the tulip mania of 1637 to the present. His background with the International Monetary Fund and finance allows him to give detailed descriptions of the financial missteps. His description of the conditions leading up to the sub-prime mortgage crisis is very lucid.

According to him all rogue traders are the same. Each one starts in the back office or oversight and then moves into the front office where the trading is initiated.  The trader uses their knowledge of the audit and oversight function to circumvent the safety features set up to reduce the risk of loss to the company. They all have hubris. They start out well and eventually flame out when a flaw is revealed in their strategy.

I am amazed at one common problem that many of these investment firms keep repeating. They will continue to follow the same investment strategy that usually works very well for a few years and then conditions change and and the losses are huge. I am also surprised that firms will adopt a single investment strategy and not diversify.

Leveraging (borrowing money to buy any investment product) increases the volatility of the investment. Its great when the status quo or things go as predicted but it multiplies the downside when the unpredicted happens.

People often have too much faith in risk assessment or quantitative models that predict the stock market movements.

Excerpt from Audiobook on Financial Disasters - 5 minutes