The Formula That Killed Wall Street
His method was adopted by everybody from bond investors and Wall Street banks to ratings agencies and regulators. And it became so deeply entrenched—and was making people so much money—that warnings about its limitations were largely ignored.
Then the model fell apart. Cracks started appearing early on, when financial markets began behaving in ways that users of Li’s formula hadn’t expected. The cracks became full-fledged canyons in 2008—when ruptures in the financial system’s foundation swallowed up trillions of dollars and put the survival of the global banking system in serious peril.
Very nice article on the dangers of financial markets to those that believe that math can provide all the answers. Math can help find opportunities. However markets have physical, psychological and regulatory limitations. And markets frequently experience huge panics or manias. People continue to fail to model that properly.
Related: All Models Are Wrong But Some Are Useful – Leverage, Complex Deals and Mania – Financial Markets with Robert Shiller – Financial Market Meltdown – Failure to Regulate Financial Markets Leads to Predictable Consequences
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[...] elites failed us with their utterly asinine ideas of risk control. It was grounded on the idea that all risk took Gaussian distributions, which is just totally wrong. Very high IQ people can be completely useless. And many of them [...]