Tavakoli v. Taleb

Discussion in 'Economics' started by Greg Richards, Apr 25, 2009.

  1. This is a pre-interview to a taped interview with Steve Forbes and Janet Tavakoli that Forbes.com says will be on its web site on Monday. In Tavakoli's interviews she says a large part of the problem was leverage combined with risky fixed income products: a formula for disaster. But she differs from Taleb, since she says it was predictable (and her book gives some compelling evidence that she was specifically talking about this in 2005 and earlier. The early 2007 article she mentions is just one example). Her book talked about fraud by borrowers as well as on borrowers, but the fraud by borrowers does not come out as much in this interview.

    What caught my eye was this excerpt (link below to the entire pre-interview) in which she talkes about Taleb. It is interesting, since Forbes has had earlier articles on him that sound like hagiographies.


    Get Briefed: Janet Tavakoli
    David Serchuk, 04.24.09, 4:00 PM ET

    AIG wasn't alone in those practices. ACA [Bond Insurance], same thing. We've seen bond insurer after bond insurer bite the dust on these products. And these were people who held themselves out to be sophisticated. And I'm here to tell you, I didn't say that after the fact. I said it before the fact.

    And, you know, I even wrote the Global Associations of Risk Professionals that if you are working at an investment bank--and I mentioned Merrill by name as an example, just because they had information in the public domain, so that I wasn't, you know, revealing anything that one shouldn't--if you're a risk manager they have their boots on your neck and you can't do your job properly. In which case you need to get out, because you will wear the responsibility for this. That's what I wrote in the article. And they were.


    It was in the beginning of 2007.

    You say that this market meltdown was foreseeable and not a black swan incident. Now why has this Black Swan narrative grown so popular when people try to put an idea as to why the markets melted down?

    I think it's PR spin on the part of some people who would like to promote, you know, their own ideas.


    Yeah, exactly. Because, you know, he studied these Internet memes, and he's a friend of Malcolm Gladwell. So this is a strategy. He's done huge research on Internet bloggers, just as an example, to get his name out. And it's been a very effective strategy.

    I was even quoted in an article that Wired magazine did [about risk models], and it's as if they had written the conclusion of the article before they started doing any interviews. So they called me up, and I can see where the whole thing is going--they want to blame it all on models.

    And this is what the bankers like to do. When they get in front of Congress, they said, "Well, we had this model, you know?" And that's how they defend their credit card underwriting standards. That's how they defend predatory credit card--you know, targeting college students, targeting people coming out of bankruptcy. Targeting people who are in financial distress.

    It's what the predatory lenders use to justify what they did. It's what Greenspan said in April 2005, when he was saying the models captured the risk. But yet, people like me--and there are many other people--knew that the models weren't designed for these kinds of risky products and this kind of risk. And that the models in no way captured the risk. And any structured finance professional worth their salt would know or should've known that deals that came in 2007 that were CDO [collateralized debt obligations] squared were nothing more than sham transactions to hide losses.

    Is it comforting to believe that it's a "black swan" rather than a systemic breakdown?

    It gives people a convenient excuse. So that you get people even like Paul Volcker to say it seems as if it's just an unfortunate mathematical error. In which case, what do you replace it with? Or, whereas I'm saying, this is fixable. And we've had this problem before when people ignored the risk of the underlying assets and failed to look at the fundamental underlying data.

    And had they done that, you know, the rating agencies could've, as an example, rejected as an entire class [of] stated income loans. Or, failing that, demanded a statistical sampling of the underlying portfolio to determine how big a problem it is in stated income loans. How big a problem is lying? How big a problem is fraud? And until you define that, you can't model it. That's sort of a basic statistical principle. So what I'm saying is that this was a discoverable, knowable unknown. It's not a black swan. And, by the way, I knew it. And I had written about things like this.

    You know, certainly, it's created a lot of damage. But I'm here to tell you that when you destabilize the housing market and then when you have a bunch of hedge funds and other entities using leverage against shaky fixed income assets, it comes falling down pretty fast.


    That is the end of the excerpt, but if I understand this correctly, Tavakoli is saying the events are not a black swan, a gray swan, or a swan of any color. Rather there were a lot of Black Barts –like the Californian stagecoach robber who made off with the loot without ever firing a shot.

    In an April 3, 2008 Fortune article, Taleb calls these events a gray swan (previous to that he gave a lecture where he called it a “black swan,” now he sometimes says “white swan” or whatever color he is talking about today):

    Taleb: “So I call these crises ‘gray swans.’ I’ve been telling anyone willing to listen that banks have a tendency to sit on time bombs while convincing themselves that they are conservative and nonvolatile.”

    In a recent FT article (April 7) he again dragged out the Black Swan paradigm in talking about how to “black swan” proof the world and sums up with “In other words, a place more resistant to black swans.” But Taleb’s recommendations were just general pabulum.

    Tavakoli said the current debacle was foreseeable and preventable and issued concrete and specific warnings, and rsays ecommending solutions have to be equally concrete and specific, albeit she also explains general principles that have to be adopted.