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Practical Financial Optimization: Decision Making for Financial Engineers by Stavros A. Zenios

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Chapter 1

An Optimization View of Financial Engineering

Wisdom consists in being able to distinguish among dangers and make a choice of the least harmful.

Niccolò Machiavelli

1.1 Preview

In this chapter we provide the motivation for using optimization models in financial engineering. We start by introducing enterprise-wide risk management, and we describe the role of financial engineering in the management of risks at an enterprise-wide level. The scope of optimization models in enterprise-wide risk management is then given. These optimization models are the focus of the remaining chapters of the book, and we give here an overview of all the models.

1.2 Optimization in Financial Engineering

Financial engineering blends theoretical finance with computer modeling to support financial decision making in practical settings. It is both an art and a science. As an art it deals with the abstract representation of financial operations; which operation to study, how to go about describing it in the abstract, and how to align the operation at hand with the global economic environment are elements of the art. As a science it applies scientific tools to the study of its objects. The tools are mathematics and the computer. Sometimes the art and the science focus on a single innovative instrument or the investment portfolio of an individual; at other times on the management of the risks of a large enterprise.

Financial engineering is also practical. The art and the science work together, leading ...

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