Principles of Quantitative Development

1.7 IMPORTANCE OF PROCESSES

A financial institution operates through a system of checks and balances. The rationale behind the system and its processes is not immediately obvious to all involved. To the front-office professionals, for instance, many of these formal processes, implementing the so-called maker–checker paradigm, may look inane and pointlessly bureaucratic.

As a result of this plethora of processes that weigh it down, a financial institution moves like a giant juggernaut, slow and full of deliberate inertia, but purposeful and with a stunningly low error rate.

The front-office quants and quantitative developers need to understand that if the objectives of various business units seem to be in conflict with one another, it is no accident. They are, in fact, designed that way. It is through these incessant conflicts, which may have evolved into a proposer–objector scenario, that a large number of policy decisions are implemented.

The basic job descriptions of risk controllers (namely to minimize risk) and traders (to make profit) are already in conflict. All the processes that we put around these functions will have to reflect and percolate this basic conflict.

Big Picture 1.1: Conflicts by Design

The conflict-driven implementation of various policies goes well beyond the workflow of a trade or the interactions between the traders and the risk managers. Even in employee compensation schemes, we can see traces of this philosophy.

For a trader, for instance, performance ...