Reading about financial disasters helps to provide feedback, reminding us that disasters, fraud, and just plain bad luck do happen. Properly used and analyzed, the events can help us learn what to do and what not to do in managing a financial firm. Many disasters are precipitated by simple and obvious mistakes. Rather than gloat over another's adversity, though, we should take away the lesson that it is all too easy to fall prey to such mistakes.
This book focuses on idiosyncratic risk, and this chapter has focused primarily on idiosyncratic risk events—events that are triggered by circumstances within a single firm and limited to that firm. This is in contrast to systemic or macroeconomic risk events that play out across the whole economy, or even globally. Systemic risk events, however, are far more damaging because they involve substantial dislocations across a range of assets and across a variety of markets. Furthermore, the steps a firm can take to forestall idiosyncratic risk events are often ineffective against systemic events.
1. See Valencia (2010).
2. The full phrase from Voltaire's Candide is “Dans ce pays-ci, il est bon de tuer de temps en temps un amiral pour encourager les autres.” (“In this country [England], it is wise to kill an admiral from time to time to encourage the others.”) The original reference was to the execution of Admiral John Byng in 1757. It is used nowadays to refer to punishment or execution whose primary purpose is to set ...