The Essentials of Risk Management, Second Edition, 2nd Edition

15

MODEL RISK

Models are the wonder and, on occasion, the curse of the modern financial world. They are used throughout the financial and corporate world for any number of purposes, and especially to put a number against the value, or the risk, of investments and financial positions. They have become central to many of the key corporate activities already discussed in this book, including market, credit, and asset/liability risk management.

Unfortunately, models can be wrong, in the sense of containing some internal error, and they can also be misapplied, fed the wrong input information, and their results misinterpreted. As our dependence on models to understand a complex world has grown, model risks have grown too, including within risk management. ...