Brain Drain

In response to questions asking about how a particular firm was able lose lots of money on any given trade, I always responded using an analogy related to baseball or the original six team NHL. Because we have inserted an image of the greatest player who ever lived, YAZ, let's use baseball in hopes that what I have been saying about the financial sector's lack of comprehension of risk might actually make more sense. BTW, this intelligence void exists in all sectors of our society at the moment ... it's just a bit more obvious in Wall Street.

So, Yaz was the last triple crown winner in baseball, 1967 the year of the "Impossible Dream" when the Sox dropped the World Series to St. Louis. The sports analogy is relevant because, the pool from which players are selected, consists of a very small sample of really talented people. As an example, a pitcher with an ERA of 4.5 is considered an ace today but 50 years ago, he would have been lucky to get three of four starts per season. Today's player earns several million dollars and not much, on a relative basis, is expected of him. Just as a greater number of teams playing today has diluted the available talent pool, so has the IQ of Wall Street dropped as the firms grew in size. That is, there is a finite number of people that have the ability to really understand the risk inherent in structured securities such as CMO's and CDS' - maybe ten people. Unfortunately, given the vastness of the the market and its complexity during the boom years, in order to execute it safely, about 200 competent risk managers were needed.

Just as the one-eyed man is king in the land of the blind and just as an average hitter can bat over 300 when pitching sucks, Wall Street will listen to inexperienced very average people lacking a fundamental understanding of risk. Team owners ask, what fills the seats? Home runs. Wall Street owners ask, what fills the coffers? High risk securities.

When we don't expect much, we get what we expect ... average.

Average people who like to take risk do more stupid things with worse consequences because they lack a fundamental understanding of the result of their actions. Remove well crafted regulations, like Glass Steagall, and well-intentioned people who do not understand risk set the stage for disaster.

I'm rambling, but you get the point. As long as we are governed by average people who really don't grasp what can go wrong, or right, things are not going to improve.

And, unemployment is not going to improve and deficits are not going to go away because the entire public sector suffers from bloat. The bureaucracy exists to perpetuate itself and is not about to commit suicide.