Black swan and Regret risk: Difference between pages

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''Risk management''.
1.


An apparently unusual event of very high impact.
When hedging an exposure, the risk of being locked in at an unfavourable hedged rate, and suffering an opportunity loss.  


Particularly one which - before it happened - was believed in error to be highly improbable, or even impossible.


2.


The use of the term in finance derives from the widespread historical (and wrong) belief in the Northern hemisphere that black swans did not exist.  This wrong belief was held in the period before the common occurrence of black swans in the Southern hemisphere had been reported in the North.
The term 'regret risk' is also used more broadly, to include the possibility of later financial regret at <u>not</u> making an operational or financial commitment, in addition to the narrower definition in 1. above.


The concept was popularised in a 2007 book by Nassim Nicholas Taleb - "The Black Swan".
For example, a decision to leave a financial exposure unhedged, which may turn out with hindsight not to have been the best decision.  


The potential for regret, in this wider sense, is the inevitable consequence of any decision either to act or not to act. With the benefit of hindsight, any decision taken may turn out to have been sub-optimal.


Taleb summarises the problem in risk management as "the confusion of <u>absence of evidence</u> of Black Swans (or something else) for <u>evidence of absence</u> of Black Swans (or something else)". 
Misunderstanding about this important point may lead to [[analysis paralysis]].
 
This means that the existence of financial "black swans" tends to lead to systematic under-assessment and <u>understatement</u> of financial risk.
 
 
<span style="color:#4B0082">'''''Turning black swans white'''''</span>
 
:Taleb points out that black swan events depend on the observer, and the information and analysis obtained and applied by him or her.
 
:Being slaughtered shortly before Christmas is a black swan surprise for a turkey; especially following 1,000 days of consistent - apparently predictable - feeding and friendliness from humans.
 
:The slaughter of the turkey is not a black swan event for the human butcher.
 
:Turkeys need to gather more information and to analyse it.
 
 
:''How not to be a sucker - A Black Swan is relative to knowledge - The Black Swan, 2010 pp40-44.''
 
 
 
<span style="color:#4B0082">'''''Robustness not fragility'''''</span>
 
The key message from Taleb's work is about seeking robustness and avoiding fragility.
 
:"You have to avoid debt because debt makes the system more fragile. You have to increase redundancies in some spaces.
 
:You have to avoid optimization. That is quite critical for someone who is doing finance to understand because it goes counter to everything you learn in portfolio theory....
 
:I have always been very sceptical of any form of optimization. In the black swan world, optimization isn't possible.
 
:The best you can achieve is a reduction in fragility and greater robustness.
 
 
:You may have heuristics, but not an optimization rule.
 
:I hope the message will finally get across because I haven't succeeded yet.
 
:People talk about black swans but they don't talk about robustness, which is the real lesson of the black swans."
 
 
:''Living with Black Swans - Nassim Nicholas Taleb.''




== See also ==
== See also ==
* [[COVID-19]]
* [[Opportunity loss]]
* [[Fat tail]]
* [[Analysis paralysis]]
* [[Guide to risk management]]
* [[Heuristic]]
* [[Moody's]]
* [[Portfolio analysis]]
* [[Probability]]
* [[Stress test]]
* [[Unicorn]]
 
 
== External link ==
[https://www.moodysanalytics.com/-/media/article/2020/weekly-market-outlook-coronavirus-may-be-black-swan-like-no-other.pdf Coronavirus many be a black swan like no other: Moody's]
 
[[Category:Identify_and_assess_risks]]

Revision as of 15:05, 4 May 2016

1.

When hedging an exposure, the risk of being locked in at an unfavourable hedged rate, and suffering an opportunity loss.


2.

The term 'regret risk' is also used more broadly, to include the possibility of later financial regret at not making an operational or financial commitment, in addition to the narrower definition in 1. above.

For example, a decision to leave a financial exposure unhedged, which may turn out with hindsight not to have been the best decision.

The potential for regret, in this wider sense, is the inevitable consequence of any decision either to act or not to act. With the benefit of hindsight, any decision taken may turn out to have been sub-optimal.

Misunderstanding about this important point may lead to analysis paralysis.


See also